Is Capital One’s financial action a purchase?

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Banks and other financial institutions are feeling the heat these days as interest rates have come down, the direction of the economy is uncertain, and unemployed people may not be able to repay their loans.

But this is not the first time this country has faced economic fallout, and since the last crisis of 2008-09, banks have struggled to be better prepared for events like the current COVID-19 pandemic. and its economic benefits.

Capital One Financial (NYSE: COF) is a somewhat smaller company than the big rival banks such as JPMorgan Chase and Bank of America in terms of assets under management. But he has a differentiated approach to banking and is growing. How is he doing during the recession and is Capital One Financial a stock investors should consider?

Image source: Getty images.

A bank with a vision

Capital One claims that it is the fifth largest U.S. consumer bank for deposits and the eighth largest U.S. bank overall. It’s fairly new to the scene, having been started as its own public company from Signet Financial (now part of Wells fargo) in 1994 to be a monoline bank specializing in credit cards. Its existence was based on an information-based strategy to make the most of the technological advances of the time in credit card transactions and management. It was the first major bank to connect to the cloud with Amazon Web Services and has invested in a solid infrastructure to support its customer-centric products and services.

In addition to its large credit card segment, which accounts for 64% of total revenue, Capital One also operates a consumer bank, a large auto loan division, a small business services suite, and a smaller banking division. commercial. Most of her income comes from the interest she charges on credit card balances and loans, and she targets average working Americans.

Work from a place of strength

In the first quarter (which ended March 31), Capital One reported a loss of $ 1.3 billion and a loss per share of $ 3.10. As with other banks, it was required to set aside a percentage of its funds to manage provisions for potential losses given the current economic climate. Profits before provision rose 8% to $ 3.5 billion, which is pretty healthy given the situation. The bank set aside $ 5.4 billion, up from $ 1.8 billion at the end of the fourth quarter of 2019. That’s a pretty high increase compared to other banks.

CFO Richard Scott Blackley explained how the bank used a lot of modeling to calculate this number, which was especially weighted to account for an expected US unemployment rate of 9.5% in the second quarter, which at the time was supposed to appear very high. Whether it was the large corporate credit card segment that justified the huge increase, or just the company’s overall conservative approach to managing its money, it was the right choice. At the time of the income report’s release, unemployment had already reached 11% and currently stands at 14.7% (with even higher rate projections in the coming months).

The volume of purchases on its credit cards in the first quarter increased 8% year on year, starting at a high level and then plummeted, declining by about 30% at the end of the quarter when customers were asked to maintain home stay restrictions. April saw a similar drop. These declines were seen in travel and entertainment categories as well as discretionary retail, which was in line with retail trends over the period. They were partially offset by increases in supermarkets and discounts, also in line with the way consumers shop these days.

In terms of credit card defaults, the effects of the pandemic have yet to materialize in the quarter, other than the bank’s decision to set up loss provisions and cash reserves.

Closing deposits in consumer banks grew 6% year-on-year, similar to that of other major US banks. Capital One is well positioned in terms of liquidity, with reserves of $ 105.9 billion as of March 31, including $ 24.9 billion in cash and cash equivalents.

Make the right choices in the good times and in the bad times

Capital One is well positioned because of the disciplined decisions it makes in normal times. “We have also been obsessed with resilience in our business and segment choices and in all of our underwriting decisions for good and bad times,” said CEO Richard Fairbank on the first quarter conference call. The company came into being with a single business (credit cards) and branched out into other segments, complementing its product line and lowering its overall risk for times exactly like this.

The company performed well during the 2008-09 financial crisis and is now stronger in many ways. First, he has a stronger cash position. To deal with the increased risk of credit card defaults, it has either closed completely or reduced what it calls “less resilient” segments. And it has strengthened its positions in divisions that generate non-credit income.

However, Fairbank made an interesting point when he said that during the last recession the economy was in better shape overall and card debt was the big issue. Today, Capital One is more diversified and the economy is worse off, with companies taking on more and more debt. Credit cards still represent the lion’s share of the bank’s revenue, so he sees it as an advantage. But being diversified in general gives Capital One some cushion from any segment by pulling down the aggregate. Then again, if the economy collapses, the banks will have problems all around.

Capital One is a growth-oriented company where youth and technology are a big plus. Although it has credit card default risks, it has mitigated them by diversifying into other products. The stock price has fallen about 32% year-to-date and is expected to remain volatile until the economy recovers. But the stock has slowly risen from the low in mid-April, rising more than 80% from its 52-week low set in late March. While the banking sector as a whole has suffered greater losses than other sectors and remains risky, investors might want to take a small position before the price rises further and add stocks as the bank demonstrates its ability to invest. ‘greater strength and shows that it is handling the crisis well.

This article represents the opinion of the author, who may disagree with the “official” recommendation position of a premium Motley Fool consulting service. We are motley! Challenging an investment thesis – even one of our own – helps us all to think critically about investing and make decisions that help us become smarter, happier, and richer.

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