3 Reasons Why This Stock Is The Best Financial Sector Buy

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Capital One Financial (NYSE: COF), is best known for its credit card business, but in recent years it has progressed into a national bank through acquisitions and innovations. The acquisition of ING Direct made Capital One the sixth largest bank in the country by deposits. The ING Direct division post acquisition offers direct banking services. Capital One is a diversified financial services holding company now.

The stock has also generated a tremendous 43% return in 2012 and added a further 6% in 2013 to date, and is looking good for more post the earnings release.

Remarkable growth opportunity

According to a survey by Federal Deposit Insurance Corporation (FDIC), 8.2% of American households translating to nearly 10 million American households or 17 million Americans are not using any kind of banking services. It also reported that nearly 20.1% of American households are underbanked and that is 24 million households with 51 million adults. Underbanked means that they have a bank account, but they don’t use them for making their payments and other services.

Innovative café banking

Capital One has come up with a novel way to attract this group of customers by setting up cafes, which are more user friendly than traditional banks and offer most of those services. The cafes don’t have tellers, safety boxes and don’t offer other cash services, thus reducing the operating costs greatly. In their place one can find a coffee bar with employees helping clients by opening accounts online using smartphones, thus making the entire process electronic.

On one hand this strategy has largely helped Capital One reduce its operational costs, and on the other hand to be better able to compete with other innovative service offerings like eBay's PayPal, Google's Google Wallet, and American Express's Bluebird. Capital One has largely been able to do this by leveraging the assets of the ING Direct. Most importantly, the company has figured out a way to turn all of those new financial products into cash.

Financials

    • The financials from Capital One indicates the efficiency with which the bank has performed. Capital One's revenues have grown by over $6 billion from $16.08 billion to $22.31 billion between 2010 and 2012.
    • Revenue is expected to be $5.88 billion for the quarter, 28.5% higher than $4.58 billion for the corresponding quarter of 2011. Revenue has climbed for three consecutive quarters by 35.9% in the third quarter, 24.6% in the second quarter and 17.4% in the first quarter. Forecast earnings of $1.60 per share. The company’s revenue for the quarter was up 39.2% on a year-on-year basis.
    • The company reported $2.01 earnings per share (EPS) for the quarter, beating the consensus estimate of $1.70 by $0.31. It is expected that Capital One will post $6.44 EPS for 2012.
    • The cash flow from operations is expected to be a robust $9.8 billion for 2012.
    • Dividend yield for Capital One Financial is somewhat lower at 0.32%.

Concerns

Capital One makes most of it money on its interest, as credit cards and loans form a major part of its business and a much smaller sum from fee based services. This makes its revenues subject to interest rate fluctuations, more than for the other banks. Although the interest margin for Capital One is wider than most, it could still be affected by the diminishing interest margin across the entire sector.

Conclusion

Capital One has emerged as one of the nation's largest lenders from being a simple credit card company. The firm's financial performance is on an upward trajectory. Liquid ratios are solid and financial performance is good. Goldman Sachs has also upgraded Capital One from NEUTRAL to BUY recently. The stock price can be expected to reach $75 in the near term. This price target leaves an upside of nearly 20% for the investor.

* All financial data sourced from SEC filings, and analyst estimates from Thomson Reuters.


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