What Does Billionaire Ken Griffin’s Citadel See in This Credit Card Company?
Meena is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
We track quarterly 13F filings from hundreds of hedge funds, including billionaire Ken Griffin’s Citadel Investment Group (see Griffin's stock picks). Even with the inherent delay in 13Fs (the most recent batch reports long equity positions as of the end of March), we think that there are still a couple ways to make use of the information. We’ve found that the most popular small cap stocks among hedge funds generate an average excess return of 18 percentage points per year, and think that more strategies are possible as well.
The most recent filing can also be compared to the previous one to see what top managers were buying last quarter; we don’t recommend blindly following these picks, but they can be sources of potential ideas for further analysis. It turns out that Citadel more than doubled its holdings of Visa (NYSE: V) between January and March, to a total of 1.4 million shares.
Visa’s operating revenue grew 15% in its most recent quarter (its fiscal Q2 ended in March of 2013) compared to the same period in the previous fiscal year, and despite increase in costs, the company’s pre-tax income grew at the same pace. Earnings fell over the same time frame, but this was entirely due to a higher effective tax rate. Adjusted earnings per share are expected to rise considerably during the current fiscal year, to $7.48 (up from $6.20, which would represent a 21% increase); we’d note that significant buybacks took place in the first half of Visa’s fiscal year, potentially boosting EPS.
The $7.48 figure gives a current year earnings multiple of 24. Analysts continue to be optimistic about Visa’s prospects beyond that point, but the forward P/E is still 21. This indicates that the market expects high EPS growth to continue over the long-term. We certainly like what the company has been doing recently, but this suggests that it would take the company a long growth period to prove undervalued at this price and so we’d be cautious here. Billionaire and Tiger Cub Andreas Halvorsen’s Viking Global reported a position of 2.6 million shares in Visa at the end of the first quarter of this year (find Halvorsen's favorite stocks).
Visa is best compared to MasterCard (NYSE: MA) as the two are the leading credit card brands, but we would also consider American Express (NYSE: AXP), Capital One Financial, and Discover Financial Services as peers. MasterCard experienced an 8% rise in revenue in the first quarter of 2013 versus a year earlier, and as in Visa’s case, its margins did well. It, too, carries a premium valuation, however, with trailing and forward P/Es of 25 and 19, respectively. It’s also noteworthy that, like Visa, MasterCard actually has a fairly low beta of 0.6.
American Express also looks a bit pricey to us, at 19 times its trailing earnings, and that company’s recent results have been fairly modest. Specifically, last quarter, its revenue and net income each changed by less than 3% compared to the first quarter of 2012. Between that and the valuation, we would avoid the stock. Capital One and Discover are closer to value territory, with trailing P/Es in the 10-11 range, and therefore, don’t need particularly strong performance going forward to justify their current valuations.
Capital One, which also trades at a small discount to the book value of its equity, has been experiencing a drop in pre-tax and net income but might be worth tracking in the event the company recovers. As for Discover, that company has at least been experiencing growth and with analysts not calling for a particularly challenging 2014, it might be worthy of further research.
For the most part, there’s a fairly straight correlation between valuation and recent performance in this peer group, though American Express and Capital One seem like stocks to avoid at least for now. We aren’t sure that we’d want to depend on Visa or MasterCard continuing their impressive growth numbers, however, despite Griffin’s apparent confidence in Visa’s ability to do so, and so a more in depth look at the industry would likely start with Discover.
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This article is written by Matt Doiron and edited by Meena Krishnamsetty. They don't own shares in any of the stocks mentioned in this article.The Motley Fool recommends American Express, MasterCard, and Visa. The Motley Fool owns shares of MasterCard. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!