Citigroup: Next Level Up (NYSE:C)

Citigroup (New York Stock Exchange: C) has long been one of the most undervalued bank stocks, but the company has struggled to deliver growth to reward shareholders. The stock finally took part in the big banks’ rally from November lows when Citigroup It trades at less than half its tangible book value. for me Investment thesis Still very bullish on the big bank turnaround story.

Reducing capital requirements

Much of the negative story for big banks for many years now has been endless increases in capital requirements. The more regulation requires capital, the less these banks will be able to buy back cheap shares to reward shareholders.

Citigroup ended the first quarter with 13.5% of CET1 capital. The capital ratio has increased by 300 basis points in the last two years due to increased capital requirements and proposed Basel III banking rules with already significant increases in the capital ratio. The current regulatory capital ratio is 12.3%.

On our Q1 2024 earnings call, CFO Mark Mason discussed our current strong capital position:

We ended the quarter with a pro forma capital ratio of 13.5% of common equity (CET1), approximately 120 basis points, or more than $13 billion above our regulatory capital requirement of 12.3%. However, our current capital requirements do not yet reflect our simplification efforts, the benefits of our transformation, or the full implementation of our strategy, all of which we expect to reduce capital requirements over time.

As previously reported, Citigroup ended the first quarter with $13 billion in excess capital, but banking regulators are expected to raise capital requirements another 19% through new capital requirements. These plans are in the process of being scaled back significantly with capital requirements already ridiculously high. The largest banks with assets of more than $750 billion now have approximately 13% of risk-weighted assets in capital versus just 7% before the financial crisis.

According to Barclays, the eight largest banks are estimated to need up to $150 billion in additional capital based on the original proposed rules. Banks have already provided capital for the new rules, which are scheduled to be implemented until 2025, and will only be fully implemented by 2028.

Citigroup returned to buyback shares after a while in 2023 with deep discounts. Citigroup bought $413 million worth of shares during the first quarter and spent $2.4 billion on buybacks during the TTM.

This is a significant amount considering that Citigroup’s market cap is only $120 billion, even after a significant rise in the past six months. The big bank already pays a 3.4% dividend yield, so the buybacks are just gravy for the capital return equation with $1.5 billion returned to shareholders in 1Q24 alone.

Improve earnings image

Ultimately, the EPS picture is where Citigroup needs consistent growth to justify higher share prices. The bank is profitable at an annual rate of approximately $6 and consensus estimates forecast some big gains in the next two years to reach 2026 EPS of $8.77.

In the first quarter, Citigroup generated profits of $3.1 billion with a 7.6% return on equity (ROTCE). Investors should view this number as a baseline with the potential to produce a double-digit RoTCE similar to other large banks.

Management continues to target medium-term RoTCE targets of 11%-12%, providing momentum for the potential for significant EPS upside. The 2026 EPS target brings Citigroup closer to its RoTCE target of 11%.

The big bank has always been a crazy story of stocks trading well below tangible book value. Citigroup raised its TBV to $86.67 in the first quarter, up 3% year over year, while the stock finished the week trading at just $62.31.

The stock is now trading at 0.7x TBV while other large banks are trading at at least double the TBV multiple. C. B. Morgan Chase (JPM) saw the stock return to 2.4x TBV while American bank (BAC) and even Wells Fargo (WFC), which is hampered by the asset cap, is trading at more than 1.5x TBV.

On the negative side, Citigroup has implemented multiple turnaround plans without success. The stock has consistently traded below TBV due to past failures to improve the business and consistently increase revenues and profits. The bank’s shares were never supposed to trade to $40, but investors could find the stock stuck at $60, if management fails to improve financial conditions again.

Away

The main take away from investors is that Citigroup is still ridiculously cheap. A large bank has a path to strong EPS growth through mostly higher returns while the stock should not trade below TBV when industry stocks have at least double the multiple.

Investors should continue to buy the stock at just $60 and upside potential from growth catalysts. Not to mention, some reductions in expected capital requirements will help boost capital returns.