Long-Term Investors Stand to Profit in Current Market

Despite short-term earnings pressure, now may be a good moment to buy Ally Financial shares if you have a long-term outlook as an investor. Why?

Ally Financial (ALLY 1.73%) is suffering from deteriorating auto credit and rising interest rates. The car lender’s stock was down 43% at Wednesday’s close, more than double the S&P 500’s slump.

Good and Terrible Q3 Earnings

Ally’s third-quarter results were subpar. The company’s net income fell from $683 million to $272 million. Why did profits decline quickly? Reason:

With the Fed boosting rates, Ally has boosted its depositor interest rate. Ally makes money by lending out deposits for car loans and other fixed-rate products. When it raises consumer interest rates, the spread between the two narrows. NI Margin (NIM). Over the following few quarters, management expects NIM to fall to 3.5%. This will hurt earnings until its auto loan portfolio is repriced, widening the disparity.

The significant drop in U.S. used automobile prices also worries investors. If used automobile prices keep falling, Ally’s loan volume could shrink. The value of the cars it repossesses from defaulting borrowers would also decline, hurting earnings.

Ally’s auto lending business is poised to hit a snag, while consumer banking is booming. Retail deposits hit $133.9 billion, up $2.7 billion from last quarter and $2.3 billion from last year’s third quarter.

Ally cross-sells new items to its banking customers. Ally Credit Card’s balance increased from $0.8 billion to $1.4 billion.

Ally’s consumer banking side provides low-cost deposits for its lending operations. With consumer deposits rising, Ally’s profitability should rise as interest rates and used car values normalize.

Long-Term View for Investors

Ally investors should be concerned about the company’s earnings in the next quarters. Long term, the company should succeed and deliver value to owners at current prices.

Ally’s $8 billion market cap is less than its book value, a key bank stock indicator. Due to low-cost deposits and a zero-branch model, management expects it can return 16% to 18% annually on book value. If shares are bought below book value, investors might earn more than that each year.

Return on equity (ROE) will be lower in the next quarters. Q3: 10%. This isn’t a horrible ROE, but it’s below what Ally can achieve in a typical macroeconomic situation.

The corporation returns cash to stockholders generously. Its dividend yields roughly 4.5%, and it’s repurchased more than 35% of its shares since going public in 2014. Both could boost returns in 5 years.

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