An Analysis of Historical Trends
During periods of economic uncertainty leading into new growth phases, four specific stock sectors tend to exhibit excellent performance. These sectors include Technology, Consumer Discretionary, Industrials, and Financials.
Bank stocks are firmly situated within the Financial sector.
When approaching 2024, I hold an optimistic view of several large mega-banks, particularly Bank of America (BAC).
However, in this piece, I urge investors to conduct additional research on my preferred regional banking stock: Bank OZK (NASDAQ: OZK).
Benefits of Choosing Bank OZK
Three years ago, I wrote about Bank OZK in an article titled, “Bank OZK: Still Some Gas in the Tank After A 50% Uplift.” Since then, the stock has delivered approximately a 50% total return, doubling that of the S&P500 index.
My ongoing investment perspective for Bank OZK can be summarized as follows:
Bank OZK displays exceptional long-term performance across a wide range of banking metrics, making it the best in its class among regional banks.
The bank’s business model is often not fully comprehended or evaluated accurately, creating an opportunity for potential investors.
The stock remains attractively priced based on various valuation metrics.
The Uniqueness of Bank OZK
Bank OZK’s remarkable long-term operational performance is underpinned by a distinctive business model and an exceptional CEO.
What makes the business model unique?
Unlike most banking institutions that operate conservatively, Bank OZK management diverges from conventional industry practices. This includes maintaining a significantly higher loan-to-deposit ratio and focusing on a concentrated portfolio of commercial real estate (CRE) loans.
While other banks might find a 50%-60% loan-to-deposit ratio acceptable, Bank OZK management aims for an L2D ratio of around 95%. As of the most recent quarter ending 9/30/23, the L2D ratio stood at an impressive 98%.
Moreover, the loan book is heavily weighted with CRE loans, with the Real Estate Specialties Group (RESG) serving as the driving force behind the bank’s growth. RESG focuses on high-quality, high-profile CRE projects sponsored by leading developers, constituting 71% of the total funded and unfunded balances of non-purchased loans as of 9/30/23.
This approach echoes Warren Buffett’s philosophy, similar to “keeping all your eggs in one basket, but watching that basket closely.”
Who is the CEO?
The CEO, George Gleason, is a banking prodigy. Taking over the bank at 25 years old, Mr. Gleason has led as President and CEO for over four decades. His shrewd, experienced, and ambitious leadership style permeates the bank, exemplifying the impact of management on organizational success.
Indeed, Mr. Gleason has engineered a business model unlike most other banks, and the results are a testament to his innovative approach.
The Performance Metrics Compared to Peers
Visual representations in 3Q2023 presentation materials provide valuable insights into Bank OZK’s long-term performance.
Despite the focus on CRE loans, the bank’s net charge-off (NCO) ratio has consistently outperformed industry peers since 1997.
Net Interest Margin
Bank OZK consistently maintains net interest margins well above industry averages.
Non-performing loans (NPLs), non-performing assets (NPAs), and loans past due all remain below peer averages.
Bank OZK maintains a remarkably low efficiency ratio, highlighting the effectiveness of its unique business model.
Enhancing Shareholder Capital
At its core, the bank’s management is focused on creating value for shareholders. Bank OZK has consistently increased shareholder equity, evident from raising the cash dividend for 53 consecutive quarters. As of the first nine months of 2023, the dividend payout ratio stood at 23 percent.
Bank OZK: A Regional Banking Best-of-Breed
Bank OZK Stock Valuation
Despite OZK stock’s recent upward movement, it lingers in the zone of value.
Exploring a ten-year price-and-earnings chart via FAST Graphs reveals that the long-term trimmed P/E is 13.2x, while the current ttm P/E stands at 8.9x. There seems to be substantial room for multiple expansion.
A closer inspection over recent years reveals a compression in earnings multiples. A seven-year chart presents an average multiple of merely 9.5x. The inconsistency in earnings growth coupled with soft current forward Street estimates has injected uncertainty into the market.
The last few years have introduced several developments leading to uncertainty. These encompass the C19 crisis, an inflation surge, rapidly rising interest rates, and apprehensions about a commercial real estate meltdown. However, a more stable earnings trajectory is anticipated to re-emerge akin to the period before C19.
Bank OZK’s management has exhibited a tendency to surpass Street estimates. As interest rates ease, the anticipation is for increased spreads and loan growth, consequently accelerating profits. This could very well lead to a revision of current Street estimates for 2024 and 2025, upward.
Accordingly, the belief persists that OZK stock may relish a 12x P/E multiple, translating to a $72 stock on $6.00 EPS.
Shifting focus to the price-to-book ratio, the P/B ratio currently stands at 1.25x, notably below historical norms. Anticipation is for a reversion towards the mean, with a 1.8x P/B yielding a $71 stock.
A further viewpoint on valuation reveals a Graham Number estimate of $67 a share, derived from a formula incorporating both earnings and book value.
Collating the three valuation benchmarks, the Bank OZK Fair Value Estimate stands around $70. At the time of writing, shares closed at $50.66.
Despite recent strong gains in OZK stock, it remains reasonably priced based on various valuation metrics. The stock currently trades at approximately $51 and offers a 2.9% dividend yield.
The short interest in Bank OZK stock currently stands at 9.8%, translating to 11.2 days to cover. An inevitable point will arrive when shorts have to cover.
Historically, bank stocks have demonstrated the potential to create significant investment alpha in the early phase of a fresh economic expansion, a phase believed to be led by the Fed’s current trajectory.
Bank OZK stands as a banking institution with a distinctive business model, enabling it to consistently outperform industry peers and establish itself as a best-of-breed regional banking entity. CEO George Gleason’s leadership is pivotal in this regard.
Despite recent strong gains, OZK stock continues to present itself as reasonably priced based on several valuation metrics. The Fair Value Estimate stands around $70, while the stock currently trades at around $51 and offers a 2.9% dividend yield.
In conclusion, the outlook remains bullish for Bank OZK.
Please conduct your own in-depth due diligence before making any investment decisions. This article does not offer a recommendation to buy or sell any stock. Best of luck with all your 2024 investments.