These Unloved Stocks Could Bounce 20%+ By 2022

Getty for rough diamonds
Let’s get a double dose of dividend and stock-price growth by looking into a set of stocks I’m sure your buddies aren’t aware of.
I’m referring to financial institutions, specifically those that buy back their own stock. We want to buy these stocks today because Fed Chair Jay Powell just untied the reins on buybacks and dividends for lenders after the nation’s 23 largest banks passed their “stress tests.” (Prior to June 30, a bank couldn’t spend more on dividends and buybacks than the average of its previous four quarters’ earnings.)
Repurchasers Return the roar
This suggests a boom in bank stock buybacks is on the way, which we enjoy because they reduce the number of shares outstanding, boosting earnings per share (EPS). Those higher per-share profits entice investors, who respond by bidding up the share price, giving you a hefty profit to go along with your growing payout.
And we have a good chance of buying repurchasers right now because there’s a rotation going on: companies on the frequent-flier buyback plan are finally beating the market after a long period of trailing.
Consider the performance of the Invesco BuyBack Achievers ETF (PKW), the benchmark for share repurchasers, to illustrate what I’m talking about.
The ETF holds US corporations that have purchased back 5% or more of their shares in the previous 12 months, with financial firms accounting for the greatest portion of its portfolio (27 percent). Insurer Allstate (ALL), financial services firm Ameriprise Financial (AMP), and software behemoth Oracle are among its top ten holdings (ORCL).
Over the last five years, PKW has lagged behind the market. That’s an outlier; with buybacks boosting earnings all the time, the stocks in PKW’s portfolio should have an advantage.
It’s a condition that can’t persist, and investors are already correcting their error. PKW has soared since the March 2020 crash, with the majority of its gains occurring since late last autumn.
ADDITIONAL INFORMATION FOR YOU
This, by the way, makes it an excellent time for us to buy share repurchasers, since they are demonstrating their “relative strength” versus the market. We’re not going to buy PKW, though, because its 0.9 percent yield isn’t enough to get our blood pumping. That’s where our financial games come in.
Consider the last three months. Everyone in the financial world was counting on higher rates at the time. The 10-year Treasury rate reversed direction exactly on time. However, it appears that now is a good opportunity to gamble that the washout is over.
That’s because the 10-year yield fell to its current level of approximately 1.3 percent five years ago. In reality, for the past decade, this has been a solid foundation. Last year was an outlier, but I believe you’ll agree that we can discard the vast majority of data from 2020, which was a truly bizarre year. My prediction is that the floor will hold and bounce.
If that’s the case, bank stocks would benefit from the difference between the rate at which they lend to one another (the Fed’s near-zero overnight rate) and the rate at which they lend to clients (the (likely-to-bounce) 10-year yield).
With their profits inflated by a rate hike, freshly unchained banks will be keen to reward shareholders with larger buybacks (and higher dividends! ), boosting their stock values.
This pattern may be seen in action at State Street Corp. (STT), which announced plans to increase its dividend by 10% in the third quarter after passing the stress test.
In the last decade, State Street (current yield: 2.8%) has pulled roughly a third of its stock off the market. This has aided in the company’s stock price rise.
New investors are drawn in by the company’s growing payout (which has nearly tripled in that time). Because of State Street’s tremendous dividend increase, everyone who bought 10 years ago is now earning a comfortable 4.8 percent on their original investment.
And, like clockwork, State Street’s dividend growth pushed its stock higher with each upward tick until the two parted ways in mid-2018. As I’ve previously stated, in the long run, share price growth corresponds to payout growth, and when a company’s share price swings off the rails, it’s a clear purchasing opportunity.
State Street’s low valuation backs this up: as of this writing, it trades at 13.9 times last year’s earnings, implying that management has a good chance of buying back shares at a good price, especially because analysts expect EPS to rise to $8.65 in 2022, up 29 percent from $6.70 in 2020. State Street is currently trading at only 9.7 times the prediction.
So, where do we go from here? With a good profit cycle: financial firms’ earnings climb in tandem with the 10-year Treasury yield, which boosts their equities and encourages buybacks and dividend increases. As a result, their stock prices rise even higher (inflating the yield on your original buy). Rinse and repeat as needed.
Contrarian Outlook’s chief investment strategist is Brett Owens. Get your free copy of his latest special report for additional fantastic income ideas: Portfolio for Early Retirement: Dividends of 7% per month for the rest of your life.
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