BNY Mellon Stock Has A 25% Upside

BNY Mellon stock (NYSE: BK) lost more than 45% – dropping from $50 at the end of 2019 to around $27 in late March – then jumped 31% to around $36 now. Despite this, the stock has lost 27% of its value so far this year.

There were 2 reasons for this: The Covid-19 outbreak and economic slowdown meant that market expectations for 2020 and the asset valuations in the securities markets dropped. This could negatively affect BNY Mellon’s top line as a major share of its revenues comes from Asset Servicing and Investment Management fees, which are charged as a percentage of Assets under Custody & Administration (AuC/A) and Assets under Management (AuM) respectively. However, the multi-billion-dollar Fed stimulus in late March helped arrest the negative market sentiment, which is also evident from the stock recovery after that point.

But we believe there is more upside to come over the coming months

Trefis estimates BNY Mellon’s valuation to be around $44 per share – about 25% above the current market price – based on an upcoming trigger explained below and one risk factor.

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The trigger is an improved trajectory for BNY Mellon’s revenues over the second half of the year. We expect the company to report $15.8 billion in revenues for 2020 – around 4% lower than the figure for 2019. Our forecast stems from our belief that the economy is likely to open up in Q3. Further, the rally in the securities market, after a multi-billion dollar fed stimulus in late March, has improved the asset valuations. This is likely to help BNY Mellon’s top line as it charges its asset servicing and investment management fees as a percentage of Assets under Custody & Administration (AuC/A) and Assets under Management (AuM) respectively – it constituted around 50% of the bank’s revenues in FY2019. Similarly, the overall economy will benefit from improvement in consumer spending due to relaxed lockdown restrictions. The same is evident from 8.5% m-o-m improvement in consumer spending in May followed by 5.6% in June. Overall, we see the company reporting an EPS of around $3.96 for FY2020 – 12% below the year-ago figure.

Thereafter, BNY Mellon’s revenues are expected to marginally decline to $15.6 billion in FY2021, mainly driven by a slight drop in the investment management business. This coupled with a lower expected share count due to stock repurchases is likely to result in an EPS figure of $4.17 for FY2021 – up by 5%.

Finally, how much should the market pay per dollar of BNY Mellon’s earnings? Well, to earn close to $4.17 per year from a bank, you’d have to deposit around $460 in a savings account today, so about 110x the desired earnings. At BNY Mellon’s current share price of roughly $36, we are talking about a P/E multiple of just below 9x. We think a figure closer to 11x will be appropriate.

That said, custody banking and asset management is a risky proposition right now. While growth is likely, change in current market sentiment can harm the near-term outlook. What’s behind that?

BNY Mellon is a custody banking giant with Assets under Custody & Administration (AuC/A) of around $35.7 trillion and AuM of just below $1.9 trillion in 2019. The Bank’s business model is very sensitive toward movement in asset prices. While the broader markets are on a growth trajectory (up 50%) since the March bottom, any further weakening in the economic scenario or a sudden jump in the Covid-19 case count can reverse the momentum. This could harm BNY Mellon’s top line due to a reversal in asset valuations driven by net market losses.

The same trend is visible across BNY Mellon’s peer – BlackRock. While its revenues are likely to improve in FY2020 due to improved asset valuations and higher net asset inflows, it is facing the same risk of a drop in asset prices due to a sudden uptick in Covid-19 cases or further drop in economic condition. This would explain why BlackRock stock currently has a stock price of over $585 but looks slated for an EPS of around $32.05 in FY2021.

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