March 2015
Financials Sector Update
Zach Riedy
Matt Skowronski
Xiao Sun
Binwei Yang
Ryan Wonders
Table of Contents
Section I
Overview
Section II
Business Analysis
Section III
Economic Analysis
Section IV
Financial Analysis
Section V
Valuation
Section VI
Recommendation
Overview
Overview
Sector Weighting: S&P 500 vs. OSU SIM Fund(1)
Cash and Dividend Receivables
Telecommunication Services
Utilities
Materials
Energy
Consumer Staples
Industrials
Consumer Discretionary
Healthcare
19.10%
Financials
16.00%
Information Technology
0.00%
5.00%
OSU SIM Weight
(1) As of February 27, 2015
10.00%
15.00%
S&P 500 Weight
20.00%
25.00%
Overview (cont’d.)
OSU SIM Fund Sector Weights(1)
Telecommunication
Services
3%
Materials
3%
Cash and Dividend
Receivables
1%
Energy
8%
Information
Technology
24%
Consumer Staples
9%
Industrials
8%
Consumer
Discretionary
9%
Healthcare
15%
(1) As of February 27, 2015
Financials
20%
Overview (cont’d.)
Financials Sector - Industries(1):
Largest Firms by Market Cap(2):
Banks
Capital Markets
$288.2B
Consumer Finance
Diversified Financial Services
Insurance
$230.2B
Real Estate Investment Trusts (REITs)
Real Estate Management and Development
$180.1B
Thrifts & Mortgage Finance
$167.4B
$166.7B
(1)  Sources: Fidelity Investments and Yahoo Finance
(2)  As of March 19, 2015
Overview (cont’d.)
LTM Sector Performance Relative to Index(1)
12.6%
S&P 500
S&P 500 Financials
3/20/14
10.2%
6/20/14
(1) Sources: Yahoo Finance and us.spindices.com
9/20/14
12/20/14
3/20/15
Business Analysis
Business Life Cycle
The traditional financials sector is in a late growth stage
Banking Industry Analysis
5 forces indicate low industry wide profitability
Threat of New Entry
Low
Onerous regulatory hurdles, extremely difficult
to receive new banking charter
Threat of Substitutes
High
Credit cards, mobile payments, online
brokerage, crypto currencies, etc.
Rivalry
High
Constant fight for a relatively fixed “pie” of
customers
Power of Buyers
Power of Suppliers
Medium
Low switching costs, easy to compare rates,
many institutions to choose from
High
Heavy regulation by government and Federal
Reserve, low switching costs for depositors
Macroeconomic Factors
Financials industry highly correlated with primary economic indicators
Interest Rates(1)
–  Current 10-year Treasury Yield: 1.92% ; 10-year Treasury Yield in 2005: 4.61%
–  Federal Reserve upcoming taper of quantitative easing will have positive impacts
on industry
–  EU embarking on similar quantitative easing policy
Foreign Exchange
–  Recent rally of the US dollar relative to international currencies
–  Removal of Swiss Franc peg to Euro
Employment Rate
–  Increased employment domestically is a driving force behind increased consumer
spending and the home mortgage market
GDP Growth
–  Stagnant growth/recovery in Europe; China growth cooling off
(1) Source: Treasury.gov, as of 3/23/2015. Historical data as of 3/23/2005.
Regulation
Firms within the Financials sector face high costs of regulatory compliance
Basel III Capital Requirements
–  Capital level stress tests; less leverage in operations
–  Citigroup (NYSE: C) recently failed a federally mandated stress test
Dodd Frank
–  Separation of investment and commercial banking activities
–  Significantly reduced profitable proprietary trading activities
–  Imposed many new regulations with relatively high costs of compliance
Economic Analysis
Economic Analysis
Rate Increases - Net Interest Income
•  Wide expectations of rising rates
•  Rising interest rates positively impact NII
–  NII has been depressed for an extended period
Economic Analysis
Rate Increases - Net Interest Income
•  Wide expectations of rising rates
•  Rising interest rates positively impact NII
–  NII has been depressed for an extended period
–  Lower unemployment encourages Fed
Economic Analysis
GDP Expansion – Loan Growth
•  GDP expansion accelerates loan growth
•  Rising interest rates can lower loan growth
–  Largely based on timing
Financial Analysis
Financial Analysis
Revenue/share slow to rebound; Stronger earnings and profitability
EPS(1)
Revenue/Share(1)
180.00
25.00
170.00
20.00
160.00
15.00
150.00
10.00
140.00
5.00
130.00
0.00
120.00
-5.00
110.00
-10.00
100.00
-15.00
2008
2009
2010
2011
(1) Source: Bloomberg as of March 23, 2015..
2012
2013
2014
2008
2009
2010
2011
2012
2013
2014
Financials vs. S&P 500-ROE(1)
(1) Source: Bloomberg as of March 23, 2015..
Historical Financial Performance
Current financial performance metrics are in-line with historical levels
60
30
Price/Earnings(1)
Profit Margin(1)
20
50
10
40
0
30
-10
20
-20
10
-30
0
2006 2007 2008 2009 2010 2011 2012 2013 2014 2006 2015 2016
Banks
30
Real Estate
Diversified Finance
-40
2006
Banks
Insurance
ROE(1)
20
2007
2008
2009
Real Estate
60%
2010
2011
2012
Diversified Financials
2013
2014
Insurance
Growth Rate(1)
40%
10
0
20%
-10
0%
-20
-20%
-30
-40
2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016
(1) Source: Bloomberg as of March 23, 2015..
-40%
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
Valuation
Valuation
Financials Sector vs. S&P 500(1)
Absolute:
P/E
P/S
P/B
Financials
S&P 500
Financials
S&P 500
Financials
S&P 500
5 yr High
37.69
19.00
2.41
1.85
1.39
2.73
5 yr Low
10.71
12.24
1.23
1.06
0.78
1.76
5 yr Median
13.58
15.49
1.65
1.30
1.06
2.11
Current
15.25
18.78
2.36
1.84
1.41
2.90
Relative:
P/E
P/S
P/B
5 yr High
1.98
1.30
0.51
5 yr Low
0.88
1.16
0.44
5 yr Median
0.88
1.27
0.50
Current
0.81
1.28
0.49
(1) Source: Bloomberg as of March 23, 2015. Note: S5FINL used for financials sector index, SPX used for S&P 500 index.
Valuation (cont’d.)
Financials Sector vs. S&P 500(1)
(1) Source: Bloomberg as of March 23, 2015. Note: S5FINL used for financials sector index, SPX used for S&P 500 index.
Valuation (cont’d.)
SIM Portfolio Financials Sector Holdings Analysis(1)
SIM Holding
Beta
Trailing P/E
Forward P/E
P/S
P/B
Wells Fargo (WFC)
Citigroup (C)
JP Morgan Chase (JPM)
Keycorp (KEY)
Suntrust Banks (STI)
S5FINL Index
SPX Index
0.96
1.23
1.15
1.15
1.12
1.88
1.37
13.60
10.15
10.30
13.80
11.88
15.25
18.78
13.39
9.79
10.49
12.91
13.01
14.49
17.83
3.31
1.76
2.25
2.91
2.54
2.36
1.84
1.75
0.79
1.07
1.22
1.01
1.41
2.90
SPX Index
S5FINL Index
Suntrust Banks (STI)
P/B
P/S
Keycorp (KEY)
Forward P/E
JP Morgan Chase (JPM)
Trailing P/E
Beta
Citigroup (C)
Wells Fargo (WFC)
0
2
4
6
8
10
12
14
16
18
20
(1) Sources: Bloomberg as of March 23, 2015 and SIM Fund February Appraisal. Note: S5FINL used for financials sector index, SPX used for S&P 500 index.
Valuation (cont’d.)
Level 2 Sub-Sectors (Industry Groups) of S5FINL Index(1)
Sub-Sector
Trailing P/E
Forward P/E
P/S
P/B
Banks (S5BANKX)
11.79
11.77
2.68
1.1
Diversified Financials (S5DIVF)
18.20
16.09
2.62
1.72
Insurance (S5INSU)
12.52
11.36
1.14
1.1
Real Estate (S5REAL)
36.46
39.04
7.17
3.53
S5FINL Index
15.25
14.49
2.36
1.41
S5FINL Index
Real Estate (S5REAL)
P/B
Insurance (S5INSU)
P/S
Forward P/E
Diversified Financials (S5DIVF)
Trailing P/E
Banks (S5BANKX)
0
5
10
15
20
25
30
35
(1) Sources: Bloomberg as of March 23. Note: S5FINL used for financials sector index, SPX used for S&P 500 index.
40
45
Recommendation
Recommendation
•  S&P 500: 16.07% | SIM Weight: 18.76%
•  SIM portfolio is 2.69% overweight in Financials relative to the index
•  We recommend a HOLD rating
Rationale
•
The financials sector is entering into a mature growth stage of its business cycle and we
expect continued growth over the next few years
•
Consumer confidence is increasing and the housing market is still improving
•
Risks: strict regulation, legal fees, uncertainty of the global economy