If you watch televised financial news, you’re probably familiar with Ally Financial (ALLY - Free Report) , a frequent advertiser that markets consumer friendly products and services, primarily online. What many people may not know is that Ally Financial was founded in 1919 as the General Motors Acceptance Corporation (GMAC) in order to provide automobile financing to customers who had never before purchased a single item as expensive as a new automobile.
Over the next 100 years, that company would grow to become a diversified financial institution, accepting savings and checking deposits, making non-automobile related consumer loans, and offering investment and retirement savings services. It’s currently the nation’s 19th biggest bank by assets and the #1 automobile lender by volume.
Though it is an entirely separate entity, the association with General Motors (GM) was seen as a liability after automakers received massive federal government assistance during the financial crisis. In 2010 GMAC was rebranded as Ally Financial.
(GMAC itself also received approximately $17.2 billion in investments from the US Treasury during the crisis. The total value of that investment was over $19B when the Treasury sold the last of it’s Ally holdings in 2014.)
Banks borrow at the short term rate and then lend to businesses and individuals at (usually higher) long term rates. They keep the difference (as well as collecting other fees) and pay the administrative cost of running the operation. In low interest rate environments like we’re experiencing now, traditional borrow-and-lend institutions tend to suffer from spread compression.
The current environment features an extremely flat yield curve making opportunities to collect juicy interest rate spreads. The long-term average rate on a 30-year conventional home mortgage is 8.02%, but the current rate is just 3.5%. There’s simply not a lot of room right now for lenders to make basic lending profits. The banks are left increasingly dependent on commissions and fees. Real estate and employee compensation costs don’t decline along with interest rates .
Ally is different for a few significant reasons.
First, as the nation’s largest auto lender, it enjoys higher rates on that portion of its outstanding loans than banks that rely more on commercial loans and mortgages. The average spread between a mortgage and an auto loan – for a customer with good credit – is between 100 and 150 basis points. That spread grows as a customer’s credit rating declines.
Also, Ally doesn’t operate any physical branches; they are a “direct bank” that offers all traditional banking services online, over the telephone, by mail and at ATM machines. The cost savings allows Ally to keep customer fees extremely low or in some cases – like at ATMs – free. They’ll even reimburse customers if another bank charges them an ATM fee.
Shares of Ally financial have significantly outperformed the industry and the S&P 500 so far in 2019, yet even after the strong rally, it remains attractive valued, lower than industry averages in trailing P/E ratio, forward P/E ratio, price/free cash flow, price/book value and price to sales.
Financial institutions that participate in traditional borrowing, lending and banking services don’t tend to have explosive earnings potential. The best in the breed are constantly adding carefully to their portfolio of assets to produce regular, steady growth in revenues and earnings. It may not sound exciting, but it’s the sort of solid performance that makes continued share price gains possible.
Ally is expected to grow earnings at 12% in each of the next two full fiscal years, and 8 recent upwards earnings revisions earn the company a Zacks Rank #1 (Strong Buy).
Companies in the Financials Sector often prosper and suffer for specific reasons that aren’t necessarily correlated with the health of the economy as a whole. Ally Financial has a unique structure that allows it to sidestep some of the issues that hinder other banks. It should be the first place to look for investors who want to add exposure to the industry.
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