Truist: Underwhelming Results In A Supportive Market

I wrote earlier this year that 2022 should be a better year for “Main Street” banks like Fifth Third (FITB), Regions (RF), and Truist (NYSE:TFC) versus more “money center” banks that are more reliant on capital markets activities and business with large multinationals. That thesis has held up, but Truist has not performed as well as expected (or as well as many peers), and the shares reflect this – falling almost 30% since my last update and significantly underperforming regional banks (as well as money center banks as well).

The SunTrust deal was supposed to create both cost and synergy opportunities for Truist, and these were supposed to propel the company to above-average growth. So far, the results have been underwhelming, and in a macro environment that should favor Truist (particularly with respect to health C&I loan demand), the results just haven’t been there. While I do still believe in the bullish case for Truist, there is work to do here and management bears the burden of restoring investor confidence in a differentiated positive outlook.

Underwhelming Results Across The Board

In a quarter where a lot of banks produced better than expected earnings, Truist did not. More concerning to me is that there isn’t an easily fixable source of this underwhelming performance.

Revenue rose almost 5% year over year and 4% quarter over quarter in the third quarter, missing by almost 1%, though largely keeping pace with the average large regional bank. Spread income rose 16% yoy and 10% qoq, beating by about 1% ($0.02/share), but performing a bit worse than average. Net interest margin improved 31bp yoy and 23bp qoq to 3.12% – a little worse than expected and weaker to the average peer performance both in absolute terms (3.12% versus 3.25%) and relative improvement (+31bp/+23bp versus +50bp/+30bp).

Non-interest income fell 11% yoy and 7% qoq, missing by 4% (or about $0.04/share). Although insurance was healthy (up more than 6% yoy organically), mortgage banking (down 60%), investment banking (down 30%), and wealth management (down 6%) were all lackluster.

Adjusted core operating expenses rose about 2% yoy and qoq, missing slightly (about $0.005/share), with the efficiency ratio improving slightly qoq to 58.9% versus an average for large regionals of 54.9% and large banks (including money center banks) in the low 60%’s.

Pre-provision profits rose 9% yoy and 5% qoq, missing by more than $0.04/share and coming in weaker than the peer group. Lower provisioning costs added about $0.025/share and taxes were slightly lower than expected. All told, Truist basically met expectations, but it was a low-quality performance in a quarter where most peers posted core beats.

Mixed Balance Sheet Trends

Given that bank earnings are driven largely by balance sheet decisions, it shouldn’t be too surprising that Truist’s balance sheet performance results were also mixed this quarter. I believe some of the “mixed” results come from the choices made by prior management, but they won’t be simple (or quick) to reverse or improve should current management wish to go in a different direction.

Loans rose about 10% yoy and 4% qoq on an average balance basis, which was in line with peers on a yoy basis and better on a sequential basis. Card lending was weak (up 1% qoq versus more than 4% system-wide growth), but C&I, auto, and mortgage lending were strong. CRE lending was about on par.

Loan yields improved 57bp yoy and 58bp qoq to 4.49%, which is pretty good. Credit quality was more mixed, though, with a 5% qoq increase in non-performing loans and some upticks in charge-offs (0.27% versus 0.19% a year ago and 0.22% last quarter). To be clear, Truist doesn’t have a credit quality problem, but their metrics aren’t as good as peers, though a more conservative approach from management could explain that.

Deposits were flat sequentially, which was actually better than average, with non-interest-bearing deposits flat sequentially and down about 2% on an average balance basis – both a little better than average. Deposit costs rose 22bp yoy to 31.5bp, which compares fairly well to peers, though Truist’s cumulative deposit beta is a little higher than average.

Truist isn’t doing badly, but given the bank’s strong market share across its footprint and its strong Southeastern presence in general (#2 behind Bank of America (BAC) and ahead of Wells Fargo (WFC), I expected a little more in terms of C&I and CRE lending, as well as cards. I’d also note that the bank is seeing some headwinds from the prior management’s decision to make large moves into low-yielding MBS securities.

The Outlook

Truist’s third quarter results were one of the least impressive of the large bank earnings reports, and the company’s call earlier this year that the bank was ready to shift from integration to growth and operating leverage is looking a bit optimistic at this point. Relative to peers that didn’t make a “once in a generation” merger-of-equals, I don’t see particularly differentiated growth, and operating cost synergies are being mitigated by high investments into IT (and you could argue that BB&T and SunTrust had been underinvesting prior to the deal relative to some peers).

Criticisms aside, this is still a bank with above-average returns on capital and a strong market presence in a region that is seeing above-average population and earnings growth. Macro issues (a weaker economy in 2023 due to higher rates and persistent inflation) are looming larger now, but there has been positive operating leverage this year, loans are outgrowing the sector, and the capital position remains healthy.

My earnings revisions here have been less positive than for other banks, particularly for FY’23, but I’m still looking for long-term core earnings growth in the neighborhood of 4% (a little lower than my prior mid-4%’s outlook) with a long-term ROE in the low double-digits and a high single-digit long-term growth rate for returns of capital to shareholders (dividends and buybacks).

The Bottom Line

Between discounted core earnings, ROTCE-driven P/TBV, and P/E, I believe the near-term fair value is in the mid-to-high $50’s, with a long-term total annualized return potential in the double-digits – pretty good for a bank of Truist’s quality. Countering that, it’s not unreasonable for Truist to trade at a discount today given that the company’s performance stands out for the wrong reasons. It’s not historically unusual for Truist to “zig” when others “zag”, so lackluster relative performance isn’t new, but I do think Truist needs to execute better on core earnings drivers to get a meaningful rerating in the market.