PIPR - Charles Schwab: I Am Waiting For Lower Prices To Buy

2023-04-17 18:54:52 ET

Summary

• Charles Schwab does look more interesting on the March bank-run dumping spree, but further downside cannot be ruled out.
• I would avoid shares until the U.S. stock market bottoms, which could be another 15% to 20% away for downside, as a recession becomes reality.
• To me, purchasing shares under $45 in coming months makes better sense for long-term investors, assuming Wall Street's bear market continues.

Many pundits and retail investors have been quick to jump into the bullish camp on the latest Charles Schwab ( SCHW ) selloff, caused by the March bank run in America. While this view is tempting to take (I do like bottom fishing), and I tried to buy shares under $50 on the initial sell wave, I remain gun shy until even lower quotes appear. Why?

It is basically a function of my outlook for even lower prices on Wall Street later in the year, through a large second wave of selling pressure going into a likely recession. (2022 outlined the first wave of price rerating on higher interest rates).

I ask myself, since Schwab has an excellent history of tracking overall market swings, shouldn't some caution be part of present thinking? Of course, the health of the business is directly tied to U.S. financial asset price changes and large credit balances at the brokerage firm during bull markets. So, a prolonged bear turn in the wrong direction will not be welcome news for sales and earnings into 2024.

Previously, I mentioned Schwab in March 2021 here , when I suggested investors step aside until a market correction had reset the tables for growth at a lower price and valuation. To a degree, this forecast did play out in March-April 2023 (SCHW is about -20% lower from my bearish article), but a renewed and major selloff on Wall Street may (should) keep pressure on the stock quote a while longer.

Still Overvalued?

Reviewing some data points, the stock valuation is not really a bargain yet. In fact, it trades near the high end of the spectrum vs. brokerage industry peers on plenty of value-based fundamental statistics.

The first issue I have is the forward projected 1-year P/E ratio of 11.3x (which may prove overly optimistic for operating income) is not particularly attractive vs. Goldman Sachs ( GS ), Morgan Stanley ( MS ), Interactive Brokers ( IBKR ), Raymond James ( RJF ), LPL Financial ( LPLA ), Robinhood ( HOOD ), Jefferies ( JEF ), Stifel ( SF ) or Piper Sandler ( PIPR ) as a group. It's a better valuation than early 2023, but still a 20% premium to the median industry average.

Another old-school data point is price to book value, which historically has been an important safety net for a valuation in times of economic turmoil. Schwab's 3.5x multiple is quite extended. In comparison, at the bottoms of the 1987 stock market crash, 1990 recession, 2002-03 Dotcom Tech Bust, 2009 Great Recession, and the 2020 COVID pandemic, Schwab's stock price hovered near book value.

In addition, the brokerage industry average is closer to 2x for price to book. Does SCHW deserve its premium, if customers demand higher cash interest rates, slashing company profitability in the near future?

Finally, the "accounting" book value number may be vastly overstated in a real crisis situation. Unfortunately, Schwab may have acquired TD Ameritrade last year right at an important valuation peak for Wall Street. The $22 billion accounting cost of the deal far exceeded net tangible assets, so the overall tangible book value of SCHW has declined rather steeply to just over $6 billion on an equity market cap of $92 billion today!

My point is a major recession and bear market going into 2024 could cause skittish investors to push price far lower than the current $52 quote.

Are We Following Previous Bust Patterns?

My fear is we are only halfway through a multi-year bear market in the U.S. stock market. The closest and really only parallels since the early 1980s are the Dotcom Bust and Great Recession periods.

The two market spans experiencing 2-year bear markets are pictured below, with my guesstimate of where we might be located inside previous patterns and time cycles.

2006-09

1997-2003

If Wall Street sees an outflow of investor participation and lower prices overall during the rest of 2023 and 2024, the odds are quite high Charles Schwab will remain in a downtrend.

Weak Technicals

When I am not bottom fishing, I prefer to buy into building momentum patterns. Below is a total return graph over the past year, comparing SCHW to the peer group. You can see Schwab is lagging the industry by a wide margin. The -38% loss is far away from the rest of the names trending around breakeven, on average.

Schwab's daily trading chart is also a trainwreck. Over the past 12 months, SCHW has underperformed the S&P 500 by -32%, while volume/price indicators like the Accumulation/Distribution Line and On Balance Volume leave much to be desired.

Final Thoughts

Owning or buying Charles Schwab stock in the low-$50s may be more of a binary choice, depending on your belief in a new bull market or the resumption of a major market selloff.

If we do slide into another -15% or -20% general market drop into the autumn (sell in May and go away until early November), waiting for prices under the March $45 price low makes plenty of sense. I believe numbers as low as $30 to $35 are possible, if Schwab revenue and earnings move in reverse the rest of 2023 vs. 2022, and even 2024 vs. 2023. Already, analysts are projecting a step back in this year's EPS results, as the bank-run assumption is Schwab will have to offer higher cash sweep yields in brokerage accounts to keep customer assets from fleeing.

In the end, lower interest rate spreads received will dump operating income (I personally helped move a family member's cash out of Schwab and am working with them to lock in 4% to 5% CD rates soon for the rest, now earning less than 1% for yield annually). Schwab profited with a record net $10.6 billion in interest income last year, mostly on customer cash accounts receiving next to no yield from the company.

Seeking Alpha's Quant Ranking system is also leery of Schwab currently, with a lower than market and industry setup (looking at momentum characteristics).

My suggestion is don't be a hero and run out to buy Schwab shares, just because there's been a price markdown sale. Things could get worse, before they get better.

The upside argument is October-January outlined a major bottom in the U.S. stock and bond markets. If this proves true, I suspect Schwab will perform well enough to own. Total return gains of +15% to +25% are possible by the end of the year, in a best-case scenario, where earnings perform better than expected, and a slightly higher P/E is put on this positive result.

However, downside risk is likely to $30 in a worst-case scenario, which would bring a meaningful -40% loss on investment. At $30, the stock may be selling under a 10x P/E on weakened results (present 2023 P/E ratios are forecast around 14x), which historically has been a smart valuation area to pick up a stake since the middle 1980s.

I rate shares a Hold for long-term accounts, but more of an Avoid for traders/investors patiently waiting for a stronger buy proposition to materialize.

Thanks for reading. Please consider this article a first step in your due diligence process. Consulting with a registered and experienced investment advisor is recommended before making any trade.

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