The payment processor and the credit card issuer American Express (NYSE: AXP) has long been one of Warren Buffett’s favorite stocks. Just last year, Buffett called the brand special, and American Express is currently one of the Berkshire Hathaway‘s (NYSE: BRK.A)(NYSE: BRK.B) main holdings in its equity portfolio. The stock has spent much of 2021 hitting new highs and is currently trading up more than 50% this year. Can it continue? We will take a look.
The case rebounded
With many activities in the travel and entertainment (T&E) and retail industries, American Express has certainly been hit by the pandemic, which has hit many of these industries hard. But for the first time since the start of the pandemic, spending on American Express cards is up from the third quarter of 2019. This has generated remittance revenue (the transaction fees that American Express collects from merchants who accept its cards and one of the main drivers of corporate revenue) to nearly $ 6.7 billion, up slightly from 2019.
This is very good considering that T&E spending on American Express cards is still down 29% from 2019 levels. Management expects travel and commuting spending to return to 80% of 2019 levels by year end. To pick up the slack, spending on goods and services increased 19% from 2019. Americans are clearly spending again, and the costs of many goods and services have increased over the past year and compared to 2019. .
Another cool part of the rebound is that it is fueled by young people. Millennials and Gen Z spent 38% more on American Express cards in the third quarter compared to the same quarter in 2019. In comparison, Gen X spending only increased 9%, while spending of baby boomers were down 6% from 2019.
On the lending front, the company has seen signs of a rebound as total credit card lending volumes increased about 2% sequentially, but are still down around 10% from the third quarter of 2019. Management attributed the moderate loan growth to the client’s financial strength, which resulted in higher liquidity levels and the repayment of loan balances at higher rates.
The flip side of moderate loan growth has been strong credit quality. For the third quarter in a row, American Express was able to free up previously stored capital for loan losses, which helped juice profits. Additionally, the company recently increased the annual membership fee on its platinum card from $ 550 to $ 695 per year and is increasing net card fees as well as the number of new cardholders.
The rebound enabled American Express to generate diluted earnings per share of $ 2.27 on total sales of nearly $ 11 billion. Revenues were the highest in five quarters, but pre-tax and pre-provision income, which suppresses the noise of reserve releases, declined slightly from each of the first two quarters of the year.
Promote American Express
American Express is unique in that it is a payment processor and has established a rail network like Visa (NYSE: V) and MasterCard (NYSE: MA), but it also grants loans and exposes itself as A capital letter (NYSE: COF) and Synchrony Financial (NYSE: SYF). It is most similar to Discover financial services (NYSE: DFS), although considered a much better business.
As a result, American Express trades at a multiple between processors and card issuers. In 2022, management expects earnings per share to be near the high end of their initial projections for 2020 before the coronavirus hits. This range of EPS was $ 8.85 to $ 9.25. If you take American Express’ current multiple of 18.8 and multiply it by the top of the range ($ 9.25), you would end up with a share price of around $ 174, which American Express has. already outdated.
However, if you give American Express a roughly multiple between the two business groups, it is the most similar, which I will do by taking the average of the multiples between the highest card issuer (Discover) and the lowest payment processor (Mastercard), American Express would have a multiple of 21.65. That would imply a share price of around $ 200, which is 11% above current levels if management can meet their earnings guidance for 2022.
What to consider
American Express business continues to recover and could recover further in 2022 if T&E spending continues to rebound. I’ll also be looking at how American Express fares with acquiring new cardholders, given that spending has been high lately and the company has increased annual subscription fees for members. In the end, the share price rose a lot and there doesn’t seem to be a ton of upside in the short term. But Buffett is certainly right when he says that the American Express brand is special, and I think over the long term the stock can continue to deliver good returns for investors.
This article represents the opinion of the author, who may disagree with the “official” recommendation position of a premium Motley Fool consulting service. We are motley! Challenging an investment thesis – even one of our own – helps us all to think critically about investing and make decisions that help us become smarter, happier, and richer.