HSBC – Target price £6.50

My portfolio consists of only a few assets. I am certainly a believer of ‘don’t put all your eggs in one basket’, but likewise believe that you can only carry so many baskets at once.

 

At the time of writing, HSBC represents 24% of my portfolio. And here’s why

hsbc-price-chart

Past performance may not be a measure of future growth, but by golly does the chart look sexy. Rising to attention as if it’s taken a blue pill!

 

Despite the rally from sub 440p to 598p as at todays date, I believe that there remains opportunity for investors thinking of buying HSBC even at these levels, as a significant portion of the recent rise is due to a devaluation of the pound rather than a shift in sentiment or underlying fundamentals.

 

The lenders shares offer a satisfying 5.54% yield, and the management announced in August a $2.5bn share buyback to be executed over the next two years. Shares have since then been slowly purchased by the company, reducing shares in issue –  the net result at the end of the buyback will be upto 2% less shares in issue even after scrip shares are added to the mix, helping to shore up the dividend for the future. With a current capitalisation of 119bn and 19bn shares in issue, 2% can make a big difference

 

Then we have the windfall coming from across the Atlantic in 2017. In its August interim results HSBC states ‘We have continued to wind down our US CML run-off portfolio quickly and efficiently, disposing of an extra $4.7bn of legacy assets in the first half of 2016….helped the US business to achieve a non-objection to the capital plan it submitted as part of this year’s Federal Reserve Comprehensive Capital Analysis and Review (‘CCAR’). This plan includes a proposed dividend payment to HSBC Holdings plc in 2017, which would be the first such payment to the Group from our US business since 2007.” There is a great deal of speculation about how much will ultimately be realised, but 4.7bn is the value of assets disposed of since 2007 so we know its going to be hefty.

 

So, does this signal the bank’s long turnaround programme is finally bearing fruit? I would be inclined to say yes, given the above. Some may argue that a fundamental problem with HSBC is the debt:gearing ratio, resulting in a return on equity decreasing since 2013 from 9.08% to 5.14%. However, if you look back to 2007, the last time the US assets made a meaningful contribution to HSBC’s bottom line, return on equity was 16.18%, ergo the freeing of US assets may be akin to a rocket strapped to the turnaround plan from 2017.

 

Moving onto a more glum issue affecting HSBC – over the past several years costs have remained stubbornly high despite falling revenues. The managements response has been a commitment to slash $5bn from expenditures in the coming years. The Interim results for the half-year through June shows progress on this front, with operating costs down 3% compared to 2015 levels.

 

As at y/e 2015, HSBC’s net asset value was 592.91gpx. The devaluation of the pound has increased this upto 694gpx (assuming the valuation of all assets is based in dollars, being HSBC’s reporting currency). At today’s price of 599gpx, this represents fair upside.

 

So, lets summarise HSBC’s position:-

 

PROS

  • $2.5bn share buyback in place, set to reduce shares in issue by upto 2.5%
  • Dividend remains uncut
  • Profitability due to increase from 2017 as US assets are made available.
  • Dividend cover was reported at 1.27X for y/e2015 earnings at present even without release of US assets, which is sustainable
  • Cost cutting drive by management of up to $5bn per annum, with progress having been made.
  • NAV of 694gpx
  • Current dividend yield of 5.54% – even a 15% cut in dividend will yield 4.7%, more than the FTSE’s average 4.4% yield.

 

 

CONS

 

  • Core Chinese market showing signs of slowly – HSBC exposed to alterations in Chinese fiscal policy.
  • On going US lawsuits risk the US assets not being made available as expected.
  • Profits have fallen faster than cost cutting measures which must be addressed to maintain the dividend long term.

 

 

My opinion? The upsides outweigh the downsides for HSBC. I will be holding my position to reap the dividends, treating it as a high income yielding stock. I was fortunate enough to have purchased shares at 450gpx so benefit from a significantly higher yield, but my general advice remains to buy HSBC, with a target price of £650gpx.

3 thoughts on “HSBC – Target price £6.50

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