Swedbank (OTCPK:SWDBF) has been one of the companies I’ve written the most about. It was, in fact, the very first article I published on Seeking Alpha. Since that time, the bank has been in turmoil following a mix of AML issues, performance/result problems, fines, COVID-19 headwinds, interest rate headwinds, and other issues.

We may expect a financial that faces these issues to actually perform fairly badly, but Swedbank is the largest bank in Sweden, and if you’ve read some of my baseline articles on the company, you’ll know some of the fundamental tailwinds the bank has. Based on these tailwinds, there are some natural buffers the bank has against negative impacts.

These things have in fact impacted 3Q20, along with other effects, and we’ll now take a look at these in this article, which is meant to:

  • Look over quarterly results and their impact on the company’s near-to-medium term future.
  • Revisit the bank’s valuation, and its overall appeal on a peer-based and sector-based comparison.
  • Come with a stance for the bank at this current time.swedbank-logo-wasabiweb - Wasabi Web

Swedbank – How has the company been doing?

3Q20 came in today, as I’m writing this article. The bank has reported some very positive effects and results for the quarter, driving results well above expectations.

These include:

  • Higher incomes from asset management, driving net commissions up.
  • Stable net profit, following a volatile 1H20 due to Pandemic-related instability.
  • Somewhat lower net interest income due to interest-related earnings and margin pressure.
  • Significantly lower provisions for credit losses (more than 50% down sequentially)
  • Continual, solid capital ratios and liquidity buffers.

In the view of bank management, Swedbank has delivered solid results during what can only be called “uncertain times.” This hasn’t just been a trend for Swedbank, where the bank has beat expectations – most larger banks and companies who have reported 3Q20 to date have actually beat their expectations, citing more positive trends than expected.

For Swedbank, the core business remains strong, and the recovery on the stock market during 3Q20 was of course a part of the reason for the strong results.

Equally significant, AML/KYC-related costs during the quarter were actually down quite a bit – but the reason for this was that this couldn’t be addressed as it perhaps should have been due to COVID-19.

(Source: Swedbank 3Q20 Presentation)

Overall, however, the bank’s key ratios remain incredibly stable and without much of any sort of negativity. Credit impairments were a risk that many analysts and writers mentioned, and that there was potential for impairments to continue until much later. However, the current picture shows a different reality.

(Source: Swedbank 3Q20 Presentation)

Credit impairments are close to Pre-COVID-19 levels, and Swedbank is actually one of the banks with the highest impairments on a peer comparison basis amongst Swedish banks.

Income didn’t skyrocket on a YoY basis, but it remained stable, which, as I see it, is what we should expect from current times.

I’ve often banged on about Swedbank’s market-leading position in Sweden. Swedbank considers 4 geographies its home markets, and the bank has market-leading positions in key areas in all of these markets. In some markets, their market share far exceeds 40-50% of the total market share.

(Source: Swedbank 3Q20 Presentation)

As you can see above, while Sweden is the largest market by far, the bank’s main market shares in terms of percentages are actually found in the Baltics. It also means that Swedbank isn’t really significantly present in other Scandinavian markets, but instead focuses solely on the Swedish market here. This makes it different both from Handelsbanken (OTCPK:SVNLF) and from Nordea (OTCPK:NRBAY).

I view it as more interesting to see how the company’s results developed on a sequential basis, as opposed to a YoY basis at this time. And overall, things are looking fairly good.

(Source: Swedbank 3Q20 Presentation)

While loan volumes were up, and deposits were up on a pure volume basis, the problem which is low-interest rates continues to push margins down – though the company actually managed to deliver improved mortgage loan margins despite this situation. The reason for this, while anecdotal, is one I firmly believe is true, and it’s based on the fact that other banks are more closed today in terms of giving consumer customers credits like mortgages unless they have an extremely liquid/positive credit score or situation.

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Swedbank remains one of the banks where the average Swede can still get a mortgage fairly easily – but that mortgage will simply carry a higher interest rate. Myself, I don’t have my mortgage here, and my personal financial situation gives me a mortgage interest rate of 0.83% on a 3-year basis, but this is rare and requires both capital and negotiation. Many friends and colleagues carry mortgage interest rates of either close to or above 2%, which in today’s interest environment of course enables Swedbank to actually deliver these improved margins.

Again, it’s very anecdotal – but I consider it to be accurate somewhat across the board.

The company’s net commission income continues to climb due to increased card and payment income, as well as asset management income. I’ve often banged on about how Swedbank has something like 10 million credit cards active, meaning that on average every single Swede has a Swedbank card, and such trends of course deliver improved income in such an environment. With the markets rising, it’s also not a surprise that people are putting their capital back to work in the market – with Swedbank’s asset management and mutual funds as their primary target, resulting in increased AUM for the bank.

Expense control is also a highlight this quarter – though this is also, in part, due to lower AML expenses due to COVID-19, as well as staff reductions.

(Source: Swedbank 3Q20 Presentation)

Swedbank’s strengths remain identical despite the pandemic. The bank continues to carry a very high CET-1 ratio at 16.8% for 3Q20. While some banks like DNB (OTCPK:DNBHF) have higher, 16.8% is still well above the 13.0% requirement, and the bank carries 116B SEK in CET1 capital. Overall, the ratio has been increased by 3B SEK over the past quarter. In short, Swedbank is very much in line with the overall requirements.

What about headwinds?

Well, there are some, of course. The high uncertainty with regards to pandemic recovery makes it hard for Swedbank to forecast future results. The bank has also individually assessed the quality of some of its oil-related assets, which are extremely small (400M SEK) on a comparative basis. The overall COVID-19 impact on the company’s loan portfolio, due to the negligible oil exposure, is therefore rather insignificant.

(Source: Swedbank 3Q20 Presentattion)

Some significant news for the quarter and 2020 include:

  • The Swedish FSA has decided to introduce risk-weight floors on commercial real estate, as well as potentially increasing future demands for overall capital safety.
  • The current decision to lower the countercyclical buffer to 0% still stands, though it’s uncertain whether this will be extended.
  • The new guidelines/IRB regulations will be phased in during the end of 2020, and the full impact on Swedbank is as of yet unclear.

At its heart, however, Swedbank remains one of the best banks in terms of overall capital structure and liquidity in all of Sweden and Scandinavia, even with the ongoing problems and AML/KYC risks. Even assuming zero business, the bank’s capital/liquidity buffer gives the bank a survival length of more than 12 months, and most of its funding profile is found in the bank’s massive deposits, which amount to more than twice as much next to covered bonds, the second-largest funding source.

Over to the dividend. With 2020 slowly coming towards an end, we need to look at what the bank intends here – and the message is becoming clearer, though at the same time, not exactly 100%.

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The bank has taken a more offensive stance towards the Swedish supervisory authority, Finansinspektionen. Following this recent 3Q20 with very strong liquidity and capital, the following comment regarding the dividend was released:

“The Board is still considering the issue of dividends for 2019. The bank’s financial position is strong and we want to pay dividends. But we follow the development and take into account the authorities’ assessments and are aware of how the pandemic is developing “, writes Swedbank’s CEO Jens Henriksson in a comment.

(Source: Aftonbladet)

This in itself may not sound like much. But when adding another comment to Dagens Industri, where the CEO said that they “want to pay a dividend for 2019,” and the “decision is one that they own,” it paints a more positive picture for shareholders and the prospects of dividends.

They might go the route of DNB (OTCPK:DNBHF), which has specified somewhat that the 2019 dividend may become payable in 2021, or they might simply decide to pay the dividend in full and face whatever criticism FI chooses to levy their way. I believe, however, that if the bank was to not pay a dividend, they would have acknowledged this differently.

Therefore, my expectation is for Swedbank to pay a dividend, though the dividend may not be payable this year.

Swedbank – What is the valuation?

Despite the 2020 negative trends for earnings and potentially for dividends, Swedbank has managed to increase its revenue/share and book value/share in line with expectations. The volume of transactions and business hasn’t fallen off at all – on the contrary, they’ve in fact increased.

Therefore, all things being equal, one can expect Swedbank to recover to historically accurate earnings once this is over, with the KYC/AML issues still needing to be addressed of course. On the basis of P/E, Swedbank is currently trading at an unjustified, high valuation when compared to international peers in banking, but also companies in insurance/other finance areas.

At NTM results, Swedbank’s current P/E multiple is around 12.9X. This is of course a result of the weak, expected EPS due to corona and impairments. On a more normalized basis, when considering Swedbank to be capable of generating earnings of around 17 SEK/share, which they’ve managed every year since 2015, the current multiple would point toward 8.7X, which is a clear historical undervaluation for Swedbank.

Unfortunately and once again, there are finance companies that haven’t cut the dividend, that trade at lower earnings multiples.

While they don’t necessarily own the same sort of moats or market positions, they also don’t require ADR investment and can be considered more appealing investments for most. Unless for the sake of pure diversification, investing in a Swedish bank unless you have access to the local listing, is something done on the basis of potentially higher returns than investing in a domestic company, and that prospect is unclear as things are looking now.

I say this not to make investments in these Swedish company unappealing, but to stay realistic. I’m positive about investing in Swedbank because I have access to domestic listings to all the companies I write about. I’m unsure how I would treat investing in ADRs, or if I’d even do it if I only had access to ADR or ADR equivalents.

Swedbank trading at relatively acceptable and appealing multiples doesn’t really help on a comparative basis, when peers are trading at equally good or better multiples, and have actual, confirmed dividends.

The current overall price targets for Swedbank are extremely generous. What do I mean by this?

I mean that S&P global analysts, 19 of which follow the bank, give the company a price target range of 145 SEK to 242 SEK, with a mean of around 176 SEK. (Source: S&P Global, TIKR.com)

I want to be clear that I actually agree with this price target on a long-term basis when seeing the bank in its optimal earnings mode, and with troubles behind them. In such a scenario, I’d even trend towards a 200 SEK/share valuation. I do however believe that the mean of 176 SEK doesn’t fairly take into consideration the amount of dividend-related uncertainty and AML/KYC headwinds, which are still present and will be there until these questions are solved – likely in 2021-2022.

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To remain fair on an international comparative basis, I view a fair target for Swedbank to be around 9-10X normalized P/E valuation, which comes to a price target range of no more than 153-170 SEK/share, with my preference towards the lower end here as long as the dividend question is unresolved.

The simple fact is that for international investors, Finance is an area rife with investment opportunities of not only great companies but safe companies, which makes Swedbank a bit of a question. While they’re safe long-term (at least in my view), they also come with a certain amount of short- to medium-term uncertainty. RoA valuation comparisons on an international basis are unfortunately rather moot, as banks in Scandinavia and NA are held to different valuations standards, which would skew comparisons (as they’ve done when comparing such companies and banks before)

So, while the company and bank Swedbank currently merits a “BUY” from a valuation perspective, this comes with a whole set of cautionary statements.

Thesis

Those who follow my articles know that I consider Swedbank one of the best banks in the geographical sector, even with the money-laundering scandal. The reasoning for this is simple – market position, amount of consumer deposits, consumer appeal, and structural advantages that are basically unachievable by any other local bank here as things currently are (essentially being the selected payment option for salaries/payouts by virtually all governmental institutions). This gives them some incredible power here.

However, investments into the bank need to be held to the same level of standard as any other company. The simple fact is, that in such measurements, Swedbank currently falls short.

They fall short due to dividend uncertainty, they fall short due to the risk/reward ratio when compared to financials such as Prudential Financial (PRU) or Bank of Nova Scotia (BNS) and many others.

This does not mean that there aren’t arguments for investing in Swedbank – but currently, these are mainly found in non-NA and FX exposure, diversification, and long-term appeal – not necessarily hope for a high, current, or near-term dividend.

On a pure valuation basis, Swedbank remains a “BUY” today. The dividend situation has clarified, and the company trades at around 5-7% undervaluation when conservatively considered.

However, on a peer basis, Swedbank falls short of investment potentials such as Prudential Financial and Bank of Nova Scotia, which haven’t cut dividends and don’t offer the same lack of potential returns for 2019-2020.

I would therefore caution all but investors interested specifically in Swedbank or Sweden, to consider with care prior to investing here – and that’s despite myself holding nearly 4% in the bank.

Thank you for reading.

Stance

At 5-7% undervaluation to conservative value targets, Swedbank merits a “BUY,” but peer comparison dictates that other companies should be considered prior to investing here.

Disclosure: I am/we are long SWDBF, SVNLF, NRDEF, PRU, BNS. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: While this article may sound like financial advice, please observe that the author is not a CFA or in any way licensed to give financial advice. It may be structured as such, but it is not financial advice. Investors are required and expected to do their own due diligence and research prior to any investment.

I own the European/Scandinavian tickers (not the ADRs) of all European/Scandinavian companies listed in my articles.



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