Today I’ll look at American Express (AXP), the financial services company that does a lot more than just issue charge cards. American Express’ product portfolio consists of charge and credit card products; expense management products and services; consumer and business travel services; stored value cards, including travelers checks and other prepaid products; network services; merchant acquisition and processing, point-of-sale, servicing and settlement, and marketing and information products and services for merchants; and fee services comprising market and trend analyses and related consulting services, fraud prevention services, and the design of customer loyalty and rewards programs.
One of the key driving factors regarding American Express is the health of the general economy. AXP does not earn its money by charging interest on unpaid balances, which is different from regular credit cards. Instead, it earns its money by charging each merchant a transaction fee as a percentage of each charge. These fees are higher than its competitors’. So for American Express, it really all comes down to how much money its cardholders are spending. So if you are thinking of buying American Express, you are banking that the economy will continue to improve and/or American Express will seize more market share.
If the last five years is any guide, you might think the company will do just that. Since the trough of the last financial crisis in early 2009, AXP has ridden the wave of global economic recovery. Over the last five years, its earnings have grown at stunning annualized rate of 33.5%, and this has been reflected in an amazing run for the stock. After bottoming out at just below $9 a share, the stock hit an all-time high, adjusted for splits, of just over $91 in early January 2014. It’s come back at bit, to just under $88 as of early May, but the PE ratio isn’t exactly astronomical at 17.4. But another ratio – one that has become central to my assessment – has gone too high for comfort. That is the 5-year PEG ratio, which reflects how much the market is paying for how fast a company’s earnings are expected to grow over the next five years.
For me, a stock is a “Buy” if the PEG ratio is less than 1.20, a “Hold” if it’s between 1.21 and 1.30, and a “sell” if it’s higher than 1.30. For AXP, it’s 1.45, and that means “Sell.” The reason is that the consensus of the analysts who follow the stock forecast that the company’s earnings are going to grow at just under 11% a year. And while some companies would give their eye teeth to grow at that rate, that’s less than one-third the rate at which American Express’s earnings grew over the last five years. And that suggests, at best, that the stock is poised to grow at a much slower rate than it has recently, and may, in fact, be due for a correction.
At its current price, the stock is trading at 17.4 times its trailing 12-month earnings of $5.06 a share. In 2016, earnings are projected to be $6.69 a share. At a slightly compressed PE of 15, the stock has a price target of $111. But if, dragged down by lower expectations for earnings, if the PE drops to 14, the stock price goes to $94, not much higher than it did in January. But for me to want to buy it, at the current estimated growth rate for earnings, the stock would have to come down to no more than $72. Will it? Who knows? But that’s about where it was just one year ago, in May 2013, and it’s not inconceivable that a correction in stocks in general could see American Express falling to that level.
The question investors should always ask is, when I buy a stock am I being adequately compensated for the risk I’m taking. The PEG ratio is one way to answering the question. Another is the dividend yield, and at just 1.1% percent, AXP isn’t telling me that I am. So if you own AXP, it’s time to take your profits and look elsewhere, or wait for its PEG ratio to tell you it’s time to buy.
About Lawrence Meyers Larry is regarded as one of the nation’s experts on alternative consumer finance. He consults for hedge funds and private equity via his Council Member status at Gerson Lehman Group, and as a member of Coleman Research Group’s Executive Forum. He also consults for Credit Access Businesses and Credit Services Organizations in Texas. His Op-Eds and Letters to the Editor have appeared in over two dozen major newspapers. He also brokers financing, strategic investments, and distressed asset purchases between private equity firms and businesses of all stripes. You can reach him at [email protected]