Absa is my preferred stock pick among South African banks because of its strong position in the local market, lower price-to-earnings ratio, good dividend history, and new CEO.
In 2022, stock markets worldwide experienced significant declines because of high energy prices, inflation concerns, rising interest rates, recession fears, and the war in Ukraine.
Central banks were forced to combat inflation by aggressively tightening monetary policy and increasing interest rates to much higher levels than in 2020 and 2021.
The higher cost of borrowing is intended to cool down economies to lower inflation, as investing in new projects and expanding business operations become more expensive.
Most industries were affected by contractionary policies, and earnings and growth for most listed companies were dampened.
However, one group of companies performed very well in this environment – banks.
Where most stocks experienced negative returns in the year to date, banking stock performed very well.
Absa, Standard Bank, and Nedbank delivered returns of 27.52%, 22.66%, and 20.72%, respectively.
Higher interest rates benefit banks as their main source of revenue – interest payments on loans – is advanced and profit margins bolstered.
Since 2021, all listed South African banks have experienced an increase in earnings per share. It is in contrast to lows in 2020 due to the low interest rates at the time.
I decided to increase my exposure to this industry to take advantage of the benefits that financial stocks deliver in an interest rate hiking cycle.
I faced a difficult choice with most banks looking attractive, but opted for Absa for a few reasons.
Absa had a very strong performance in recent years, and its current performance gave it a solid investment case.
Absa holds 25% of the combined market share of all listed South African banks. Since 2020, Absa and FNB have increased their market share by 2% at the expense of Nedbank and Standard Bank.
Absa and FNB’s growth made them good options, but their valuations were a big consideration.
Absa is better priced than FirstRand (FNB), with a price-to-earnings ratio (P/E) of 8.17 compared to FNB’s 11.
The table below shows the P/E of South Africa’s major banks on Friday, 18 November 2022.
A big reason for my decision to invest in Absa is the new CEO, Arrie Rautenbach, who took the reins in March.
Rautenbach joined Absa in the 1990s and has 25 years of experience in the banking industry.
He started at the very bottom, in the collections department, and worked his way up at the bank.
Before becoming group CEO, he held numerous executive roles within Absa and knew the business well.
With Rautenbach at the helm, investors feel safe as he understands banking and Absa’s complex structure well and can steer the organisation in the right direction.
Another reason I like Absa is its good dividends.
Absa had strong dividend increases, and despite a hiccup during the Covid lockdowns, it continues to reward shareholders through dividends.
It outperformed FNB, Standard Bank, and Nedbank in dividend yield since 2010 at 5.41%.
Absa currently pays a dividend yield of 5.6% at a very healthy payout ratio of 33% of its net income.
Since I invested in Absa two months ago, I have already achieved a share price return of 13%.
Although it is impossible to predict whether this growth will continue, Absa is well worth a look because of rising interest rates and its attractive dividend.