WAFD Reaffirmed at Neutral - Analyst Blog

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We are maintaining our Neutral recommendation on Washington Federal Inc. ( WAFD ) as we believe that the risk-reward profile for the company is currently balanced. Our decision is based on the company's better-than-expected second quarter 2012 results. However, we remain wary of its considerable exposure to perilous real estate markets.

Washington Federal reported fiscal third quarter (ended June 30) earnings of 33 cents per share, beating the Zacks Consensus Estimate. Higher net unrealized gains along with persistently declining credit costs contributed to the improved results. However, higher operating expenses and a reduction in net interest income were the headwinds. On the whole, continuous enhancement in asset quality and improved capital ratios were impressive.

As Washington Federal primarily generates revenue from public deposits, which it then disburses in the form of loans of various types, growth of loans and deposits, indicate a strong business trend. Though loans and deposits have been down in the recent quarters, primarily due to the prepayment of high-cost borrowings and sluggish demand, Washington Federal has had a long-term upward trend in terms of loan and deposit growth. The company generated net loans of $7.9 billion at the end of fiscal year 2011 (up from $6.0 billion in 2006), representing 59.0% of its total assets.

Further, Washington Federal's credit quality continues to improve with the contraction of nonperforming assets and net charge-offs and falling credit costs.  In addition, in response to stabilizing credit conditions, the company has been reducing its provision for loan losses in recent quarters. We anticipate the credit quality to continue improving in the subsequent quarters with the gradual recovery of the housing sector.

Washington Federal remains an attractive pick for yield-seeking investors due to its extensive capital deployment activities. In December 2011, Washington Federal increased its quarterly cash dividend by 33% to 8 cents and has maintained the same level since. Also, the company continues to buy back shares.

In June 2011, Washington Federal announced an authorization to repurchase 10 million shares. This is an extension of its previous authorization of about 22 million shares, which was announced in 1995 with no expiration date.

We believe that such efforts will help the company to gain substantial market share and enhance its profitability in the long run. Yet, upward revisions in interest rates will ruin its efforts to strengthen net interest margin through deposit re-pricing.

In addition, Washington Federal's loan portfolio comprises high quality single-family residential loans, which has a huge percentage of non-acquired and non-accrual loans. Further, it is exposed to land acquisition & development and speculative construction loan portfolios, which remain extremely risky.

Over the last two years, the bulk of nonperforming loans and charge-offs had risen from these portfolios. Though it has been reducing its exposure to them, we do not anticipate the company to shed the burden completely anytime soon.

Moreover, Washington Federal seeks to moderate the risks inherent in its loan portfolio by sticking to specific underwriting practices. Even if the company's underwriting criteria are satisfactory for the various kinds of loans it offers, like other companies, it may incur losses on loans that meet its underwriting criteria. Under current economic conditions, the company's allowance for loan losses may not be adequate to cover actual losses as it is based on the company's historical loss experience.

Shares of Washington Federal currently retain a Zacks #3 Rank, which translates into a short-term Hold rating. One of its peers Sterling Financial Corp. ( STSA ) retains a Zacks #1 Rank, which translates into a short-term Strong Buy rating.


 
STERLING FIN WA (STSA): Free Stock Analysis Report
 
WASH FEDL INC (WAFD): Free Stock Analysis Report
 
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Zacks Investment Research



The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.



This article appears in: Investing , Business , Stocks

Referenced Stocks: STSA , WAFD

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