Warren Buffett and Berkshire Hathaway invested in Ally Financial – a good idea for retail investors?
In 3 sentences:
- Ally Financial (NYSE:) is the largest direct-to-consumer digital bank in the United States.
- The company is heavily involved in the retail sale of cars.
- The ally is valued cheaply and returns a lot of capital to shareholders.
In his recently released 13F report, which shows the shares a company bought and sold in a given quarter, Warren Buffett gave the giant group Berkshire Hathaway (NYSE:) (NASDAQ: AAPL) announces a new contract in Consumer Digital Bank Financial Ally (WKN: A1W2MF) Unknown. Berkshire purchased approximately 8.97 million shares during the first quarter of 2022, for a total value of approximately $390 million. Berkshire’s average cost was about $43.48 per share.
Far from being a huge Berkshire firm, Ally makes up only a small portion of the holding company’s roughly $347 billion stock portfolio. However, this move is interesting given that Berkshire sold off a lot of its other banking properties in 2020 and 2021. Should it also invest in Ally? lets take alook.
What does Ally Financial do?
Ally is the largest direct digital bank in the United States with more than $184 billion in assets under management at the end of the first quarter of this year, making it the third largest bank in the United States by assets, according to the Federal Insurance Corporation (FDIC).
An ally has no branches. The company is primarily involved in the auto loan business, but also has a large mortgage portfolio and creates personal lending, credit card and point of sale. Ally also owns an insurance company, an online brokerage and wealth management division with approximately $17 billion in client assets, and is involved in commercial auto lending and corporate finance.
Ally has benefited greatly from the car boom caused by the pandemic, driving up car prices, particularly in the used car space. In the first quarter of 2022, Ally generated $11.6 billion in auto loans based on 3.2 million applications, the largest number of loan creations in the first quarter in 11 years. The average portfolio return was also up over 7%. The increased activity in auto loans has affected other areas of Ally’s business as well.
This increased activity helped Ally achieve a return of more than 24% on common stock (ROTCE) in 2021. This is more than double of any other company that ROTCE Ally has acquired since its initial public offering in 2014.
Classic Buffett Investment
Similar to Berkshire’s purchase of City Group (New York Stock Exchange 🙂Stocks in the first quarter, Ally looks like a classic Buffett stock. The stock is cheap at only about 110% of its tangible book value, which essentially represents the bank’s net worth. Affiliate shares are also trading at 5.2 times forward earnings. Both ratings are very favorable for a company that just achieved 24% ROTCE.
But of course there is a reason for this price. With high inflation and increased interest rates by the US Federal Reserve continuing to increase the cost of borrowing, the market is concerned about the financial health of consumers – especially as the economy enters a recession.
This could lead to more loan defaults in Ally’s car and other consumer loan portfolios. Over the past five quarters, the FICO-weighted average score for its auto loan portfolio has been more than 680, which means it has high-quality borrowers. The bank has built a reserve coverage ratio of 3.49% for its auto portfolio, which means it currently has enough capital set aside to cover losses on 3.49% of its auto loan book. Arrears and loan defaults are less than 0.60% of the total car loan portfolio but are expected to return to normal and increase.
The other thing that makes Ally a classic Buffett stock is that the company has a solid dividend yield of close to 2.7% and is buying back a lot of shares. Since 2016, Ally has repurchased more than 32% of its outstanding stock and also plans to buy back $2 billion in stock this year.
Should you invest?
I agree with Buffett and Berkshire that Ally is a very strong risk-reward opportunity. The company is in a much better position than it was before the pandemic, not only because of the auto boom, but also because Ally has a much better base deposit and customer base than it once did. Ally’s management understands that credit terms and auto loans will print, and they are preparing for a drop in used car prices.
Despite the normalization, Ally still expects a medium-term return on investment of between 16% and 18%, a much better return than what Ally achieved before the pandemic. The company also continues to reward shareholders with strong dividends and several share buybacks.
There is a risk of a recession, but like Buffett and Berkshire, I think Ally stock is worth at least a small portion of the portfolio.
Warren Buffett and Berkshire Hathaway Invest in Ally Financial – A Good Idea for Individual Investors? He first appeared on The Motley Fool Germany.
Bram Berkowitz owns shares of Citigroup. Motley Fool owns stock in Berkshire Hathaway (B stock) and recommends Fair Isaac. This article appeared on Fool.com on 5/20/2022 and has been translated for our German readers.
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This article first appeared in The Motley Fool