Manulife Financial: Stock Growth Depends on Rate Outlook, Asset Management Division

Manulife Financial (NYSE:) is Canada’s largest insurance company by total assets. Along with various types of insurance, including annuities, the company offers a range of money management services.

MFC expects much of its growth to come from its Wealth and Asset Management (WAM) side. The low interest rate environment of the past few years has been difficult for insurance companies and MFC is no exception. Uncertainty surrounding the interest rate outlook limits earnings expectations for MFC.

Manulife is well-diversified geographically and much of the expected growth in the insurance and GAM businesses is expected to come from Asia. Globally, MFC’s WAM business exceeds $1 trillion in assets under management and administration. Going forward, the bullish narrative for MFC hinges on rising interest rates and substantial WAM growth.

After closing at a YTD high of $22.16 on May 5, the shares fell 10% to the current price of $19.91. After closing Dec. 31, 2020 at $17.82, the shares are up 11.7% for the YTD.

Source: Investing.com

Over longer periods, MFC’s total returns have been poor and the 15-year total return is slightly negative. More recently, over 1, 3 and 5 years, MFC has significantly outperformed the life insurance sector, although these returns are well below those provided by the US stock market and the US financial sector.

The iShares US Financials ETF (NYSE:) has returned more than 13% annually over the past 3, 5 and 10 year periods, for example.

MFC: total returns lower than Life Ins.  industry, Canadian market

Source: Morning Star

MFC is a value stock, with a TTM P/E of 6.9 and a dividend yield of 4.5%. The P/E ratio has been very stable since the end of 2018. Over the last 3 and 5 year periods, the annualized growth rate of the dividend is around 11%. From the perspective of Gordon’s growth model, MFC should have expected returns of around 15% if the rolling dividend growth rate could be extrapolated.

P/E history for MFC

Source: macrotrends.com

Neither MFC nor its industry is generally considered to have much growth potential. The stock’s total returns will not attract investors’ attention in the current bull market. Based on the latest P/E, MFC doesn’t look undervalued compared to past years.

To formulate a view on MFC, I draw on two forms of consensual perspectives. The first is the well-known consensus rating and 12-month price target from Wall Street analysts. The second is the implicit market outlook, the consensus view of the options market as reflected in the prices of call and put options at a range of strike prices.

The price of an option represents the consensus opinion of the market on the likelihood that the price will rise above (call option) or fall below (put option) a specific level (the strike price) from today until the expiration date of the option. By analyzing call and put options at a common exercise range and expiration date, it is possible to derive the overall view of the options market from the probabilities of possible price returns by the date of execution. ‘expiry.

For those unfamiliar with this concept, I have written a review article, including links to relevant financial literature.

Wall Street Consensus Outlook for MFC

eTrade’s calculation of the Wall Street Consensus Outlook combines the views of 10 ranked analysts who have published opinions over the past 90 days. The consensus rating is bullish and the 12-month consensus price target is 27.4% above the current price. Even the lowest of the analyst price targets is 6.9% higher than the current price. The implied price appreciation from the consensus price target is slightly lower than the past 12-month return, but well above longer-term historical returns.

MFC: Wall Street analyst consensus rating, 12-month price target

Source: e-commerce

invest.comThe Wall Street consensus version aggregates the views of 8 analysts. The consensus rating is bullish and none of the analysts give MFC a rating below neutral. The 12-month consensus price target is 22.4% above the current price.

MFC Wall St. Analyst Consensus Rating, 12-Month Price Target

Source: Investing.com

Implicit Market Outlook for MFC

I analyzed call and put option prices at a range of strikes and two expiration dates. Options expiring on January 21, 2022 provide an implied market outlook for the next 4.74 months and those expiring on March 18, 2022 provide an implied market outlook for the next 6.57 months. I analyzed options with these two expiration dates to provide a view through early 2022 and then to check the consistency of the market’s implied outlook for a slightly longer time frame.

The standard presentation of the implied market outlook is a probability distribution of price return, with probability on the vertical axis and price return on the horizontal.

MFC: Implied Market Outlook, 4.74 Million Period, Today-Jan.  21 2022

Source: Author’s calculations using eTrade option quotes

The market’s implied outlook for the next 4.74 months is heavily tilted to favor positive price returns. The peak probability corresponds to a price return of 5% over this period. The median price return of this distribution (50% chance of outperforming / 50% chance of underperforming) is 1%. The annualized volatility derived from this implied market outlook is 24%. That’s pretty low for an individual stock. This implied market outlook is clearly bullish.

To make it easier to compare the probabilities of positive and negative returns of the same magnitude, I rotate the negative return side of the distribution around the vertical axis (see chart below).

MFC: Implied Market Outlook, 4.74 Million Period, Today-Jan.  21 2022

The negative side of the distribution has been rotated around the vertical axis (Source: Author’s calculations using options quotes from eTrade)

This view shows that the probability of having a positive return is significantly higher than for a negative return for a range of the most probable results (returns within the range +/- 10%), which supports a bullish view. For large returns (+/-15% or more), the probability of negative returns is higher than for positive returns, but these are, overall, low probability outcomes.

A limitation in interpreting the implied market outlook for MFC is that option trading in this stock is low. This reduces confidence in the relevance of prospects. When I analyzed options expiring in March, however, the outlook is qualitatively the same, with a strong probability tilt toward positive price returns.

MFC: Implied market outlook, 6.6 million period, today-March.  18 2022

The negative side of the distribution has been rotated around the vertical axis (Source: Author’s calculations using options quotes from eTrade)

Over this longer time horizon, the maximum probability corresponds to a price return of 5.6% and the annualized volatility is 23%. This implied bullish market outlook is reassuring, but overall confidence in the results is modest due to weak options trading.

Summary

The last few years have been difficult for insurance companies, mainly due to low interest rates. MFC has responded to this business environment by focusing on expanding Wealth and Asset Management (WAM), a group of higher margin lines of business.

Stocks are cheap relative to but higher multiples rest on evidence of faster earnings growth. For now, the market does not seem convinced.

The consensus opinion of equity analysts who follow MFC, however, is remarkably bullish, with an expected 12-month price appreciation of more than 20%. The market’s implied outlook for MFC through early 2022 is also bullish, with a peak probability price return of 5%-6% over the next six months. The annualized volatility derived from options is around 24%.

Taking the analyst consensus price target at face value, MFC expects a price return of over 20% with volatility of 24%. I consider the expected return of a stock above half the volatility to be attractive, so MFC looks like a solid buy.

However, tempering this bullish view, there is considerable uncertainty as to when interest rates will rise. The implied market outlook is also bullish, stocks have moderate expected volatility and, let’s not forget, a dividend yield of 4.5%. I partially discount the implied market outlook due to low levels of options trading activity. I’m bullish overall, but I don’t expect a price return as high as the analyst consensus.

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