As you likely know, First Republic (NYSE:FRC) has been making headlines lately, and not in a good way. Over the past month, FRC stock has fallen by more than 88%. The fears driving these declines have been well-founded.
Following the collapse of SVB Financial’s (OTCMKTS:SIVB) Silicon Valley Bank (or SVB) subsidiary, the San Francisco-based bank, which caters to similar clients as SVB, appeared to be the next potential victim of the current banking crisis.
In the aftermath of SVB’s collapse, FRC experienced a massive outflow of uninsured deposits. To quell bank failure fears, it secured a rescue package from several big banks, comprising $30 billion in new uninsured deposits.
However, despite this rescue, don’t assume it’s all uphill from here for First Republic. There’s a reason shares still trade at only a little over a tenth of their value from just a month ago.
Why FRC Stock Trades at Fire-Sale Prices
If you are unaware of the situation with FRC, you may wonder why the bank, despite replenishing its deposit base, has fallen and stayed at fire-sale prices. Right now, the stock trades for less than 20% of book value, and for less than two times reported 2022 earnings.
Before you run out and buy FRC stock hoping you are getting a dollar for twenty cents, keep in mind these metrics are on past results. These figures are not very relevant when it comes to the bank’s current fiscal state.
For starters, FRC’s true book value is likely far less than what was reported in its most recent financials ($75.38 per share). The further rise in interest rates has resulted in additional unrealized loan losses.
While the bank generated around $8.25 per share in earnings last year, don’t expect results in 2023 to come anywhere close to this figure.
In fact, between loan losses, along with the fact that its “rescue deposits” and increased Federal Reserve borrowing will squeeze its net interest margin, FRC is likely to report negative earnings for 2023.
The Risk of Further Losses
It’s clear that the “true book value” for FRC stock is far less than the figure reported as of Dec. 31, 2022. The question is how much less? Some may believe that FRC’s price decline has accounted for unrealized loan losses, and then some.
However, I wouldn’t quickly jump to that conclusion. According to Reuters, analysts estimate losses could be as much as $13.5 billion. That figure exceeds FRC’s tangible book value at the end of 2021 ($13.4 billion).
Even if unrealized losses are less than that, First Republic’s underlying value could continue to drop.
For example, as Reuters also reported, a majority of First Republic’s loan book comprises jumbo single-family mortgages. The bank may have to realize even larger losses, if it needs to sell some of these loans in the near-term.
There’s a strong chance of this happening, given that the aforementioned big bank deposits are short-term in nature.
Otherwise, to shore up its liquidity, FRC may need to raise additional equity, either by converting some of these recent deposits into capital, or from receiving a separate capital infusion. The resultant dilution would place additional pressure on the stock.
Although First Republic may look oversold on the surface, a closer look signals otherwise. When you factor in unrealized loan losses, FRC could trade at fair value or at a steep premium to the current market value of its loan portfolio.
Even in the event First Republic can secure the capital needed to hold onto its underwater loans to maturity, it could still be a long slog back to profitability. Barring a return to a low interest rate environment, the bank may have to contend with slim net interest margins.
Any way you slice it, there’s far more pointing to additional declines, than even a partial recovery. With this, going contrarian on FRC stock is today, without doubt, an unwise wager.
FRC stock earns an F rating in Portfolio Grader.
On the date of publication, neither Louis Navellier nor the InvestorPlace Research Staff member primarily responsible for this article held (either directly or indirectly) any positions in the securities mentioned in this article.