Bank of Montreal is the eighth largest bank in North America by assets
BMO acquires Bank of the West to expand its US presence
Dividend increased by 25% in 2021
Wall Street's Consensus Outlook Is Bullish
Market implied outlook is bullish through mid-2022 and neutral/slightly bullish for the full year
Bank of Montreal (NYSE:) has been in the news recently for two reasons. First, the company announced plans to acquire Bank of the West to expand its US presence, primarily in California. Second, BMO increased its dividend by 25% at the end of 2021.
BMO stocks have skyrocketed in the past 12 months, with a 12-month total return of nearly 52%. Shares closed on January 18 at a record high of $118.54. Prior to COVID-19, stocks were tied to a range for years. BMO first closed above $78 on September 4, 2014. On December 31, 2019, the shares closed at $77.50.
5 year price history for MET.
Source: Investing.com
The stocks have delivered a three-year total return of 18.92% yoy, beating US financial sectors. The iShares US Financials ETF (NYSE:), for example, has yielded 15.96% per annum over the same period. MET has underperformed IYF over the past five and ten years.
Lagging total return for MET.
Source: Morningstar
With a dividend yield of 3.7%, BMO is comparable to other major Canadian banks. Canadian Imperial Bank Of Commerce (NYSE:), Royal Bank of Canada (NYSE:) and Toronto Dominion Bank (NYSE:) yield 4.29%, 3.35% and 3.54%, respectively.
The consensus outlook for MET earnings growth over the next three to five years is 6.15% per annum and the lagging three- and five-year dividend growth rates are 6.9% and 6.5%, respectively. Earnings growth may support the continuation of dividend growth seen in recent years. Applying the Gordon growth model with the dividend yield over time, the expected total return for BMO is 10.2% per annum (using the five-year dividend growth rate).
When I last wrote about BMO on August 18, 2021, I gave the stock a bullish rating. The main drivers for the rating were (1) cheap valuation and high dividend yield, (2) bullish consensus rating from Wall Street and (3) bullish consensus outlook from the options market. BMO closed at $102.27 on August 18 and at $111.43 on January 25, trading 9%. The total return (including dividend) over that period is 10.9%. The returned 1.3% (including dividends) over the same period.
While most readers will be familiar with the consensus outlook of Wall Street analysts, fewer readers will have encountered the consensus outlook calculated from the options market. The price of an option on a stock reflects the market consensus estimate of the probability that the stock price will rise above (call option) or below (put option) (put option) a certain level (the option's strike price) between now and when the option expires
By analyzing the prices of call and put options against a range of strike prices, all with the same expiration date, it is possible to calculate a probabilistic price prediction that reconciles all option prices. This is called the market implied outlook and represents the consensus outlook among option buyers and sellers.
I updated the market implied forecast for MET through 2022 and early 2023 and compared the results to the current Wall Street consensus forecast, as in my earlier analysis.
Wall Street Analyst Outlooks For BMO
E-Trade calculates Wall Street's consensus outlook based on the opinion of eight ranked analysts who have published opinions on MET in the past 90 days. The consensus rating is bullish and the 12-month consensus price target is 9.7% above the current share price. The consensus outlook has been bullish since early 2021.
Analysts Consensus Rating, 12 Month Price Target for MET.
Source: E-commerce
Investing.com combines the views of seven Wall Street analysts to calculate the consensus rating and price target. The consensus rating is bullish and the consensus price target is slightly below the current stock price. Investing.com's outlook shows a wide spread between individual price targets, ranging from a low of $74 to a high of $168. This is especially noteworthy in contrast to the E-Trade consensus.
Analyst consensus assessment and 12-month price target for MET.
Source: Investing.com
I tend to disregard Investing.com's consensus results because of the high spread between the price targets. A high spread in individual analysts' price targets reduces confidence in the meaning of the consensus. It is unusual and somewhat surprising to see such different results between these two versions of the consensus. For practical purposes, I typically settle the consensus price targets, resulting in an expected price increase of 4.76% and a total return of 8.46% (including dividend). E-Trade's consensus outlook points to an expected total return of 13.4%. For context, the 10-year lagging total return is 9.15% per annum and the 3-year lagging total return is 18.9% per annum. the market implied outlook for MET through mid-2022 (using options expiring on June 17, 2022) and for the next 11.6 months (using options expiring on January 20, 2023). I have chosen these two option expiration dates to provide a view of mid-2022 and for a period of almost 12 months. In addition, stock options expiring in June and January are among the most traded. Still, trading volume and current open interest rates on MET options are very low, suggesting that the market-implied outlook may be of limited value in reflecting market sentiment.
The standard presentation of the market-implied outlook is in the form of a probability distribution of price return, with probability on the vertical axis and return on the horizontal.
MET market implied price return opportunities through June 17, 2022.
Source: Author's calculations using option quotes from E-Trade
The market implied outlook for June 17, 2022 is generally symmetrical, with similar opportunities for positive and negative returns of equal magnitude. The maximum probability outcomes are slightly favorable for positive price returns and the peak probability corresponds to a price return of +3%. The annualized volatility calculated from this distribution is 25%. This is low volatility, albeit slightly higher than the 21% value from my August analysis. The higher expected volatility is largely, if not entirely, attributable to the increase in overall market volatility over this period.
To make it easier to directly compare the probabilities of positive and negative returns, I rotate the negative return side of the distribution around the vertical axis (see chart below).
MET market implied price return opportunities through June 17, 2022.
Source: Author's calculations using option quotes from E-Trade
This view shows that the probabilities for positive returns are consistently higher than for negative returns of the same magnitude for a wide range of the most likely outcomes (the solid blue line is above the red dotted line across the left two-thirds of the above chart). These are optimistic prospects for MET.
Theory suggests that the market-implied outlook tends to be negative compared to investors' actual outlook, because risk-averse investors will pay more than the fair value of downside protection (eg put options). There is no way to robustly measure this potential bias, but given the potential, this market implied outlook seems more optimistic.
The market-implied outlook for MET for (almost) the next 12 months (calculated on options expiring January 20, 2023) deviates slightly from the view through mid-2022. Opportunities for positive and negative returns are coming. very good agreement on almost all possible outcomes (the red dotted line and the solid blue line are very close to each other). There is a narrow range of low size returns for which the probability of negative returns is slightly increased. I interpret this market-implied outlook in the neutral to slightly bullish range. The expected annualized volatility is 23%.
MET market implied price return opportunities up to January 20, 2023.
Source: Author's calculations using option quotes from E-Trade
The market-implied outlook for MET points to a favorable outlook, with a bullish outlook for the middle of the year and a neutral/slightly bullish outlook for the next 12 months. Given the low level of options trading for MET, as noted earlier, I don't attach much importance to the nuances of these outlooks.
Summary
BMO will mainly appeal to income investors. With the 3.7% forward return and the company's proven commitment to maintaining and growing the dividend, BMO continues to look good. The earnings outlook supports continued dividend growth of 6%+ pa.
Wall Street analysts' consensus outlook for MET is bullish, although there is a significant difference between E-Trade's 12-month consensus price target and Investing.com's value. The average of the two consensus price targets implies a 12-month total return of 8.46%, compared to 13.4% looking at the E-Trade consensus alone. The market implied outlook for MET is bullish through mid-2022 and neutral to slightly bullish through early 2022.
Expected volatility is tame over this period. Stocks like BMO add stability to a stock portfolio, along with income and a reasonable total return. I call this type of stock portfolio ballast. I remain optimistic about MET for these characteristics.
