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Discover Financial stock (NYSE: DFS) has gained 26% YTD, as compared to the 17% rise in the S&P500 over the same period. In sharp contrast, Discover Financial’s peer Capital One (NYSE: COF) is up 15% YTD. Overall, at its current price of $143 per share, DFS is trading 3% above its fair value of $138 – Trefis’ estimate for Discover Financial’s valuation.

Amid the current financial backdrop, DFS stock has seen extremely strong gains of 55% from levels of $90 in early January 2021 to around $140 now, vs. an increase of about 50% for the S&P 500 over this roughly 3-year period. However, the increase in DFS stock has been far from consistent. Returns for the stock were 28% in 2021, -15% in 2022, and 15% in 2023. In comparison, returns for the S&P 500 have been 27% in 2021, -19% in 2022, and 24% in 2023 – indicating that DFS underperformed the S&P in 2023. In fact, consistently beating the S&P 500 – in good times and bad – has been difficult over recent years for individual stocks; for heavyweights in the Financials sector including JPM, V, and MA, and even for the megacap stars GOOG, TSLA, and MSFT. In contrast, the Trefis High Quality (HQ) Portfolio, with a collection of 30 stocks, has outperformed the S&P 500 each year over the same period. Why is that? As a group, HQ Portfolio stocks provided better returns with less risk versus the benchmark index; less of a roller-coaster ride as evident in HQ Portfolio performance metrics. Given the current uncertain macroeconomic environment with high oil prices and elevated interest rates, could DFS face a similar situation as it did in 2023 and underperform the S&P over the next 12 months – or will it see a strong jump?

The credit card company outperformed the consensus in the second quarter of 2024. It reported net revenues of $4.5 billion, which is 17% more than the year-ago period. It was driven by a 45% jump in non-interest revenues, followed by an 11% rise in net interest income (NII). The non-interest revenues benefited from higher discount & interchange fees and other income. Similarly, the NII was mainly up due to growth in interest earnings assets and higher net interest margin. Notably, the NII contributes more than 75% of the top line. On the expense front, provisions for credit losses witnessed a favorable drop from $1.3 billion to $739 billion in the quarter. However, the impact was partially offset by a 23% rise in the total operating expenses. Overall, the adjusted net income improved 70% y-o-y to $1.5 billion.

The company’s net revenues grew 19% y-o-y to $15.86 billion in FY 2023. This was because of a 19% increase in net interest income and a 20% gain in non-interest revenues. Further, total outstanding loans, card purchase volume, and network payments volumes posted growth in the year. On the cost front, the provisions figure witnessed a significant build-up from $2.36 billion to $6 billion, coupled with a 15% rise in operating expenses. Altogether, the adjusted net income decreased by 33% y-o-y to $2.86 billion.

Moving forward, we expect the same trend to continue in the third quarter. Overall, Discover Financial’s revenues are forecast to touch $16.86 billion in FY2024. Additionally, DFS’s annual GAAP EPS is likely to remain around $11.81 in the year. This coupled with a P/E multiple of just below 12x will lead to a valuation of $138.

[1] Returns as of 7/19/2024
[2] Cumulative total returns since the end of 2016

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