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Elevator Pitch
My investment rating for Mizuho Financial Group, Inc. (NYSE:MFG) [8411:JP] is a Buy. MFG, Sumitomo Mitsui Financial Group, Inc. (SMFG) [8316:JP], and Mitsubishi UFJ Financial Group, Inc. (MUFG) [8306:JP] are the three Japanese megabanks.
With my prior June 3, 2021 write-up, I outlined the factors that led to Mizuho Financial’s share price returning to pre-COVID levels. My focus is on the potential catalysts for MFG in this latest update.
There are multiple catalysts in place for a favorable re-rating of Mizuho Financial’s valuations, and these catalysts include central bank policy changes, an improvement in shareholder capital return, and reallocation of capital to higher-return businesses. This explains why I have made the decision to raise my rating for MFG from a Hold earlier to a Buy now.
End Of Negative Rates In Japan Is In Sight
The Bank of Japan or BOJ “adopted negative rates for the first time” in January 2016, which is commonly referred to as NIRP or Negative Interest Rate Policy, as highlighted in a January 29, 2016 Seeking Alpha News article.
It is no surprise that Mizuho Financial’s ROE decreased from 10.0% in fiscal 2015 (April 1, 2015 to March 31, 2016) to 8.5% and 7.7% for FY 2016 and FY 2017, respectively following the beginning of the NIRP. MFG’s ROEs remained depressed in the 5.8%-7.4% range for the FY 2018-2022 time frame.
Between calendar year 2016 and 2022, Mizuho Financial was trading in the 0.3-0.7 times trailing P/B valuation range as per S&P Capital IQ data. In contrast, the market valued the stock at P/B multiples of between 0.5 times and 1.0 times for the 2010-2016 (calendar year) time frame prior to the implementation of the NIRP in early 2016.
It is clear that MFG generated relatively lower ROEs during the NIRP regime and this led to a significant valuation de-rating for the stock in the past couple of years. Looking forward, there are indicators suggesting that the end of NIRP in Japan is likely to happen in the near future, which could potentially drive a positive re-rating of Mizuho Financial’s valuations in time to come.
Seeking Alpha News recently published an article on December 26, 2023 citing Bank of Japan Governor Kazuo Ueda’s comments that “the likelihood of achieving the 2% inflation target was ‘gradually rising'” which increased the chances of “a potential policy normalization” (i.e. end of NIRP) happening soon. An earlier December 17, 2023 commentary piece published in The Japan Times highlighted that Kazuo Ueda, who assumed the role of BOJ’s governor in April 2023, “has been considered a skeptic of negative interest rates.”
In terms of the timing of a pivot away from NIRP, more than 80% of economists polled by Reuters last month think that the end of negative rates in Japan is going to occur by end-2024 at the latest.
Dividends And Share Repurchases
Mizuho Financial has a target of improving the company’s ROE to 8% and above in FY 2025. I take the view that MFG’s ROE expansion goal will be realized by the return of excess capital to shareholders and reallocating capital in a value-accretive manner. I touch on share buybacks and dividends in this section, and I write about the bank’s reallocation of capital in the next section.
The company has guided for a JPY100 per share dividend distribution in full-year FY 2023 (April 1, 2023 to March 31, 2024). This is equivalent to a +17.6% increase in absolute terms and represents the third straight year running that Mizuho Financial has hiked its dividend on a yearly basis. Notably, MFG’s annual dividend payout ratio has gone up from 27%-32% for the FY 2014-2018 period to 38%-42% in the FY 2019-2023 time frame.
As Mizuho Financial’s equity base shrinks with the higher dividend distribution, the company’s ROE is expected to rise going forward. Also, Mizuho Financial’s consensus forward next twelve months’ dividend yield of 4.2% (source: S&P Capital IQ), which is more attractive than Sumitomo Mitsui Financial Group’s and Mitsubishi UFJ Financial Group’s forward dividend yields of 3.9% and 3.6%, respectively.
On the other hand, MFG noted in its most recent Q2 FY 2023 results presentation slides that it will be exploring “intermittent share buybacks” as part of the company’s shareholder capital return framework.
Interestingly, a December 4, 2023 Reuters article quoted “the chief of Mizuho Financial Group’s trust banking unit” saying that the Tokyo Stock Exchange’s “call for better capital efficiency has made Japanese companies scramble to compile action plans to avoid being seen as laggards.” It will be reasonable to assume that Mizuho Financial, which is also listed in Japan, is likely to be “under pressure” to accelerate “capital efficiency” improvement plans such as share repurchases. As such, I think that the actual amount of share buybacks for Mizuho Financial could be potentially larger than what the market expects, and this is going to enhance MFG’s future ROE.
Capital Reallocation
Another key ROE enhancement driver for Mizuho Financial is the reallocation of capital from low-return investments and assets to businesses with superior returns.
In the company’s Q2 FY 2023 results presentation, MFG revealed that it has been actively reallocating capital from “residential mortgages, cross-shareholdings, under-performing assets” to its “domestic corporate business and Global CIB (Corporate and Investment Banking) business.”
The initial results of the capital reallocation moves have been encouraging. Mizuho Financial’s Returns on Risk Asset metrics for its Retail & Business Banking, Corporate & Investment Banking, and Global Corporate & Investment Banking divisions have expanded by +20 basis points, 10 basis points, and 10 basis points, respectively between March last year and September last year.
MFG aims to increase its overall Return on Risk Asset or RORA from 2.8% in 1H FY 2023 to at least 3.0% for FY 2025 with its capital reallocation initiatives, which also supports the company’s FY 2025 ROE goal of 8%.
Final Thoughts
Mizuho Financial is now trading at a trailing P/B multiple of 0.65 times (source: S&P Capital IQ), and the company’s mid-point ROE for the FY 2018-2022 time frame is approximately 6.6%. My view is that MFG can command a P/E ratio of 0.80 times or higher justifying a Buy rating when its ROE improves to 8.0% in FY 2025. The potential ROE expansion drivers include the end of negative rates in Japan, a larger amount of dividends and buybacks, and value-accretive capital reallocation.
