Jefferies' Rally Looks Complete

By Ryan C. Fuhrmann | March 28, 2012 AAA

Midsize investment banking firm Jefferies Group (NYSE:JEF) has seen its stock nearly double from lows last fall, just as European sovereign debt concerns were reaching a fever pitch. Prospective investors in Jefferies might want to hold out hope for a future wave of irrational market pessimism, because the stock looks to have returned to fair value. For related reading, see Wanna Be A Bigwig? Try Investment Banking.
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First Quarter Recap
Net revenues at Jefferies increased 2.1% to $758.1 million. In a similar fashion to other investment banks and non-bulge bracket rivals, that include Raymond James Financial (NYSE:RJF), Piper Jaffray (NYSE:PJC), KBW (NYSE:KBW) and JMP Group (NYSE:JMP), Jefferies makes a living from executing trades for clients and investment banking activities. Its equity and fixed income trading operations experienced a slight 1.4% decline in revenues to $488.5 million, or roughly 64.4% of total revenues. Investment banking reported a solid 19.5% in revenues to $285.8 million, or nearly 38% of the total top line. The remaining small percentage of revenues stemmed from fees related to asset management activities.

Net earnings fell 11.7% to $77.1 million, or 33 cents per diluted share. Management attributed the decline to higher shares outstanding from the raising of $500 million last April and a high-yield trading income that was classified differently from last year's first quarter.

Outlook and Valuation
For the full year, analysts currently anticipate revenue growth in excess of 20% and total revenues just north of $3 billion. They expect $1.32 per share in earnings. Book value ended the quarter at $15.21 per share while tangible book value came in at $13.52 per share. As a result, the projected earnings would result in a return on equity (ROE) of roughly 8.7% and return on tangible book of about 9.7%.

Jefferies' share price recently traded just over $19 per share. This places the forward P/E at about 12.13, which is right about the levels that Raymond James and Piper Jaffray currently trade at.

The Bottom Line
Prior to the credit crisis, Jefferies reported an ROE right around 12%. If it can return to these shareholder return levels, earnings would increase to roughly $1.82 per share. From this standpoint, there doesn't appear to be much upside to profits from current earnings levels. Jefferies' P/E ratio has averaged 14.4 over the past five years, which also suggests the valuation is fair at the current share price. Price to book is currently at 1.3, or slightly below the five year average of 1.4. Again, this valuation metric doesn't indicate much potential upside in the stock.

With the benefit of perfect hindsight, Jefferies' stock was a great buy back in November when the stock traded at around $10 per share. Financial market fears have subsided greatly since then, as reflected in a near doubling of Jefferies stock in just a few months. For additional reading, check out 5 Must-Have Metrics For Value Investors.

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At the time of writing, Ryan C. Fuhrmann did not own shares in any of the companies mentioned in this article.

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