Richard Drury
Elevator Pitch
I continue to assign a Buy rating to Federated Hermes, Inc. (NYSE:FHI) stock.
My earlier article for FHI written on September 8, 2023 touched on the company’s stock price underperformance and the potential re-rating catalysts for its shares. I write about Federated Hermes’ most recent money market AUM (Assets Under Management) disclosure and the company’s new ETF offering in this latest write-up.
I remain bullish on Federated Hermes as a potential investment candidate. The company’s latest Total Return Bond ETF launch and the company’s better-than-expected money market AUM expansion suggest that FHI could surprise the market in a positive manner with its future financial performance.
The Market Reacted Positively To FHI’s Latest Money Market AUM Disclosure
Federated Hermes’ share price rose by +4.3% on January 16, 2024, Notably, the company published a media release on the same day to highlight that five decades have passed since FHI introduced a fund branded as “Money Market Management” to investors.
In the January 16, 2024 press release, FHI disclosed that the company’s money market assets under management or AUM was as high as $560 billion as of the end of last year. The Wall Street analysts’ consensus end-Q4 2023 money market AUM estimate for Federated Hermes was -4% lower at $539 million (source: S&P Capital IQ). FHI’s money market AUM also grew by +29% YoY and +7% QoQ for the final quarter of last year.
At the company’s most recent Q3 2023 results briefing, Federated Hermes had guided that “market conditions for money market strategies will be favorable compared to both direct market rates and bank deposit rates.” FHI also mentioned at the third quarter earnings call that its share of the money market mutual funds industry increased from 7.2% for Q2 2023 to 7.3% in Q3 2023. These positive industry-specific (i.e. money market funds are more attractive than bank deposits) and company-specific market (i.e. market share gains) are likely to have contributed to Federated Hermes’ above-expectations money market AUM growth in the most recent quarter.
The recent revisions to the consensus financial forecasts (source: S&P Capital IQ) for FHI imply that the market has been underestimating Federated Hermes’ money market AUM growth, and the company’s future top line and bottom line. Federated Hermes’ consensus FY 2024 and FY 2025 revenue estimates were raised by +1.6% and +2.0%, respectively between January 3, 2024 and January 21, 2024. During the same time period, the consensus FY 2024 and FY 2025 GAAP earnings per share or EPS projections for FHI were increased by +1.7% and +2.1%, respectively.
Based on the numbers presented above, it is realistic to assume that the market was too conservative about their expectations regarding FHI’s financial prospects in the past.
New Total Return Bond ETF Draws Attention
In the earlier part of this month, FHI issued a press release revealing that it came up with a “new active fixed-income product” called “the Federated Hermes Total Return Bond ETF (Exchange Traded Fund)” to grow its “ETF offerings.”
The new Total Return Bond ETF is Federated Hermes’ fourth ETF product. Previously, FHI launched the Short Duration High Yield ETF and the Short Duration Corporate ETF in 2021, while the company’s U.S. Strategic Dividend ETF was introduced to investors in 2022. The AUMs of Federated Hermes’ Short Duration High Yield ETF and Short Duration Corporate ETF had grown to $28 million, and $26 million, respectively as of end-Q3 2023 as indicated in its analyst presentation slides.
In particular, the prior ETF launched in the market, the U.S. Strategic Dividend ETF, was particularly successful. The AUM of FHI’s U.S. Strategic Dividend ETF went from zero at its inception in mid-November 2022 to $51 million in less than half a year by late-April 2023. This ETF’s AUM increased further to $59 million at the end of September last year.
It is also worth noting that FHI views ETFs as products with good long-term growth potential for the company. Federated Hermes had previously indicated at the 2023 RBC Capital Markets Conference (transcript sourced from S&P Capital IQ) in March last year. that it has “a handful of good ETFs”, but acknowledged that “they’re fledgling.” At that investor event, FHI highlighted that it was willing to think about doing “a big deal and then move the dial” with its ETF products.
In a nutshell, there are positive read-throughs from Federated Hermes’ latest ETF product offering, the Total Return Bond ETF. In the long term, Federated Hermes’ new product sends a message that the company has multiple growth avenues, which include the expansion of its ETF product portfolio via organic or inorganic means for the future.
Closing Thoughts
I stick to a Buy rating for Federated Hermes. I believe that FHI’s actual results going forward could be better than what the market is anticipated, taking into account the growth potential of ETF products and the positive growth momentum for its money market funds. The market currently values Federated Hermes at 10.5 times consensus next twelve months’ normalized P/E, and I think that the stock could trade closer to its 10-year mean P/E multiple of 13.2 times (source: S&P Capital IQ) as the company exceeds the market’s growth expectations.
