Synchrony Financial Offers Two Good Income Options (NYSE:SYF)

Synchrony Financial (NYSE:SYF), a bank that specializes in consumer loans, announced its fourth quarter earnings on Tuesday. Last May, I wrote about how Synchrony’s long-term debt, which yielded above 9% at the time, was a good investment. In November, I examined Synchrony’s preferred shares (SYF.PR.A) which also yielded nearly 9%. While each of these investments has rallied in price, the company’s preferred shares are still trading at an 8% yield and the longest-dated debt is trading at a 7.55% yield to maturity. Each of these fixed investments is still a good buy for income investors.

Synchrony Financial is an interesting case as they are a depositor bank that offers consumer loans. This is unique as they can borrow money at low interest rates and lend it out at very high interest rates. Synchrony’s asset yield in the fourth quarter dipped slightly but remained above 18%. With an average yield on all borrowings of just 4%, this spread allows Synchrony to effectively compete with other banks for deposits.

While the interest rate spread (asset yield less yield on borrowings) is in decline due to the rise in the cost of borrowing, investors should note that the spread is still above levels seen during the pandemic. The net interest margin, which incorporates the weights of the company’s assets and liabilities, also remains above pandemic levels. Synchrony Financial is deploying its capital effectively to generate returns.

Another way to look at Synchrony’s financial performance is the net interest income. While the percentage of net interest income to interest income is declining (meaning a greater share of interest income is being consumed by interest expenses), the total net interest income continues to rise and is now exceeding pre-pandemic levels.

Because of its wide net interest spread, Synchrony Financial can effectively compete with other depositor banks by offering attractive rates for consumers to bank with them. The financial results show this as the bank continues to experience robust growth in its deposit base, while the industry struggles to maintain deposits. The increase in deposits has allowed the bank to consequently increase its lending, also at a time when lending growth in the industry has slowed significantly.

The change in deposits has consequently increased Synchrony Financial’s leverage, but at a leverage ratio of 7.45, Synchrony is still leveraged well below the typical bank. Lower than normal leverage means that if Synchrony ran into liquidity-related issues, it should be able to have access to fresh capital by borrowing.

One risk facing Synchrony Financial is the possibility of large consumer loan defaults should the economy go south. Consumer loans have historically been very sensitive to changes in the economy. Fortunately, Synchrony has prepared itself for higher levels of defaulting. Approximately 10% of the company’s loans have been set aside as an allowance for credit losses. The allowance is currently more than adequate compared to the 4.7% delinquency rate reported for December.

While Synchrony Financial shares may be attractive to some investors, they have had quite the run up in recent weeks and will be the first stop for volatility if financial results shift. The bank’s preferred shares, at an 8% yield, provide a great source of income for investors. Preferred share dividends can only be stopped if common share dividends are eliminated, and this is usually done to banks that are under severe stress. For investors who want more safety, Synchrony’s 2033 maturing bonds are trading at a 7.55% yield to maturity. These are two good income options for investors.

CUSIP: 87165BAU7

Price: $98.30

Coupon: 7.25%

Yield to Maturity: 7.52%

Maturity Date: 2/2/2033

Credit Rating (Moody’s/S&P): NR/BB+