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Warren Buffett Just Bought This Exciting Growth Stock | The Motley Fool

Warren Buffett’s investing career spans seven decades. At 91 years old, his investing philosophies continue to drive Berkshire Hathaway (BRK.A 1.75%)(BRK.B 2.02%) to market-beating returns. So when the Oracle of Omaha makes a move on a stock, it’s smart to pay attention. 

A recent regulatory filing, which shows the stocks Berkshire Hathaway bought and sold in 2022’s first quarter, revealed a new stake in innovative digital bank Ally Financial (ALLY 4.45%). Berkshire bought up 8.9 million shares, representing a 2.8% stake in the company, and the position is worth approximately $346 million at the current share price.

Here’s why investors should consider following Buffett’s lead on this stock. 

Image source: Getty Images.

America’s top digital bank

Ally Financial is different from traditional banks. Its presence is almost entirely online with no physical branches, which makes it well-suited to the current economic climate, in which consumers place a high value on convenience. The bank has amassed 10.5 million customers across all business segments that span from lending to insurance to investment services.

On the lending front, Ally holds the largest automotive loan book in the U.S. with earning assets of $107.3 billion as of the end of Q1. That segment has been volatile over the last two years as a shortage of new cars hindered loan growth, but the company says demand from consumers remains elevated, and its origination yield above 7% indicates persistent strength. 

Ally added $2.1 billion in new car loans for the quarter, and the segment drove $1.3 billion in revenue which represented 62% of the companywide total. 

But the company’s mortgage segment is arguably its most exciting in terms of growth. Ally Home was established in 2017 and since then, loan originations have soared. 

A chart of Ally Home mortgage originations.

Ally Home’s mortgage originations came in at $1.7 billion in Q1 2022, reflecting some softness in the market, which is likely due to the mortgage origination market anticipating much higher interest rates. The Federal Reserve increased the benchmark rate by 0.5 percentage points in May (which has a ripple effect on mortgage rates), and there’s likely more on the horizon. 

However even with originations slowing, Ally is steadily accumulating more loans held for investment each quarter, hitting a record-high $18.4 billion in Q1 2022. These are typically high-quality mortgages with loan-to-value ratios below 60% and FICO scores above 750, on average. It can be expected that loans of this standard are low risk, and could generate reliable income for the company even in more difficult economic times.

Returning money to shareholders

One of Warren Buffett‘s favorite qualities in a company is its willingness to return money to investors, either via dividends or share repurchases. Ally Financial is doing both at record levels.

It paid out an increased dividend of $0.30 per share in the first quarter, and it also announced it will maintain the same payout in the second quarter. That dividend is 58% more than the $0.19 per share it paid in Q1 of 2021. Ally also bought back $2 billion worth of its outstanding shares in 2021, more than the $1.6 billion in buybacks it had originally planned. And in 2022, management has committed to repurchase another $2 billion worth of shares. Reducing the number of shares on the market means each remaining share represents ownership of a larger fraction of the company, making them organically more valuable.

Why investors should follow Buffett into Ally

Ally Financial’s digital approach makes it primed for growth. It greatly reduces the hassles that many consumers deal with during the in-person branch-banking experience. It also makes the bank accessible from virtually anywhere. 

In addition, Ally’s relentless focus on adding services and products has led to 52 consecutive quarters of customer growth. It now operates in 10 different product and service categories, and the percentage of its deposit customers who are using an additional Ally product or service has more than quadrupled to 9% from 2% in 2017. That positions it to compete against its larger peers in the industry, especially if it continues to operate exclusively in the digital sphere. It means Ally has much lower operating costs because it doesn’t have to maintain physical locations, and its convenience is helping it to attract young customers; 70% of Ally’s new customers in the recent quarter were from the millennial generation or younger.

The company also leads the industry in customer retention, at 96%.  

From a financial perspective, analysts expect Ally’s revenue and earnings to trend sideways until at least the end of 2023, but the current levels remain highly elevated compared to its pre-pandemic results. The reason for the pause in growth can be attributed to tightening economic conditions, whereas over the last two years, the U.S. government and the Federal Reserve flooded the economy with stimulus which drove a surge in spending and borrowing. This isn’t necessarily unique to Ally; it’s a reality for much larger banks, too. 

In 2021 the company generated $8.4 billion in revenue — up 33% compared to 2019. Similarly, its 2021 earnings per share of $8.61 was up by a whopping 131% from 2019. While results are expected to remain muted for this year and next, Ally offers a dividend with an annual yield of 3.1% — a decent payout for investors while they wait for the bank’s next leg of growth.

If Ally continues to add customers and expand its product suite, it will set the company up for a potentially significant run of performance over the long term. And that long-term potential is one of the mainstays of Buffett and Berkshire’s investing reputation and what has helped the company’s stock deliver annualized returns of about 20% over the decades.



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