Is Banco Santander an Exciting Emerging Market Play?

LONDON -- While crippling austerity in Europe has put the brake on growth rates in Europe, a backdrop of accommodative central bank action, elevated commodity prices, and rising personal affluence levels has created an exceptional investing opportunity in developing countries.

The divergence between traditional and emerging markets is borne out by latest International Monetary Fund projections, which puts U.S. growth at 1.9% in 2013, while eurozone GDP is set to dip 0.3%. Conversely, emerging markets are anticipated to expand 5.3% this year.

Bubbly activity in developing geographies can create large opportunities for many London-listed firms. Today, I am looking at Banco Santander and assessing whether its operations in these regions are likely to underpin solid earnings growth.

Profits dip but sunnier outlook on horizon
Santander announced in April that net profit came in at 1.2 billion euros in January-March, down 26% from the corresponding quarter in 2012, although up substantially from 423 million euros in the final three months of last year. First-quarter profit equated to some 53% of total profit for last year, and Santander has said that it expects profits to be substantially higher this year than in 2012.

Revenues slipped 9% on-year to 10.3 billion euros in quarter one, although this was up fractionally from the previous three months. This was due in part to weakness in its key regions and lower interest rates.

The bank has extensive operations across the lucrative areas of Latin America, with geographies therein representing just over half of groupwide profits in the first quarter. Indeed, continental behemoth Brazil accounted for 26% of total profit, with Mexico providing 13% and Chile 5%.

Attributable profit from Latin America slumped 18% year on year during the period to 988 million euros, even though deposits and lending rose 6% and 8%, respectively, in January-March. The company has seen bad loan provisions and defaults rise, while falling interest income has also weighed.

Still, performance in these regions was better than those of continental Europe and Britain, where attributable profit collapsed 27% and 23%, correspondingly to 307 million euros and 224 million euros. U.S. profit fell 2% to 233 million euros.

Operations in the lucrative emerging market of Poland -- which accounted for 4% of all profits -- provided a bright spot in Europe, with lending and deposits both rising, the latter by 11% on an annual basis.

Fiscal problems in Europe continue to weigh on operations, although recent steps include significantly reducing its exposure to Spain's property market, which is helping to reduce its weakness here. And while developing economies have hit some turbulence recently, the investment case for these regions for the medium to long terms remains compelling, and I believe Santander's heavy exposure to these areas should underpin future growth.

So is Banco Santander a buy?
City analysts expect a strong return to profit to drive earnings per share convincingly higher this year, shooting 128% higher to 0.52 euros. This is then forecast to edge 19% higher next year to 0.62 euros.

This solid earnings recovery currently leaves Santander trading on a P/E rating of 10.6 and 8.9 for 2013 and 2014, respectively, providing a discount to a prospective earnings multiple of 11.6 for the entire U.K. banking sector. In addition, lowly price/earnings to growth (PEG) readouts of 0.1 and 0.5 for this year and next illustrate the bank's exceptional value -- a reading below 1 is considered bargain-basement territory.

The bank announced in April that it remained on course to keep its full-year dividend stable in 2013 at 0.6 euros per share. If executed, this would yield a mammoth 10.8% yield at current exchange rates around $1.188, compared with an average forward yield of 3.2% for the FTSE 100 and 3.8% for the U.K.'s listed banks. In my opinion, a combination of juicy earnings prospects and huge dividends makes it a standout sector pick.

The canny guide for clever investors
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