Now Here's a Twist: Equifax Gets Downgraded
Do you know what's on your credit report? If you have a bad credit score -- whether you know it or not -- that can be enough to deny you a home mortgage, a loan to buy your new car, or even raise the insurance rate you pay on your old car.
Given the power they hold over our finances, Americans can be forgiven for thinking we live under a tyranny of credit agencies. So it's with a bit of schadenfreude that we note today how one credit agency is getting its comeuppance: Goldman Sachs just downgraded Equifax (NYSE: EFX) stock.
According to Goldman, Equifax stock that sells for more than $120 a share today is really worth only $100. Powerful the credit agencies may be, but even they cannot overcome the hard facts of macroeconomics, and Goldman warns that these facts bode poorly for Equifax's prospects (and for rival TransUnion (NYSE: TRU) as well) in the years to come.
Here are three things to know about why.
Bad news, Equifax. Image source: Getty Images.
1. Bearish on America?
Goldman notes that Equifax and its rival credit agency TransUnion source 77% and 82% of their revenue, respectively, from the U.S. This may explain why the analyst leaves the third big credit rating agency, London-based Experian, out of its report -- which focuses largely on the analyst's expectations for spending in America in the years ahead.
These expectations, sadly, are not great. Taking aim at Equifax, but including rival TransUnion in its report, Goldman explains (in a write-up on StreetInsider.com) that "a supportive macro backdrop in the US" has buoyed the credit raters' business "for most of the last two years." However, a "demand growth slowdown" is coming, and this will be bad news for both stocks.
2. Why Goldman thinks Equifax is a poor risk
According to Goldman, consumer spending growth will peak at 2.9% in Q1 2017, then decelerate over the course of the year, falling at least as low as 2.2% by Q3. In particular, car sales that have continued to hold up well in recent quarters will decline in 2017. At the same time, Fed Chairman Janet Yellen has promised a whole series of interest rate rises in the coming year, and years to come, which will make the cost of buying a home more expensive. This, says Goldman, will put a damper on mortgage applications as well.
Thus, Goldman Sachs is predicting that Equifax will be hit with a double-whammy slowdown in credit reports being checked. After seeing organic revenue grow 9% in 2015, the analyst expects revenue to grow one-third slower in 2017 -- just 6%. And Goldman foresees a similar slowdown at TransUnion, with growth slumping from 14% in 2015 to just 8% in 2017.
3. What does it mean for the stock(s)?
Assuming Goldman Sachs is right about its growth expectations, what does this mean for Equifax stock? What does it mean for TransUnion?
The news here is not good. Selling for nearly 30 times today, Equifax stock is priced for perfection -- at the very least, to justify a 30 P/E you'd want to see a pretty high double-digit growth rate. Instead, Goldman says single-digit revenue growth is the most we can expect.
TransUnion, meanwhile, could be in even direr straits. Although Goldman believes TransUnion will grow slightly faster than Equifax, TransUnion's growth rate of 8% remains mired in the single digits, while TransUnion stock sells for a very high double-digit P/E -- nearly 66 times earnings.
Given these valuations, and given the growth prospects Goldman is promising, the analyst is almost certainly right to rate Equifax a sell -- and should probably do the same to TransUnion, too.
Bonus thing: Not everyone agrees
That is to say, Goldman is right to assign these ratings if it's right about its growth assumptions -- but not everyone agrees that it is right about those.
In fact, just two days ago, rival investment banker Morgan Stanley published a bullish note about TransUnion, arguing that the $32 stock is worth $38 a share, and assigning TransUnion stock a rating of overweight (i.e., buy).
While agreeing with Goldmanthat rising interest rates are a risk to be avoided, Morgan Stanley points out that TransUnion has "lower mortgage exposure" than does Equifax, getting only 7% of its revenue from this segment of the credit market, versus 17% for Equifax. Morgan Stanley also sees TransUnion growing faster in market segments such as using credit reports in "rental screening and healthcare," and argues that "rising fraud" (i.e., identify theft) will spur increased willingness among consumers to pay for credit report checks, resulting in revenueshigher than Goldman is forecasting.
Final note: Speaking of forecasts, it's worth noting that among Wall Street analysts, Morgan Stanley's predictions are more in line with the Wall Street consensus. S&P Global Market Intelligence data show TransUnion earnings growing 11% annually over the next five years, and Equifax growing at 12% -- significantly faster than what Goldman appears to be expecting.
This doesn't necessarily mean that Goldman Sachs is wrong in its predictions, mind you. But it does mean that if Goldman Sachs turns out to be right, a lot of other folks on Wall Street -- and investors in general -- are going to be in for a very unpleasant surprise.
10 stocks we like better than Equifax When investing geniuses David and Tom Gardner have a stock tip, it can pay to listen. After all, the newsletter they have run for over a decade, Motley Fool Stock Advisor, has tripled the market.*
David and Tom just revealed what they believe are the 10 best stocks for investors to buy right now... and Equifax wasn't one of them! That's right -- they think these 10 stocks are even better buys.
Click here to learn about these picks!
*Stock Advisor returns as of January 4, 2017
Fool contributorRich Smithdoes not own shares of, nor is he short, any company named above. You can find him onMotley Fool CAPS, publicly pontificating under the handleTMFDitty, where he currently ranks No. 360 out of more than 75,000 rated members.The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.