Despite the volatility caused by two banks collapsing over the weekend, the broader market is still overvalued, so I have been avoiding that for the most part.
Instead, I’ve been looking at special situations. And for this week’s Hidden Profit Report, I’ve uncovered two situations that have the potential to deliver strong returns no matter what the market does.
And, best of all, both companies involved in these trades are ones you will be okay with owning for the long term if the short-term scenario does not play out as hoped…
The first special situation for this week is First Horizon Corp. (FHN).
About a year ago, Toronto-Dominion Bank (TD), also known as TD Bank Group, made a $25-per-share offer to buy First Horizon.
The offer makes much sense. First Horizon has a very attractive franchise with operations in 12 southern states, including Florida and Texas, two of the most attractive markets in the United States. The bank has 444 branches across the region with close to $80 billion in assets, plus plenty of capital. And the loan portfolio is in fantastic shape.
At $25 per share, TD Bank is paying 2.4 times the book value and 16 times the earnings for the First Horizon franchise.
Under the decidedly bank-unfriendly Biden Administration, regulators are still dragging their heels long after the deal should have closed. In the first week of March, TD announced that it was unlikely to receive approval to close the deal before the May 27 merger deadline.
There are two possible outcomes. First, TD Bank says it is committed to closing the deal. The deal could still close, and we can get paid $25 a share.
Given the massive volatility we have seen as a result of Silicon Valley Bancshares (SIVB), Silvergate (SI), and Signature Bank (SBNY) collapses, the deal closing looks unlikely at this point.
First Horizon has a strong balance sheet and can easily expand into some of the most attractive banking markets in the United States. It is also possible that the very attractive Southern franchise of the bank would attract another buyer.
Although the stock has sold off in the past few days, First Horizon has almost nothing in common with the failed banks:
- It has no exposure to venture capital or cryptocurrency
- Only 13% of its assets are invested in securities
- And it has an enormous geographic edge over the bank the regulators closed
Every bank in the country has noticed the strong population and business relocation trend towards the South, and they would all love to be here. The risk-reward of buying First Horizon at current prices is attractive.
Heads, the deal closes, and we lock up a solid risk-arbitrage profit of over 60%.
Tails, and thanks to the market’s sudden distaste for bank stocks, we own one of the best Southeastern bank franchises at bargain prices that should trade at several times the current battered price in a few years.
The other special situation worth a look this week is Atlantica Sustainable Infrastructure plc (AY). The UK-based company has seen its stock price fall by over 20% over the past years. While it has recovered slightly in 2023, the board has still decided to review its strategic alternatives – usually code for: “We might just sell the company and move on with our lives.”
Atlantica owns a global portfolio of power generation companies, most of which produce renewable energy. 73% of its global production capacity is solar.
Atlantica is also investing in battery storage projects that will benefit from the global green energy trend.
The company has a strong balance sheet and plenty of cash on hand.
If Atlantica’s board sells the company entirely, it will be at a price much higher than the current level. If they sell off their natural gas or water assets and reinvest the proceeds in more renewable energy projects, that should also boost the stock price.
Using the proceeds to buy back stock would also turbo-charge the stock price.
But, if the board decides to do nothing, you would still own a world-class collection of energy and water assets that are producing a yield of over 6%.
The stock is trading at just 6.5 times free cash flow right now, so the assets are undervalued and should eventually trade much higher than the current price, even without a strategic transaction.
It has been hard to find interesting special situations of late. Both of these have the potential for short-term gains, with the most significant risk being that you end up owning high-quality businesses at bargain prices that should give you outsized long-term gains.