Over the past six months, Merchants Bancorp has been a great trade, beating the S&P 500 by 7.2%. Its stock price has climbed to $52.15, representing a healthy 11.7% increase. This was partly due to its solid quarterly results, and the performance may have investors wondering how to approach the situation.

Is there a buying opportunity in Merchants Bancorp, or does it present a risk to your portfolio? Get the full breakdown from our expert analysts, it’s free.

Why is Merchants Bancorp not exciting?

We’re happy investors have made money, but we’re sitting this one out for now. Here are three reasons why MBIN doesn’t excite us, plus one stock we’d rather own.

1. Lackluster revenue growth

We at StockStory place the most emphasis on long-term growth, but within financials, a stretched historical view may miss recent interest rate changes, market returns, and industry trends. Merchants Bancorp’s recent performance shows its demand has slowed as its annualized revenue growth of 9.9% over the last two years was below its five-year trend. We’re wary when companies in the sector see decelerations in revenue growth, as it could signal changing consumer tastes aided by low switching costs. Note: Quarters not shown were determined to be outliers because they were impacted by outsized investment gains/losses that are not indicative of the recurring fundamentals of the business.

2. EPS barely growing

We track the long-term change in earnings per share (EPS) because it highlights whether a company’s growth is profitable.

Merchants Bancorp’s EPS grew at a weak 3.1% compounded annual growth rate over the last five years, lower than its 12.1% annualized revenue growth. This tells us the company became less profitable on a per-share basis as it expanded.

Leverage is core to a financial firm’s business model (loans funded by deposits). To ensure economic stability and avoid a repeat of the 2008 GFC, regulators require certain levels of capital and liquidity, focusing on the Tier 1 capital ratio.

Tier 1 capital is the highest-quality capital that a firm holds, consisting primarily of common stock and retained earnings, but also physical gold. It serves as the primary cushion against losses and is the first line of defense in times of financial distress.

This capital is divided by risk-weighted assets to derive the Tier 1 capital ratio. Risk-weighted means that cash and US treasury securities are assigned little risk while unsecured consumer loans and equity investments get much higher risk weights, for example.

New regulation after the 2008 financial crisis requires that all firms must maintain a Tier 1 capital ratio greater than 4.5%. On top of this, there are additional buffers based on scale, risk profile, and other regulatory classifications, so that at the end of the day, firms generally must maintain a 7-10% ratio at minimum.

Over the last two years, Merchants Bancorp has averaged a Tier 1 capital ratio of 9.5%, which is considered unsafe in the event of a black swan or if macro or market conditions suddenly deteriorate. For this reason alone, we will be crossing it off our shopping list.

Final judgment

Merchants Bancorp isn’t a terrible business, but it isn’t one of our picks. With its shares beating the market recently, the stock trades at 1.1× forward P/B (or $52.15 per share). While this valuation is fair, the upside isn’t great compared to the potential downside. We’re fairly confident there are better stocks to buy right now. We’d suggest looking at one of Charlie Munger’s all-time favorite businesses.

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