AmEx shares may have gone too far too fast

NEW YORK (Reuters) - American Express Co (AXP.N) is the Dow Jones industrial average's .DJI top performing component this year thanks to lower defaults and an improvement in spending, but the stock may have gone too far too fast.

Analysts said any hint of weakening of the economy or disappointing cardholder spending trends could ignite a selloff of the stock, which has more than doubled in 2009, vastly outperforming the 19 percent increase of the Dow.

That left the largest U.S. credit card company trading at around 17 times the average of analysts estimates of 2010 earnings, nearly the same ratio it held in 2007 -- during the credit boom -- and above the 15 times of the S&P 500 index.

Rival MasterCard Inc (MA.N), the world's second-largest credit card network, is trading at 18 times, but it has a much more stable revenue source and lower risks than American Express, as the company only processes transactions and does not lend.

"It (American Express) is expensive relative to what we expect of future returns on the business," said Jason Arnold, an analyst at RBC Capital Markets who has an "underperform" rating and a target price of $28 on the stock.

American Express touched a 17-month high of $42.25 in early December, helped by stronger-than-expected quarterly earnings, a decline in loans the company does not expect to be repaid and an uptick in customer spending for the first time in a year.

Since then, the stock has declined slightly to $40.92, a price that is still above the mean 12-month target of $40.68 of 19 analysts surveyed by Thomson Reuters I/B/E/S.

"The valuation is something that keeps us from getting more bullish on the stock given the move it has had," said Michael Taiano, an analyst at Sandler O'Neill who has a "hold" rating and a target price of $43 on the stock.

American Express showed the sharpest recovery in the credit card industry and has cut its charge-off rate by one-fourth to 7.6 percent since May. Within months, the company morphed from one of the worst performers in the industry to one of the credit card companies with the lowest charge-off rates.

The company is the only major credit card lender that did not cut its dividend and remained profitable during the financial meltdown.

Analysts have said American Express could emerge even stronger from the financial crisis, given its reliance on corporate and affluent customers.

Based on these trends, Wells Fargo Securities analysts initiated coverage of American Express last week with an "outperform" rating, and a valuation range of $47-$50, an 18 percent to 23 percent potential rise from the current levels.

But Keith Wirtz, president and chief investment officer at Fifth Third Asset Management, said he thought the market had discounted many of the positives with regard to the stock.

"They (AmEx) may be a little bit ahead of themselves. The fundamentals are going to probably get a little longer to get into the strong category," said Robert Lutts, president and chief investment officer at Cabot Money Management.

American Express declined to comment.

RETURN ON EQUITY TO FALL

American Express has warned that Americans will remain in a thrifty mood for many years, a challenge for a company whose growth is tied to consumer spending.

As a result, the company said its return on equity will fall to around 20 percent in coming years from 37 percent in 2007. It stood at 12 percent in the first half of 2009.

"I don't think returns are bouncing back the way the market thinks," Arnold said.

To offset the contraction of the credit card industry and lower lending risks, American Express has boosted marketing of its charge cards, which usually have to be paid in full at the end of every month.

It also acquired Revolution Money, an Internet-based payment platform funded by AOL co-founder Steve Case in a bid to chase new clients with a cheaper option, and is testing a charge card with lower fees for customers in their 20s, courting a $625 billion market.

"In order to be viewed as a growth stock they are going to have to show revenue growth. So far it was all boosted from credit improvements," Taiano said.

Last week, Discover Financial Services (DFS.N) lost nearly one-tenth of its market value in one day, after the company posted lower-than-expected earnings, and said credit card loan yields went down more than investors had expected.

Analysts said expectations around Discover were high, but that the results were hurt by the impact of regulatory changes in the credit card industry that are limiting the companies' ability to raise interest rates and fees.

More restrictions will enter into effect in February, likely capping revenue from fees and interest rates.

(Editing by Steve Orlofsky)