Capital One Financial Corp. (COF), Discover Financial Services (DFS), American Express Company (AXP): Why Value Investors Should Flock to Credit Card Stocks

The consumer financial segment is on the rebound. After the worst correction in recent memory during the 2009 financial crisis, consumers are back to paying their bills and using their credit cards. In recent months, credit card delinquencies have ticked higher, but only after striking lows not seen since the early 1990s.

As charge-offs dwindle and customers begin to pay on time, why are credit card stocks trading as if they’re dead money?

Top credit card stocks with low valuations

The credit card industry as a whole has certainly entered the value category. Capital One Financial Corp. (NYSE:COF), one of the biggest players in consumer loans and credit cards, trades for a paltry .78 times book value and at a price only seven times higher than forward earnings estimates.

The company swallowed up whole HSBC’s credit card business as well as ING Direct’s savings and banking operations in 2012, giving it valuable assets to exploit in future years. Capital One Financial Corp. (NYSE:COF) has the potential to squeeze more money from each customer as its share of wallet grows. The company sports a robust credit card arm, growing auto finance business, and a recently acquired leading online bank, ING Direct.

Meanwhile, companies like Discover Financial Services (NYSE:DFS), which issues its own credit cards and runs a processing network, trades at only 2.1 times book value and 7.3 times forward earnings estimates. Most impressively, the company manages double-digit return on equity for investors thanks to higher leverage levels.

Investors enjoyed return on equity of 30% in 2010 and 26% in 2011, a trend which will continue to play out as the company levers up for outsized returns. Discover Financial Services (NYSE:DFS) looks especially cheap when compared to the forward earnings multiple for comparable American Express Company (NYSE:AXP), which trades at nearly 12 times forward estimates.

American Express Company (NYSE:AXP) makes for the most direct Discover comparable because it operates its own payment network. While the company does have growth potential in a new lineup of prepaid cards – the Bluebird card just launched in partnership with Wal-Mart Stores, Inc. (NYSE:WMT) – analysts expect near-equal earnings growth from both Discover and Amex. On a relative basis, Discover’s forward earnings are cheaper than American Express’ at the current multiple.

Neither Capital One nor Discover Financial Services are priced for growth – and no one expects impressive growth rates – but investors do not need growth to make money. Let’s get to why these slow-growing financial firms would make a great fit for any void in your portfolio.