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On Dec 3, 2013, we downgraded our long-term recommendation on Capital One Financial Corp. (COF - Analyst Report) to Neutral from Outperform due to the persistent rise in operating expenses. However, the company’s geographic diversification and inorganic growth strategy are impressive.

Why Downgrade?

Rising operating expenses remain a key concern for Capital One at present. Though expense management initiatives have enabled the company to offset higher credit losses over the last few years, operating expense continue to increase. Going forward, we expect expenses to climb further due to costs related to the recent acquisitions.

Moreover, despite improvement over the past few quarters, we expect Capital One’s credit quality to be under pressure owing to the protracted economic recovery. Further, exposure to the commercial real estate market, weak demand for loans and the new stringent regulations will likely weigh on the company’s financials in the quarters ahead.

However, Capital One’s continued capital deployment activities make it an attractive pick for yield-seeking investors. Additionally, given the continuous expansion of its global footprint, the company’s geographically diversified loan portfolio remains one of its strengths. Furthermore, the resilience shown by most of Capital One’s businesses will expectedly support its financials going forward.

Notably, the Zacks Consensus Estimate for 2013 rose 1.0% to $7.05 per share over the last 30 days. Further, for 2014, the Zacks Consensus Estimate marginally increased to $6.92 per share over the same time period. Hence, Capital One now carries a Zacks Rank #3 (Hold).

Other Stocks Worth Considering

Better-ranked financial stocks include First Interstate Bancsystem Inc. (FIBK - Snapshot Report), German American Bancorp Inc. (GABC - Snapshot Report) and PrivateBancorp, Inc. (PVTB - Snapshot Report). All these have a Zacks Rank #1 (Strong Buy).

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