Is 1st Source Corporation (SRCE) a Buy as Earnings Momentum Slows?

In the ever-evolving landscape of financial services, 1st Source Corporation (SRCE) has emerged as a standout performer, defying broader market uncertainties with a resilient balance sheet and consistent earnings outperformance. However, as Q2 2025 results reveal a slight moderation in growth metrics and credit risks resurface, investors must ask: Does the company's recent Zacks Rank upgrade and historical outperformance justify a near-term buy decision in a potentially slowing environment?

Earnings Momentum: A Tale of Two Forces

1st Source's Q2 2025 results highlight a nuanced picture. While net income dipped marginally to $37.32 million from $37.52 million in Q1, the year-over-year increase of 1.43% underscores underlying strength. Diluted EPS of $1.51, though down 0.66% sequentially, reflects a 1.34% positive surprise against the Zacks Consensus Estimate. This follows four consecutive quarters of outperformance, including a 11.76% surprise in Q1.

The company's net interest margin (NIM) expansion to 4.01%—up 42 basis points YoY—remains a critical tailwind. Driven by higher loan balances (+5.48% YoY) and reduced deposit costs, this margin growth has offset inflationary pressures. However, the provision for credit losses ($7.69 million) more than doubled from Q1 and marked a shift from net recoveries in 2024, signaling heightened risk exposure.

Zacks Rank Upgrade: A Signal of Institutional Confidence

The Zacks Rank system, a trusted tool for investors, has upgraded SRCE to #1 (Strong Buy), placing it in the top 5% of covered stocks. This upgrade is anchored in a 3.4% increase in earnings estimate revisions over three months, reflecting improved analyst sentiment. For FY2025, the consensus now expects $6.13 per share, with no year-over-year change but a consistent upward trend in revisions.

The upgrade is particularly compelling given the company's industry positioning. The Banks - Midwest sector ranks in the top 29% of Zacks industries, outperforming 71% of peers. Empirical data shows that Zacks Rank #1 stocks historically deliver +25% annualized returns, suggesting SRCE's valuation may already reflect optimism.

Sustainability of Outperformance: Balancing Strengths and Risks

1st Source's conservative capital structure (13.19% common equity-to-assets ratio) and robust liquidity position provide a buffer against economic volatility. The recent dividend hike (+5.56% YoY) also signals management's confidence in sustainable cash flow. However, the rise in nonperforming assets (1.06% of loans) and a 2.30% allowance for loan losses highlight vulnerabilities in credit quality.

The key question is whether the company can maintain its NIM expansion while managing credit costs. With average loans growing at a 5.48% annualized rate, 1st Source appears well-positioned to capitalize on a low-interest-rate environment. Yet, rising inflation or a credit cycle downturn could erode margins and force further provisioning.

Investment Implications: A Calculated Buy?

For investors, the decision hinges on three factors:
1. Earnings Revisions Momentum: The Zacks Rank upgrade suggests strong institutional backing, but the 3.4% estimate increase must translate into actual performance.
2. Credit Risk Management: A closer look at loan portfolio diversification (e.g., Commercial and Agricultural, Renewable Energy) and reserve adequacy is warranted.
3. Valuation Metrics: At a forward P/E of ~8.5x (based on FY2025 estimates), SRCE trades at a discount to its 5-year average of 10.5x, offering a margin of safety.

Conclusion: A Buy with Caution

1st Source's Zacks Rank #1 designation and consistent earnings outperformance make it an attractive candidate for a diversified portfolio. However, the moderation in ROAA (1.67%) and elevated credit provisions necessitate a cautious approach. Investors should monitor Q3 guidance for signs of credit stress and watch for further estimate revisions. In a slowing growth environment, SRCE's conservative balance sheet and margin resilience justify a near-term buy, but with a focus on risk management.

As the financial sector navigates macroeconomic headwinds, 1st Source's blend of operational discipline and strategic repositioning could position it as a defensive play with upside potential. For those willing to accept moderate volatility, the current valuation and institutional optimism present a compelling case to overweight this regional bank.