Assessing Stellar Bancorp's Dividend Strategy Amid Growing Earnings Momentum

Stellar Bancorp (NASDAQ: STEL) has long been a fixture in the Texas banking landscape, but its recent performance has drawn renewed attention from investors. With a dividend payout ratio of 26.6% in Q2 2025—well below the Financial Services sector average of 42.6%—the company appears to be striking a balance between rewarding shareholders and retaining capital for growth. This conservative approach, combined with a 6% annualized increase in dividend per share over the past year, raises critical questions about the sustainability of its dividend strategy and its alignment with broader regional banking trends.

A Conservative Payout, A Strategic Edge

Stellar's low payout ratio is not a sign of stinginess but a calculated move to preserve financial flexibility. By distributing just 26.6% of its earnings, the company retains 73.4% of its profits, which can be reinvested in core operations, used to strengthen its balance sheet, or deployed for strategic opportunities. This approach is particularly prudent in a high-interest-rate environment, where liquidity and capital preservation are paramount. For context, the sector's average payout ratio of 42.6% suggests many peers are distributing nearly half their earnings, leaving less room for reinvestment.

The historical trajectory of Stellar's dividends further underscores its disciplined approach. Since 2020, the dividend per share has grown from $0.10 to $0.14—a 40% increase over five years. While this growth has not been linear (notably flat in early 2020), it reflects a steady, incremental strategy that prioritizes stability over aggressive hikes. The current yield of 1.76%, though lower than the sector average of 2.73%, is supported by a robust net interest margin (NIM) of 4.18% in Q2 2025. This NIM, bolstered by a 27% annualized growth in noninterest-bearing deposits, highlights Stellar's ability to fund operations at low cost, a critical advantage in a competitive Texas market.

Earnings Resilience in a Challenging Climate

Despite a 3.4% year-on-year revenue decline in Q1 2025 and a 1.8% drop in Q2, Stellar's net income has remained stable, with EPS of $0.51 in Q2—surpassing expectations. This resilience stems from cost discipline and asset yield optimization, which have offset revenue headwinds. The company's focus on relationship banking—prioritizing small business clients and organic growth—has also paid dividends. For instance, Stellar's loan pipeline nearly doubled in Q2 compared to Q1, reaching its highest level since 2022, while disciplined loan pricing (7.44% average for new originations) has maintained credit quality.

The Texas regional banking sector itself has shown remarkable resilience in 2025. Margin expansion, driven by high interest rates, and a surge in M&A activity have created a fertile ground for growth. Stellar's CEO, Bob Franklin, has emphasized the state's business-friendly environment as a strategic advantage, noting that the bank's dual listing on NYSE Texas enhances its market presence. This regional focus, combined with a reduced reliance on wholesale funding (e.g., brokered CDs), positions Stellar to weather potential rate cuts better than peers who depend on volatile funding sources.

Strategic Risks and Opportunities

While Stellar's dividend strategy appears sustainable, investors must weigh several factors. The stock currently trades at a 14.8% gain in the past month, reaching $32.11, but this price exceeds the average analyst target of $28.60. This premium reflects optimism about Stellar's 4.25% dividend yield and growth initiatives but also raises concerns about valuation if earnings momentum slows or credit costs rise. Additionally, the bank's reliance on Texas's economic health means it could face headwinds if the state's real estate or energy sectors experience downturns.

However, Stellar's capital strength—15.98% risk-based capital at Q2's end—provides a buffer against such risks. The company's 10.8% year-over-year increase in tangible book value and a P/E ratio of 12.22 further underscore its value proposition. For investors seeking a balance between income and growth, Stellar's dividend strategy offers a compelling case: a low payout ratio ensures sustainability, while its Texas-centric model taps into a resilient regional economy.

Investment Takeaway

Stellar Bancorp's dividend strategy is a masterclass in prudence. By retaining earnings to fuel growth and maintain a strong balance sheet, the company has positioned itself to navigate both high-rate and low-rate environments. For income-focused investors, the 1.76% yield may seem modest, but its sustainability and the potential for gradual increases make it an attractive option. The key is to monitor Stellar's ability to execute its deposit and loan growth strategies while maintaining cost discipline.

Investment Advice: Stellar Bancorp is a buy for investors prioritizing long-term stability and moderate dividend growth. However, given its current valuation premium and exposure to Texas-specific risks, it is best suited for those with a medium-term horizon and a tolerance for regional banking dynamics. Diversification across sectors and geographies remains advisable to mitigate concentration risk.