During 2018, the return on Bank of America (NYSE:BAC) has been uninspiring, coming to about 5%. Yet various other large banks have posted worse returns than BAC stock; Citigroup (NYSE:C) and Wells-Fargo (NYSE:WFC) have generated negative returns.
OK, what’s going on here? Well, it looks like investors think much of the good news has already been reflected in the stocks’ valuations. Keep in mind that bank stocks generated strong returns in 2016 and 2017. So it’s natural for there to be a cooling off period, especially as investors seek out other opportunities.
In the meantime, there are some wildcards. For example, President Trump’s aggressive trade actions have caused volatility in the markets. The latest example of this, of course, is what is happening in Turkey, which has fanned fears of a contagion.
But despite these headwinds, I still think the valuation of BAC stock is attractive right now. Let’s take a look at three reasons for my belief.
BAC Stock Advantage: The Macro Economy And Interest Rates
The current economic environment is ideal for BAC stock. The economy continues to grow at a rapid clip, which leads to higher loan volumes and improved credit quality.
But rising interest rates are another key factor. Much of BAC’s income derives from the difference between loan and deposit rates. (This profit is called net interest income.) For the most part, this margin has been increasing, as deposit rates have remained generally flat.
And going forward, it looks like interest rates will continue to rise. The Federal Reserve has indicated that it will initiate two rate increases this year and three more in 2019.
Taken together, the impact of these developments on BAC’s bottom line has been outstanding. Just look at some of the highlights from the second quarter:
- Net income rose by 33% to $6.8 billion.
- Deposits increased by 5% to $688 billion.
- There was an 8% increase in debit/credit spending to $148 billion.
- Client balances hit a record of nearly $2.8 trillion.
In fact, most of BAC’s businesses, except for investment banking, have been strong. But investment banking’s results tend to swing widely.
BAC Stock Advantage: Innovation
It does seem odd to use “innovation” and Bank of America in the same sentence. Hey, aren’t traditional financial institutions vulnerable to disruption by startups or even tech giants like Amazon.com (NASDAQ:AMZN)?
Not necessarily. The fact is that BAC’s R&D efforts have been aggressive. In the next several quarters, the company plans to spend $500 million on technology.
BAC is seeing positive results from these investments. Bear in mind that the firm has over 25 million active mobile users, and 10 million of its customers use other digital platforms. In the latest quarter, there were about 1.4 billion logins to its mobile app.
BAC has also recently launched Erica, which is a digital assistant. In just a few months, over 2 million users have utilized it. And then there is the Zelle, which is a payments app. In Q2, it processed about 35 million transactions.
BAC Stock Advantage: Valuation
The valuation of BAC stock is fairly reasonable. Consider that the stock’s forward price-earnings ratio is about ten. The dividend yield of BAC stock is a decent 1.9%.
Yet the multiple is likely to get more attractive as the bank’s earnings continue to rise. Again, there are some strong forces that should help, such as rising interest rates and the growth of the U.S. economy.
And finally, BAC remains focused on shareholder value. To this end, management plans to return about $25 billion to shareholders in the next 12 months, in the form of buybacks and dividends. That’s up from $17 billion during the prior year.
Tom Taulli is the author of High-Profit IPO Strategies, All About Commodities and All About Short Selling. Follow him on Twitter at @ttaulli. As of this writing, he did not hold a position in any of the aforementioned securities.
