One thing is quite clear from Bank of America's (BAC) performance figures for 2012 -- the bank's hard work toward getting rid of the issues it inherited before and during the global economic downturn of 2008 have paid off well in the form of a stronger capital base and a significantly streamlined business model. The bank has also put a string of conclusive (albeit multibillion-dollar) settlements behind it for most of the issues that plagued it during the recession, including its acquisitions of Countrywide and Merrill Lynch.
Investors cheered the bank's achievements all through 2012, with its share price rocketing by almost 110% over the year (see "Banks Year In Review: Banks Make Up For Dismal 2011 With 2012 Surge"). Even as Bank of America works toward putting the remainder of its mortgage issues behind it for good, it still has to grapple with driving revenue in a low interest rate environment, which is impacting the banking sector as a whole.
We spoke about the impact of low interest rates on banks' businesses in the article "Banks Feel The Pinch From Low Interest Rates" -- something that has already been witnessed over the last two quarters for competitor Wells Fargo (WFC), which has a business model that leans heavily toward traditional banking services. With Bank of America cutting a series of non-core businesses over recent years and reorganizing itself around the cornerstone lending-deposits service as a part of Project New BAC, it is also likely to see declining revenues, owing to lower interest margins. But even in the face of this difficult environment, there is much to look forward to in Bank of America's business. We highlight some of these aspects in this article.
We updated our price estimate for Bank of America's stock from $10 to just over $12 in view of the following.
Shareholders Can Finally Expect Some Dividends
The single biggest reason for our upward revision of Bank of America's share price is the expected increase in the bank's dividend payout, which could materialize as early as this quarter. The bank, which handed out well over $10 billion in dividends each year over 2006-08, and also repurchased shares worth $18 billion over the period, slashed its dividend payout to the token figure of a cent per quarter in 2009. And it has stuck to that figure for consecutive four years now.
But the dividend record is most likely going to change this year with the bank taking the next logical step after its balance sheet fortification phase of boosting dividends. The bank's CEO hinted at this after the earnings figures were released. Bank of America is also believed to have submitted its proposal to increase dividends to the Fed a few weeks ago as a stress test prerequisite. That aside, there is also a strong possibility that the bank will re-initiate its share repurchase program in the near future.
We capture Bank of America's dividends along with its share repurchase volume in our analysis through our estimates for the bank's adjusted dividend payout ratio shown below, and have raised it in anticipation of increased returns in the near future.
The Mortgage Business Now Looking to Grow
Despite the strides taken by Bank of America toward cleaning up its mortgage business, the division has not reported a single positive quarter since 2009. The poor quality of the underlying mortgage portfolio, coupled with the legal trouble it attracted over the years, caused the business to lose cash by truckloads. The bank's conscious decision to cut down on various mortgage units like its correspondent mortgage, wholesale lending, and reverse mortgage businesses also took away from the top line and dropped the bank several notches down on the list of the country's biggest mortgage lenders.
But Bank of America is now looking to regain some of its lost share, with the bank seeking growth for the mortgage business. Besides growing its mortgage portfolio, the bank is also expected to reap the benefits of its cost-cutting measures, which will go a long way in stemming the division's losses. In fact, we expect the bank's mortgage business to report a positive quarterly income figure later this year.
Disclosure: No positions.