- Along with cutting back on expensive liabilities, Bank of America has been growing noninterest bearing deposits.
- Lower rates paid on interest bearing liabilities sets the path to higher profits once yields rise.
- Bank of America has pulled closer to the industry's undeniable cost leader Wells Fargo.
Bank of America (NYSE:BAC), like most other banks, has millions upon millions of data points that are accumulated to make up its one annual 10-K report. All of these data points help investors monitor progress, measure profitability and assess value and other related risks that are necessary for making investment decisions. With that said, a lot can be lost and a lot of judgment needs to be made when deciding how to weigh each aspect of the business. Taken together, I'd have a hard time believing that any two assessments would come to the exact same weightings but I'm willing to bet that almost all investors would have cost of capital very near the top. And, it's exactly at this point that I have found some very positive movements for the bank that will ultimately help squeeze out higher earnings in the very near future.
Much has been made of the big cuts the bank has been taking out of its long-term debt, and I may go there in a future article, but right now I want to point your attention toward the cost of customer deposits. Banks are getting no help from the very narrow spread in the yield curve and even more so considering that any fixed rate asset they sell is most likely on the cusp of devaluation as rates appear to be primed to rise in the near-term (acknowledging that this has been said for some time and there's no telling when they will take-off). So, to combat this, Bank of America has naturally had to shave-off a lot of the interest paid for deposits even though this is typically one of the easiest ways for a bank to attract/keep customers.
But, this appears to be of no problem for the bank as it is sitting on a very large pile of excess reserves to be lent out while a growing percentage of them are being paid absolutely no interest.
Noninterest-Bearing Deposits (in millions) - % change
2011 - $312,371
2012 - $354,672 - 13.5%
2013 - $363,674 - 2.5%
Now, taken alone, 13.5% and 2.5% may not appear to be large moves but these have come over a 2-year period where interest-bearing deposits have grown by only $3 billion and when $174.4 billion in interest-bearing liabilities have been shed (down 11.2%).
All told, the bank's average rate on all interest bearing deposits is 0.19% which is slightly above Wells Fargo's (NYSE:WFC) 0.18%. And, factoring in the volume of non-interest bearing deposits puts it right on par with the Warren Buffett's favorite low cost bank (graph from WFC presentation).
The percentage paid on all funding sources by Wells Fargo is at 0.34% and there is, in my opinion, no way Bank of America catches completely up (currently at 0.92%) but the cost of deposits already has. Any future narrowing of this major cost advantage will need to come from lower rates paid on other funding sources and in that department it's hard not to believe Bank of America holds more room for improvement since rates are still low and refinancing/new issues will be made with its much improved credit. Looking at interest margins is a good way to keep track of profitability but even more value can come from understanding the moving parts under the aggregate number and I hope this analysis helps add that to your own due diligence.
I like to think of the fundamentals in banks as a large game of tug-of-war because almost everything that appears to be good comes with some sort of challenge that needs to be factored into any assessment. With that said, I have already covered a negative and opportunistic aspect of Bank of America and hope to uncover a few more in the upcoming weeks. I appreciate all feedback.
Additional disclosure: I am long Wells Fargo warrants and Bank of America A and B warrants.