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Summary

  • The stock has had a nice run on the back of analyst upgrades and positive news.
  • Rising short interest of BAC might result in a short squeeze if the bank is able to give some good news over the next few days.
  • Growth in business segments will remain strong for the group, which should support long-term upward trend in the stock price.

Bank of America (NYSE:BAC) has received positive news from the analysts over the last few days, which has caused a nice pop in the stock price - the stock has gained about 4% in the last five trading days. This is a welcome sign for BAC shareholders as the stock has been under pressure over the last three months mainly due to the litigation issues and the impact of litigation on the profitability of the bank. Bank of America is still exposed to considerable litigation charges and fines as the company tries to settle these issues.

Litigation issues will continue to cloud the impressive business performance and the strong growth in fundamentals. As I have mentioned in my previous articles, the growth in business remains strong and it is likely to gather pace over the next few quarters. Furthermore, the company is looking to settle the litigation issues, and the solution of these issues should allow the stock to break free of these shackles and make a solid upward movement - I have been in favor of solving the issues quietly and the bank seems to be doing the same by talking to the authorities.

Let's talk about the positives before we highlight the possible negatives for the company - one of the most important positives for me is the growth in the business segments for Bank of America, which I have discussed in detail in the article linked above. The most recent positive for the bank also comes from one of its business segments, Corporate and Investment Banking - analysts are expecting Bank of America's corporate and investment banking segment to perform better than its peers. Analysts at Morgan Stanley (NYSE:MS) believe that fixed income, currencies and commodities, or FICC will show decline due to the lower volatility and the banks having higher exposure to these assets will suffer - as Bank of America has lower exposure to FICC; it will be able to report better results than its peers. Furthermore, lower relative valuation of BAC (8.8x 2015 EPS) compared to its peers gives it more room to grow in the future and it is attractively priced.

Matt O'Conner of Deutsche Bank has almost a similar view to the people at Morgan Stanley - O'Conner has raised the price target to $18 from $16.50 - the rationale behind the increase in the price target is almost identical and he expects the FICC to underperform during the current quarter. However, one of the most important comments in his research note is:

"Separately, while legal/regulatory risks remain high, the group has absorbed a lot of bad news and it's possible November elections could prove to be a positive catalyst for banks,"

I completely agree with the above statement that Bank of America has been the target of bad news and the news about its litigation issues has always clouded the impressive performance of the business. However, most of the bad news is already priced in and the downside is limited. We have seen that recent rumors about the settlement with department of justice did not cause any major fall in the stock price, indicating that news of this kind were business as usual for Bank of America. There has been too much negative news about the company, which has already suppressed the stock price. I believe that upside potential is much larger from here than the downside risk. Furthermore, Analysts at Oppenheimer have also increased the price target from $19 to $20.

Another factor that can support the rising stock price is the short interest of Bank of America. The group had just under 107 million shares short on June 13 - based on the average daily volume of about 60 million shares, this gives short sellers 1.7 days to cover the short positions. The short interest currently stands at close to 1% of the total shares outstanding of the company. The image below shows the short interest of the company and it was taken from NASDAQ.

Bank of America will report its second quarter results on July 16, 2014, and I am expecting continued growth in the business segments. However, the litigation charges might cause the profitability of the bank to suffer. Nonetheless, the long-term picture will again be positive due to the favorable economic environment and solid growth in business for Bank of America.

Bottom Line

The bottom line is that Bank of America remains a solid long-term investment. The economic environment is favorable for banks and the growth in business segments will remain strong for the company. The biggest negative for the bank has already been priced in and the downside of BAC is limited, in my opinion. On the other hand, the stock continues to trade at a discount relative to its peers and the upside potential is substantial. In my opinion, BAC shareholders should ignore short-term price fluctuations and focus on the long-term growth potential of the bank - patience is key for investing in Bank of America.

Additional Disclosure: This article is for educational purposes only and it should not be taken as an investment recommendation. Investing in stock markets involves a number of risks and readers/investors are encouraged to do their own due diligence and familiarize themselves with the risks involved.

Source: Bank Of America: Focus On The Long Term