Bank of America Is A Clear Buy Now

Dec. 5.11 | About: Bank of (BAC)

I am sure that from the title alone, many of you are already thinking I'm crazy for considering a company such as Bank of America (NYSE:BAC). I wouldn't have expected myself to write an article about Bank of America, much less consider putting my own money into the company. However, I honestly believe that at its current price many of the negatives may already be priced in.

Bank of America has had its fair share of problems and has been under scrutiny from shareholders to regulators. Analyst have been saying that Countrywide will continue to drag down BofA's profitability. I do agree that Countrywide has been nothing but a burden for the company, however, I still think the bank's core operations will generate enough profit to outweigh its problems. Another issue we keep hearing is the amount of lawsuits the company has amassed. Last month, the company paid a $410 million settlement regarding overdraft fees.

Bank of America has been trying to shore up cash by using different methods. For example, the company recently tried to charge a $5 monthly fee to debit card users and came under attack from customers threatening to switch to different banks. BofA decided to not to go through with the plan.

While investors and analysts seem to have given up on BofA in search of greener pastures such as JPMorgan (NYSE:JPM), the grass may not be so green on that side as initially thought. JPMorgan has been praised mainly because of CEO Jamie Dimon doing a solid job of continuously growing the company. However, JPM's investment banking division continues to be weak as revenue from trading and deals has fallen substantially.

While JPMorgan, Wells Fargo (NYSE:WFC), and various other financials are performing better than Bank of America, BofA still might be a better buy than all of them. This is simply due to valuation and the market being too pessimistic about BofA's stock.

Valuation-Forward P/E

  • Bank of America - 5.7
  • J.P. Morgan - 6.5
  • Wells Fargo - 8
  • Citigroup (NYSE:C) - 6.4
  • U.S. Bancorp (NYSE:USB) - 9.7
  • HSBC Holdings (HBC) - 9.4
  • Deutsche Bank (NYSE:DB) - 6.9

As we can see, BofA already commands a forward P/E that's less than its peers. I am fairly confident that most or all of these institutions will guide their estimates down if problems in Europe persist. HSBC and Deutsche are the only foreign banks on the list, but the reason I showed their valuations was that they have the most exposure to Europe, yet they are given a much richer valuation than BofA.

Due to BofA's recent stock price slump, its market cap is now much lower than that of Wells Fargo, Citigroup, or JPMorgan. While JPM has become the largest bank in terms of assets, BofA is still number two. I use U.S. Bancorp as an example. Currently, USB's market cap stands at $49 billion, while BofA, a company located almost everywhere has only a $57 billion market cap. The market is saying that BofA is only worth $8 billion more than U.S. Bancorp. Now, I firmly believe that U.S. Bancorp should be worth $49 billion and I also believe that BofA should be worth significantly more than that, instead of only $8 billion more.

A relative comparison can sometimes give us an idea if a company is undervalued or not. The last metric I want to talk about is net tangible assets or basically the physical value of the company.

  • Net Tangible Assets - $150 billion
  • Market Cap - $57 billion
  • Margin of Safety - $93 billion

The real question everyone needs to ask is "Will all of BofA's problems cost $93 billion over the coming years?"

I say the answer is no. The company is already in the midst of a turnaround. Delinquencies have been falling. Charge-offs have been falling. Another interesting point came from Bruce Berkowitz, whose Fairholme Fund has a significant stake in BofA. Berkowitz mentions that the majority of these bad loans were given out in 2008, when the market began to turn south. The average loan life was around five years. Berkowitz states that by 2013, most of these toxic assets will be gone. You can find his thesis here.

BofA has had its fair share of problems, but the company is turning around and with such a cheap valuation, I believe the market has been too pessimistic. Countrywide is still an issue and the company is trying to weigh its options on how to solve the solution. The company has been meeting its capital requirements. BofA has seen the level of toxic assets fall. The number of deposits has actually increased over the years. Long-term, BofA will be able to turn its problems around and get back to profitability. There is a significant amount of upside ahead, while downside is limited.

Selling the $5 puts for Bank of America is another reasonable option instead of buying the stock.

Disclosure: I am long BAC.