Bank Of America: This Time Will Be Different, Seriously
Summary
- Bank of America's stock has significantly underperformed the broader market so far in 2020.
- The bank recently reported Q1 2020 results and, as expected, earnings were under pressure due to the impact that COVID-19 has had on the economy.
- In a broader context, many experts believe that we are already in a recession, which will likely have a negative impact on the bank's stock in the near term.
- However, I believe that it will be a different story for Bank of America this time around - the bank is better positioned today than it was before the last recession (i.e., the global financial crisis of 2008/2009).
- I'm long Bank of America, and I have no plans to reduce my overweight position in the near future.
Bank of America's (NYSE:BAC) stock has significantly underperformed the broader market so far in 2020.
Data by YCharts
However, it should be noted that BofA shareholders are not the only ones that have had to deal with the pain of a falling stock price.
Source: Ziegler Capital Management
The COVID-19 related concerns, in addition to the deteriorating interest rate environment, has wrecked serious havoc in the financial sector. I believe that the stock market will face further downward pressure as more companies report on the financial impact of the COVID-19 spread but, in my opinion, BofA is well-positioned to weather the storm. As such, I believe that BofA's stock at current levels will turn out to be a great long-term buying opportunity.
The Latest
On April 15, 2020, BofA reported Q1 2020 results that missed on the bottom-line but that beat the consensus top-line estimate. The bank reported Q1 2020 EPS of $0.40 (missed by $0.14) on revenue of $22.8B (beat by $190mm), which does not compare favorably to the year-ago quarter.
Source: Q1 2020 Earnings Slides
The low interest rate environment continues to come into play but the highlight from the quarter was the sharp decline in net income/EPS. But earnings being under pressure should have surprised no one given the economic impact that we've already seen from COVID-19. As a direct result, BofA materially built its reserves to deal with the potential fallout - the bank increased its allowance by almost $7B (yes, billion), or 67%, from the prior period.
Source: Q1 2020 Earnings Slides
Make no mistake about it, BofA is not the only bank that expects significant losses due to the current health scare. The big six financial institutions - BofA, JPMorgan (JPM), Citigroup (C), Wells Fargo (WFC), Goldman Sachs (GS) and Morgan Stanley (MS) - posted loan loss charges of ~$25.4B in Q1 2020. This is just a headwind that the banks will have to contend with. But importantly, BofA is in a position to deal with the potential financial impact over the next few quarters (more on this below).
On a more positive note, I would be remiss not to mention the positive digital banking trends that BofA continues to post. For example, this bank has reported mass adoption of its digital offerings quarter-after-quarter, and Q1 2020 was no exception.
Source: Q1 2020 Earnings Slides
BofA has been a trendsetter in the digital banking space and, in my opinion, this will pay dividends for many years to come. This in part, will help BofA position itself for the future.
At the end of the day, I believe that BofA's Q1 2020 results were not terrible given the environment that the bank is operating in. Moreover, I believe that Mr. Brian Moynihan, CEO, and team has BofA is in a position that will allow for it to not only weather the current storm but also quickly snapback during the recovery.
This Time Will Be Different
Management presented a slide that shows how much better BofA is positioned today than it was 10 years ago.
Source: Q1 2020 Earnings Slides
The data from a decade ago obviously paints a very ugly picture given how bad things were for BofA (and most other banks) but I believe that the main takeaway is that this bank is properly positioned to handle the COVID-19 related headwinds. The positive development that came from the global financial crisis ("GFC") is the fact that the large financial institutions, including BofA, are better capitalized and have better mechanisms in place to handle extreme shocks (e.g., COVID-19). Entering the GFC, BofA was viewed as the problem bank, and rightfully so, but I would contend that Mr. Moynihan has this bank properly positioned for a downturn.
While the U.S. is undoubtedly already in a recession, many analysts are predicting for a "quick" recovery due mainly to the unprecedented efforts of the current administration.
Source: Fidelity's Q2 2020 Market Update
On this topic, LPL Financial's Ryan Detrick recently posted data that shows that on average markets bottom 5 months before recessions end.
Source: LPL Financial Research
I believe that there will still be some more pain in the near term but that economy activity will recover sooner-rather-than-later in large part due to the current administrations (including the Fed) quick and extraordinary efforts. If this turns out to be the case, the banks will likely perform well in what should be quick recovery.
Source: Fidelity's Q2 2020 Market Update
We are not in the clear by any means but I believe that a quicker recovery is likely in the cards. Obviously, this is barring another significant COVID-19 outbreak after state restrictions are lifted.
BofA's stock did not perform well early in the recovery period of the last recession but, remember, the bank was not in a great position (operational and financially) to weather an economic downturn. As such, shareholders paid the price for holding onto BAC shares through the GFC but, in my opinion, it will be a different story this time around.
Valuation
BofA's stock is attractively valued based on the bank's own historical metrics.
Data by YCharts
Additionally, I believe that BofA's stock is attractively valued based on two key metrics: price-to-book value (P/Bv) and price-to-tangible book value (P/TBv).
| Book Value | Tangible Book Value | |||||||
| Q1'20 | Q1'19 | % Chg | Q1'20 | Q1'19 | % Chg | |||
| BAC | $27.84 | $25.57 | 9% | $19.79 | $18.26 | 8% | ||
| P/Bv | 0.84 | P/TBv | 1.18 | |||||
| JPM | $75.88 | $71.78 | 6% | $60.71 | $57.62 | 5% | ||
| P/Bv | 1.25 | P/TBv | 1.57 | |||||
| C | $83.75 | $77.09 | 9% | $71.52 | $65.55 | 9% | ||
| P/Bv | 0.54 | P/TBv | 0.64 | |||||
| WFC | $39.71 | $39.01 | 2% | $32.90 | $32.74 | 0% | ||
| P/Bv | 0.71 | P/TBv | 0.86 | |||||
Source: Data from the earnings BofA's Earnings Slides, JPM's Earnings Slides, C's Earnings Slides, WFC's Earnings Slides; table created by author
The average P/BV and P/TBv are 0.84 and 1.06, respectively. Therefore, BofA's stock is reasonably priced when compared to its peers based on these two metrics but, in my opinion, BAC shares should be trading more inline with JPMorgan in today's environment. With that being said, even at a 5% discount to JPM's current valuation, BofA's stock would be trading slightly above $30 per share (~30% higher than today's price).
Risks
Regulatory concerns always need to be factored in when evaluating large financial institutions, and this includes Bank of America. I believe that the regulatory environment is actually improving, but this could change in short order.
The Federal Reserve and rates are a concern right now, but investors need to also consider the macro environment. A deteriorating economy would eventually negatively impact the banking sector. The COVID-19 related impacts should be closely monitored in the months ahead. If the economy is "shut down" for longer than anticipated, BofA's stock will likely continue its downward trend.
Bottom Line
Bank of America is positioned to weather the COVID-19 related storms and the bank's stock will likely perform well during the recovery. When compared to the global financial crisis, this time will be different for the bank and its shareholders. Bank of America's Q1 2020 operating results were not great but I believe that management did an excellent job describing why long-term shareholders should stay the course and be patient during this period of uncertainty.
I believe that BofA's stock will be a market beater over the next 18-24 months, so investors with a time horizon longer than the next few quarters should treat any significant pullbacks, especially if they are caused by broader market concerns, as long-term buying opportunities.
Disclaimer: This article is not a recommendation to buy or sell any stock mentioned. These are only my personal opinions. Every investor must do his/her own due diligence before making any investment decision.
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Disclosure: I am/we are long BAC. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.