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Since the Coronavirus came into our lives this slice of the stock market has given ordinary people the chance to multiply their money by 96% in 21 days on JP Morgan.

Stocks  | June 22, 2020

It’s been an awful year for the American banking sector. Even prior to the novel coronavirus, financials had been underperforming. Investors have wanted growth stocks. And bank earnings haven’t been doing much of that; the Fed’s low interest rate policy has curtailed profit growth and thus sent investors fleeing. Bank of America (NYSE:BAC) stock hasn’t been spared.

Then the coronavirus hit and added a new angle to the problems. Now the banks have both a profitability problem and a risk problem. It’s unclear how badly the economic crisis will hit banking profits, but investors have assumed the worst and ran for cover. All of which has left Bank of America stock down 30% from recent highs.

Too Much Negativity Priced In

There are two major concerns around bank stocks now — credit losses and structural decline. On credit losses, it makes sense why people are worried. Banks were at the core of the 2008 financial crisis, and mass unemployment and bankruptcies would certainly have an impact on them this time around as well.

What the bears miss, however, is that the banks are far healthier than 2008. Regulators greatly clamped down on leverage following that debacle. Now the major banks carry 10x leverage or less as compared to up to 30x back then. That means an investment bank would have to have three times as many bad bets as before to end up in the same situation.

On top of that, there was no major bubble. Housing didn’t spike in the U.S. prior to this crisis. And the areas of the market that could cause problems, such as student loans or auto loans, simply aren’t big enough to cause systemic risk.

We see this reflected in Bank of America’s results so far. Last quarter, it remained profitable, as bad loan allowances were a manageable expense. And, so far at least, the government’s stimulus efforts are more than making up for the spike in unemployment. Bank of America’s credit card charge-offs in May actually went down compared to May of last year. Bank of America is hardly out of the woods yet as far as credit risk goes, but so far, the shock has been much less than investors had feared.

We’re Not Japan, Banks Are Still Highly Profitable

With the Fed slashing interest rates back to zero, investors are terrified to hold bank stocks. The media has popularized this theory that the U.S. is following Japan into a lost decade where bank stocks fail to produce decent returns. It’s true that Japanese banks and insurance companies performed horribly in the 1990s and 2000s following their bank’s move to a perpetual low interest rate policy.

However, this analogy simply doesn’t hold up. It wasn’t just low interest rates that caused Japanese banking profits to falter. Low demand was more important. Japan is in demographic decline. As a population ages, there simply isn’t enough consumption to keep GDP and corporate profits growing. Thus, fewer people take out mortgages and fewer businesses borrow money to expand.

The U.S. doesn’t face this problem yet. A simple look at economic statistics shows this. The Federal Reserves calculates net interest margins “NIM” for U.S. banks back to the 1980s. During that time period, the Fed has moved from double-digit interest rates to zero. Yet American banks’ NIMs have held steady in the 3-5% range for 40 years. The post-financial crisis period with zero interest rates didn’t collapse banking profits. And this one won’t either.

What’s Bank Of America’s Identity?

One thing holding back BAC stock is that it’s unclear what exactly the bank is best at. Of the major ones, most have a particular niche.

JP Morgan (NYSE:JPM) handled the financial crisis best, and arguably has the top leadership in rock star CEO Jamie Dimon. Goldman Sachs (NYSE:GS) has an incredible history of consistent book value growth, and handled the financial crisis well. It’s the top investment bank in the arena. Wells Fargo (NYSE:WFC) is cheap and scandal-plagued, but has had a large capital return program. US Bank (NYSE:USB) is an all-around winner with a strong dividend, a great historical record, and a clean reputation.

But what does Bank of America do the best? It’s not the biggest, it’s not the highest-yielding, and it’s not the cheapest. If you want to own a basket of big bank stocks, Bank of America is a great choice. But what’s its calling card that makes it a must-own as opposed to the other big banks? If you’re trying to add some particular attribute to your portfolio, there are generally better options in the banking space.

BAC Stock Verdict

I’m bullish on the financial sector as a whole. And Bank of America is doing a fine job, given the current economic circumstances. So it’s a perfectly fine buy now. The question is, what’s Bank of America’s longer-term vision that will make it stand out from other banks?

Until I see clearer differentiation from the other too-big-to-fail-banks, Bank of America isn’t at the top of my shopping list. That said, shares should follow the industry higher as economic data recovers. Just don’t expect it to be at the top of the pack in terms of sector performance within the financials. BAC stock is a true value play here though, and patient investors should be rewarded.

A revolutionary initiative is helping average Americans find quick and lasting stock market success.

275% in one week on XLF - an index fund for the financial sector. Even 583%, in 7 days on XHB… an ETF of homebuilding companies in the S&P 500. 

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