23 Apr Bank of America (BAC)

When the market gets demolished, as it has done over the last month or so, it’s always a great time to go bottom fishing for cheap stocks. It’s important to be careful though. You can’t just pick up any old thing that’s been belted from pillar to post. You need to know it will make it through whatever predicament caused the markets to fall, in this case, the coronavirus, and that it will be able to recover adequately when everything goes back to normal.

The banking sector, not surprisingly, had a tough time of it in the first quarter of 2020. With historically low interest rates, unemployment claims jumping to never seen before highs and the resulting potential for increased mortgage defaults, not to mention the general hit to the economy as a whole, it was never going to be pretty. For the smaller banks, such conditions could well prove to be fatal, but at the top end of town, it will merely be a bump in the road until the economy begins to flourish again.

The big banks learnt many a lesson from the 2008 financial crisis.  Let’s be honest, they and the larger financial institutions were the cause of it. This time around they are (for the most part) innocent bystanders like everyone else. And importantly, in a financial position to continue to lend into what will be the undoubted oncoming recession.

The Federal Reserve stress tests have played a crucial role in keeping the banks on the straight and narrow. The tests measure how they will fare in scenarios such as a 10% unemployment rate, an 8% contraction in the economy, a 25% fall in house prices, and 50% stock market crash. The Fed won’t let the banks even pay a dividend or buyback shares if they don’t meet their capital requirements.

In 2018, Goldman Sachs and Morgan Stanley had to limit corporate payouts because of a lack of capital, while Deutsche Bank failed the test outright. In 2019 only Credit Suisse came close to getting a fail, although JP Morgan had to adjust planned payouts, and Deutsche Bank again only just scraped through. I’m guessing the tests won’t need to be rolled out this year, as they’re experiencing a real-life examination as we speak. Being forced to keep cash on hand will prove a godsend to the banking system during the current crisis.

I really think any of the big four would be a good buy at current discounted prices, but if I had to choose the one that I thought was the best investment it would have to be Bank of America. Heading into 2020 they had been focussed on keeping costs down and increasing customer satisfaction with CEO and industry stalwart Brian Moynihan stating “In a moderately growing economy, we focused on driving those things that are controllable. We made continued strong investments in our capabilities to serve customers, more relationship management teammates, more and refurbished branches and offices, and more digital capabilities, all while core expenses are flat.”

The focus on consumer banking was paramount in a stellar back end of 2019 with the share price gaining more than 25% from August to December. Of course, right now you can pick the stock up at 2016 prices and with a price to earnings ratio of 8.71, and the longer the economy is subdued the cheaper the price is going to get. Picking up the shares in the teens would be a bargain and it may soon be possible.

Bank of America’s actions since the start of the pandemic has spoken volumes. While companies across the globe have cut back costs, instituted hiring freezes, and implemented forced redundancies, Bank of America has not only declared that no employees would be laid off, but have hired an extra 2000 people. 

I also like the fact that they have, in the last few years, focused on bringing in small business customers. The US Small Business Administration has thrown in $350 billion to help small businesses that have been closed down or forced to lay off workers during the current downturn. A few days into the offer BAC stated they had already received 177,000 applications for the programme, amounting to upwards of $30 billion. All fee-making products that are fully backed by the Federal Government. And you can imagine if the recession goes on longer than expected the Trump Administration will be increasing funding in these areas.

One of the largest loan books in the business will also come in handy as customers look to refinance. And you can say the same about their huge Wealth management division and online broking arm. Increased volatility equals increased trading, and as we saw at the end of the last quarter, Wall Street volatility was at all-time highs.

I love the banking industry as a great bottom fishing opportunity at the moment. And while the Big Four of JP Morgan Chase, Citibank, Wells Fargo and Bank of America are all liable to be great buys, I suspect BofA will be the standout as the economy begins to recover. As always, time your buying right, get in on the dips, and in the long term, you won’t be disappointed.