Why This Bank Is a Clear Sell

Ryan is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

A few years ago after I received a lump sum payment I decided to go bargain hunting.  At that point in time Bank of America (NYSE: BAC) was dirt cheap – I think I paid something ridiculous like $3 a share.  Price matters and at that price shares were just too devalued. 

A few weeks ago I sold all of my shares of Bank of America.  The major reason why I sold the stock was because it went up too fast and I would rather place a bet elsewhere.

A few days ago I noticed that Bank of America was down nearly 5%, which made me feel good about my decision. 

What Factors Did I Consider?

Beyond the elegant ‘what comes up must come down' logic, I also considered several other variables.  Many of these apply to other large banks such as Citigroup (NYSE: C) – and to a lesser extent – JPMorgan (NYSE: JPM).  Of the three, however, I believe that Bank of America is in the worst shape.      

All of these stocks – BAC, C, and JPM – have all surged to the point where their current share price is very close to fair market value and most analysts’ 1-year target price.

All of these companies are facing significant uncertainty. 

Citigroup’s new CEO is shuffling the deck and developing a new management team.  That creates a lot of uncertainty because Citigroup is a massive and very complex enterprise.   

Citigroup’s new CEO may, for example, decide to further segment the company along commercial and consumer lines of business.

Citigroup’s new CEO also needs to articulate a plan to grow its US consumer businesses. How will Citigroup achieve sustainable growth? 

And a plan for Citi Holdings even if that means taking a hit to short term earnings. 

JPMorgan’s earnings were temporarily boosted by reserve releases.  But it seems probable that increased regulation of derivatives trading will have a material impact on JP Morgan’s profitability over the long run.    

Plus all of these companies are having difficulty controlling costs.    

Bank of America is focused on three areas: capital, expenses, and risk.  Admittedly, Bank of America has made some progress – just not enough to justify its rapid share price appreciation. 

Bank of America’s core business is still very weak.  Revenues are declining at a faster rate than expenses, its balance sheet is at best very suspect, and costs associated with bad mortgages aren’t under control.

A few years ago Bank of America may have looked cheap relative to other banks.  That is no longer the case, however.  Bank of America no longer trades at a significantly lower price to book value than its peers, particularly if you consider Bank of America's exposure to toxic assets and mortgages. 

On top of all of that you have a terrible operating environment for banks: low interest rates, volatile demand for loans, too many regulations and too much oversight, and small margins. 

3 Reasons to Sell Bank of America

  1. Too much turnover.  Some people left Bank of America because they thought that the company was going under while other people left because they didn’t like all of the new rules and regulations as well as having to report to the Federal Reserve.  To combat some of this turnover, Bank of America reportedly recently spent over $3 billion on extra staff to clean up the mortgage fiasco.  Overall, this company has lost too much of its leadership.      
  2. A dividend of $0.01.  That is great that they are paying a dividend, except that it is a freaking penny – so don’t spend it all in one place.  The kicker is that Bank of America does not appear to have any plans of increasing its dividend anytime soon based on the fact that they have not even requested permission from the Federal Reserve.                
  3. Bank America’s balance sheet is still questionable.  Bank of America continues to attempt to shore up its balance sheet by selling assets, reducing short and long term debt, and increasing liquidity.  But unlike many of its competitors, Bank of America is struggling to find ways to grow and improve profitability.  Commercial and consumer loans, for example, are either flat or negative year over year.     

My Foolish Take

On the positive side, Bank of America’s market value is still lower than its book value.  But I feel that is simply because investors believe Bank of America is overstating the value of its assets rather than because Bank of America is undervalued.  As a rule of thumb, banks are extremely difficult to value. 

Overall, there is simply too much regulation and too much uncertainty surrounding this company.  It is unlikely that Bank of America will return to the glory days when it earned $3 or $4 a share anytime soon.  In fact, every piece of data suggests just the opposite: this company is going to continue to struggle to earn a small profit and will probably struggle to earn over $1 per share within the next 3 years.  That is why I would rather either purchase shares of a small, regional bank or invest elsewhere.

 


RyanPeckyno has no position in any stocks mentioned. The Motley Fool owns shares of Bank of America, Citigroup Inc , and JPMorgan Chase & Co.. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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