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Is Bank of America Corp (BAC) Stock Still a Buy After Its Latest Run?

InvestorPlace - Stock Market News, Stock Advice & Trading Tips

One of Warren Buffett’s greatest “be greedy when others are fearful” investment wins has to be his investment in Bank of America Corp (NYSE:BAC) during the most recent financial crisis. When the world was panicking, Mr. Buffett was lining up what would eventually turn out to be an amazing deal.

Is Bank of America Corp (BAC) Stock Still a Buy After Its Latest Run?
Is Bank of America Corp (BAC) Stock Still a Buy After Its Latest Run?

Source: Shutterstock

Buffett agreed that Berkshire Hathaway Inc. (NYSE:BRK.A, NYSE:BRK.B) would buy $5 billion worth of preferred shares in one of the largest banks in the U.S. at a yield of 6% per year, along with warrants to buy 700 million common shares at $7.14, representing approximately the price Berkshire would be required to pay for a share of BAC stock at the time.

The conversion of preferred shares to common shares would make BRK.A the largest shareholder of BofA, thereby securing Mr. Buffett’s position as one of the largest investors in the American financials sector, behind only a few (very large) institutional investors.

Mr. Buffett remains the largest shareholder in Wells Fargo & Co (NYSE:WFC) and holds significant positions in Goldmans Sachs, U.S. Bancorp, Bank of New York Mellon and M&T Bank.

What many outsiders considered to be an extremely risky trade at the time has turned out to be a spectacularly profitable trade, with Mr. Buffett agreeing to convert his common shares to preferred shares and exercise his 700 million warrants at a price of less than one-third of the current BAC stock price.

While the warrants do not technically expire until 2021, in BRK.A’s most recent annual letter, Mr. Buffett publicly acknowledged he would exercise the warrants should BAC increase its dividend to more than $0.44 annually; with BofA management agreeing to increase the firm’s dividend from $o.30 per share per year to $0.48 per share per year, an increase that was ultimately approved by the Federal Reserve after Bank of America passed the second round of stress tests last month, it appears the bank now has a new prominent cheerleader to rely on (most banks wish Mr. Buffett was their largest investor).

Additional Catalysts for BAC Stock

Investors who bought American financials stocks following the Trump election win in early November have been generously rewarded.

A “Trump rally” spurred by promises of increased infrastructure spending and stronger economic growth have increased investor confidence in the American economy, and by default, U.S. financial institutions. Rising interest rates of late have provided yet another positive catalyst for stocks such as BAC to continue the rally, with expectations of additional rate hikes supporting the expectation of a prolonged rally.

Positive economic sentiment has driven healthy consumption and employment numbers over the past two quarters, prompting Fed officials to take a hard look at potential inflation threats, as well as the need for interest rates to increase to allow for monetary policy action (rate cuts) in the event of another significant economic downturn.

While many market participants believe that this current bull market has legs, some analysts argue that it is only a matter of time before the market experiences a correction, due in part to the fact that we are now in the latter stages of one of the longest bull markets in recorded history.

The number of additional rate hikes, and the speed at which the Fed decides to increase interest rates remains largely uncertain; however, what is certain is that this economic recovery has been very kind to U.S. financials. BAC stock has seen its stock appreciate more than 75% over the past 12 months and more than 200% over the past five years, on increased confidence that the rally the financials sector has experienced will be sustained for some time.

The underlying fundamentals of Bank of America support its current valuation, and while downside risk does remain should a bear market manifest itself in the medium-term, the fact that Mr. Buffett will officially be BofA’s largest shareholder should provide some degree of comfort to the average investor.

As of this writing, Chris MacDonald did not hold a position in any of the aforementioned securities.

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