Why I’m Still Hesitant on Bank of America Stock
Over the past year or so, I’ve been generally pessimistic about big banking institutions like Bank of America (NYSE:BAC). Frankly, I’ve been wrong. One of the more resilient names in the sector, Bank of America stock has gained over 41% year-to-date.
Source: Jonathan Weiss / Shutterstock.com
Not only that, the momentum has kept on moving, especially late in the year. For instance, the BAC stock price skyrocketed nearly 22% since the close of Oct. 1. Some of that came from Warren Buffett, who increased his stake via Berkshire Hathaway’s (NYSE:BRK.A, NYSE:BRK.B) holdings.
As our own Will Healy noted, Bank of America stock represents Berkshire’s second-largest holding. Only consumer tech goliath Apple (NASDAQ:AAPL) has a greater share in the company’s portfolio.
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Even geopolitical news got ugly for those who were directly betting against the BAC stock price. During the last year-and-a-half, the U.S.-China trade war dominated mainstream headlines. The tone took on a more desperate vibe as both economies suffered from the prolonged conflict.
Making matters worse, we saw several attempts at a trade deal that were later revealed to be head-fakes. Recently, though, the two sides got together and hashed out a limited trade agreement. As the Wall Street Journal reported, the U.S. will remove threats of new tariffs. Meanwhile, China agreed to purchase farm goods and other products.
Of course, given the politically divisive environment, not everyone was happy about this move. Still, the implications are that the two economic powerhouses are ready to move forward. Coincidentally, Bank of America stock rallied for days prior to the announcement.
With so much good news for the banking sector, have I changed my tune on BAC stock? Not quite, and here’s why:
Consumer Weaknesses Cloud Narrative for BAC Stock
One of the smartest people I know is Kenneth Bauer, an accomplished musician and owner of Darkroom Studio in Burbank, California. When I played in my high school’s marching band, Bauer would admonish us that we’re only as strong as the weakest link.
It’s one of the many lessons that I have remembered from my teachers and mentors. And I believe this line is a great metaphor for BAC stock. Yes, the big banks like JPMorgan Chase (NYSE:JPM) and Wells Fargo (NYSE:WFC) have moved substantially higher on recent positive news. But ultimately, it’s not news that drives these equities, but rather fundamentals.
Unfortunately, the one fundamental factor that has a dark cloud hanging over it is consumer sentiment. That’s an issue for Bank of America stock because consumer banking represents the organization’s biggest revenue generator. While BofA has diversified into wealth management and investment banking, the consumer is still king.
In the Trump economy, that shouldn’t be a problem: we have near record-low unemployment, a piece of evidence that America is great again. However, evidence, not rhetoric, demonstrates otherwise.
For instance, data from domestic banks shows tightening standards for auto loans. The reason why is that auto loan defaults are also great again – no, check that: auto loan defaults are the greatest they’ve ever been.
Source: Chart by Josh Enomoto
That of course is a dubious honor. But in a supposedly robust economic recovery, the idea that defaults are rising is incredibly problematic. Admittedly, some of this statistic can be explained to predatory loan practices against low-income buyers. Additionally, the automotive market has increased in size since the Great Recession.
Still, the defaults clearly demonstrate that not every American is enjoying the so-called Trump recovery. And growing income inequality is not a desirable pathway for Bank of America stock.
Economic Irrationality to Pressure the BAC Stock Price
If we were just dealing with record auto defaults, that alone is enough of a challenge. However, I noticed a peculiar statistic: domestic banks are also reporting generally lower demand for auto loans throughout much of this decade.
Source: Chart by Josh Enomoto
According to basic free market principles, if demand drops, prices will also drop until the two reach equilibrium. Basically, this is Adam Smith’s invisible hand of capitalism at work.
Interestingly, the Federal Reserve has adopted a dovish monetary policy, essentially pledging to keep interest rates subdued. Thus, banks won’t gain much from interest, so an added incentive exists to drum up revenue. What better way than to give out loans for major purchases like cars in a bull market?
Even with this incentive, bankers won’t lend to sub-prime borrowers. Bankers don’t trust the American people. In the same way, I don’t know if I can trust Bank of America stock.
It’s not that it’s a bad company. Rather, I believe the circumstances surrounding BAC stock have not improved credibly. Until they do, I’m still in the skeptical camp.
As of this writing, Josh Enomoto did not hold a position in any of the aforementioned securities.
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