There is a lot of negativity attached to financials, including Bank of America.
Bank of America recently informed investors about its plan to return more cash to shareholders.
Bank of America's is priced at a 41 percent to accounting book value.
JP Morgan's strong 2nd quarter results point to surprise potential for Wall Street banks this earnings season.
Fast forward one year, and Bank of America got approval from the Federal Reserve to return more cash to shareholders right away. Its latest approved capital return plan calls for a 50 percent increase in its base dividend, and a $5 billion share buyback, that I contended will be hugely beneficial for the bank given the steep discount Bank of America's shares are priced at (Bank of America's shares are currently priced at a 41 percent discount to its last reported accounting book value of $23.12/share).
There is a lot to like about Bank of America's capital return plan. After all, who wouldn't like a bank to spend money on share repurchases at ~59 cents on the dollar, right?
Improving Odds Of A Rate Hike On The Back Of Growing Strength In The Labor Market
The reason why investors price big banks at steep discounts to their accounting book values relates to their reliance on higher interest rates to drive net interest income. It's really that simple: Since the FED has been super reluctant to increase interest rates in lockstep with improvements in the labor market, banks have been fighting an uphill battle against investor sentiment.
As far as I am concerned, the FED will have no other choice but to raise interest rates soon, and that rings especially true after the strong employment report in June that said U.S. employers created 287,000 jobs, well ahead of the consensus estimate of 175,000.
Earnings Surprise Potential?
Over the last couple of quarters expectations for banks have been pretty low (they still are), which in turn makes it so much easier for them to surprise to the upside. JP Morgan Chase (NYSE:JPM) did just that by reporting 2nd quarter last week that beat both in terms of revenues and earnings on the back of better-than-expected trading revenues. Citigroup (NYSE:C) also beat expectations thanks to rebounding fixed-income revenues.
JP Morgan is one of first big Wall Street firms that reports earnings, therefore its results often set the tone for banks' earnings season. If Bank of America's 2nd quarter results reflect a similar surge in trading revenues, that might just be the catalyst investors have been waiting for.
Your Takeaway
Bank of America will release 2nd quarter results on Monday, July 18, 2016, and chances are that the bank beats low earnings expectations.
Bank of America has underperformed my return expectations so far, largely because of lower-for-longer interest rates which is hurting yield-starved banks. Bank of America's shares are already priced at a steep discount to accounting book value, but better-than-expected 2nd quarter earnings may give the shares finally a nudge in the right direction. Buy for capital appreciation.
Disclosure: I am/we are long BAC.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
By Archilles Research
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