2018 was supposed to be a good year for bank stocks. Rising interest rates from the Federal Reserve would provide a positive environment for banks, bank revenues, and bank earnings.2019 is likely to provide a negative backdrop for banks. The Fed is holding interest rates steady, the consensus on Wall Street believes, until the last quarter and then the most likely move is to cut rather than raise interest rates. (Bank revenues and earnings get a boost when rising interest rates increase the net interest margin on loans in general and mortgages in particular.)
In general, I’d suggest cutting exposure to bank stocks in the months ahead.
But that’s in general. When it comes to specifics I’d suggest holding onto shares of Bank of America (BAC). I own Bank of America in my Dividend Portfolio for its 1.90% dividend yield–and for a few other reasons. Let me explain those “few other reasons.” (The shares are down 5.92% as of the close on April 19 since I added them to the portfolio on January 23, 2018.)
On April 16 Bank of America reported first quarter earnings of 70 cents a share, 4 cents a share above Wall Street expectations. Earnings per share climbed 13% year over year from the first quarter of 2018, but they were flat with earnings in the fourth quarter of 2018. Revenue dropped 0.4% year over year to $23 billion, slightly below the $23.24 billion Wall Street projectionAnd in addition, in its conference call, like its big bank peers Citigroup (C) and JPMorgan Chase (JPM), Bank of America told Wall Street analysts that net interest income will grow by only 3% or so in 2019 after growth of 6% in 2018.Not exactly shout it from the rooftops good news.So lets look at why you want to hold onto shares of this bank. Bank of America is one of the top deposit gatherers in the United States. It is one of the top two banks in retail mortgages. The bank ‘s Merrill Edge is one of the largest online retail brokerages and its Merrill Lynch Wealth Management Unit boasts one of the largest collections of of investment advisors in the financial sector. It’s a top five global investment bank, one of the largest U.S. issuers of credit and debit cards, one of the top four U.S.-based merchant acquirers, and a top five fee earner from fixed income products globally.All of that means that Bank of America has a lot of fee income to offset any slowdown in lending and mortgages and to pick up some of the slack from lower growth in net interest income.
And let me introduce a term from Morningstar that suggests why this stock, which pays a dividend yield of only 1.9%, deserves a place in a dividend portfolio.The concept is “total yield.” Total yield combines dividend yield plus buy back yield. Dividends are clearly direct payouts to investors. A buy back, this concept argues, is also a return to investors since when a company buys back its shares (and cuts the number of shares outstanding) it raises earnings per share and that tends over time to push up the price to earnings ratio of the stock and its price. A buy back, then, isn’t an immediate payout to investors, but rather a payout over time. And it has an added attraction to investors because the gain from a buyback is tax deferred until that investor sells the shares. (Unlike dividend payouts, which are immediately taxable.)Bank of America currently shows a 1.9% dividend yield plus a 6.94% buyback yield (from its purchase of its own shares) for a total yield of 8.84%. That’s substantially above the five-year average total yield of 4.15%.With substantial fee income to add to interest income, I don’t see a danger to the dividend, buyback, or total yield as long as the U.S. economy continues to chug along as opposed to falling off the tracks.
I also like the bank for the long term since it has one of the largest technology budgets, $10 billion a year, among its big bank peers. That hurts earnings in the short run, of course, but it also means that Bank of America is spending to keep up with the changes in a fast-moving banking sector.