Bank of America Corp (NYSE:BAC) has been stuck in a lull for a large portion of 2017. However, BAC stock is now in rally mode, climbing 7% over the past month. It’s now up over 11% year to date. An 11% rally may not seem like much, but a ~20% annualized return (pre-dividend) is nothing to sneeze at.
Additionally, consider that BAC stock is up a whopping 70% over the past 12 months. Not so bad now, huh?
Despite the run, though, it would seem wise for investors to stay long BofA. For those wondering why, it boils down to a few things: operating environment, valuation and the charts.
The Banking World
Once Donald Trump won the presidency, the banking sector took off. Two main drivers drove this rally. The first was that Trump, a Republican, is likely to roll back Dodd-Frank and make for a more loose regulatory environment. While we saw exactly where loose laws can get us in the banking sector, investors are also aware of the rewards.
Simply, banks need regulation, but too many regulations stifle growth and too few can cause crises. Many view Dodd-Frank and other “too big to fail” measures as excessive. Obviously, easing restrictions allows banks more flexibility, which usually translates to more profit. Investors hope that Congress and Trump will find a way to do this.
Second, many view Trump as pro-business, which fuels economic growth. As businesses take out loans, companies raise money and individuals buy homes, banks are among the biggest winners.
So, Trump’s victory acted as at least two sets of catalysts driving banks higher. But, a secondary effect was the Federal Reserve. Given that rates were holding steady at crisis-level lows, we now need a return to normalization as the economy improves. As short-term interest rates normalize — aka move higher — banks become more profitable. This is essentially risk-free profit that falls right to the banks’ bottom line.
It’s not just BofA that benefits, either. JPMorgan Chase & Co. (NYSE:JPM), Goldman Sachs Group Inc (NYSE:GS) and Morgan Stanley (NYSE:MS) all win, too.
BofA Valuation
Usually, when stocks have strong catalysts as a tailwind, their valuation acts as a headwind. The market prices in these great situations — and, as a result, investors — pile in and cause the stock to become expensive. That’s not the case with BAC stock.
Bank of America trades with a price-to-earnings ratio of just 15 and a forward P/E ratio of only 11.2. This is despite forecasts calling for earnings growth of 20.7% and 19.9% in 2017 and 2018, respectively. That’s a pretty darn low valuation, given how much earnings growth is expected over the next 18 months.
As the economy improves and rates rise, BofA will do even better, too.
Trading BAC Stock
Bank of America has several tailwinds and a low valuation, but what do the charts say? After rallying to $25 — something we said would happen, actually — shares have pulled back. After consolidating nicely around $23.50, BAC stock was back in rally mode Tuesday, climbing to $24.50.
Also noteworthy is the support just below where it was consolidating, with the 50-day and 100-day moving averages nearby. The 200-day is trending higher just below.
The latest breakout is setting up BAC stock to test recent resistance near $25. This level may again hold as resistance. Should it fail, the highs near $25.50 is in the cards. On a bit further of a rally toward these levels, those comfortable enough with options have a play. To stay long but protect themselves from downside, they can sell covered calls above this $25 to $25.50 zone.
But, call-sellers beware. While there may be some back-and-fill action in Bank of America, make no mistake, these constant tests are bullish. BAC stock is trending higher and should eventually breakout to new highs. At this rate, it’s best for investors to stay long.
Bret Kenwell is the manager and author of Future Blue Chips and is on Twitter @BretKenwell. As of this writing, Bret Kenwell did not hold a position in any of the aforementioned securities.
