These are interesting times for the U.S. bond markets. The acronym TINA — which stands for there is no alternative — suggests that global money is flowing into the U.S. bond because there truly is no alternative for it abroad. Almost all other bond markets have negative yields.
So as a result of increased demand, U.S. bond yields are falling off a cliff and that is wreaking havoc in financial stocks. But therein lies the opportunity. Among the wreckage, JP Morgan (NYSE:JPM), Bank of America (NYSE:BAC), and Goldman Sachs (NYSE:GS) are three beaten-down bank stocks to buy right now for the long term.
These bank stocks are the cream-of-the-crop when it comes to us financial institutions. Citigroup (NYSE:C) would have also made the list but I worry about their potential exposure to European financial markets.
JPM, BAC and GS are survivors of the 2008 financial catastrophe. So these management teams have proven that they can navigate through crisis and emerge stronger on the other end.
Moreover, this time the crisis is in bank stocks not the actual institutions. Thanks to the regulatory stress tests, we know that all three banks are healthier than ever on their balance sheets. Proof is that they are buying back their own stocks and paying out dividends.
So the concern that these are broken companies is wrong. These bank stocks are temporarily hindered by the headlines in the bond market. The Federal Reserve is likely to cut rates several times in the next few months to catch up with the bond market. Fed Chair Jerome Powell has no option but to do that whether he wants to or not.
So in theory bank business models will be fine and that the headline fears are exaggerated. In other words JP Morgan, Bank of America and Goldman Sachs stocks will be higher in the future.
While buy-and-hold is the traditional way of investing in quality stocks, banks of late have frustrated the masses with their timing. That is why today I shared the method of selling puts to trade them.
Compare these three options setups in JPM, BAC, and GS stocks to buying the stocks here and hoping for a rally. I am more confident that I will profit without any money out of pocket — and with a big buffer from the current price. This way I can let the risk of headlines work themselves out far away from my position in these bank stocks.
JPMorgan (JPM)
Consensus among experts is that JPM is the best financial stock. They rarely give investors specific reasons to sell their stock. So it makes sense that if markets are higher, then JPM stock is also higher. On that logic it’s a buy right here.
But just like all other bank stocks, the rallies for JPM are few and far between. And when they come they don’t last. So there is truth in the meme that banks do not hold their greens. This is in spite of them being cheap.
So instead of betting on upside potential I’d rather bet on their value. To do that I use the options markets where I can sell JPM puts to generate income. This is ideal in a stock that has value, but also is finding it hard to rally. This describes closely JPM stock and all the rest of the financials today.
So in this case, I prefer to sell the December JPM $90 put and collect $1 to open. To win all I need is for JPM stock to stay above my strike this year. If it doesn’t, I own the shares at a 18% discount from here and breakeven at $89 per share.
Technically, JPM stock chart doesn’t confirm the meme. It is in line with the S&P 500 this year. Above $110.70, JPM can rally another $2 from there. Conversely, if the bears push it below $104.3 it can fall to 98 from there. If I own the shares now I’d stop myself at $107.20 but that depends on investor preference.
Bank of America (BAC)
Similar to JPM, BAC stock is also a high quality stock. Management not only survived the 2008 crash but they also saved other banks along the way. And now BAC stock is a leaner meaner financial institution with hardly any exposure the global financial risks.
The BAC stock chart resembles that of JPM so it’s also hard to buy and hold for profit unless the investor timeline is more than three years. So here too I prefer to sell puts or spreads to generate income than bet on upside potential.
For example, I can sell the BAC $25 January 2020 put and collect almost $1 for it. This way the stock can fall 9% and I can still retain my maximum gains. The worst that could happen is BAC stock fails and I own it at a discount. I accumulate losses until $24.10.
I chose the BAC $25 level because technically that has been the biggest pivot level for almost three years. In October of 2017 the BAC bulls broke out from it and only lost it temporarily during last year’s Christmas crash. Owning BAC stock there leave little risk below and would make a good entry point.
Goldman Sachs (GS)
Of the three tickers I discussed today, GS stock is my least favorite. This is nothing against the company but it does carry outside headline risk. But this also makes it the bank stock with the most potential profit.
Unlike JPM or BAC stocks, GS is still stuck in the middle of the five year range. The other two have already taken 15% leaps higher. Shorter term, I would ideally want to chase GS stock — but not before it breaches above $206 or $209 per share. Because then they would trigger bullish patterns to retest $220. Once there, GS would then have even more upside opportunities.
But, instead of buying shares of GS stock and hoping for this rally to unfold, I can profit while I wait. I sell the GS October $180 put and potentially generate $1.60 per contract in pure profit without any out-of-pocket expense. Doing this would leave me with a 10% buffer from current price. Technically, GS must hold above $193 or it risks retesting the May lows near $180 per share.
Nicolas Chahine is the managing director of SellSpreads.com. As of this writing, he did not hold a position in any of the aforementioned securities. Join his live chat room for free here.
