Bank of America Stock Could Move Higher But Be Careful!

Robust banks could hear the music stop in 2020

This year has been a good one for Bank of America (NYSE:BAC) stock. Shares are up 43% year-to-date, rallying from $24.08 at the open Jan. 2 to $34.44 at the close December 13. With shares outperforming the S&P 500, it’s safe to say what’s good for the American markets has been even better for the Bank of America stock price.

Bank of America Stock Could Move Higher But Be Careful!
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But as we waltz into 2020, is the music about to stop? There’s now more than a decade between us and the Great Recession. An economic downturn is overdue. Yet so far, attempts to “call the top” have been painful for bearish investors. Timing the markets is easier said than done.

The question is, will today’s frothy times continue into next year? On Wednesday, the Federal Open Market Committee (FOMC) left interest rates as is. Rates are also anticipated to hold steady through 2020. With the Fed not taking action now, fears of a recession are mitigated, at least in the short term. But things could turn on a dime, as it’s tough to “predict the unpredictable.”

So, what’s the call? Let’s dive in and see whether we can expect additional gains in the BAC stock price in 2020.

Multiple Expansion Limited for Bank of America Stock

Strong macro factors make it tough to say 2020 will be maelstrom for the economy. The trade war, while unresolved, appears to be decelerating. Unemployment is at 50-year lows. Consumer spending is up 5.5% this year. It’s a great time to be a money center bank.

But is BAC stock your best money center banking play? On a valuation basis, Bank of America trades within range of its peers. BAC’s forward price-earnings (forward PE) ratio is 12.4. Here are the forward PE ratios of the bank’s main competitors:

  • Citigroup (NYSE:C): forward PE of 9.7
  • JPMorgan Chase (NYSE:JPM): forward PE of 12.8
  • Wells Fargo (NYSE:WFC): forward PE of 11.8

Bank of America stock trades at a valuation on par with JPMorgan Chase. Wells Fargo sells at a slightly lower valuation, while Citigroup trades at a distinct discount to the rest of the pack. But what about earnings growth?

Analyst consensus calls for BAC stock to grow earnings by 5.9% between 2019 and 2020. For Citigroup? 10.3%. JPMorgan Chase’s earnings are expected to grow an anemic 2.5% over the next year. And for Wells Fargo? An anticipated earnings-per-share decline of 3.1%.

Compared to JPM and WFC, BAC stock has a reasonable valuation. I also believe some multiple expansion is possible, benefiting the BAC stock price. Relatively smaller banks like PNC Financial (NYSE:PNC) and U.S. Bancorp (NYSE:USB) trade at forward PE multiples around 13.6 to 13.7. If Bank of America shares rally another 10.5%, they will reach this valuation mark.

But that might be the best the BofA can do. Another 20% to 30% gain in the BAC stock price would mean shares would trade at 14.9- to 16.1-times forward earnings. This indicates to me that upside, while possible, is not as material as the gains we saw in 2019.

But Return of Capital Could Boost BAC Stock Further

However, it may not be multiple expansion that moves the BAC stock price. Return of capital via dividends and buyback could be ticket over the next few years.

After cutting its dividend in the Great Recession, Bank of America has accelerated payouts since 2014. In the past five years, the dividend has risen from 5 cents per quarter to 18 cents per quarter. This gives the dividend a misleading high 5-year growth rate figure (68.3%). But with a payout ratio of just 25.3%, BAC could easily increase its 2.14% dividend yield.

Citigroup (2.7%), JPMorgan Chase (2.68%), and Wells Fargo (3.84%) have much higher yields. Bank of America stock has room to grow its dividend. And this isn’t the only way BAC could return capital to shareholders. If you recall from back in June, the Federal Reserve approved BAC to return as much as $37 billion to shareholders.

If Bank of America maintains its financial strength, similar returns of capital are possible going forward. This means even if earnings growth is modest, dividends and buybacks could continue to move the needle for BAC stock.

Picking Up Pennies in Front of a Moving Train

There’s a lot going for Bank of America stock. A roaring economy, consistent profits, and fantastic appreciation in the share price. Market sentiment implies 2020 will be more of the same. But you never know until it happens.

Thanks to aggressive buybacks, shares could move higher even if the stock keeps the same PE ratio. A multiple expansion to valuation levels on par with PNC and U.S. Bancorp would be icing on the cake.

But buying BAC stock now could be like picking up pennies in front of a moving train. In terms of risk (economic downturn) versus return (multiple expansion, EPS growth driven by buybacks), Bank of America doesn’t look appealing to me. But if you think the music won’t stop in 2020, BofA could bring solid returns to your portfolio.

As of this writing, Thomas Niel did not hold a position in any of the aforementioned securities.


Article printed from InvestorPlace Media, https://investorplace.com/2019/12/bac-stock-has-potential-and-risk/.

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