Company Overview: Bank of America Corporation is a bank holding company and a financial holding company. The Company is a financial institution, serving individual consumers and others with a range of banking, investing, asset management and other financial and risk management products and services. The Company, through its banking and various non-bank subsidiaries, throughout the United States and in international markets, provides a range of banking and non-bank financial services and products through four business segments: Consumer Banking, which comprises Deposits and Consumer Lending; Global Wealth & Investment Management, which consists of two primary businesses: Merrill Lynch Global Wealth Management and U.S. Trust, Bank of America Private Wealth Management; Global Banking, which provides a range of lending-related products and services; Global Markets, which offers sales and trading services, and All Other, which consists of equity investments, residual expense allocations and other.


BAC Details

Better than expected earnings in the second quarter 2018: Bank of America Corp (NYSE: BAC), which is the second-biggest U.S. lender, has been under bullish momentum with the firm delivering a decent second quarter wherein the profits have been above expectations. These results were mainly due to the bank’s efforts which aggressively cut the expenses and reaped the benefit from growth in loans and deposits due to a strengthening economy. During the second quarter of FY 18, the group’s adjusted earnings per share were reported to be 64 cents, but adjusted revenue fell 1% to $22.6 billion in the second quarter of FY 18. This was against revenue of $22.8 billion of last year same period, which included a pre-tax gain of $793 million with regards to the sale of non-U.S. consumer card business. But excluding that gain, the revenue was up 3%. On the bottom line performance, the bank’s second-quarter profit surged 33 percent to $6.8 billion, surpassing expectations as Bank of America once again cut costs by 5 percent in the second quarter. Further, the bank, like its other peers, is getting a boost from recent steps taken by the regulators and politicians to lower tax rates and raise interest rates. The Federal Reserve, in the second quarter, also raised the benchmark rate (for the seventh time). However, with fears looming around the trade war between the United States and China, market has casted doubts on loan growth for the banking sector.

Rising Net Interest Income: BAC in the second quarter delivered a 33% growth in the Net Income on the back of a better operating performance and the benefits of the tax reform. During the quarter, 6% growth was noted for Net interest income (NII) to touch $11.7 billion. This came at the back of benefits from higher interest rates, loan and deposit growth. Nonetheless, there was a 7% drop in non-interest income to $11.0 billion. A 5% fall was noted for non-interest expense to $13.3 billion. In the second quarter of 2017, the group reported for an expense of $14.0 billion that had a $295 million data center impairment charge. However, the non-interest expense slipped by about 3% excluding the impairment charge. The key aspect is that the bank demonstrated 14 consecutive quarters of positive operating leverage. Additionally, the bank reported net interest yield of 2.38%, which surged by 4 bps in the quarter against Q2 2017, based on benefits from spread improvement, while reduction in the non-U.S. consumer credit card portfolio (higher-yielding asset) had an opposite impact with an increase in Global Markets assets (lower-yielding). However, bank’s net interest yield was 2.95%, which is up 12 bps from the second quarter 2017, excluding the impact from Global Markets. The bank’s interest rate sensitivity as of June 30, 2018 remain positioned for NII to benefit as the interest rates moved higher. The bank also highlighted about a parallel shift of more than 100bps in interest rate yield curve, that has been now slated to benefit NII by $2.8 billion over the next one year. This is expected based on sensitivity to short-end interest rates. Overall, the strong operating leverage and client activity boost the earnings higher in the second quarter. The bank has witnessed growth in the consumer and commercial loans, grew its deposits, grew its assets within the Merrill Edge business, has generated more net new households in Merrill Lynch and BAC has supported more institutional client activity. BAC has continued to invest in their businesses and began an additional $500 million technology investment, which the bank plans to spend over the next several quarters, due to the benefits the bank received from tax reform.


 Operating leverage trend (Source: Company reports)

Strong Credit Quality: During the second quarter 2018, BAC’s overall credit quality continued to remain strong across both the consumer and commercial portfolios. The net charge-offs rose $88 million to $996 million, primarily due to higher losses in the consumer credit card portfolio due to seasoning, loan growth and storm-related losses. The net charge-off ratio has remained low at 0.43% and the provision for credit losses increased $101 million to $827 million. In Q2, the net reserve release decreased to $169 million from $182 million, driven by continued improvements in consumer real estate and energy exposures, partially offset by seasoning in the consumer credit card portfolio and loan growth. Moreover, the bank’s nonperforming assets fell $946 million to $6.2 billion, primarily due to loan sales and credit quality improvement in energy exposures. The Commercial utilized reservable criticized exposure fell 21%, to $12.4 billion.
 

Improving assets in the Second Quarter 2018: During the second quarter 2018, BAC’s return on average assets improved 27 bps to 1.17%. The return on average common shareholders’ equity increased 300 bps to 10.8% and the return on average tangible common shareholders’ equity improved 428 bps to 15.2%. The efficiency ratio improved 249 bps to 59% in the second quarter 2018.

Rising dividends and buybacks: BAC has returned $6.2 billion to shareholders in the second quarter through common dividends and share repurchases. BAC has planned to return approximately $26B of capital to common shareholders over next four quarters. This includes the 25% increase in quarterly dividend and more than $20B in gross share repurchases. On the other hand, in the second quarter, BAC has $165B of Common Equity Tier 1 Capital (CET1) and CET1 ratio of 11.4%. The bank has $512B of average Global Liquidity Sources.

Rising digital adoption: The group’s investments in digital capabilities have been paying off. The roll-out of Erica, the group’s digital assistant, got over 2 million users from only starting a few months ago. Clients are regularly doing deposit transactions on their digital devices. Seventy six percent of all the group’s deposit transactions are currently through ATMs and mobile deposit. Digital sales currently account for 24% of the group’s sales in their consumer business. As per the recent quarter, the group has processed 35 million Zelle transactions or more than $10 billion in principal amount which is at a double pace as compared to the last year. The group expects Zelle activity to continue to grow as the industry continues to drive this standard for P2P payments. Overall, consumer digital payments has currently overtaken non-digital payments. Over 52% of total payments have been done during the second quarter which is growing 12% on average for the past four years. Digital execution comprised 24% of sales while the group is continuing to expand through other products and services. Digital auto was launched a year ago and currently has more than half of the retail auto volume. Merrill Edge platform showed asset growth by 20% in the past year to $191 billion and 2.5 million accounts.


Digital Capabilities Enabling Convenience with Enhanced Activity (Source: Company reports)

Balance sheet position: The group’s assets fell $37 billion, impacted by lower global markets assets coupled with lower deposit levels, mainly on the back of the seasonal customer tax payments. Liquidity remains strong with average global liquidity sources of $512 billion and a liquidity coverage ratio of 122%.  Total shareholders’ equity fell $2 billion against last quarter while Preferred equity fell $1.5 billion. The group issued $3.5 billion of lower yielding preferred stock ahead of redemptions of $2.8 billion of higher yielding preferred stock. The group repurchased 166 million shares for $5 billion and paid $1.2 billion in common dividends.


Balance sheet position (Source: Company reports)

Stock Performance: The shares of BAC rose over 26% in last one year (as at July 18, 2018) and 4% this week and we believe the bullish momentum in the stock would continue going forward given the resilient performance and industry trends. The bank’s efforts to control costs, focus on credit quality, asset expansion, and digital transformation would support the stock in the long run. We recommend a “Buy” on the stock at the current price of $ 30.13.
 

BAC Daily Chart (Source: Thomson Reuters)

 
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