Bank of America's stock has been hammered since the release of the Federal Reserve's most recent meeting minutes. Investors are concerned there were hints in the minutes that the Fed is on track to pull back its stimulus actions sooner than expected. That could be bad news for banks if higher rates squeeze their already-tight interest margins.
However, while a further squeeze on Bank of America's net interest margin in the short term would be likely, the bank's focus on stockpiling capital as opposed to loan growth over the last couple of years has the bank well-positioned for a rise in long-term rates. Just look to the data. In the fourth quarter of 2012, Bank of America's loans to deposits ratio registered around 80%, very similar to the 78% mortgage king Wells Fargo posted. For perspective, from 2003-2006, Bank of America's ratio fluctuated between 85%-100%, and Wells Fargo's typical loan book actually exceeded its deposit base.
Past performance is not indicative of future returns
Despite Bank of America's share price handedly outperforming that of Wells Fargo's over the last year, no one can argue that Well Fargo hasn't performed significantly better than Bank of America from an operational perspective. Wells Fargo generated almost $19 billion in net income in 2012, while Bank of America's eked out just $4 billion. As my fellow Fool John Maxfield detailed in this series on the company's litigious nightmare, B of A has been weighed down by unprecedented legal woes.
So while Wells' stock may have trailed B of A over the past year, its strong and consistent results have clearly not gone unnoticed, with the shares currently trading at a 50% premiumto tangible book value.
Stronger than you think
Although Brian Moynihan's intense focus on bolstering capital ratios may have reduced near-term revenue potential, Bank of America may have unknowingly avoided the potential hardships that may accompany increasing loan exposure during times of historically low rates on the long end of the yield curve. Long-term investors would be wise to classify the last several years as a time when Bank of America has transformed itself into a leaner and more focused profit-engine.
Bolstered by its famous cheerleader, Warren Buffett, and less-tainted brand, Wells Fargo is regarded and valued as if it will undoubtedly eat Bank of America's lunch for years to come. However, as investors begin to picture a future where Bank of America's legal woes have faded into the past, non-core and capital-intensive assets have been shed, and a steeper yield curve increases the value of deposits, Wells Fargo suddenly does not appear to be a significantly stronger profit machine.
Hiking with Brian
Moynihan has likened the bank's struggles to racing up a mountain with a heavy backpack filled with 250 lbs. of problems strapped to your back. He claims these burdens will ultimately strengthen the company once all of the problems are removed. With Bank of America trading at a 10% discount to tangible book value and a simplified long-term strategy, patient investors who can stomach short-term volatility from interest movements and potential litigation expenses will be rewarded and reach the mountaintop.
Bank of America's stock doubled in 2012. Is there more yet to come? With significant challenges still ahead, it's critical to have a solid understanding of this megabank before adding it to your portfolio. In The Motley Fool's premium research report on B of A, analysts Anand Chokkavelu, CFA, and Matt Koppenheffer, Financials bureau chief, lift the veil on the bank's operations, including three reasons to buy and three reasons to sell. Click here now to claim your copy, and as an added bonus, you'll receive a full year of FREE updates and expert guidance as key news breaks.
The article Why Bank of America Is a Safer Investment than Wells Fargo originally appeared on Fool.com.
David Hanson has no position in any stocks mentioned. The Motley Fool recommends Wells Fargo. The Motley Fool owns shares of Bank of America and Wells Fargo. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
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