We are maintaining our long-term Neutral recommendation on
Bank of America Corporation
(
BAC
). The affirmation is based on improving credit quality and various
initiatives undertaken to stabilize its balance sheet.
However, BofA's first quarter reported earnings were significantly
lower than the Zacks Consensus Estimate. The results were
significantly impacted by negative valuation adjustments related to
the narrowing of its credit spreads. However, the sale of non-core
assets made it possible for the company to remain profitable.
Additionally, BofA cleared the stress test in March, thereby
proving that its efforts to streamline its balance sheet were
fruitful. This stress test was the toughest, as BofA along with
other major U.S. banks -
Citigroup Inc.
(
C
),
JPMorgan Chase & Co.
(
JPM
),
Morgan Stanley
(
MS
),
The Goldman Sachs Group Inc.
(
GS
) and
Wells Fargo & Company
(
WFC
) - had an even higher stumbling block to clear, owing to
their significant exposure to the stressed European
countries. Hence, the stress test clearance enhanced investors'
confidence as it reflects BofA's ability to withstand another
financial crisis.
Moreover in 2011, BofA launched a company-wide expense reduction
initiative - Project New BAC - with the goal of bringing down
expenses by $5 billion annually by 2014. Other than reducing
expenses, this initiative focuses on increasing revenue,
strengthening risk control and making changes to allow better
execution and customer service, while returning more value to
shareholders.
However, we remain concerned regarding BofA's elevated cost
structure. Though operating expenses started declining in the
recent quarters due to the implementation of Project New BAC, we
believe that as the company is in the process of addressing legacy
issues and continues to invest in its franchise, operating expenses
will remain elevated in the near term.
Also, a low interest rate environment and lower hedge income, due
to the new financial reform law, will continue to drag down BofA's
net interest yield, at least through the remainder of 2012.
Further, the financial reform law is expected to have a lingering
impact on BofA's profitability by resulting in higher costs, fee
reductions and restrictions. Also, the new capital proposals
unveiled by the Fed suggest that banks would be required to
maintain a total tier 1 ratio of 7% of risk weighted assets, which
is well above the current requirement of around 2%. In the mid
term, stricter capital requirement is expected to reduce the
company's flexibility with respect to its business investments to
some extent.
Overall, we believe BofA is making sincere efforts to keep itself
afloat. Measures like realigning the balance sheet in accordance
with regulatory changes, launching expense reduction initiatives
and continuously improving asset quality assure better prospects.
BofA currently retains a Zacks #3 Rank, which translates into a
short-term Hold rating.
BANK OF AMER CP (BAC): Free Stock Analysis
Report
CITIGROUP INC (C): Free Stock Analysis Report
GOLDMAN SACHS (GS): Free Stock Analysis Report
JPMORGAN CHASE (JPM): Free Stock Analysis
Report
MORGAN STANLEY (MS): Free Stock Analysis Report
WELLS FARGO-NEW (WFC): Free Stock Analysis
Report
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