Why Bank of America Could Be the Dow's Biggest Winner in 2012

It's no secret that last year was brutal for banking. None of America's biggest banks left 2011 unscathed:

Bank

2011 Stock-Price Change

Wells Fargo (NYSE: WFC  ) -11.1%
JPMorgan Chase (NYSE: JPM  ) -21.6%
Citigroup (NYSE: C  ) -44.4%
Morgan Stanley -44.4%
Goldman Sachs -46.2%
Bank of America (NYSE: BAC  ) -58.3%

Source: S&P Capital IQ.

While Wells and JPMorgan managed to avoid meltdowns because of perceived quality, the rest were battered as investors feared what lurked in Wall Street operations. It's no coincidence that Wells is closest to a pure retail bank and it was the closest to breaking even.

Compare these returns to the Dow's (INDEX: ^DJI  ) 5.5% gain, and it's no surprise that Bank of America led the Dow's losers. JPMorgan, the only other bank in the Dow 30, was the fourth worst.

What's amazing to me is that I thought the banking sector, coming off its financial-crisis beatdown, was really cheap at the beginning of the year. In fact, back in November of 2010, the first two stocks I picked in the banking-centric real-money portfolio I run for the Motley Fool were Bank of America and JPMorgan.

Since that point in November, those two picks are down 42% and 3%. Take a look at the amazingly low price-to-book ratios of the biggest banks now.

 Bank

Price-to-Book Ratio

Wells Fargo 1.2
JPMorgan Chase 0.8
Citigroup 0.5
Morgan Stanley 0.6
Goldman Sachs 0.8
Bank of America 0.3

Wells may look high in comparison, but remember that it usually (justifiably) trades for premiums. It wasn't unusual to see Wells trading at 2 to 3 times book value in the past.

On the low end, Bank of America trades at just a third of book value. In the decade before the financial crisis, Bank of America never once traded at even book value.

So, bottom line, banking is certainly troubled. And critics will say that these are multiples on "supposed book value" because not even the best analyst really knows what all lurks on big banking's balance sheets. But if the book values the banks are reporting have even half the quality of what they claim, we could see the banking sector's shares recover impressively.

Bank of America is already leading the Dow's gainers in 2012, up almost 20% (off a very low base). We'll get more data when it reports fourth-quarter earnings on Jan. 19. That particular report may or may not be favorable, but don't be surprised if Bank of America goes from worst to first on the Dow this year. (Post-publication note: Bank of America basically met expectations when it reported. Due to strategic asset sales, it is now profitable on a trailing-12-month basis. Overall, I liked what I saw and I'm still bullish on Bank of America.)

I believe the banking sector as a whole is being undervalued because of uncertainty. But there is serious and unknowable risk in the biggest players. If Bank of America's opaque balance sheet isn't your cup of tea, let me point you to a smaller, simpler bank that has some of the best operational numbers I've ever seen. I wrote about it in our brand new free report: "The Stocks Only the Smartest Investors Are Buying." I invite you to take a free copy to find out the name of the bank I believe Warren Buffett would be interested in if he could still invest in small banks. Get access now.

Anand Chokkavelu owns shares of Bank of America, JPMorgan Chase, Citigroup, and Wells Fargo. He also owns warrants on JPMorgan Chase, Citigroup, and Wells Fargo and long-dated options on Bank of America. The Motley Fool owns shares of Citigroup, Bank of America, Wells Fargo, and JPMorgan and has created a covered strangle position on Wells Fargo. Motley Fool newsletter services have recommended buying shares of Goldman Sachs. We Fools don't 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.


Read/Post Comments (27) | Recommend This Article (193)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On January 15, 2012, at 7:46 PM, cooperbry wrote:

    ROTFLMAO. Go for it suckers.

  • Report this Comment On January 15, 2012, at 7:51 PM, cooperbry wrote:

    OK, last post wasn't fair. Let's be fair and think about a few things.

    What if Greece actually defaults and triggers some of those derivative payouts? Or, more likely, the triggers are triggered, but, the people who sold the contracts refuse to payout?

    That means that people who thought they were insured are not. What will happen as a result of that? Will there be a problem with confidence in the "global financial" system of which US banks are a part of?

    Would anyone in their right mind invest in any US bank with such persistent global risks? Maybe fools will...

  • Report this Comment On January 17, 2012, at 9:07 AM, Fumaten wrote:

    Anand,

    Thanks for your very informative article.

    Agree with your pick on BAC, I am also long on BAC.

    BAC is up by 20% since "I Know First" forecast from January 3.

    The six largest lenders, including Bank of America (BAC) and Goldman Sachs (GS), may post an average profit increase of 57 percent this year, according to 184 analysts’ estimates compiled by Bloomberg.

    Good Luck!

  • Report this Comment On January 17, 2012, at 10:28 AM, mikecart1 wrote:

    BAC is going to shock the world but not me. Been holding a huge lot of shares since I bought at $3/share in 2009. Yeah yeah. I didn't sell when it hit $18. That is because my price target is $30/share. Nothing less than that will cause me to sell this gem that will pay for many vacations in years to come!

    BAC > C > All

  • Report this Comment On January 17, 2012, at 10:47 AM, dwilh51183 wrote:

    Why would anyone want to buy risky BANK stocks when they can buy TECH stocks? Technogy is growing at its fastest pace ever and with more growth predicted in next 3 years, go with the sure thing. That means BUY stock in AAPL , apple computer !! With a 15PE, and 98 Billion in cash, making 3.5 Billion to 4.2 Billion dollars every month ( yes, that's right... I said month!! ) why would you risk your money on bank stocks. When AAPL announces a stock split next month and a huge dividend...the rush to buy AAPL will push this stock higher by $15.00 per day for a long time. Add the "SHORT SQUEEZE" of 20 million shares and you have AAPL trading in the $650.00 range where it should be now with its amazing growth. RSW

  • Report this Comment On January 17, 2012, at 5:38 PM, xetn wrote:

    The following explains why investing in any bank at this time would be "foolish":

    http://blog.mises.org/20512/ready-set-walk/

    But, if you believe the "bigger Fool" concept, go for it. I wish you luck.

  • Report this Comment On January 17, 2012, at 5:47 PM, xetn wrote:

    If the banks were required to value their collateral at market, what do you suppose their balance sheets would look like? Does red ring a bell?

    All of those REOs are grossly under collateralized. I believe it will take one really huge and ugly QE*** from the Fed to bail them out, it it can.

  • Report this Comment On January 17, 2012, at 5:58 PM, TMFHousel wrote:

    <<If the banks were required to value their collateral at market, what do you suppose their balance sheets would look like? Does red ring a bell?>>

    In the most recent quarter, the difference between what B of A says its loans are worth and the fair market value of those loans (which it has to disclose in the footnotes) was $20 billion, or about 2%. That's large, but not dramatic.

  • Report this Comment On January 17, 2012, at 6:01 PM, rooster34 wrote:

    There is now way that I'd buy BAC common stock, but I've got a fair amount of BAC-X that I picked up back in early 2009. I've sold 3/4 of that investment, but the remaining 1/4 is up almost 100% and is yielding me about 14.5%. I'd look to pick some up on a dip if you want to get involved in BAC.

    I also agree with comment about AAPL. It's my second biggest holding, behind MA, and I can't see how one does not invest in it. This quarter will be an absolute blowout.

  • Report this Comment On January 17, 2012, at 6:08 PM, 102971 wrote:

    Who knows what the REAL book value of BAC is. or any of the other banks on your list for that matter?

  • Report this Comment On January 17, 2012, at 6:22 PM, rgperrin wrote:

    Yes, of course, this might happen with the Bank of American. And we might also beat our swords into ploughshares while the lion lies down with the lamb.

  • Report this Comment On January 17, 2012, at 7:27 PM, FairwayWillie wrote:

    Clearly, high risk and high reward. My bet is that this will be a good for holders of most U.S banks.

  • Report this Comment On January 17, 2012, at 11:41 PM, TomBooker wrote:

    I can't buy BAC, it's too big and too many moving parts for my (lack of) analytic skills.

    I once held C for 3 Qtrs and broke out in hives.

    There are about 2 dozen natural "bad' behaviors of which normal people are imbued, which have to be overcome as a self-investor.

    I believe that these can be 80% overcome by having confidence in the company in which one invests.

    BAC is a failed business, with a failed business model. Their Management is more-of-the-same since The Financial Disaster was rumored to have been averted.

    Although it would be nice to know what is the state of black-boxed assets and repos-booked-as-sales, a more compelling number would be the assets transfered to the Fed's balance sheet.

    At this point, I think Bernanke has it back-ssswards. The bigger the number on the sheet for any bank, the more cheer from the Market. I am sure the minor peasant revolts could be contained.

    I give credit to, and wish well, anyone who can argue that they can measure the assets and accruing liabilities of BAC. Then come up with a valuation and a confidently risk-adjusted price.

    Rather than having to do that with the attending effort to keep a straight face, I might suggest that those folks have a much more compelling thesis available.

    Although a minor 1 may be sacrificed some day, these Banks won't be permitted to fail. And everything they do is backed ....

    1) Officially by the Government..or

    2) by the Fed's immortal printing presses and computer keys..or

    3) Unofficially by the largess of the American People.

    Given that, and their thoughtful capex investment in elected officials, how can there be any anything but transient downside risks?

    That does a lot for a risk-adjusted price.

    .3 of Book looks pretty good, when you know 0 can never happen.

  • Report this Comment On January 17, 2012, at 11:44 PM, rebozo2 wrote:

    Everyone selects investments for their own reasons. BOA and other banks have so offended me by their misbehaviour, I'd sooner but shares in a land mine manufacturer.

  • Report this Comment On January 18, 2012, at 6:07 AM, foolshand wrote:

    "The Stocks Only the Smartest Investors Are Buying." I invite you to take a free copy to find out the name of the bank ........ free my a33 this sounds just like all the other millions of writtings that you have posted.. free huh, after spending a good 20 minutes reading and waiting for you to name the bank, it boils down to buying something and then you will send the name of the bank.. these 24 year old kids are just offering a bait and switch..

  • Report this Comment On January 18, 2012, at 6:13 AM, foolshand wrote:

    oh so you like BAC,,this bank was going bust from day one, just look at it's downward slope for the pass 20 year chart.

  • Report this Comment On January 20, 2012, at 12:13 PM, Howard50 wrote:

    Are you out of your mind????????

    Billions in bad CDOs, billions more in bad CDS's, billions in bad Euro bonds, and who knows how much in "off balance sheet" bad debt?

    This one isn't too big to fail, it is too big to save!!!!!!

  • Report this Comment On January 20, 2012, at 12:21 PM, BankHolidaySoon wrote:

    I wonder if there is a reason for the BOA valuation?

  • Report this Comment On January 20, 2012, at 1:50 PM, nancydog wrote:

    I bought their convertibles. That gives me a nice interest payment, while I wait for a huge capital gain. I feel I'm sitting in the catbird seat with this one.

  • Report this Comment On January 20, 2012, at 2:29 PM, keninden wrote:

    You're right, Anand, but your "could be" is clearly the operative phrase. The price and potential gains are functions of risk and mistrust. If their long-term business plan works out, assuming they are thinking long term this time, the gains will be spectacular. An interesting dabble, but I wouldn't bet the farm.

  • Report this Comment On January 20, 2012, at 4:27 PM, m300cab wrote:

    whatever you do , be sure to use a stop,

    I think BAC is junk and AAPL overpriced....I like good stocks beaten down. and some others such as new tech growth stocks that are not household names yet. also VZ is a nice steady stock.

  • Report this Comment On January 20, 2012, at 11:50 PM, ctwcaps wrote:

    If you want to lose money, bank stocks are your best bet. I bought C at $4 since 2008 crisis, it still not break even.

  • Report this Comment On January 21, 2012, at 11:55 AM, SkepticI wrote:

    RUN FOR YOUR LIVES! Well, Ok, run for your balance sheet. BAC is a bad business. Its customers are leaving in droves. I recently completed removing all my assess from Merril L, owned by BAC now. When I went to get my check and tell my long term FA (30 years) why I was leaving, two of his clerical staff were packing up. He plans to retire soon, and does not blame me.

    Worse, BAC looks to me like bad management hiding something. It has all the smells and tics that I saw watching ENRON from outside. BEWARE

  • Report this Comment On January 21, 2012, at 12:01 PM, MrMarcus65 wrote:

    All of you have the disadvantage of being on the outside looking in. As an associate, I have the advantage of seeing the inner workings of the company, and would recommend you stay away.

    While there is some validity to some of what Anand highlights (i.e. price-to-book ratio, etc), I can tell you that internally this organization is a mess. The executives/senior management haven't a clue about what to do next. The glue that kept this powerhouse running was strong leadership (aka Ken Lewis). With Ken gone, it's pretty much everyone for themselves. In recent months, major reorgs have been occuring every 2-3 months. None of the verticals has a good sense of where they're going, nor do they know when it will end.

    All of the LOBs have been on the staff reduction merry go round since last summer. One month Retail banking reduces head count by 2-3K, Trading reduces head count 2-3k a couple months later, Wealth Management does the same a few months later and on it goes across the LOBs.

    Things are so bad that the executives launched an internal program called NewBAC, which takes suggestions from the associates on how the organization could be better. On the surface, the notion that management would be open to ideas from employee base would be a good thing, right? But, digging deeper, it's clearly an attempt to save a sinking ship, that the current management doesn't know how to save.

    In short, I work here and I wouldn't take this advice.

  • Report this Comment On January 21, 2012, at 3:53 PM, wickedasitseems wrote:

    no witty explanation.......BAC at $7?.........I'm all over it!!

  • Report this Comment On January 21, 2012, at 9:55 PM, up6903 wrote:

    I was in BAC at 3 and sold oin the way down form 18 at 16. I was feeling the recommedations that it was going to 24. Yah! all them smart people,. I just felt it has the power to move there and a lot more over the next few years and I am willing to wait as I have no stocks with such possibilities to triple in the next few years that I can buy 1000's of shares at a 6+ handle.

    I am a new fool and am having trouble managing my way through the buyyhis fool stuff and that fool stuff. I did buy 200 shares of a recommendation and held it for months at a neg. and finally this month I am up 500 on it. So I won't complain. And nows that the fool is behind the BAC I am more happy especially since Cramer is against it I sold and lost 3K.

  • Report this Comment On January 24, 2012, at 9:10 AM, hiddenflem wrote:

    Sinking ship.

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