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2 Problems Bank of America Has to Fix

Source: Wikimedia Commons.

Some banks made it through the financial crisis better than others did. And, while I'm bullish on its stock, Bank of America (NYSE: BAC  ) falls into the latter category.

You can see the residual impacts of the crisis in the following table, which lays out Bank of America's return on equity followed by the five principal levers that influence its bottom line.

Needless to say, the nation's second largest bank by assets still has a lot of work to do on the profitability front. Its return on equity is less than a third of the industry average.

The only other commercial banks that even come close in this regard are Peoples United Financial and First Niagara Financial, with ROEs of 4.8% and 5.3%, respectively, over the last 12 months. But even these still comfortably outperform Bank of America.

On the other side of the equation, meanwhile, are lenders like JPMorgan Chase (NYSE: JPM  ) and Wells Fargo (NYSE: WFC  ) , with ROEs in the double digits. The former's comes in at 12.2% while the latter's was 13.5%.

The underlying issues are twofold. First, Bank of America continues to bleed revenue from loan losses. Over the last 12 months, 8.1% of its net revenue before loan losses has gone to provisions for future loan losses. This is twice the median of other large commercial banks and far exceeds the other too-big-to-fail lenders. The figures at JPMorgan and Wells Fargo were 3.2% and 6.1%, respectively.

And second, its operating expenses continue to be far too high, eating up an additional 78% of net revenue before loan losses. For the record, the typical benchmark is roughly 60%, and banks like U.S. Bancorp regularly record efficiency ratios in the low 50% range.

The good news is that Bank of America is making progress on both fronts.

In the second quarter, its net charge-off ratio, which measures realized loan losses compared to total loans, came in below 1% for the first time since 2006. And the bank is continuing to ring out expenses through two initiatives, one focused on the core operation and one on the division that's responsible for managing its legacy assets -- that is, the toxic assets dating back to the financial crisis.

Taken together, in turn, Bank of America should continue to see improvement in its ROE going forward, resulting in more profit that can be returned to shareholders.

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Related Tickers

9/29/2016 10:55 AM
BAC $15.47 Up +0.09 +0.59%
Bank of America CAPS Rating: ****
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JPMorgan Chase CAPS Rating: ****
WFC $45.20 Down -0.11 -0.24%
Wells Fargo CAPS Rating: ****