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The Worst Mistake BofI Investors Can Make Right Now

By Matthew Frankel, CFP® - Mar 31, 2017 at 7:25PM

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Negative news stories can be scary, but it's important to look at the big picture.

Online-based bank BofI Holding Inc. (AX 4.48%) shares dropped by more than 3% on Friday March 31, 2017, as a New York Post report said that federal agents are conducting a probe of the bank related to possible money-laundering activities.

What shareholders need to remember is that this isn't new information, nor does it appear to be anything to worry about. The bank has tremendous growth potential in the years ahead, and selling your shares because of a news item like this may be a terrible mistake.

Stressed out man looking at stock market charts.

BofI's drop may seem like reason to panic, but keep your eye on the big picture. Image source: Getty Images.

The new story, the bank's response, and a brief history of BofI's legal drama

In a report published early Friday morning, the New York Post said that federal agents are conducting an investigation, led by the Justice Department, into possible money laundering. The investigation supposedly includes regulatory filings made by the bank, and the report specifically mentioned BofI's CEO Gregory Garrabrants as a focus of the probe.

In a statement issued shortly after the New York Post story ran, BofI called the report "factually inaccurate and substantively misleading." The company claimed that it has no knowledge of this alleged money laundering investigation, and said that, "The story is nothing more than a rehash of baseless allegations that first surfaced over two years ago, and have been soundly refuted by BofI in court filings and on conference calls."

What the statement is referring to is the fraud accusations that took place over the past couple of years, first made by a single ex-employee, and later made again from a law firm that checked with several other former employees. If you're unfamiliar with BofI's legal drama, here's a thorough discussion of the matter from my colleague Brian Stoffel.

As a result of these legal issues, BofI's stock became a big target for short-sellers. In fact, more than 36% of all of BofI's outstanding shares were sold short as of March 15, 2017.

Don't lose sight of the big picture

Despite all of the legal noise, BofI's business is firing on all cylinders. Because of the cost advantages that come with being an online-only bank, BofI has built one of the most efficient and profitable operations in the industry.

In the most recent quarter, BofI produced a return on equity (ROE) of 17.49% and a return on average assets (ROAA) of 1.66%, with most metrics handily surpassing the industry benchmarks of 10% and 1%, respectively. The bank's efficiency ratio of 31.46% is less than half of its peer group average of 66.82%. (Lower is better.)

Not only is BofI profitable and efficient, but it's growing at a breathtaking pace. Loan originations have grown at an annualized rate of 43% since 2011, and earnings have grown at a 32% rate. During these years, the bank has successfully transitioned from a time-deposit (CD) business model to one based on more traditional banking products, such as checking and savings accounts, which has helped fuel its growth and continues to do so.

Chart of BofI's earnings growth since 2011.

Image source: BofI Holding Investor Presentation.

The growth isn't slowing down much just yet. In fact, in the most recent quarter, BofI's assets grew by 22.6% year over year, and deposits grew by 27%. BofI's roughly $8 billion in total assets is actually quite small for the banking industry, so there could be many years of double-digit growth still to come.

The bottom line: Don't sell your shares just because of this

When a news story like this appears, whether it's about BofI or any other company, for that matter, the worst thing you can often do is to sell your shares after a knee-jerk reaction by the market causes shares to drop.

To the contrary, smart investors look at situations like these as buying opportunities to invest in excellent companies whose stocks are trading for irrationally discounted prices.

Matthew Frankel has no position in any stocks mentioned. The Motley Fool owns shares of and recommends BofI Holding. The Motley Fool has a disclosure policy.

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