On the back of a still-humming economy, gradually rising interest rates, and the prospect of a big corporate tax cut, U.S. banks have been doing well lately. Two that have put up encouraging numbers are old-line incumbent Bank of America (BAC 1.54%) and BofI Holding (AX 9.07%), owner of branchless lender Bank of the Internet.
Although very different on the surface, at heart they make money from the classic and eternal lend-and-profit model that has always worked for banks. So we can compare the two to see which one is the better investment these days.
Your local branch is your PC
As its name promises, Bank of the Internet exists entirely online. The great advantage of this asset-light approach, naturally, is cost savings -- BofI Holding's expenses are well below those of traditional lenders like Bank of America.
BofI Holding, however, isn't only a play on lower operating costs. Its credit discipline has proven to be at least the equal of its larger and more prominent rivals -- its net charge-off rate is consistently lower than that of its peers.
As the company does not operate a large, sprawling bank, it can be selective about its borrowers. In its No. 1 lending activity -- mortgages -- it concentrates on the jumbo variety of home loans.
Skinny costs and tight credit discipline blend nicely together to produce good profitability, which, by the way, has been on a very sharp rise since last decade's financial crisis.
In its latest reported quarter, BofI Holding booked an attributable net profit of $32 million, on total revenue of nearly $117 million. Those two line items were 12% and 15% higher on a year-over-year basis. Other critical figures like customer deposits and total loans also rose at mid-teen percentage rates.
On the not-so-positive side, BofI Holding isn't well diversified. The mortgage division is doing fine, but the company is awfully dependent on it -- almost 75% of its total loans fell into this category. The bank is attempting to diversify, bolstering its activities such as auto loans. But potential investors need to be aware that its lending (and therefore overall risk) isn't as well-spread-out as that of its larger rivals.
Saving and profiting
To its credit, Bank of America is well aware that U.S. consumers are doing more of their banking through their computers and phones. The company has reduced its branch count, from almost 6,000 at the end of 2010 to roughly 4,500 as of last month. It's also been steadily expanding its online services, and has done a good job of pushing its new Zelle peer-to-peer payments network.
These and other cost-saving initiatives have helped reduce expenses. The bank aims to trim $3 billion in costs annually by next year. Aided by this push, the company recently hit its once-ambitious goal of reaching a 60% efficiency ratio (it came in slightly below that rate, at 59.5% in Q3).
That costs diet, combined with steadily improving revenue, has filtered down to the bottom line. In each of the past five quarters, Bank of America has managed to increase its net profit on a year-over-year basis. In Q3 of fiscal 2017, the company improved its bottom line by 13%, to $5.6 billion. Total net revenue only crept up 1% to $21.8 billion.
Bank of America still isn't done with slashing expenses. It's indicated that that $3 billion in annual savings goal won't only be in force until the end of next year, but continue to shed expenses beyond that. The economy's still pumping and those interest rates are certainly going up again. One of the top beneficiaries of this will be big, bad Bank of America.
Two lucrative lenders
I don't think you can go wrong having either stock in your portfolio. Banking in general is a good sector to be invested in right now, and both BofI Holding and Bank of America are capitalizing on this. Let's throw a few present and anticipated future numbers up on the board:
|Bank||TTM* NET Profit Growth||Efficiency ratio||TTM ROA**||Fiscal 2018 EPS Growth Est.||Net charge-off ratio||Price/Book||5y Fwd PEG***|
|Bank of America||14%||60%||0.9%||19%||0.39%||1.16||1.36|
Broadly speaking, I'd say Bank of America has a slight edge in this set of ratios and valuations, but I don't think the difference between the two companies is great enough to make a decision based solely on them.
Rather, I'd be more guided by how likely they are to take advantage of significant growth opportunities. In this respect, I think that BofI Holding -- on a restless hunt for new products and services -- has the greater potential. After all, with a loan book nearly three-quarters stuffed with mortgages, there's nowhere else to go but wide. And the company has proven to be a prudent lender. I think it'll succeed in its diversification push.
So while I like both banks at the moment, I believe the future looks brighter for BofI Holding, and I'm awarding that stock the victory in this contest.