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Loan Growth Would Pump Up Bank of America's Earnings -- But Will It Come This Year?

By Bram Berkowitz - Updated Apr 29, 2021 at 10:28AM

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Some modest loan growth later this year could increase Bank of America's current net interest income level by $1 billion in the fourth quarter.

Despite doubling its profits on a year-over-year basis and releasing reserves previously built up for loan losses, Bank of America's (BAC -1.01%) recent earnings disappointed investors, partly due to slumping loan growth. While the economy and outlook have improved, consumers and businesses still aren't borrowing. Consumers are doing well and have tons of savings built up, which makes them less likely to default on current loans, but also less in need of loans. Businesses, meanwhile, have stayed conservative.

While things are still looking up for Bank of America, will the bank actually see the loan growth it needs this year in order to achieve stronger earnings for investors?

A wall with a Bank of America logo.

Image source: Bank of America.

Very rate-sensitive

Bank of America's interest income is still showing the effects of the Federal Reserve's decision early in the pandemic to lower the federal funds rate, which many loan interest payments are linked to. In the just-completed quarter, the bank's net interest income from loans fell to $10.3 billion, down almost $2 billion from the first quarter of 2020. Net interest yield -- the difference between what banks make on interest-earning assets such as loans and pay out on interest-bearing liabilities such as deposits -- also dropped slightly. In the consumer bank, auto lending was the only segment that didn't see loan volume fall from the previous quarter.

The good news for disappointed investors is that this leaves Bank of America with substantial earnings upside. The bank noted in its earnings materials that as of the end of the first quarter, if the Fed were to increase the fed funds rate by 1 percentage point, Bank of America would realize an additional $8.3 billion in net interest income over the next 12 months. Now, obviously, this is not going to happen, but it shows the potential earnings power of Bank of America in a rising-rate environment.

Still, there are good prospects for this year. Bank of America CEO Brian Moynihan said on the bank's recent earnings call that if long-term interest rates continue to tick up and there is some "modest" loan growth, both of which are possibilities this year, the bank could see net interest income increase by around $1 billion in the fourth quarter from the $10.3 billion the bank just did in the first quarter.

How likely is loan growth?

Moynihan said that while loan pipelines are improving, they remain below pre-pandemic levels. Usage of credit lines also remains low, but global banking loan volume has begun to stabilize. Moynihan also noted that if 6.5% gross domestic product growth is to materialize this year, it should result in companies needing to borrow to meet inventory needs, increase hiring, and further invest in their business.

That said, it still doesn't seem like Bank of America -- or any bank, for that matter -- expects loan growth to explode as deposit growth has over the last year. Bank of America funneled about $174 billion of its excess liquidity into bonds and other securities. Banks would rather put their excess liquidity into loans, which pay better interest, but when they can't find loan growth or have a ton of excess liquidity like they do now, putting it into bonds helps banks eke out more interest income. Bank of America also put more than $100 billion of its excess liquidity into securities during the fourth quarter of 2020.

Now, the bank still has plenty of liquidity to support loan growth. Bank of America CFO Paul Donofrio said the bank still has $450 billion in liquidity sources to support loan growth, a massive amount. If all of that were used, the bank would grow its current total loan volume by more than 50%, which would be very solid growth years from now. But there are other considerations that banks take into account when making these decisions. For instance, what if customers draw down the massive buildup of deposits they currently have at the bank? What if loan growth explodes in 2022 or 2023? Banks are conservative, so it's safe to say that Bank of America doesn't feel like it will need the liquidity it invested into securities anytime soon.

Wait and see

I'd be lying if I said I didn't have some doubts about loan growth this year. The first three months of the year were more of the same as last year, and management didn't sound overly optimistic about huge loan growth this year. Another thing to consider is that every bank is dying to find loan growth, so if it finally does hit, competition could be fierce. When that happens, sometimes it can lead banks to offer better terms to borrowers in the form of lower interest rates to win deals. That also wouldn't be great in this already low-rate environment.

Still, I agree with Moynihan that if GDP is really expected to grow 6.5% this year, businesses have got to start borrowing, so it's really a wait-and-see game right now. But regardless, Bank of America is incredibly well positioned for when interest rates do pick up. Long-term, I still like the stock.

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