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Why Bank of America Is Down Despite Quadrupled Profit

By Alex Dumortier, CFA - Apr 17, 2013 at 10:15AM

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Sorting out short-term and long-term outlooks.

After posting solid gains yesterday, U.S. stocks are falling hard this morning, with the S&P 500 (^GSPC 1.86%) and the narrower, price-weighted Dow Jones Industrial Average (^DJI 1.98%) down 0.87% and 0.7%, respectively, at 10 a.m. EDT.

Bank of America still looks cheap
I've been a student of Finance and the financial markets for years, and yet I still fall into this trap. After reading the first part of the Reuters headline "Bank of America (BAC 5.94%) profits quadruple," I immediately checked the quote page and was briefly, almost instinctively, surprised to find that the shares were down in premarket trading. I shouldn't have been; as Howard Marks writes in the excellent book The Most Important Thing: "First level thinking says, 'I think the company's earnings will fall; sell.' Second-level thinking says, 'I think the company's earnings will fall less than people expect, and the pleasant surprise will lift the stock; buy.'"

In other words, expectations provide the context necessary to analyze results and their impact on the share price. And so it was that B of A's quarterly profit rose to $2.62 billion in the first quarter from $653 million in the prior year period, which worked out to $0.20 per share; alas, analysts were looking for $0.22. In addition, total adjusted revenue fell 4%.

It pays to remain focused on what matters relative to your investing style. Mimicking Marks' above distinction, I'd say a trader is concerned with the impact of quarterly earnings on the share price, whereas a long-term investor focuses on what earnings can tell us about a company's future earning power. In that regard, B of A's results look encouraging on a number of fronts: Brian Moynihan is doing a creditable job shrinking costs, and the provision for loan losses continues to decline, while capitalization ratios continue to improve.

Based on the newly released end-of-first-quarter balance sheet data, Bank of America shares are changing hands at roughly a 10% discount to their tangible book value this morning, and they still look like an attractive (i.e., underpriced) risk to me.

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Stocks Mentioned

Dow Jones Industrial Average (Price Return) Stock Quote
Dow Jones Industrial Average (Price Return)
^DJI
$31,880.24 (1.98%) $618.34
S&P 500 Index - Price Return (USD) Stock Quote
S&P 500 Index - Price Return (USD)
^GSPC
$3,973.75 (1.86%) $72.39
Bank of America Corporation Stock Quote
Bank of America Corporation
BAC
$35.87 (5.94%) $2.01

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

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