Warren Buffett has always looked for high-quality stocks. However, the Oracle of Omaha knows that the price performance of a given stock doesn’t necessarily correlate with its quality.
Bank of America (BAC) serves as a great example. Its shares have fallen nearly 20% year to date and are around 25% below the previous high. But Buffett-led Berkshire Hathaway (BRK.A) (BRK.B) owns over $28 billion of this beaten-down stock. Here’s why BofA is a no-brainer buy right now.
Behind Bank of America’s beat-down
The primary culprit behind Bank of America’s dismal stock performance so far in 2023 is the banking crisis that erupted earlier this year. Three regional banks failed, sparking concerns about the broader banking industry. In August, credit rating agencies downgraded the long-term credit ratings of several banks, including some relatively large banks.
Partly as a result of the banking crisis, fears of a looming U.S. recession soared. Investors worried that this could lead to lower demand for loans and an increase in loan defaults, both of which would be bad for Bank of America.
At the same time, interest rates continued to climb to the highest levels in years. This was a double-edged sword for BofA. The big bank’s income from interest on loans rose. However, the high interest rates (combined with the high inflation that precipitated the rate hikes) dampened consumer borrowing and spending.
What Buffett likes about the bank stock
Bank of America already ranked as Berkshire’s second-largest holding before the banking crisis began. What was Buffett’s response? He scooped up more shares of BofA in the first quarter of 2023.
Buffett likes several things about Bank of America. He’s been a longtime fan of bank stocks because of their business models. The legendary investor knows that people and businesses will always need safe places to park their cash. And he knows that they’ll always need access to additional capital.
Bank of America stands out above most bank stocks, though, in part because of its diversified business. The company has four business segments — consumer banking, global wealth and investment management, global banking, and global markets — that allow it to participate in all areas of the banking industry. It also boasts an exceptionally strong financial position.
Although Berkshire Hathaway doesn’t pay a dividend itself, Buffett likes to receive steady income from his investments. Bank of America has steadily increased its dividend over the last 10 years and currently offers a juicy yield of over 3.5%.
Buffett also remains a value investor at heart. BofA’s shares trade at a forward earnings multiple of only 8.2 times.
Why Bank of America stock is a no-brainer buy
All these reasons that Buffett likes Bank of America help make the stock a no-brainer buy. There are also two other factors that work in its favor.
First, the current headwinds holding the stock down won’t last forever. Bank of America is too strong to be a victim of the banking crisis. CEO Brian Moynihan said in the company’s third-quarter earnings call that its economists predict “a soft landing” for the U.S. economy “with a trough in the middle of next year.” He also stated that BofA’s expense will likely only increase by 1% year over year in the fourth quarter, setting up the big bank “nicely for next year.”
Second, Bank of America continues to out-innovate the rest of the industry. The company’s digital adoption continues to grow. Moynihan said in the Q3 call that BofA “lead[s] the industry in digital banking” — and he was right. This technological advantage should translate into greater efficiency, higher profits, and more customers over the long term.
I predict that Bank of America will remain a top position in Berkshire Hathaway’s portfolio for years to come. However, I don’t think that it will be a beaten-down stock for too much longer.
— Keith Speights
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Source: The Motley Fool