By Philip van Doorn, MarketWatch
J.P. Morgan Chase has a reputation as the “best in class” among the Big Four U.S. banks, but Bank of America might be a better investment if you hold the stock for the next few years, according to Edward Jones analyst James Shanahan.
In an interview Oct. 17, Shanahan pointed to Bank of America’s /zigman2/quotes/200894270/composite BAC -0.91% record $7.6 billion in share buybacks in the third quarter and massive investment in technology as catalysts for improving earnings performance and growing market share. (Buybacks lower the share count to boost earnings per share. They also reduce a bank’s excess capital, which boosts returns on equity.)
Shanahan said better technology will enable the four largest U.S. banks to continue taking market share from smaller competitors.
“The biggest banks are generating so much cash flow that they have the ability to make large and substantial investments in technology and leverage those investments into larger retail deposit footprints,” he said.
The Big Four are investing $10 billion to $12 billion a year in new technology, Shanahan estimated. This will “create a tech infrastructure smaller banks will not be able to compete with and will never catch up to,” he said.
Shanahan expects the Big Four to leverage their growing deposit relationships “across services as they take more share over time.”
A valuation play
At its current level of profitability, Bank of America’s shares should be trading higher, Shanahan argues. When discussing longer-term prospects, he said: "They are kind of catching up, but within a couple of years they should reach a level of profitability similar to J.P. Morgan Chase /zigman2/quotes/205971034/composite JPM -0.53% .”
That may seem a tall order. Let’s take a look at valuations for the Big Four, which also include Citigroup /zigman2/quotes/207741460/composite C -1.55% and Wells Fargo /zigman2/quotes/203790192/composite WFC -1.72% .
|Bank||Ticker||Closing price - Oct. 16||Tangible book value - Sept. 30||Consensus EPS estimate - next 12 months||Price/ tangible book value||Forward price/ earnings|
|Bank of America Corp.||/zigman2/quotes/200894270/composite BAC||$30.17||$19.26||$2.70||1.6||11.2|
|J.P. Morgan Chase & Co.||/zigman2/quotes/205971034/composite JPM||$119.68||$60.48||$10.13||2.0||11.8|
|Citigroup Inc.||/zigman2/quotes/207741460/composite C||$69.50||$69.03||$7.53||1.0||9.2|
|Wells Fargo & Co.||/zigman2/quotes/203790192/composite WFC||$49.59||$33.84||$4.63||1.5||10.7|
|Sources: FactSet, Edward Jones (tangible book values)|
So Bank of America trades higher than Citigroup /zigman2/quotes/207741460/composite C -1.55% and Wells Fargo /zigman2/quotes/203790192/composite WFC -1.72% , but significantly lower, by both measures, than J.P. Morgan.
When Shanahan spoke of “profitability,” he specifically meant return on tangible common equity (ROTCE), which he said is “the measure we pay most attention to.” For banks, the denominator of that ratio is total equity, less preferred equity, goodwill and intangible assets, including loan-servicing rights.
Here are estimated 2019 returns on tangible equity for the Big Four, based on actual results for the first three quarters and Edward Jones’ fourth-quarter estimates:
|Bank||Ticker||Estimated ROTCE - 2019|
|Bank of America Corp.||BAC||15.9%|
|J.P. Morgan Chase & Co.||JPM||19.1%|
|Wells Fargo & Co.||WFC||13.9%|
|Source: Edward Jones|
Bank of America’s estimated return on tangible equity still trails J.P. Morgan’s by a wide margin, but it is also significantly higher than the estimates for Citigroup and Wells Fargo.