BAC-WT - Bank of America Warrants

[bennycx]

The current valuation doesn't really entice me anymore. While on a price to tangible book value BAC looks attractive, it rightly deserves a lower premium compared to WFC even in a normalised environment. Once I got out of thinking solely on P/B and thought about earnings and the banking business in general, I found better opportunities outside and sold it few months ago to concentrate on better ideas. I still believe BAC could be a good investment though.

 

I disagree with Bennycx.  BAC earns nearly the same ROTCE as WFC and JPM excluding the CRES division, based on Q3 numbers. 

 

Here is a link to something I just wrote on my blog.  I allow seeking alpha to pick up the content on my blog.   

 

http://seekingalpha.com/article/2811495-top-investments-for-2015-a-followup-bank-of-america-and-citigroup

 

Based on the these numbers yes I agree statistically it looks the same, but I was looking at it more from a lower funding costs, better efficiency and less derivative activity standpoint and that's why I need "more" margin of safety for BAC due to the fact that banking is a highly leveraged activity.

[kevin4u2]

The current valuation doesn't really entice me anymore. While on a price to tangible book value BAC looks attractive, it rightly deserves a lower premium compared to WFC even in a normalised environment. Once I got out of thinking solely on P/B and thought about earnings and the banking business in general, I found better opportunities outside and sold it few months ago to concentrate on better ideas. I still believe BAC could be a good investment though.

 

I disagree with Bennycx.  BAC earns nearly the same ROTCE as WFC and JPM excluding the CRES division, based on Q3 numbers. 

 

Here is a link to something I just wrote on my blog.  I allow seeking alpha to pick up the content on my blog.   

 

http://seekingalpha.com/article/2811495-top-investments-for-2015-a-followup-bank-of-america-and-citigroup

 

Based on the these numbers yes I agree statistically it looks the same, but I was looking at it more from a lower funding costs, better efficiency and less derivative activity standpoint and that's why I need "more" margin of safety for BAC due to the fact that banking is a highly leveraged activity.

 

That makes sense.

 

I recently examined the funding costs and if you add the low cost deposit base with their non interest bearing liabilities, WFC has 1.2 trillion in liabilities at 9 basis points (0.09%), and BAC has 1.3 trillion liabilities at 8 basis points (0.08%).  Those are both a license to print money. 

 

Overall, given the size of their respective balance sheets WFC has a better funding rate but BAC's will improve if they roll off some high interest debt.     

[rohitc99]

 

After some serious thought I am hedging my bets by buying more common stock and very slowly getting rid of my Leap positions.  I have had a significant change of mind in the past couple of weeks.

Hi uccmal

can you share what is the change in your thought process ?

 

I indicated this awhile back somewhere on here, even before my rethink.  I find that options work best when the stock can be reasonably expected (by me) to rise Quickly at some point. 

 

The major catalysts are gone.  All we can expect is steadily growing earnings and dividends from here.  Steady growth is not necessarily good for options where you need a quick return to make money. 

 

An example:

 

Today for 2017 x 17  cost 2.50. = 19.50 ignoring the carrying cost.  To break even on the Leap in two yrs requires the stock to be at $22.  To make 50 % in two years requires the stock to be 23.25. 

 

Can you reasonably predict that the stock will be at 23.25 in two years.  We could get a bear market mauling somewhere in there where every option you have goes to zero but the common is only down around $15.00 and the dividend is 0.60 per share. 

 

At a certain point the common becomes more desirable from a safety and return perspective.  I think we are near that point - maybe not exactly today but around $18.00 anyway.

 

We can be reasonably sure that BAC will get a dividend raise to 30 or 4o cents per year making the common all that more compelling.  I think in a few years Bac will reach 30 a share, but I cannot for the life of me predict when. 

 

I know this isn't exactly clear.  It is more an opinion drawn from experience.  Once you have had options go to zero a few times, you get to see decay in real time, and its not nice.

 

thanks for the explaination

[Sunrider]

Hi Al

 

By that logic, why did you choose common over the warrant (which provide some leverage). Currently at 13.26 or so strike to 2019 so an additional two years beyond the 2017s with a print at $6.30. So that makes it $19.56 or $21.66 switch over point as per the spreadsheet that circulated through this spread? The total of four years provides some protection against an interim bear dump.

 

I saw that Eric no found his "cost of leverage" calc for the warrants to put them back into more attractive territory (similar argument: way back when they were expensive compared to options if you assumed BAC would rise quickly during the option period, now one might not assume that and opt for the embedded protection .... of course another alternative is his common+put or the simple call with rolls strategy ... the latter two of course would require some assumption on roll prices to make it an apples to apples comparison).

 

Eric - I hope I am not misrepresenting you.

 

Views anyone?

 

Thanks - C.

 

 

After some serious thought I am hedging my bets by buying more common stock and very slowly getting rid of my Leap positions.  I have had a significant change of mind in the past couple of weeks.

Hi uccmal

can you share what is the change in your thought process ?

 

I indicated this awhile back somewhere on here, even before my rethink.  I find that options work best when the stock can be reasonably expected (by me) to rise Quickly at some point. 

 

The major catalysts are gone.  All we can expect is steadily growing earnings and dividends from here.  Steady growth is not necessarily good for options where you need a quick return to make money. 

 

An example:

 

Today for 2017 x 17  cost 2.50. = 19.50 ignoring the carrying cost.  To break even on the Leap in two yrs requires the stock to be at $22.  To make 50 % in two years requires the stock to be 23.25. 

 

Can you reasonably predict that the stock will be at 23.25 in two years.  We could get a bear market mauling somewhere in there where every option you have goes to zero but the common is only down around $15.00 and the dividend is 0.60 per share. 

 

At a certain point the common becomes more desirable from a safety and return perspective.  I think we are near that point - maybe not exactly today but around $18.00 anyway.

 

We can be reasonably sure that BAC will get a dividend raise to 30 or 4o cents per year making the common all that more compelling.  I think in a few years Bac will reach 30 a share, but I cannot for the life of me predict when. 

 

I know this isn't exactly clear.  It is more an opinion drawn from experience.  Once you have had options go to zero a few times, you get to see decay in real time, and its not nice.

[grasshopper]

 

The major catalysts are gone.  All we can expect is steadily growing earnings and dividends from here.  Steady growth is not necessarily good for options where you need a quick return to make money. 

 

 

Are the major catalysts really gone???

 

We have only JUST finished all the damn legal expenses. This will be the first year of (i really really hope) normalized earnings without massive legal settlements.

 

Short term rates are set to rise this year (although this was also assumed last year too)

 

Possible (but unlikely) spinoff of ML

 

None of these catalysts have really flowed down into the price yet. I think many people were expecting a huge pop when those settlements came, but they are more longer term catalysts that will shine through as the company stops having to adjust for these things in the upcoming year (one hopes)

 

The ML spinoff has been discussed on this board and by several analysts. Personally, I think its unlikely, but if it ever happens, it would unlock huge value that would certainly cause the price to pop as people try to grab a huge chunk of a post-spin ML.

 

I have no comment on the short term rate rise, but just note that the catalyst is still on the table....

 

As an aside....we talk about the effect of the longer dated treasury yields being so low and the consensus is that this is like Japan and there is nothing that the Fed can do about it...However, the Fed holds ALOT of long-dated treasuries right now as seen by their massive balance sheet. If they were able to push long term rates down with QE...why is the converse not true??? They could induce a rise in rates by selling off their treasuries to all the foreigners that are scrambling to buy Treasuries as a safe haven... In fact...thinking about it....that's a really clean way for the Fed to wind down its balance sheet without causing a massive shock to the system by itself....selling their treasuries to the safe haven buyers... wind down balance sheet, normalize long term rates....Obviously the would never tell the market this as it would just lead to front running....but if you were at the Fed, this just seems like a really clean out....something the japanese couldn't do but the US can because of the dollar's unique position....

 

Comments on this? both about the catalysts and the long-term rates theory...

 

 

 

 

 

[Andy Dufresne]

Al / grasshoper

 

One major catalyst I think you both did not mention is that presumably this year BAC will get CCAR authorization to increase its dividend and begin buying back shares. I'd guess qtr divi will go up to 10 or 12 cents with a smallish buy back but I think this will be a very positive signal.

 

With respect to interest rates / sale of ML / theories - sorry grasshoper, that's a 20 foot hurdle for me (and I suspect most everyone) - too many assumptions, too much macro. Give me Eric's 1 foot hurdle every time (or 3 inches, even better!)

 

I think the salient point is that BAC generates healthy cashflow from operations even with the current NIM spread, and these cashflows will likely increase if legal expenses should normalize. While NIM *may* contract I think they will have enough M&A activity to offset a lot of the lost revenue. While I agree legal expenses *should* normalize, remember that many BAC holders got burned over the past few years with more and more settlements, so we need to be careful.

 

The problem, as always, is valuation - JPM is trading around 15% higher on a P/B basis and WFC is ~60% higher on the same basis but I'm not smart enough to really tell you which is better; the fact is that WEB owns both BAC and WFC also doesn't - we need to make our own decisions here  :o. If we assume annual per share earnings normalize at USD 1.6 to 2 we are probably conservatively looking at shares worth from USD 16 to 24 (10 to 12x - JPM just reported FY2014 EPS of 5.29 on USD 58.84 closing price which gives it a current 11.1x). Given this, I'd say the common is reasonably priced at the moment but is not a screaming buy if you are looking for a "pop and dump" based on the earnings report. We will be wiser once we get some clearer guidance from BAC's management team about 2015.

 

If BAC goes below 15 and the 2017 strike 13 LEAPS go below USD 3.5 / strike 15 goes below 2.5 before spring I think you'd be getting a good deal - not too much long term downside with likely 60-80 cents of dividends by the end of 2016 and good upside. The LEAPS are just for spicing up the returns but leverage comes at a heavy price (wipe out!), but that's just my opinion  ;D

 

[orthopa]

Warrants trading down 10% on the open, got some more today...

[ERICOPOLY]

I saw that Eric no found his "cost of leverage" calc for the warrants to put them back into more attractive territory (similar argument: way back when they were expensive compared to options if you assumed BAC would rise quickly during the option period, now one might not assume that and opt for the embedded protection .... of course another alternative is his common+put or the simple call with rolls strategy ... the latter two of course would require some assumption on roll prices to make it an apples to apples comparison).

 

Eric - I hope I am not misrepresenting you.

 

I like the warrants for two reasons. 

1.  The cost of leverage isn't all that high

2.  The value of the embedded put would increase if the stock pulled back towards strike.  This would help soften the blow.

 

The problem two years ago wasn't just the high cost of leverage, it was also the expectation that the value of the embedded put would be decimated if the uncertainty was lifted and the stock rallied.  That decimation caused (at one point today) all of the gains of the last two years to be wiped out.  It traded down to $5.64 today which is the level of March 2013 when the stock was at $12.

 

[Viking]

BAC and the rest of the banks are certainly getting the beat down right now. Good. Nice opportunity to buy for those looking out one or two years. Litigation expenses will likely remain elevated but the worst is clearly behind us. The runoff mortgage portfolio will also continue to shrink and expenses will continue to come down. Earnings and earnings per share will grow nicely.

 

I think the catalyst that many are missing is the growing free cash flow the banks will generate. This means over the next few years dividends will be going up and stock buybacks will get larger; my guess is we will get 5 to 7% total return of capital for investors (sum of dividend and share buybacks).

 

Sentiment is very negative on financials today. Reminds me of pharma a couple of years ago or Apple two years ago. Over the next couple of years for the large US banks we should see rising earnings, much lower share count and higher PE multiple assigned by the market. When this happens you can get very large returns (60-80%) over a 18-24 month period. US banks are looking more and more like utility stocks; highly regulated, large moats and very profitable (growing modestly). Hopefully BAC continues to fall as I would love to get more aggressive with my position and then take the next two or three years off while the bank continues to improve its business and Mr Market decides they love bank stocks once again.

[grasshopper]

Just to keep the drop in the warrant price in perspective.

 

Let's not forget there aren't that many warrants out there as there are BAC common, so huge price swings will result from small amounts of volume.

 

If you believe that BAC will trade up to around BV in 2019....basically the warrants are below their IV right now (20-13 =7) assuming 0% BV growth in 4 years.... Whether or not they are the optimal vehicle for optimal leverage can be argued in the other thread...but warrants still look good.

 

I'm not sure why there is always this "fear in the bones" sentiment on this thread that recurs repeatedly over and over the several hundred pages of this thread, considering this is a value thread. Personally, I think BAC is the perfect value stock that illustrates how a stock can climb a wall of worry. I mean, we can look back at the start of every year of this thread and see some reason for BAC to be in trouble from legal issues, europe, CCAR, etc, etc, etc. And now we have more bank-breakup and /or oil price volatility stuff in the news that is really just noise.

 

The main points of investing in BAC haven't changed a bit from when this thread has started, only the optimal way to execute it. Personally, I feel that 2015 might finally be that clean year of "normalized" earnings we've all been waiting oh-so-long for (sans interest rates). I have no clue why there is so much negative sentiment right now. Insane Mr. Market yet again.

[innerscorecard]

Just to keep the drop in the warrant price in perspective.

 

Let's not forget there aren't that many warrants out there as there are BAC common, so huge price swings will result from small amounts of volume.

 

If you believe that BAC will trade up to around BV in 2019....basically the warrants are below their IV right now (20-13 =7) assuming 0% BV growth in 4 years.... Whether or not they are the optimal vehicle for optimal leverage can be argued in the other thread...but warrants still look good.

 

I'm not sure why there is always this "fear in the bones" sentiment on this thread that recurs repeatedly over and over the several hundred pages of this thread, considering this is a value thread. Personally, I think BAC is the perfect value stock that illustrates how a stock can climb a wall of worry. I mean, we can look back at the start of every year of this thread and see some reason for BAC to be in trouble from legal issues, europe, CCAR, etc, etc, etc. And now we have more bank-breakup and /or oil price volatility stuff in the news that is really just noise.

 

The main points of investing in BAC haven't changed a bit from when this thread has started, only the optimal way to execute it. Personally, I feel that 2015 might finally be that clean year of "normalized" earnings we've all been waiting oh-so-long for (sans interest rates). I have no clue why there is so much negative sentiment right now. Insane Mr. Market yet again.

 

Reading this thread as well as the other one, I see that over and over again, people find more reason to be bullish on BAC after the price rises for a little while (and adjust ever highwards their own "price targets" at which they'll begin to finally trim back their positions). Conversely, after a period of negativity in the market, when the price declines, people seem to come up with more reasons that BAC is a bad investment. An important corollary with the pricing of the warrants in particular is that when the price action seems very encouraging, people find reasons to justify a higher "cost of leverage" per year with the warrants, while when the price action seems discouraging, even a lower "cost of leverage" doesn't seem justified due to the uncertainty of having the price ever reach what will be the stock's intrinsic value.

[ni-co]

I'm not sure why there is always this "fear in the bones" sentiment on this thread that recurs repeatedly over and over the several hundred pages of this thread, considering this is a value thread. Personally, I think BAC is the perfect value stock that illustrates how a stock can climb a wall of worry. I mean, we can look back at the start of every year of this thread and see some reason for BAC to be in trouble from legal issues, europe, CCAR, etc, etc, etc. And now we have more bank-breakup and /or oil price volatility stuff in the news that is really just noise.

 

I think the fearful sentiment refers to the market as a whole and the bullishness to the relative value of BAC. I don't sense any fear with regard of the IV of BAC's business. At least, that's how I feel and why I hedged my BAC warrants. I'm sill counting on the outperformance of BAC vs. the S&P 500. The issue is that any bank's fortune is so intricately woven into the wellbeing of the US economy as a whole that even if you buy it at a discount you may end up losing money. I think that's where the fear part creeps in.

[Rabbitisrich]

Pretty ugly quarter, as if management really is relying upon higher interest rates. Weak revenue to tangible assets, weak PTPP to revenue, shrinking loan books, stagnant core loan books, "record" global liquidity. It would have been an unimpressive showing with normalized global banking revenues and ignoring valuation adjustments.

[no_free_lunch]

It said in the most recent quarterly results that legal expenses were only $400M.  Given that they will never go to 0, can we still rely on legal dropping off to pull-up earnings?  I get the logic that most other banks have higher ROE levels than BAC and so on, but beyond that basic logic I don't see where the earnings improvements comes from specifically.

[ERICOPOLY]

Come on guys, they are trading at a high multiple to earnings, which is what you all wanted. 

[Uccmal]

Hi Al

 

By that logic, why did you choose common over the warrant (which provide some leverage). Currently at 13.26 or so strike to 2019 so an additional two years beyond the 2017s with a print at $6.30. So that makes it $19.56 or $21.66 switch over point as per the spreadsheet that circulated through this spread? The total of four years provides some protection against an interim bear dump.

 

I saw that Eric no found his "cost of leverage" calc for the warrants to put them back into more attractive territory (similar argument: way back when they were expensive compared to options if you assumed BAC would rise quickly during the option period, now one might not assume that and opt for the embedded protection .... of course another alternative is his common+put or the simple call with rolls strategy ... the latter two of course would require some assumption on roll prices to make it an apples to apples comparison).

 

Eric - I hope I am not misrepresenting you.

 

Views anyone?

 

Thanks - C.

 

 

Common versus warrants: simply put: I want the dividends.  I figure 0.40 cents per share this year, and 0.50 next is probable.  I am now in a tax situation where I will pay almost no tax on dividends.  The warrants have been a really crappy investment all the way along.  I think they will do well in the end game but I am not willing to wait. 

 

How is everyones stomach on Options this week? 

 

These earnings were sort of mediocre.  There is obviously still work to do.  I think the improvements will be gradual from here.  The legal costs are probably close to a run rate.  The CRES losses are coming down.  FWIW, I think BM and company are doing this correctly.  Fix the legacy issues first, then focus on underwriting more.  There are only so many employees who can be re-cultured at any given point in time.

 

Strangely, what they really need to do is lend more but I am content for them to hold out for higher FICOs than the lower end mortgage companies, unless they can get a full indemnification from the Feds that is legally unchallengeable (if that is possible). 

 

How is everyones stomach on Options this week? 

[meiroy]

Bought some 2017 LEAPS today and even JPM 2017 LEAPs which I haven't had for quite awhile.

 

My stomach is fine, it's another wall of worry that we shall pass.

 

[Uccmal]

Bought some 2017 LEAPS today and even JPM 2017 LEAPs which I haven't had for quite awhile.

 

My stomach is fine, it's another wall of worry that we shall pass.

 

 

Good attitude.  I am not buying any options but this week I have bought substantial JPM, WFC, and now BAC common. 

[pabraifan]

 

After some serious thought I am hedging my bets by buying more common stock and very slowly getting rid of my Leap positions.  I have had a significant change of mind in the past couple of weeks.

Hi uccmal

can you share what is the change in your thought process ?

 

I indicated this awhile back somewhere on here, even before my rethink.  I find that options work best when the stock can be reasonably expected (by me) to rise Quickly at some point. 

 

The major catalysts are gone.  All we can expect is steadily growing earnings and dividends from here.  Steady growth is not necessarily good for options where you need a quick return to make money. 

 

An example:

 

Today for 2017 x 17  cost 2.50. = 19.50 ignoring the carrying cost.  To break even on the Leap in two yrs requires the stock to be at $22.  To make 50 % in two years requires the stock to be 23.25. 

 

Can you reasonably predict that the stock will be at 23.25 in two years.  We could get a bear market mauling somewhere in there where every option you have goes to zero but the common is only down around $15.00 and the dividend is 0.60 per share. 

 

At a certain point the common becomes more desirable from a safety and return perspective.  I think we are near that point - maybe not exactly today but around $18.00 anyway.

 

We can be reasonably sure that BAC will get a dividend raise to 30 or 4o cents per year making the common all that more compelling.  I think in a few years Bac will reach 30 a share, but I cannot for the life of me predict when. 

 

I know this isn't exactly clear.  It is more an opinion drawn from experience.  Once you have had options go to zero a few times, you get to see decay in real time, and its not nice.

 

Uccmal,

If strike price is $17.00 and premium is $2.50, is the Breakeven point $19.50? How is your breakeven price $22.00? Am I missing something?

Thanks in advance for any explanations

[ERICOPOLY]

And today the premium in the warrant is rising -- it's having a better day than the common!  Or it was temporarily at least.  Put it this way, it's not taking the hit that is "warranted".

 

The warrant is about 2.7x leverage!  It's down 4.36% versus 4.1% for the common.

 

It would be down 11% if accounting for the leverage and without the embedded put.

 

[Picasso]

You ignore the fact that it was levered more than 2.7x on the downside on previous down days. 

[Uccmal]

 

After some serious thought I am hedging my bets by buying more common stock and very slowly getting rid of my Leap positions.  I have had a significant change of mind in the past couple of weeks.

Hi uccmal

can you share what is the change in your thought process ?

 

I indicated this awhile back somewhere on here, even before my rethink.  I find that options work best when the stock can be reasonably expected (by me) to rise Quickly at some point. 

 

The major catalysts are gone.  All we can expect is steadily growing earnings and dividends from here.  Steady growth is not necessarily good for options where you need a quick return to make money. 

 

An example:

 

Today for 2017 x 17  cost 2.50. = 19.50 ignoring the carrying cost.  To break even on the Leap in two yrs requires the stock to be at $22.  To make 50 % in two years requires the stock to be 23.25. 

 

Can you reasonably predict that the stock will be at 23.25 in two years.  We could get a bear market mauling somewhere in there where every option you have goes to zero but the common is only down around $15.00 and the dividend is 0.60 per share. 

 

At a certain point the common becomes more desirable from a safety and return perspective.  I think we are near that point - maybe not exactly today but around $18.00 anyway.

 

We can be reasonably sure that BAC will get a dividend raise to 30 or 4o cents per year making the common all that more compelling.  I think in a few years Bac will reach 30 a share, but I cannot for the life of me predict when. 

 

I know this isn't exactly clear.  It is more an opinion drawn from experience.  Once you have had options go to zero a few times, you get to see decay in real time, and its not nice.

 

Uccmal,

If strike price is $17.00 and premium is $2.50, is the Breakeven point $19.50? How is your breakeven price $22.00? Am I missing something?

Thanks in advance for any explanations

 

No, I goofed it up again.  I am going to stop working out my math on the message board, especially when I am doing 3 other things at the same time.  In January 2017 you would be able to sell your option for the full 2.50 (break even) or exercise it and extract the original cost.  If BAC reached 22.00 you would double your money, ignoring the carrying costs.  Thanks for pointing out the mistake.

 

Part of my problem is that I buy Leaps only when the above math is not particularly relevant.  By that, I mean the Leap purchase plus the common added together should be well below my projected stock price estimate, which is in itself conservative.  If we get there quickly I sell a chunk rather than hold to the bitter end.  Options are volatile. 

 

[ERICOPOLY]

You ignore the fact that it was levered more than 2.7x on the downside on previous down days.

 

I got it for $6.90 on Dec 18th.  Common was at $17.53. 

 

Common has declined 12.2%

Warrant has declined 17.4%

 

Warrant was leveraged 2.54x at the time, yet loss was only amplified by 1.42x.  The "brake" is the rising put premium in the warrant.  This brake becomes more effective as we get closer and closer to strike.

 

 

 

[finetrader]

Would have been good to sell BAC at 18$. I wish I did..

[Liberty]

I'm still finding new ways that I was lucky last year. I sold my BAC warrants, some above $8, most in the $7+ range, to redeploy the capital in something else that I thought was a better idea. Never thought I'd see the warrants back in the mid $5 range...