Will Rising Interest Rates Hurt Bank of America
There’s a big threat to both the housing bubble and Bank of America’s (NYSE: BAC) booming mortgage business. Rising interest rates are starting to put a damper on home buying.
The volume of new mortgage applications fell by 9.4% and the rate of applications for refinancing fell by 16% during the week that ended on November 25, the Mortgage Bankers Association reported via USA Today. The interest rate for a 30 year fixed mortgage rose to 4.13% on November 30, up from 3.54% on September 28, Bankrate reported.
News articles indicate that the rate increase caught many buyers, investors and realtors by surprise. Most experts blame the havoc in the bond market created by Donald Trump’s unexpected presidential election win and Prime Minister Modi’s demonetization policies in India for the rising interest rates.
Another cause is inflation;the rate of inflation in all developing economics rose for the third straight month in October, the Organization for Cooperation and Development reported. US prices rose by 1.6% in October and 1.5% in September.
A wild-card driving both inflation and interest rates is the strong US dollar. The greenback has risen to new highs against some foreign currencies including the Chinese Yuan and the Indian Rupee.
Will Interest Rates Throttle B of A’s Mortgage Business
Bank of America enjoyed some modest revenue growth in third quarter 2016, thanks to a substantial increase in mortgage production. Total mortgage production at the bank rose by 21% in the third quarter reaching $20.4 billion, DNS news reported.
This caused revenues to rise from a low of $80.67 billion in June 2016, to $81.21 billion in September 2016, ycharts data indicates. That made for an increase of $640 million in three months.
During the same period B of A experienced modest income growth as well. The net income rose from $14.87 billion at the end of second quarter to $15.2 billion at the end of third quarter.
Those numbers might indicate a turnaround but if that upswing is the result of mortgage growth. Interest rate increases might put the brakes on it, particularly if uncertainty created by election dampens consumer confidence.
Is Bank of America’s Mortgage Business Sustainable
A related problem is skyrocketing home prices that are scaring off many potential. The average selling price for a home in the United States was $184,800 in September which surpassed peak of $184,620 hit in July 2006 right before the Great Housing Bubble burst. The combination of higher interest rates and high prices might burst the housing bubble.
This will put more properties on the market as many homeowners move to cash out. That might increase housing stock and drive down real estate costs, whether that would drive more home sales right is unclear.
The greatest threat to Bank of America’s mortgage business is falling home-ownership rates. The percentage of Americans that own a home has fallen to 62.9% the lowest level in 50 years The Washington Post reported. The rate among Millennials (those under 35) is far lower only 34.1%.
That means the future customers for mortgages might not be there. Around 93% of Millennials say they will buy a home someday, Fannie Mae’s National Housing survey indicates. Unfortunately for Bank of American someday is not today.
Economic woes including low wages, student loan debt and underemployment are making it hard for Millennials to save up enough to buy a house. Given growing technological underemployment and income inequality those conditions are not going to change any time soon and might grow worse because of inflation.
This means mortgages will not be the cash cow for Bank of America in the future that they are today. The bank will need to find new streams of revenue to replace them.
Bank of America is a Good Investment
Despite all that BAC is a good investment because of its low share price ($22.85) on December 12, 2016) and vast resources.
Those resources included $2.195 trillion in assets and $151.94 billion in cash and short-term investments on September 30, 2016. That gave the bank a lot of float and the ability to generate $24.01 billion cash from financing and $31.68 billion in cash from operations during the third quarter.
These resources will Bank of America to survive and thrive without its mortgage business. There are some areas of growth the bank can tap including global banking which generated 31.3% of its income during third quarter 2016. Consumer banking; which includes mortgages, generated 36.6% of the business, Seeking Alpha contributor Simply Safe Dividends pointed out.
There are some opportunities for growth in consumer banking including app based payments. Some areas that might grow in coming years include credit cards and auto loans.
Increased interest rates might drive business in some other sectors including global markets by stimulating demand for treasury bonds in the global market sector that accounted for 21.7% of Bank of America’s revenues during third quarter. A segment of BoA’s business that might benefit from Republicans’ plans to lower taxes is Global Wealth & Investment Management because lower income taxes might lure money into the US.
Bank of America’s Growing Dividend is Very Safe
That growth makes Bank of America’s growing dividend fairly safe. BOA investors received a dividend of 7.5¢ on November 30, up from 5¢ in 2015 and 1¢ in 2014. That’s right BOA’s dividend is more than seven times larger than it was just two years ago.
The dividend and growing share prices make BAC a growth stock. Bank of America’s share price has grown by $10 since February 12, 2016, rising from $11.95 to $22.85 a share on December 12, 2016.
If you’re looking for a financial stock that’s going to grow and pay a nice dividend BOA is it. Despite the weakness in the mortgage business, this monster bank is poised growth.
Disclosure: your friendly neighborhood blogger and stock pundit, who wrote this piece, owns a few shares of BAC.