Main Street banking is set to grow at its fastest rate since the 1980s, when Madonna and Michael Jackson ruled MTV, Ronald Reagan was president, and everyone sported long hair and donned neon. And the largest winner will be Bank of America (BAC).
According to Wells Fargo analyst Mike Mayo, traditional banking income will expand in the same way it did in the 1980s, resulting in a boom for the industry in the next three years, as he told Editorials99 Finance Live on Thursday. Furthermore, according to Mayo, BofA stands to benefit the most, as the bank is expected to benefit even more from the Federal Reserve’s interest rate hike.
“The business model that Bank of America has put in place over the previous decade now bears more fruit than you’ve seen at any period under [CEO] Brian Moynihan,” Mayo said, citing the company’s recent growth in deposits as well as its focus on financial technology as reasons for its success. “Now they can put that money to good use.”
Net interest income, or traditional banking revenue, increased in Main Street banking during the 1980s.
“We believe Bank of America and the industry as a whole will experience the best increase in that category [conventional banking revenue] in over three decades,” Mayo added. “And it’s even more in place after the Fed’s announcement yesterday that they’ll increase the number of rate hikes from six to eleven by the end of next year.”
UKRAINE – 2021/04/07: In this photo illustration, the Bank of America Corp. logo is visible on a smartphone with Bank of America Corp. stock market information in the backdrop. (Image courtesy of Igor Golovniov/SOPA Images/LightRocket via Getty Images.)
The Federal Reserve announced Wednesday that it will raise its benchmark Federal Funds Rate by 0.25 percent, to a target range of 0.25 percent to 0.50 percent, at the conclusion of its two-day policy-setting meeting. The median member of the Federal Open Market Committee expects up to six more rate hikes in 2022, bringing rates 1.75 percent higher at the end of this year, according to the Fed’s updated Summary of Economic Projections, or “dot plot,” which reflects individual economic projections of policymakers on the Federal Open Market Committee.
Prior to the change, the benchmark interest rate had been kept near zero since mid-2020 as part of the Fed’s loose money measures, which were designed to keep financial conditions stable during the pandemic.
Mayo said in a recent note to clients that Bank of America has already front-loaded expenditures to raise main checking accounts and deposit growth to levels that considerably outperformed the rest of the sector, putting it in a good position to leverage those efforts. Higher interest rates benefit BofA more than its peers because of the bank’s $2 trillion in “mostly sticky” low-cost deposits, which can be used to fund higher-yielding securities and loans, boosting net interest income (the bank’s earnings from lending activities plus interest paid to depositors) and net interest margins (calculated by dividing net interest income by the average income earned from interest-producing assets.)
According to Wells Fargo, the bank has $1 trillion in low-cost retail deposits that are generally price-insensitive (for the first four to five rate increases) and are funding $600 million in floating rate loans. Despite the fact that the remaining $1 trillion is more price sensitive, the sensitivity is insufficient to push deposit betas, a measure of how responsive a bank’s deposit repricing is to a change in market rates in the near future.
According to Mayo, BoA’s position as one of the “biggest fintech players on the planet” during a period of technological upheaval in the industry also contributes to its upside potential.
“There are cyclical elements such as more Fed rate hikes at a time when loans are expanding, which helps net interest income.” Simultaneously, the bank’s technological revolution permits more of those revenues to fall to the bottom line,” he added.