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The Case for Banks

Written by Briton Ryle
Posted February 12, 2018 at 9:30PM

When I took over as editor for The Wealth Advisory, there were two stocks I immediately told subscribers to buy: Starbucks (NASDAQ: SBUX) at $22.85, and Bank of America (NYSE: BAC) at $9.10. 

The rationale for investing in these two companies is probably pretty obvious at this point. But back in 2012? People did NOT want to hear that banks were a good place to put their money.

Never mind that tier 1 capital (not deposits, but the banks' money that backs lending) was on the rise. Who cares if streamlining operations would increase profits by +20%? The CEO was probably lying when he said he was committed to returning shareholder value through aggressive share buybacks and dividend hikes.

For most investors, banks were synonymous with "financial crisis." And even three full years after the S&P 500 bottomed, many believed banks were permanently broken.

To be fair, many banks were still very much in the process of cleaning up the mess they made. Between 2008 and 2010, Bank of America wrote off about $60 billion in credit card debt gone bad. And it would go on to pay around $90 billion in fines and settlements, culminating with that record $16.6 billion settlement with the Department of Justice in 2014.

Yeah, easy to see why investors weren't so keen on the future of banks. And it's exactly that type of shortsightedness that keeps many investors from making 244% on their money. Very few people could imagine a better future for Bank of America. I couldn't imagine a scenario where it didn't get better...

I'm sure that in early 2012, it might've seemed like a better plan to buy a "safe" stock like Apple that wasn't fighting a war on two fronts. Apple was around $77 when I first started recommending Bank of America. I find it difficult to imagine how it could have gone any better for Apple. Execution has been virtually flawless. And your reward for catching one of the most remarkable runs in corporate history? About 109%...

It feels weird to say that Bank of America has been a better investment than Apple, but it has. And it's about to get even better...

Government Sachs

With every new presidential election come new promises to clean up Washington, to "drain the swamp." By now we should be well aware that these are hollow promises. Government only gets bigger. The revolving door just turns faster and faster, dumping more and more Wall Street-connected investment bankers in top posts.

It's nothing new to have a former Goldman Sachs guy as Treasury Secretary. It's Mnuchin now, but we've also had Robert Rubin and Hank Paulson. No wonder we have phrases like "Government Sachs."

We currently have several people in charge of bank regulations who have ties to the banking sector. Jelena McWilliams has been nominated to run the Federal Deposit Insurance Corp. She is currently the chief legal officer of Fifth Third Bancorp (NASDAQ: FITB) in Cincinnati. Randal Quarles is the Federal Reserve’s vice chairman in charge of bank supervision. He's a banking attorney and former partner at The Carlyle Group.

I'm not complaining about this. Seems to me you should have some experienced business people in government (though why it's always bankers is, um, interesting).

Right now, Quarles is one to pay attention to. As vice chairman in charge of bank supervision, he's the top dog for regulating America's biggest banks. And he's about to dismantle parts of the Dodd-Frank bank regulation bill that was intended to keep failure from being an option for our too-big-to-fail institutions.

Dodd-Frank imposed a bunch of new rules that were designed to make banks less risky, more stable businesses. For one, it demanded that banks have more cash on hand to back their loan portfolio. Another was the ban on proprietary trading, known as the Volcker Rule, after former Fed chair Paul Volcker.

Quarles is reportedly in the process of changing both of these rules, according to Bloomberg. And the changes aren't going through Congress. They won't be voted on or be reported on in the nightly news. These changes can be affected within the regulatory agencies. Bloomberg also states that the requirements for the annual banking stress tests are about to ease.

This is the way it always works. In bad times, you say "never again" and pass laws and rules to prohibit the bad behavior that brought on the fall. Then, as things get better, rules get relaxed and laws get changed. 

We know full well that Ayn Rand's concept of enlightened self-interest is crock. Corporations will absolutely push for rules to be relaxed so they can have a few years of outstanding growth, all the while setting the stage for a meltdown a few years down the road.

Hooo boy, but what a great few years that will be!

Off to the Races

The Glass-Steagall Act of 1933 was passed in, well, 1933, right after the Crash of ’29. It was designed to separate commercial and investment banking (much like Dodd-Frank). 

Starting in the 1960s, regulators started chipping away at the restrictions until the law was formally reversed in 1999, as the internet bubble was raging and people were seriously considering that it might actually be different this time.

Not only did the dot-com bubble pop, but the housing bubble — greatly aided by the repeal of Glass-Steagall — popped, too...

But wow, what a run for the banks!

I'm not going to tell you that easing Dodd-Frank will necessarily be a terrible move that will end in another burst bubble. But I am realistic about how the boom-bust cycle works. Easing restrictions is a start. You'll know it's really a boom time when the "it's different this time" comments start hitting.

Hooo boy, what a great few years that will be for Bank of America.

Until next time,

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Briton Ryle

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An 18-year veteran of the newsletter business, Briton Ryle is the editor of The Wealth Advisory income stock newsletter, with a focus on top-quality dividend growth stocks and REITs. Briton also manages the Real Income Trader advisory service, where his readers take regular cash payouts using a low-risk covered call option strategy. He also contributes a weekly column to the Wealth Daily e-letter. To learn more about Briton, click here.

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