I’ve been a big fan of bank stocks for years. This is mainly due to their humble valuations. All the major ones are of great quality yet have been cheap for far too long. By saying that, a reader would presume that I am writing positively about the upside opportunity in Bank of America (NYSE:BAC) stock. They would be wrong. I do like the BAC stock upside potential but from lower levels.
Even though I am a long time fan of them, I have mostly shorted spikes in bank stocks lately. I’ve successfully picked at Goldman Sachs (NYSE:GS) stock the hardest because of its chart make up. I would do it again if they rally into the earnings.
Bank stocks stumbled coming into 2021. Then they rallied extremely hard from February to June. BAC stock added 47% off a triple bottom. It still came up 20% short of its all-time highs from 2006. Even though it has given back almost 10%, I still think the 2021 top is in.
U.S. Banks Are Fortresses
Technically, I contend that there is more downside risk than upside opportunity. Investors are likely to have the opportunity to buy BAC much lower later this year.
My reason has nothing to do with their operational success. These giant money centers are bulletproof businesses. I have the same opinion spanning across the whole gamete including the great JP Morgan (NYSE:JPM). In addition to my technical bearishness, I fear that expectations are too high. The financial results don’t match the investor exuberance. The rally went too far without proper concrete evidence.
Recently, they all passed the Federal Reserve stress tests. As a result, they became free to unlock cash reserve levels from the pandemic. All banks announced increases in dividends, but none did incremental buybacks. That’s probably because of the record reverse repo operation that the Fed ran. It most likely sucked a ton of cash out of the system already. The gravy train might be over for a while. I will call this a QT not QT, which is the opposite of “QE not QE” of 2020.
This is wonky Wall Street gibberish to say the rally didn’t look like a bank rally. These are not tech stocks with explosive growth. Therefore, the upside potential is likely too narrow versus the downside risk. Furthermore, most of the tailwind came from the rally in yields. It fueled a meme on Wall Street to chase banks. In reality, higher yields are not necessarily good for banks.
Expectations for BAC Stock
Don’t take my word for it, check their scorecards. The BAC income statement has shown no progress in the last four years. Yet statistically, their price-to-book is 25% more expensive than the 4-year average. At the very least that’s the sign to avoid chasing the meme.
Banks will be going into another round of earnings soon. And the last four delivered disappointments for those who chased them. If they rally into the events, I would expect they fade again.
The good news for BAC stock is that it has support at $39 per share. The bounce could be easy but the follow through after that won’t. This is important because if it fades, there could be more bad news to come. If the June 18 bottom fails, it could trigger a bearish trade. It would then be in danger of losing another 9% from there. This is not my forecast, but it is a real scenario that exists.
The macroeconomic conditions are now more confusing than ever, so there are no real experts. The world is coming out of a global shutdown. Governments are spending insane amounts of money to relight the economic fire. In the U.S. they arguably did too much. The Fed has gone overboard to make sure that the system is flush with cash. And the White House added $5 trillion to it, with one more round to come. I truly lost count of exactly what is the current tally for the stimulus total. It’s yuge.
Potentially Bearish Outside Factors
Consequently, the stock market has had the biggest tailwind of all time. What could hurt the bulls going forward is that it’s abating. We know for a fact that the Fed’s next move is tapering and/or tightening. They’ve done their maximum so far, thus what’s going to come is definitely less. The White House is still bickering over what to pass next. It has been two weeks since the president said that “We have a deal” and we don’t. They are back to playing political football with line items on the bill.
Everything is going the stock market’s way. These ideal conditions will absolutely change. Inflation is here and it’s not transitory. I doubt that the equities can continue to run into the coming headwinds. Bank of America stock is of the highest quality. I would pounce on dips when the markets stumble. I would avoid chasing overzealous buyers even at the risk of missing some upside.
The important part for the next few weeks is to track who controls the BAC stock price action. Machines are dictating the pace and they are predictable. Currently, there are sellers near $42 per share. There are buyers near $39. The price action will ping-pong inside of the range until one of the edges gives way. Then there will be a momentum trade to chase in that direction. My bet is it would be downward more likely than upward.
On the date of publication, Nicolas Chahine did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
Nicolas Chahine is the managing director of SellSpreads.com.