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Why Bank of America Corp (BAC) Stock Is Headed Higher

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Shares of Bank of America Corp (NYSE:BAC) are following the broader market higher today on the heels of better-than-expected data out of the housing sector as well as a lower-than-expected core inflation figure for the month of May. Roughly halfway through the trading session, stock in the nation’s second largest bank by assets is up by $0.11, or 0.83%.

Bank of America Corp (NYSE:BAC)

The performance of bank shares today belies the fact that the industry is at a crossroads. With the Federal Reserve’s quarterly monetary policy meeting scheduled this week, many are speculating that the central bank will begin to taper its support for the economy over the next few months. This will most likely entail a reduction in open-market bond purchases — it’s currently buying $85 billion worth of federally insured securities a month — and a resulting increase in long-term interest rates. This is invariably good for banks, as it will lead to an expansion of net interest margins across the industry.

Yet, the expected move by the Fed is not without risk. The primary issue concerns what will happen to the housing market — and specifically, prices — when the Fed reduces its purchases of agency mortgage-backed securities. There’s little doubt that this will drive mortgage rates up, which it already has, as you can see in the chart below. But will this also drive the price of houses, and therefore the value of mortgage collateral, down? Or could it have the opposite effect by freeing up banks to make more purchase-money mortgages as opposed to refinance loans?

US 30 Year Mortgage Rate data by YCharts.

I personally think it will do the latter. Wells Fargo & Co (NYSE:WFC) serves as a particularly prescient example, here, because it underwrites roughly one in every three mortgages in the United States. For most of last year, more than 70% of its mortgage applications related to refinancing requests, leaving less than 30% related to purchase-money mortgages. In the most recent quarter, however, this mix shifted, as only 65% of mortgage applications related to refinancing. As the share of purchase-money mortgages increases — assuming, of course, that the total number of applications doesn’t markedly decline — the housing market should continue to gain momentum.

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