Motley Fool :Banking toward profits

It’s not a popular time to be buying bank stocks, with a pandemic going on. But it’s also a perfect time to do so because prices are low. Shares of Bank of America (NYSE: BAC) were recently down 19% from their 52-week high, as low interest rates and a poor economic outlook are keeping investors away. So Bank of America has recently been trading at a forward-looking price-to-earnings (P/E) ratio of just 11 – below its book value. Investors who buy at such a level can get a lot of bang for their buck. Plus, while waiting for the stock to recover, they can collect a growing dividend that recently yielded 2.5%.

Aside from pandemic-related issues, Bank of America has been doing very well in recent years. It has emerged as a leader in mobile and online banking functionality, and that has helped improve its profitability.

Once COVID case numbers start falling, which should happen once vaccines are widely distributed, some bullishness will return to the economy; interest rates are likely to rise and unemployment rates to fall. All these factors could benefit financial stocks.

Bank of America is a solid and well-run institution that has dramatically improved its asset quality and business efficiency over the past decade. Its stock price could be higher or lower in a year, but over the long run, it should reward investors well.

Ask the Fool

Q: Can you explain what “naked call” options are? – S.R., Mountain View, North Carolina

A: Sure. There are two main kinds of options: calls and puts. Buying a call gives you the right to buy a certain number of shares at a particular “strike” price within a set period of time (often just a few months). Buying a put gives you the right to sell shares.

When you sell (or “write”) a call, you’re committing to deliver a set number of shares if the buyer exercises the call. If you don’t own the underlying stock, that’s a “naked call.” It’s risky because if the stock soars, you may have to buy it at the new high price, to deliver it to whoever bought the call you sold. You might lose a lot. Of course, if the stock stays below the strike price until the option expires, you pocket the price of the option. That’s the appeal of this strategy.

“Covered calls” are safer, where you sell a call only if you own the underlying stock – and are willing to hand it over, if necessary. You won’t lose any cash this way, but if you have to relinquish your shares, you’ll miss out on profits you might have made if you’d kept the stock.

Many options strategies are risky. You can build wealth in stocks without ever using options.

Q: Why does the stock market’s value rise or fall every day? – V.N., Tulsa, Oklahoma

A: The stock market is made up of thousands of companies’ stocks, and each rises or falls according to what investors think of it, based on the latest news or developments. Promising news usually sends a stock’s price up, and vice versa.

My dumbest investment

My dumbest investment was selling my shares of Microsoft on Black Monday in 1987. – S.F., online

The Fool responds: Ouch – this is an extra-painful story to hear, because Microsoft had just had its debut on the stock market – its initial public offering (IPO) – the year before. Had you bought 100 shares at the IPO and never sold, you’d be sitting on quite a bundle.

The stock started trading on March 13, 1986, at $25.50 per share, so 100 shares would have cost you $2,550, plus whatever commission your brokerage charged you. Microsoft has split its stock nine times since then, so those 100 original shares would have become 28,800 shares through splits. With the stock recently trading for about $215 per share, your 28,800 shares would be worth almost $6.5 million!

Of course, we’re looking back now knowing what a success Microsoft has been. Back in 1987, it was still a fairly small company, and its future unclear.

“Black Monday” occurred on October 19, 1987, when the Dow Jones Industrial Average plunged by 508 points, which represented a 22.6% drop at the time. The market crash took most stocks down with it, to varying degrees, and Microsoft was no exception. Savvy and/or experienced investors at the time would have hung on to their shares – and bought more, if they could. Market crashes present great long-term buying opportunities.