Motley Fool Hidden Gems Investing - "It's the vanilla ice cream of the banking sector."

Episode Date: April 18, 2023

Now that all of the Big Banks have reported earnings, what stands out? (00:21) Bill Mann discusses: - Warren Buffett's recent comments about holding Bank of America - CEO Brian Moynihan's persistence - Johnson & Johnson's dividend hike and guidance boost - Nvidia's unsurprising pricing power (11:14) Robert Brokamp and Alison Southwick answer your questions about mortgages, recessions, and employee stock options. Companies discussed: BAC, JNJ, PG, NVDA Host: Chris Hill Guests: Bill Mann, Alison Southwick, Robert Brokamp Producer: Ricky Mulvey Engineers: Dan Boyd, Rick Engdahl Learn more about your ad choices. Visit megaphone.fm/adchoices

Chris Hill. Your call is very important to us. Please remain on the line to listen to the next available episode. Motley Fool Money starts now. I'm Chris Hill. Joining me today, Motley Fool Senior Analyst Bill Mann. Good to see you, my friend. Bill Mann. Well, we barely made it here. There were some technical problems, and the dozens of listeners don't care about that, so let's just plow ahead, shall we? I was speaking more towards our dueling back injuries. Oh, well, there's that too. But there's only so much the dozens care about that as well. Before we get to Johnson & Johnson,

we are through all of the big banks reporting. We got Bank of America reporting this morning. It started last week with J.P. Morgan, Wells Fargo, Citi. When you step back and look at the current state of the big banks, does anything in particular stand out to you, whether it's any one bank's results, commentary from a CEO, or any sort of through-line that you see among them? I think maybe the most interesting through-line happened both over the weekend when Warren Buffett had his sit-down with CNBC, with Becky Quick, and he was noting that he sold out of banks, banks, some of which he'd held for the last 25 years because he had become so concerned about how accounting principles were creating bad incentives for the banks. The one that

he called out that he wanted to continue holding and did continue holding in full effect was Bank of America, who turns out today, just came out and crushed it, in terms of their earnings, but crushed it in a very specific way. Brian Moynihan, the CEO, came out and said straight up, the results demonstrate just how, over the last decade, we have been consistent in our commitment to responsible growth, which I think a lot of banks that find themselves now under duress were not quite as responsible. So, fascinating to me that Warren Buffett stepped back from the banking sector, but stuck with Bank of America. Someday, Brian Moynihan is going to retire as CEO of Bank of America. And when that happens, someone is going to write about his tenure

at Bank of America, which really got off to a rocky start. I think about the countrywide acquisition that they made. Obviously, they spent years writing that thing down. They dealt with the Great Recession like everybody else. But the persistence of Moynihan and the way he has, as you said, they've just consistently gone about their business. It's one of those things that if you've been a patient shareholder and you've stood by Moynihan, I think you've been rewarded. Yeah, it's true. And if you think about it, in some ways, amongst the big banks, all of them saw a surge in deposits, which is probably not surprising given the amount of turmoil that's at the smaller banks. Not that banks like Silicon Valley Bank are small,

but they're not one of the huge banks like Bank of America, Wells Fargo, and their ilk. One of the most interesting things to me is that they've all done pretty well, but in some ways, Bank of America is almost like the vanilla ice cream of the banking sector. They're never crushing it, but at the same time, they're never having to really explain a whole lot of missteps that they have made. It's just a well-run bank. Unlike almost every other industry, I find myself getting nervous when I see a bank's deposit surging or their earnings numbers surging. So, for Bank of America under Brian Moynihan, just to get it done quarter after quarter after quarter, it really does remind you that investing is a long-term game. But maybe more than any other

industry, if you're going to hold financials, you just have to make sure that you have one that's not going to be exciting for all the wrong reasons. Let's move on to Johnson & Johnson, which started off the fiscal year about as well as you can. Profits and revenue were higher than expected in the first quarter. They raised guidance for the full fiscal year, gave the dividend a little bit of a boost. I'm not sure why the stock is off a couple of percentage points, but this seemed like a pretty strong start to the year. Yeah, you have to be careful whenever a company starts with the words adjusted anything. In this case, they listed adjusted earnings

of $2.68 per share, which beat the $2.50 per share. Now, what is the adjustment? In this case, it's $6.9 billion of what is nearly a $9 billion settlement that they have because of Johnson's baby powder having been found to cause cancer. There's a huge element of cost, but they adjust their earnings because it is truly what you would hope one time in nature. It was a good quarter from them, raising the dividend nearly 5%. It was a really good quarter in their medical device division. Great setup there for what we really see as continued reopening and a resurgence of demand during the pandemic. One of the things that maybe we focused on for a while and then forgot about was that all sorts of elective surgeries were put off down the road.

I think you're seeing a lot of a rebound in that type of demand. It was a really great quarter from them, they did come out and say that their results were a condition of really every single division that they had doing better than they had anticipated. Real quick, before we move on, later this year, if everything goes according to plan, Johnson & Johnson will execute the split that the company has been planning for the last year plus. Anytime a company is trying to execute something like this, we're spinning off a division or we're just splitting in two or multiple parts. What does history, if anything, tell us about what to be watching for? If you're a shareholder, are you nervous about this at all? Is there a way to screw

this up? Or is it the sort of thing where like, no, if they're doing this right, this should be fine? There are plenty of ways to screw it up, especially going out of the gate. And I'm not going to claim at all to say that Johnson & Johnson is doing this because they are not. But you've seen situations where a company in doing a spinoff of a division that's not important to the parent company does something like just lard up the spinoff company with a bunch of debt. chemical company called Rhodia did that within a FOSS about 15 years ago. It was a tiny spinoff, but it was a huge amount of the debt of Rhodia that got sent with the spinoff company. Obviously, that makes it hard for a smaller company to really get its footing. I think probably the best model

that you can look at here for Johnson & Johnson was a spinoff a couple of years ago by Procter & gamble of some of its food division. That has worked really well. It's given investors the opportunity to focus on whether they want to buy a commercial products company primarily, or do they want a food company? I think in the case of Johnson & Johnson, the same thing is true. It's really hard to tease out where the growth at Johnson & Johnson is coming from, not that they don't have growth, but is it Band-Aids? Is it knee replacements? Is it contacts? The ability for investors to be able to fine-tune where they want to gain exposure, I think is a positive. Nipun Mehta, F&O, Inc.: Nvidia got an upgrade

today from a Wall Street firm. I just wanted your reaction to what I think is the most amazing pull quote from the upgrade, which is the following sentence, we're shocked by NVIDIA's pricing power on AI chips. Sorry, I didn't mean to laugh. No, that was kind of my reaction. I was like, why are you shocked by that? I mean, we were just talking about, you mentioned Procter & Gamble. I wouldn't say I was shocked. I was surprised by the pricing power that Procter & Gamble has demonstrated over the past year or so, because P&G is not what leaps to mind when I think about companies with pricing power. NVIDIA with AI chips? Why are you surprised by this?

Okay. A qualifying question. Was this written or spoken? This was written. So, this person thought about it and then wrote that. That's amazing to me. You are talking about a company that in several segments. And in the last two years, it was crypto mining. Before that, it was graphics. And now, in artificial intelligence, they have the leading-edge chips that have been absolutely imperative for those industries or segments of industry, or in terms of processing power, etc of course they have pricing power i don't know how that's a shock it's always nice to be validated bill man great talking to you thanks chris

you've got questions they've got answers robert brokamp and allison southwick answer listener questions about recessions employee stock options and mortgages Our first question comes from Cheryl in Massachusetts. Dear Dr. Offalizer, bro, that's you. It is me. Doc off if you're really close to him. And Allison is also sent to me. So, total credit card debt is about $1 trillion, and the Fed keeps hiking interest rates. I think this will lead to people pulling back on their spending, and that will create an economic depression. There's no way this ends well, right? Oh, you found a fellow awfulizer in Cheryl, bro. I know. Isn't it so nice to be so pessimistic? Well, we'll see. I'm not quite that pessimistic.

But indeed, credit card debt is at an all-time high, almost $1 trillion. The previous record was $850 billion before the pandemic, and then it dropped to $750 billion almost exactly two years ago. But since then, it has skyrocketed. And it's not just the level of debt that is problematic. The average credit card rate is at an all-time high of over 20%, up from just 16% a year ago. Then the rates on auto loans and mortgages are also up significantly over the past year, thanks to the Federal Reserve raising interest rates nine times over the past 13 months. The Fed is raising rates to intentionally slow down the economy, and it's working. Bloomberg does a monthly survey of economists, and the one from late March had 65% expecting a recession in

the next 12 months, and that's up from 60% in February. So, yes, Sheryl, this likely will lead to people cutting back on their spending. In fact, it's already happening. In June of last year, the U.S. personal savings rate hit a measly 2.7%, which was pretty close to an all-time low. Since then, it has inched up to 4.6%, so saving more and spending less is good for a household, but not necessarily for the broader economy. In fact, there's an economic theory known as the paradox of thrift, which states that increased saving can actually be a drag on the economy, especially when it's an economy driven almost 70% by consumer spending. And there are plenty of other headwinds to

add to this negative narrative. I'll just mention one, and that is the cutback in lending by banks so they don't suffer the same fate as Silicon Valley Bank and some others from last month. In the last two weeks of March, bank lending contracted by the most in history as banks shared up their balance sheets. When banks play it safer, the economy can suffer. So, Sheryl, in keeping with my Dr. Awfulizer reputation, I agree with you that things could get pretty rough before they get better. However, I don't really see anything that makes me feel like we're going to see anything worse than the typical recession. Since World War II, recessions have lasted around 10 months on average. Could something happen that leads

to a depression? Sure. I mean, anything truly is possible. But I'm sticking to a mantra that I've mentioned before on the show, and it's my mantra regardless of what's going on in the economy. And that is, be a short-term pessimist and a long-term optimist. Protect the money you need in the next few years. If you're still working, keep tabs on your company and your customers, because during a recession, you should be more worried about your job than your portfolio. But keep your long-term money in the stock market, because historically, in the U.S., we've always recovered from every recession and every depression. Our next question comes from Anoush. My employer is offering an employee stock purchase plan,

which allows me to contribute a certain percentage of my base pay toward a purchase of discounted shares. I'm curious as to why certain companies offer this and what is the benefit to me as a long-term shareholder? I already contribute to a 401k up to the company match, but am I missing out on anything if I decide not to enroll in this stock purchase plan? Well, News, you're not alone. According to CNBC, almost three-quarters of publicly traded companies offer some sort of employee stock purchase plan, and almost 40% of them offer their shares at some sort of a discount, the most common of which is a 15% discount. Companies do this for a few reasons. First of all, they like to offer benefits that

employees appreciate. It attracts employees. It keeps employees. Offering discounted stock is a relatively inexpensive benefit. Also, they may believe that when employees have a vested interest in the success of the company, they'll perform better. The companies want to create what they'll often call an ownership mentality among their employees, because when you own shares, you indeed are a bona fide, genuine part owner of the company. There are some studies that have found that employees who participate in these types of plans do work harder. If the stock performs well, or even slightly below the market's average, do well because you bought in at a discount. Those are all the good things. Let's cover

some of the downsides. The biggest is that you don't want too much of your portfolio tied to the same fate as the company that gives you your paycheck, provides your health insurance, that type of stuff. One rule of thumb is to not have more than 10% of your portfolio in one company, and perhaps even less if you work for that company. Many employees of Silicon Valley Bank had a lot of money in SVB stock. An article in Fortune said that for some employees, up to 50% of their compensation came in the form of company stock. The share price declined from an all-time high of $750 to a current price of $0.50, which hurts a lot of people. Also, if you're going to look into this plan, pay attention to how long

you have to wait until you can sell. You may not be able to just sell immediately for a guaranteed profit, so factor that into the timeframe you have for this money. But if If you believe in the company and you have the money, buying into shares of a good company at a 15% discount or whatever discount you're being given is a pretty attractive offer. Our next question comes from Jace. Hey, Fools! I have three different 401ks from previous employment and one IRA from an old employer as well. Would it not be advantageous to roll these into my new 401k sponsored by my new employer. I'm thinking a larger pool would return more than four separate accounts,

but I've had others warn this is a mistake. Thoughts? I would start by saying, having more assets in a single account generally doesn't result in higher returns, unless it would qualify you maybe more for better services or reduced fees or maybe investments with higher minimums. But that's generally not the case in a 401k. So, for most people in this situation, the best thing to do actually would be to transfer the old 401 s to the IRA. That's because 401 s generally have higher costs, fewer investment options and less flexibility for ways to touch the money. That said, there are a few scenarios when moving all your money to a current 401 might make sense. Here are just four of those

very quickly. Number one, your current plan maybe has particularly high-quality or low-cost investments that you couldn't get outside the plan, so you'd want to move more money into it. Number two would be, you want to do something called the backdoor Roth IRA, because your income is too high to make a regular contribution to a Roth IRA. With a backdoor Roth, you make a contribution to a non-deductible traditional IRA, and then immediately convert it to a Roth, or very soon thereafter. If you do have money in traditional IRAs elsewhere and you do the conversion. It's not necessarily a tax-free decision due to something called the pro rata rules. But if you really want that Roth IRA, what you could do is roll the IRA into a 401k

and you don't have to worry about them. Number three reason why you might want to put all the money in one 401k is that you'll be retiring between the ages of 55 and 59.5. Generally, if you take a withdrawal from a retirement account before age 59.5, you have to pay a 10% penalty. But for some 401 s, if the 401 administrator allows this, if you retire from that company's 401 between the ages of 55 and 59.5, you can take the money out early and not pay the 10% penalty. The No. 4 reason would be, you want to delay required minimum distributions. For most accounts, they must begin at age 73. But there's an exception. You don't have to take required minimum distributions from a 401 if you are

working for the employer that offers the 401 . You can't do that if you own more than 5% or 10% of the company, but for most people, that's fine. You bring all the money into that 401 and you don't have to worry about requirement with distributions until you retire. Those are just some considerations. Of course, this isn't an all-or-nothing choice. You can transfer some of the money to an IRA and some to your current 401 if that makes sense for you. Next question comes from Stan in Austin. I'd like to buy a house this fall in the $500,000 range. My realtor told me that I'll be able to take out a 40-year mortgage soon. Any catches that I need to be aware of?

There's some confusion about this. I'll start by saying, theoretically, 40-year mortgages have been theoretically around for a while. There's nothing that prevents a lender from offering a 40-year mortgage. The problem is, it's just not very common. It's difficult to find a lender that offers them. You usually have to go through a broker who maybe could work with a local bank or a credit union or something like that. Also, 40-year mortgages would be considered non-conforming, which means they're not approved by the FHA, and you would have to pay a higher interest rate. So, it's just very difficult to find a 40-year mortgage. However, this has been in the news, because recently, the FHA did decide that for people who are in distress

and who are struggling paying their mortgage payments and are already in default, they can turn their mortgage into a 40-year mortgage. That's probably what your realtor was thinking about. But generally, it's not the type of situation where you can just go out and get a 40-year mortgage. And just in case you do go looking for one, and you do find one, the downside is that you'll just pay more in interest, right? If you're spreading the loan over a longer period, you'll get a smaller monthly payment, which could be good, but you'll pay way more in interest. Bankrate had an article on this.

And just as an example, if you took out a $312,000 loan at a 6.85% interest rate, you pay that over 30 years, your total payments, principal and interest, would be $424,000. Total payments over 40 years, $600,000. You're talking about $175,000 difference or so. Generally speaking, I wouldn't go out there looking for a 40-year mortgage. Stick with the 30 or even the 15 if you can afford it. Our next question comes from Aaron. I just started a job and am going through my 401 paperwork. I'm planning on contributing 8% and will get a 3% match. However, I don't know how much risk I should take. For now, I just clicked the middle between conservative and aggressive investing on the Slighty Swiper thing.

Good old Slighty Swiper thing. Also picked the regular option instead of the Roth. Does this sound reasonable to you, or should I change it? These are excellent questions. The right answer for you will be very dependent on things like your age, your income, and how much you've already saved. I don't know those things, but I can still offer some general thoughts. You are saving 11% of your income for retirement. That's your 8% that you're contributing and the 3% match. If you're in your 20s or so, that might be enough. But generally, you should be shooting for 15% unless you are getting a late start, late 30s, 40s, then you should be shooting for even higher. Think about that in

terms of how much to save. In terms of the slidey swiper thing, I would want to know if that factors in your age as well as your risk tolerance. It sounds to me like you have a moderate risk tolerance, but a moderate risk tolerance for someone who is in their 20s will look very different from someone with a moderate risk tolerance than someone in their 50s or 60s. So, I hope that tool factors in your age. But another consideration might be a target date retirement fund, if your plan offers them, and most do these days. You choose a target date retirement fund that has a date in its name that's around when you want to retire. And for farther out, it'll be very aggressive, but then it gets gradually more conservative as you get closer to

the retirement date, and it does all the asset allocation for you. It's stocks, bonds, cash, U.S. stocks, international stocks. It's a pretty reasonable allocation for someone with a moderate risk tolerance. As for the Roth, it really just depends on your tax bracket today versus where you think it'll be when you retire. This doesn't have to be an either-or decision. You could contribute to both. Unless you're in a very high tax bracket, I'd contribute at least some to the Roth account because it gives you some so-called tax diversification in retirement. And if you're in the 12% tax bracket, the Roth is almost a definite. Even in the 22% tax bracket, it might make sense to contribute to the Roth or at least sum to a Roth. And since we all just did

our taxes, it should be pretty easy to figure out where we are on the tax bracket spectrum. All right. Next question comes from Eric in Montana. I own two foreign companies and have been reinvesting dividends for several years. They are Johnson Controls Inc. and Lind PLC, but my broker was acquired. Now I can't reinvest these dividends as fractional shares since they are from foreign companies and it's against my new broker's rules. Boo. That was me editorializing there. All right. Should I consider selling out these positions because I can't reinvest the dividends? I don't expect an opinion on the companies, but the opportunity to passively compound shares is a huge plus for nearly all the positions I hold.

Well, Eric, if you still believe in the companies, you don't have to sell, especially if this account isn't an IRA and you have some capital gains in there. If you sold, then you'd have to owe the taxes. Instead, you can just transfer the account to a different broker that allows fractional shares for dividend reinvestment for these types of stocks. Of course, if this isn't an IRA and all the shares are at a net loss, you actually might want to sell, you lock in a loss that you could write off on your 2023 tax return, and then just move the cash to a different broker. But then, don't buy the shares back within 30 days or you'll be in violation of the wash sale rules and you won't be able to write

off those losses. Those are some ideas. But you're absolutely right that passively and automatically reinvesting your dividends is very powerful. It allows you to buy more shares, which then pay more dividends, which then allow you to buy even more shares, and so on. It's this snowball effect. If you instead have to wait until enough dividends accumulate as cash so you can buy another share, you'll miss out on a lot of growth, assuming that the share prices rise over time. Definitely, I think it makes sense to put some effort into finding a broker that will automatically reinvest your dividends. As always, people on the program may have interests in the stocks they talk about, and

The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear. I'm Chris Hill, thanks for listening. We'll see you tomorrow.