BofA analyst says ‘buy the weakness’ in Wells Fargo shares after Fed’s action

Key Points
  • Bank of America Merrill Lynch reiterates its buy rating for Wells Fargo shares, saying the stock's drop is an overreaction.
  • "We would view any potential weakness in the shares as a particularly attractive buying opportunity," the firm's analyst writes.
Tim Sloan, president and chief executive officer of Wells Fargo & Co.
David Paul Morris | Bloomberg | Getty Images

While many of its peers are giving up on Wells Fargo, Bank of America Merrill Lynch still recommends the embattled bank.

The Federal Reserve said Friday it is restricting Wells Fargo's size in response to "widespread consumer abuses." The government is prohibiting the bank from growing any larger than its total assets as of the end of 2017 until "sufficient improvements" are made.

Wells Fargo shares declined 9.2 percent Monday. At least five Wall Street investment banks downgraded the shares following the news.

Bank of America Merrill Lynch reiterated its buy rating for Wells Fargo shares, saying the dramatic drop in its shares after the Fed's action is an overreaction.

"We dug deeply into earnings drivers at WFC, between now and 2020. And, while we expect shares to be weak near term, we conclude that EPS cuts of 2-3% are less than the implied after-market decline of 6%," analyst Erika Najarian wrote in a note to clients Monday. "We would view any potential weakness in the shares as a particularly attractive buying opportunity."

Najarian slightly lowered her price target for Wells Fargo shares to $69 from $70. The new target is 8 percent higher than Friday's closing price.

In 2016 Wells Fargo admitted that employees, facing pressure to meet sales goals, enrolled customers in products without their knowledge, affecting as many as 3.5 million accounts. Last year, it revealed that thousands of customers had been charged for car insurance they did not need. The bank replaced its CEO and remade its board and will name another four new board members this year.

The analyst said Wells Fargo's estimate on the potential negative impact to net profits from the asset restriction is $300 million to $400 million, or roughly 2 percent of the 2018 earnings per share consensus for the bank.

She said the bank will be able to reorient its asset portfolios to maximize its financial results.

"If there is any silver lining for shareholders, it is that the order forces WFC to optimize its balance sheet," she wrote. "We show how WFC can stay under the asset cap and still grow loans and spread revenue, by running off low-value, high cost deposits and shifting excess cash and other low-yielding cash flow into Ginnie Mae securities — without compromising liquidity needs."

Nearly 60 percent of Wall Street does not have buy ratings for Wells Fargo shares, according to FactSet.

— CNBC's Michael Bloom contributed to this story.