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A Boost for BofA's Credit Rating

On Feb. 1, Standard & Poor's Ratings Services raised its ratings on Bank of America Corp. ((BAC)) and its subsidiaries, elevating counterparty credit to AA-/A-1+ from A+/A-1. The ratings outlook is stable.

The upgrade is based on BofA's success in creating the first true nationwide banking franchise and its potential for converting this competitive advantage into improved financial performance. BofA's source of strength lies in its 5,800 retail branches, an unrivaled distribution network from which it gathers stable and inexpensive core deposit funding.

Profitability measures have moved in line with those of other large complex banks, as BofA benefited in 2004 from unsustainably low provisioning requirements, substantial securities gains, and initial cost savings from the April, 2004, acquisition of FleetBoston Financial Corp. While the securities gains and low loan-loss provisions aren't expected to continue into 2005, the remaining cost savings from the FleetBoston integration should be realized. We expect fundamental profitability to remain healthy, even if it doesn't measure up to 2004 performance.

NO MORE ACQUISITIONS? The bank's traditional consumer and commercial businesses will continue to drive its profitability, although growth could be contained because of BofA's attainment of the national 10% deposit limit. This means BofA must shift from mergers and acquisitions to pure organic growth in its traditional banking businesses, not an easy transformation given that it spent the past two decades as a serial acquirer.

To sustain earnings momentum, BofA is investing in, and sharpening, the strategic focus of its global corporate and investment banking (GCIB) business, the source of recent earnings volatility. The payback from these investments isn't expected for several years.

The ratings hike also takes into consideration the bank's lower credit risk profile. That results from not only greater loan dispersion but also significant reduction in the large corporate loan book, which is the principal source of recent asset quality problems. This loan book has shrunk to $35 billion from a peak of $100 billion in mid-2000. As a result, nonaccruals and classified credits, including those that came with FleetBoston, have been reduced to their lowest level in years.

READY CASH. Current ratings also take into account strong liquidity at both the bank and the parent company. At the bank, core deposits fund more than 95% of the loan book. The parent company has sufficient cash and equivalents on hand to cover nearly two years' debt-service requirements. Capital, however, has never been a strong point at BofA, limiting any consideration for further ratings upgrades.

The stable ratings outlook takes into account the broad diversification of BofA's geographic reach, products, and customers as well as the strong funding profile provided by the bank's broad and deep core deposit base. BofA's wide-ranging business mix and the reduction in the large corporate loan book should lead to more stable asset quality performance over the credit cycle.

Similarly, earnings performance should tend toward the industry average over the long term but could vacillate over the short term with capital market activities in the GCIB businesses. From Standard & Poor's Ratings Services

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