Bank of America Deal on Loan-Repurchase Demands Sets `Template' for Banks

Bank of America Corp.’s agreement to settle Fannie Mae and Freddie Mac’s demands it buy back billions of dollars in faulty loans may pave the way for U.S. lenders to resolve similar disputes with the government-sponsored entities, easing investors’ concerns that costs may surge.

Bank of America’s announcement yesterday that it settled claims on at least $4.1 billion in loans from its Countrywide Financial Corp. unit sent the KBW Bank Index of 24 stocks up 2.3 percent to its highest level since May. A willingness by the GSEs to negotiate may let other lenders cap costs from mounting demands they buy back loans that allegedly had bad or incomplete information about borrowers’ incomes, home values or other data.

“It’s unlikely GSE claims could spiral out of control from here,” said Chris Kotowski, a managing director of research for Oppenheimer & Co. in New York. “I think that’s a positive broadly for the group,” because it eliminates the risk that the liability would be much higher, he said.

Bank of America, the biggest U.S. lender by assets, agreed to pay Fannie Mae and Freddie Mac a total of $2.8 billion to settle claims stemming from the 2008 purchase of Countrywide, which was then the largest mortgage company in the U.S. The government-backed entities have been pressuring lenders to make good on so-called representations and warranties, in which they vouched for the accuracy of loan documents.

‘The Worst Mess’

“You have a template that you can go use to try to clear up these liabilities,” said Paul Miller, an analyst with Arlington, Virginia-based FBR Capital Markets and a former examiner for the Federal Reserve Bank of Philadelphia. “Countrywide had the worst mess, so you can probably settle for something less than the BofA settlement.”

Bank of America’s shares surged 6.7 percent yesterday, the most since May, to $14.19 in composite trading on the New York Stock Exchange. Citigroup Inc. jumped 3.6 percent to $4.90, JPMorgan Chase & Co. climbed 2.7 percent to $43.58 and Wells Fargo & Co. rose 1.9 percent.

Bank of America paid a premium, $1.28 billion, to Freddie Mac to resolve $1 billion in claims currently outstanding because the deal also covers potential future claims on $127 billion in loans sold by Countrywide through 2008, the Charlotte, North Carolina-based lender said in a presentation on its website. The bank paid $1.52 billion to Fannie Mae to resolve disputes on $3.1 billion in loans that were currently outstanding, or about 49 cents on the dollar. Bank of America’s total loss on the loans after recovering collateral and other assets is about 27 percent, said Jerry Dubrowski, a spokesman.

JPMorgan Deal

Bank of America is still liable for $2.1 billion in repurchase requests from Fannie Mae as well as any future demands. The agreement also didn’t cover $600 million in buyback demands from Freddie Mac as well as loans covered by the deal that turn out to be fraudulent or violated fair lending laws, said Michael Cosgrove, a spokesman for Freddie Mac.

The GSEs are pursuing similar agreements with other lenders, and have already reached deals with JPMorgan on loans sold by Washington Mutual, which JPMorgan acquired in 2008, and with Ally Financial Inc. for loans serviced by GMAC Inc. JPMorgan didn’t disclose what it paid to resolve the claims or the current outstanding principal on the loans. Ally, formerly known as GMAC, paid $462 million to settle repurchase demands on $84 billion of loans, representing the current unpaid principal balance.

Like the deal with Bank of America, the agreements with JPMorgan and Ally didn’t release them from liability for loans they sold to the companies through their parent companies or other affiliates. Freddie Mac and Fannie Mae said they had a combined $13.3 billion in repurchase requests outstanding among all lenders at the end of the third quarter before yesterday’s deal was reached.

Freddie Mac

Although the deal caps Bank of America’s exposure at Freddie Mac, it doesn’t do the same at Fannie Mae, leaving it vulnerable if the U.S. housing market continues to fall, Miller said.

The agreement also doesn’t cover challenges from private insurers, investors or government mortgage bond insurer Ginnie Mae. JPMorgan received requests for files to review about $8.1 billion in loans that may be candidates for buybacks and $2.9 billion in repurchase requests on both “private-label” and GSE loans through the third quarter, it said in a Nov. 4 investor presentation.

“Private label mortgage repurchase losses are a more significant concern for the industry at the current time and this settlement does not change our viewpoint in any way on the likelihood or magnitude of those losses,” analysts led by Chris Gamaitoni at Compass Point said in a research note.

Total Cost

In total, repurchase demands may cost the industry between $54 billion and $106 billion, according to Miller, who said yesterday’s deal didn’t change his previous estimates. The industry is also still grappling with record-high foreclosures and an unemployment rate close to 10 percent that are depressing homebuyer demand. The S&P/Case-Shiller index of property values fell 0.8 percent in October from a year earlier, the biggest annual decline since December 2009.

“I don’t think this argument is over with, but you start getting some clarity on some numbers,” Miller said. “It doesn’t address the foreclosure issues, the robo signing or private-label, so there are still some outliers out there that can cause some havoc. But it does clean up one of the messes out there.”

Bank of America was the largest U.S. servicer of home mortgages as of June 30, according to industry newsletter Inside Mortgage Finance. Wells Fargo, JPMorgan, Citigroup and Ally Financial round out the top five.

To contact the reporters on this story: Dawn Kopecki in Washington at dkopecki@bloomberg.net; Hugh Son in New York at hson1@bloomberg.net

To contact the editor responsible for this story: David Scheer at dscheer@bloomberg.net.

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