Brian Moynihan’s Credibility Crunch at Bank of America

BofA faces massive mortgage refund risks and a free-falling stock

Bank of America Chief Executive Officer Brian Moynihan may wish he had stuck to his November vow to fend off mortgage-refund demands with “hand-to-hand combat.” Since January, he has forged a series of multibillion-dollar settlements with buyers and insurers of shoddy loans created by Countrywide, the subprime lender the bank took over in 2008.

So far, the conciliatory approach has backfired. The Charlotte-based firm disclosed this month that Fannie Mae and Freddie Mac, the government-sponsored enterprises that settled with the bank for $3 billion, are stepping up demands that it repurchase soured loans. Attorneys general from New York and Delaware have challenged the bank’s June $8.5 billion deal with institutional investors. And on Aug. 8 bailed-out insurer American International Group said it will seek more than $10 billion from the bank over mortgage securities gone bad. The bank denies the insurer’s assertions. AIG “is the very definition of an informed, seasoned investor, with losses solely attributable to its own excesses and errors,” says Bank of America spokesman Larry DiRita.

The expanding legal risk has shareholders concerned that Bank of America, the biggest U.S. lender by assets, may need to sell new shares to comply with more strict international rules on capital—something the bank’s chief has repeatedly said would not be necessary. Adding to Moynihan’s woes are signs the U.S. economy is stalling, a prospect that would punish Bank of America most out of the big U.S. lenders: 80 percent of the bank’s 2009 revenue came from the U.S.

All of these worries are reflected in the stock, which has shed nearly half of its value this year, including a 20 percent plunge on Aug. 8. Bank of America trades at about one-third of its book value, the lowest among the 10 largest U.S. lenders, compared with above 70 percent for JPMorgan Chase and Wells Fargo, reflecting doubt about Bank of America’s assets. “If we continue to see the stock crater, if we continue to see these lawsuits come up, at some point people are going to rise up and say maybe we need to break this thing up and have a different structure,” says Paul Miller, an analyst at FBR Capital Markets. “Brian is probably not the guy to lead that.” Adds Joshua Rosner, an analyst at the New York-based research firm Graham Fisher: “Management has either misled investors or incorrectly assessed the cost of their litigation risks for the better part of the past year.”

Moynihan, 51, has repeatedly stated the bank is stable and that it can set aside enough earnings to comply with the new capital requirements, which will probably be phased in through 2019. “The most important point to keep in mind is that our company remains financially strong—in particular, much stronger than we were either during or coming out of the economic downturn of 2008-9,” he wrote in an Aug. 8 memo to employees. Moynihan declined to be interviewed for this story.

One analyst speculates Bank of America might sell the Merrill Lynch operations, acquired in 2009, to raise capital. The business may garner $50 billion, wrote Mike Mayo of Crédit Agricole Securities in an Aug. 8 note. The Merrill investment bank and wealth management units generated about $4.7 billion in earnings in the first half of 2011, while the overall company posted a $6.8 billion loss on a record $20.7 billion in second-quarter mortgage charges. “If I’m Merrill Lynch, I’d want out of there,” says Miller. “Any profit I bring to the table gets sucked up by the Countrywide vortex.”

Moynihan could also put the Countrywide unit into bankruptcy, say analysts including Jonathan Glionna of Barclays Capital and Chris Whalen of Institutional Risk Analytics. Yet such a move risks being deemed a default by bond investors, which could lead to a forced restructuring by regulators, Whalen says.

The least unpalatable of Moynihan’s options could be reversing his pledge to not issue stock. While the bank may earn enough to reach capital standards over the next few years, regulators could force Moynihan’s hand, Glionna said in an Aug. 9 research note.

That wouldn’t sit well with current investors, who would suffer yet another decline in their holdings. “It’s not a zero percent probability,” says Glenn Schorr, an analyst at Nomura Holdings. “But unless a regulator puts a gun to their head, they’re going to do their best to not dilute shareholders.”

— With assistance by Dawn Kopecki


    The bottom line: Bank of America faces few palatable options for raising fresh capital, even as the cost of settling mortgage loan claims balloon.

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