Bank of America Makes Big Gains on Report of Legal Settlement

The Dow Jones Industrial Average (DJINDICES: ^DJI  ) is basically unchanged today, up just four points as of 1:25 p.m. EDT. The S&P 500 (SNPINDEX: ^GSPC  ) is up 0.21%. Meanwhile, Bank of America (NYSE: BAC  ) is up more than 4% after reports surfaced that the bank will settle its litigation with MBIA (NYSE: MBI  ) .

Bank of America's stock is up 64% in the past year versus a 15% gain for the Dow. Yet many investors think the stock is undervalued, having been held back by the numerous lawsuits Bank of America is involved in. Fool contributor John Maxfield took an in-depth look at Bank of America's legal woes in a five-part series. One of the main breach-of-contract claims against the bank came from monoline insurance companies, including MBIA, that insured mortgage-backed securities originated by Countrywide, which Bank of America bought in 2008.

The situation between the two companies is complicated. MBIA wants Bank of America to refund it for $3 billion in claims on mortgage-backed securities, plus interest and legal fees that the insurer says demonstrated "indisputable material breaches" of the standards set by the insurer. In a separate case, Bank of America says MBIA could owe it up to $6 billion for insurance on certain derivatives. However, MBIA doesn't have enough cash to pay that claim after the insurer split up its unhealthy MBS insurance business from its healthy municipal-bond insurance business.

The case hadn't been looking good for Bank of America, and last month things got worse. MBIA won a victory in a New York appellate court that decided sponsors of mortgage-backed securities cannot use the housing bubble as an excuse not to take responsibility for the misrepresented quality of their loans. The court also said MBIA did not need to wait for loans to default before making sponsors buy them back. MBIA's stock has been slowly dropping as the case drags on, hitting a 52-week low last week after a judge denied a motion that would have held Bank of America responsible for all of Countrywide's problems.

Today Bank of America is making big gains after The Wall Street Journal reported that the megabank will pay MBIA $1.7 billion, give the company a $500 million credit line, and take a 5% stake in MBIA's holding company to settle the lawsuits. Neither company has yet confirmed or denied the reports. MBIA is up almost 45% on the news.

If true, this news clears one of Bank of America's legal hurdles, but many still remain. With significant challenges still ahead, it's critical to have a solid understanding of this megabank before adding it to your portfolio. In The Motley Fool's premium research report on B of A, analysts Anand Chokkavelu and Matt Koppenheffer lift the veil on the bank's operations, detailing three reasons to buy and three reasons to sell. Click here now to claim your copy.

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Bank of America CAPS Rating: ****
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