The Whittling Away of Bank of America

For Bank of America (NYSE: BAC  ) , paying huge legal settlements has become a way of corporate life since the mortgage meltdown that caused the financial crisis. Though other big banks have also faced many lawsuits over mortgages and mortgage-based investments gone bad, only JPMorgan Chase comes close to the amount B of A has forked over since 2008. A recent tally of Bank of America's legal expenses comes very close to $56 billion over the past five years.

Although CEO Brian Moynihan announced earlier this year that most of the bank's litigation costs involving toxic mortgages were in the past, this evidently has not been the case. Now, with JPMorgan Chase and even Wells Fargo settling with the Federal Housing Finance Agency, Bank of America faces even more pressure from the FHFA, which is demanding at least $6 billion from B of A.

Legal pressures show no signs of easing
As it turns out, $6 billion might be a bargain. Fitch Ratings has noted that JPMorgan's $4 billion deal with the FHFA, which represents Fannie Mae and Freddie Mac, worked out to be approximately 12% of the $33 billion in questionable bonds sold. Applying the same math to B of A's $57 billion in bond sales to Fannie and Freddie would produce a number closer to $7 billion.

Bank of America likely faces more legal pressure from its recent fraud conviction, as well. This is the first time that a bank has been held liable for wrongdoing for its part in the mortgage debacle, and it's a good bet that the case will prompt government regulators to continue using the Financial Institutions Reform, Recovery, and Enforcement Act, as they did in that case, to keep those settlement dollars flowing.

New claims keep pouring in
The bank has lots of other legal issues pending, and the fraud conviction might give some of those plaintiffs an energy boost in their complaints against Bank of America. According to its most recent 10Q filing, B of A still had a notional amount of unresolved repurchase claims of $17.7 billion at the end of September. In a clear sign that these problems are not going away, that amount is $1.1 billion more than the unresolved claims reported at the end of June.

So far this calendar year, Bank of America has received $5.1 billion in new repurchase claims -- with $2 billion of that amount logged in just the third quarter. While much of the claims from government-sponsored entities Fannie and Freddie have been resolved through settlements this year totaling $12.2 billion, $1.2 billion remain on the books -- apart from the current FHFA issue.

Private investors are getting more vocal, as well. Bank of America has received claims from private-label securitization trustees for $3 billion since the beginning of the year. Not mentioned, but still pending, is AIG's suit against B of A for $9 billion.  

Outstanding claims from mortgage insurers still sit at $1.5 billion, and Bank of America points out that the monoline insurers are like dogs with a bone on that score, hardly ever withdrawing a claim. B of A knows from whence it speaks, having gone through a very public battle with MBIA this past spring, which resulted in the bank finally settling up with the insurer for nearly $1 billion.

Tough days ahead for Bank of America
Though the bank has resolved an amazing number of claims over the past year, its troubles are far from over. Even Bank of America gives a nod to this fact, mentioning an uptick in its estimate of loss and liability to $5.1 billion, up from $2.8 billion at the end of June. Doubtless, new government inquiries regarding mortgage-backed securities peddled by the bank years ago have prompted the upward revision of that estimate.

Another new threat is that Bank of America's fraud conviction could give its detractors more ammunition when it comes to proving fraudulent activity regarding the mortgages packaged into the MBSes it sold years ago. Pointing to that case to bolster claims that B of A knew just how bad those products were when they sold them should be helpful in squeezing additional compensation from the big bank via larger settlement payments.

Bank of America does not release the amount of its legal reserves, but CFO Bruce Thompson told analyst Mike Mayo in a recent conference call that funds set aside for reps and warrants totaled $14.1 billion at the end of the third quarter. Since $8.5 billion is set aside for its 2011 settlement with a group of institutional investors, that leaves only $5.5 billion for everything else.

Somehow, considering all the recent developments, that amount may not be enough, particularly since the bank paid out $1.1 billion in legal expenses in the third quarter alone -- nearly half of its net income for the quarter. Unfortunately for Bank of America's investors, there seems to be no end to the earmarking of profits for litigation, rather than shareholder dividends.


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