Did Bank of America Exploit Fannie and Freddie?

U.S. regulators are investigating whether Bank of America executed its own trades before those of Fannie Mae and Freddie Mac

Jan 27, 2014 at 9:26AM

Just when it seems all hard feelings between Bank of America Corp. (NYSE:BAC) and government-sponsored entities Fannie Mae (NASDAQOTCBB:FNMA) and Freddie Mac (NASDAQOTCBB:FMCC) have been put to rest, a report from Reuters indicates that, sadly, this may not be the case.

A disclosure on the website of the Financial Industry Regulatory Authority notes that the bank is currently being investigated by the U.S. Attorney's Office for the Western District, North Carolina, as well as by the Commodity Futures Trading Commission. It seems that Bank of America's swaps desk was giving the bank's futures trades priority over those of its clients, and one of B of A's traders may have given inaccurate information to the Chicago Mercantile Exchange during its inquiry into the matter.

Fannie Mae and Freddie Mac trades scrutinized
The article references an FBI bulletin from earlier this month that warned that traders could be "front running" trades by Fannie and Freddie in order to profit from interest rate changes. Contacts at a Canadian bank and a high-level employee of a U.S. bank told agents about this activity, whereby traders that know of another party's trade put their own in first in order to profit from changes brought about by the second trade.

The source at the U.S. bank, which was unnamed, said this activity had netted the bank between $50 million and $100 million in profits. This is because both Fannie and Freddie have huge mortgage portfolios they routinely hedge against interest rate changes, and therefore submit hefty swap orders. Regulators are on alert against interest rate manipulation since the LIBOR scandal, and a slew of banks, including Citigroup and JPMorgan Chase, were fined by European regulators last month for rate-rigging offenses.

An ongoing investigation
Bank of America hasn't been formally accused of wrongdoing, and the trader in question no longer works for the bank. However, the FBI alert noted that the Federal Housing Finance Agency, the conservator of Fannie and Freddie, is conducting an inquiry, as well. The FHFA has been busy collecting settlements from big banks accused of selling toxic mortgage securities to the GSEs back in the day, and its case against Bank of America is still pending.

Bank of America has had a rocky relationship with Fannie and Freddie over the years, and it looked like its recent settlement with the latter had finally put paid to all that antagonism. Unfortunately, this issue may bring out those hostilities all over again -- in addition to a new rash of regulators' lawsuits against Bank of America.

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Fool contributor Amanda Alix has no position in any stocks mentioned. The Motley Fool recommends Bank of America. The Motley Fool owns shares of Bank of America, Citigroup, and JPMorgan Chase. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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