Coming from the perspective of a Bank of America (NYSE:BAC) bear, it's not often I run across a metric for the superbank I personally feel good about, or feel the investing community should jump up and down about: I think B of A remains too fundamentally flawed for that kind of unmitigated joy.
However, I recently ran across one metric I thought both B of A investors and the rest of us could legitimately celebrate: Underwater home equity loans as measured against Tier 1 common-capital reserves have fallen by a greater percentage for B of A than any other of the big four American banks, even Wells Fargo (NYSE:WFC), that paragon of conservative banking.
Emerging from the depths
B of A saw its percentage of underwater home equity loans drop by 16 percentage points for the period of Q3 2011 versus Q3 2012, as reported by American Banker. Wells Fargo, which holds the highest total amount of home equity loan debt, only saw its percentage of underwater home equity loans drop by 13 percentage points for the same period of time.
JPMorgan Chase (NYSE:JPM) saw its percentage of underwater home equity loans as measured against Tier 1 common-capital reserves drop by 10 percentage points, while Citigroup's (NYSE:C) percentage of underwater home equity loans dropped by 6 percentage points.
Tier 1 common capital measures a bank's core equity capital against its total risk-weighted assets and is a standard measure of a bank's financial strength.
How not to own a home
Home-equity loans are described in the American Banker piece as the industry's "other shoe that just won't drop." But if the trend the publication is describing continues, it might not have to drop at all
The first banking-industry shoe to drop -- the one that dropped with such force it triggered a worldwide financial crisis -- was that of first home mortgages. These are the primary loans you, me, and the rest of the world take out to buy our homes in the first place.
Home-equity loans are, essentially, second mortgages you take out against your home, the collateral being the equity you've built up by making payments against your first mortgage. Before the housing boom, people typically took these out for legitimate reasons, like home repairs or additions.
During the boom, however, many home owners took out second mortgages to make the payments on their first mortgages. In fact, it was the point at which the banks stopped offering second mortgages that the housing bubble began to burst, because so many homeowners had become dependent on second mortgages just to keep current on their first mortgages.
One bubble was enough
But as the housing bubble burst and home prices plummeted, the homeowners who managed to hang onto their homes found that, in some cases, not only were they underwater on their first mortgages, they were also underwater on their second mortgages. (Underwater meaning, of course, they owed more to the bank than the house itself was worth.)
A recovering housing market has helped this situation: As home values rise, fewer and fewer people are underwater on their loans. This is what you see happening with the above-referenced data, and it's good not only for B of A investors, but for the rest of us, as well.
We saw what happened when all those homeowners with subprime or otherwise poorly thought-out mortgages began to default on them: The securities said mortgages were packaged into began to default as well, setting off the financial crash.
It wasn't out of the question that -- if the housing market didn't pick up at some point, or some other unforeseen positive force didn't intervene in the home equity lending market -- a second wave of defaults could trigger another crisis, or at the very least force banks to write off another massive amount of defaulting debt, potentially triggering another bailout.
So B of A investors can legitimately rejoice a bit, here. With fewer second mortgages the superbank is on the hook for underwater, the safer and potentially more profitable the bank is as an investment overall; because if B of A doesn't need to keep writing off bad home equity loans, the more money that can make it to the bottom line.
And for the rest of us -- who don't want to see another financial crisis in our lifetimes, or our taxpayer dollars bailing out any more too-big-to-fail banks -- the safer banks are, the safer the economy and all our livelihoods are. So even for a B of A bear, this home equity loan data came as good news, well worth passing on, even if it ultimately doesn't change my bearishness on the bank.
Fool contributor John Grgurich owns shares of JPMorgan Chase. Follow John's dispatches from the bleeding heart of capitalism on Twitter @TMFGrgurich. The Motley Fool recommends Wells Fargo. The Motley Fool owns shares of Bank of America, Citigroup, JPMorgan Chase, and Wells Fargo.
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