Please ensure Javascript is enabled for purposes of website accessibility

Here's How Much Bank of America Will Lose if Energy Prices Stay "Lower for Longer"

By John Maxfield - Feb 5, 2016 at 10:17AM

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

If Bank of America’s estimates are accurate, then the impact on its bottom line should be comfortably manageable even if oil prices stay depressed through most of 2016.


Bank of America's headquarters in Charlotte, North Carolina. Image source: iStock/Thinkstock.

Even if the price of oil stays at $30 a barrel for the next nine months, Bank of America (BAC -0.28%) says that it will have to write off only $700 million worth of energy loans. This should come as a relief to investors given that the $2.1 trillion bank has already built up a $500 million reserve against those loans that would be used to absorb the losses.

To be clear, $700 million is a lot of money -- even to the nation's second biggest bank by assets. Bank of America is currently earning an average of roughly $3.5 billion a quarter. Reducing that figure by $700 million would result in a 20% decline.


Data source: Bank of America's 4Q15 earnings presentation, slide 10.

But there are two things to keep in mind. First, most of this loss has already made its way through Bank of America's income statement. Each quarter, a bank assesses its loan portfolios for potential problems. When it identifies loans that could default, it records a loan loss provision. In the latest quarter, for instance, Bank of America's provision for credit losses was $810 million, allocated over its entire $900 billion loan portfolio. These provisions then pour into a bank's loan loss reserves, which hold the funds until losses actually materialize.

As a result, even if Bank of America does in fact have to write off $700 million in energy loans over the next nine quarters, only $200 million of that will hit its income statement, thanks to its $500 million in accumulated reserves. Here's how CFO Paul Donofrio explained this on the bank's fourth-quarter conference call:

So we've got a reserve on our energy portfolio of $500 million. That is 6% of those 2 subsectors that we think are high risk. And we have done modeling -- stress test modeling at various oil prices. The one we've been talking about in this call has been at $30, and that's over nine quarters. And so if oil stayed at $30 for nine quarters, we would think that our losses over those nine quarters would be $700 million. Again, that would go against the $500 million we already have reserved.

The second thing to keep in mind that is Bank of America is widely diversified, both geographically and across industries. Its energy loans account for only 2% of its total loan portfolio. And within that, only 39% of its energy portfolio stems from loans to the higher-risk subsectors of oil-field servicers and those engaged in exploration and production. This isn't to say that Bank of America won't experience losses in other areas of its energy portfolio, but any that rear their heads should be less severe than those in subsectors that are particularly vulnerable to low oil prices.

It's worth keeping in mind as well that Bank of America has $163 billion worth of Tier 1 common capital. While a $700 million hit might render a smaller bank insolvent, in other words, the $200 incremental impact on Bank of America should be relatively negligible so long as its estimates prove to be accurate.

Invest Smarter with The Motley Fool

Join Over 1 Million Premium Members Receiving…

  • New Stock Picks Each Month
  • Detailed Analysis of Companies
  • Model Portfolios
  • Live Streaming During Market Hours
  • And Much More
Get Started Now

Stocks Mentioned

Bank of America Corporation Stock Quote
Bank of America Corporation
BAC
$32.26 (-0.28%) $0.09

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

Related Articles

Motley Fool Returns

Motley Fool Stock Advisor

Market-beating stocks from our award-winning analyst team.

Stock Advisor Returns
332%
 
S&P 500 Returns
115%

Calculated by average return of all stock recommendations since inception of the Stock Advisor service in February of 2002. Returns as of 06/28/2022.

Discounted offers are only available to new members. Stock Advisor list price is $199 per year.

Premium Investing Services

Invest better with The Motley Fool. Get stock recommendations, portfolio guidance, and more from The Motley Fool's premium services.