The Single Biggest Threat to Bank of America Today

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The Single Biggest Threat to Bank of America Today


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This is the first in a series of five articles covering Bank of America’s legal problems since the financial crisis. Check back throughout the week as we publish the rest of the series.

If Bank of America (NYSE: BAC ) faced death by supernova during the financial crisis, in the years since, it’s been battling death by a thousand cuts. Though we’re now five years past the darkest days of the downturn, the executives at B of A remain profoundly ensconced in it thanks to a seemingly endless barrage of lawsuits stemming from the ill-fated acquisition of Countrywide Financial in 2008.

Although this may sound like hyperbole, the manner in which these lawsuits play out will dictate not only when B of A fully emerges from the proverbial fog of war, but even if it completely emerges at all. Tens of billions of dollars in legal liability from these suits could still bring the lender to its knees.

What follows is the first of five articles providing an in-depth analysis of not only B of A’s legal victories, which are many, but more importantly, the threats that lie ahead for the nation’s second largest lender by assets.

Appreciating the scale of B of A’s legal liabilities B of A’s purchase of Countrywide will go down in history as one of the worst, if not the worst, corporate acquisitions of all time. In the four years leading up to the financial crisis, Countrywide underwrote a staggering $1.562 trillion in residential mortgages. Those mortgages were then sold to government-sponsored agencies Fannie Mae or Freddie Mac or packaged into mortgage-backed securities and peddled to institutional investors like university endowments, public pension funds, and insurance companies. A full $301 billion of these loans have since either gone into default or are severely delinquent — that is, more than 180 days past due — and investors are now looking to B of A to make them whole.

Given the scale and multitude of legal claims brought against B of A, it’s understandably hard to appreciate the progress the bank has made versus the challenges that remain. To this end, I’ve found it helpful to break the analysis down into three different buckets:

  1. Lawsuits and settlements related to the servicing of mortgages.
  2. Settlements related to the sale of whole mortgages to government-sponsored agencies Fannie Mae and Freddie Mac.
  3. Lawsuits related to the sale of mortgage-backed securities to institutional investors.

You can see this breakdown in the following infographic — the green houses represent settled claims, and the red houses show estimates of liability remaining.

In terms of progress, the best news so far has come from the mortgage-servicing issues (the first bucket). In February of last year, the bank joined four other mortgage servicers — JPMorgan Chase (NYSE: JPM ) , Citigroup (NYSE: C ) , Wells Fargo (NYSE: WFC ) , and Ally Financial — in a landmark settlement with the U.S. Justice Department and 49 state attorneys general. The deal called for a total of $25 billion in cash and other relief to borrowers, with B of A’s share weighing in at a whopping $11.82 billion.

Then, in January of this year, B of A joined with nine other mortgage servicers to settle similar claims brought by the Federal Reserve and the Office of the Comptroller of the Currency. Taken together, while expensive, these agreements effectively put the mortgage-servicing component of B of A’s liability to rest.

B of A has also addressed the lion’s share of its liability stemming from the sale of mortgages to Fannie Mae and Freddie Mac (the second bucket). Between 2004 and 2008, Countrywide sold a total of $846 billion in mortgages, or 54% of its aggregate origination volume, to these institutions. By the end of last September, a full $71 billion of the mortgages were in default, and $40 billion were severely delinquent.

In two settlements, one at the beginning of 2011 and the other at the beginning of this year, B of A paid a total of $10.08 billion (including cash and non-cash relief) to extinguish “substantially all” unresolved claims, as well as any future claims associated with loans sold to the government-sponsored enterprises. That settlement amount equates to roughly $0.09 on every dollar of the loans that were either in default or severely delinquent.

The trickiest bucket of all The only bucket remaining, then, is the one related to Countrywide’s sale of mortgage-backed securities to institutional investors. The problem is that this slice of the liability pie — while representing only 46% of Countrywide’s mortgage origination volume from 2004 to 2008 — accounts for an inordinate share of B of A’s total liability. This is because the mortgages packaged into securities were the worst of the worst, both in terms of how they’ve performed and the adequacy of the underlying collateral.

As noted above, of the $846 billion in mortgages sold to the GSEs, a total of $111 billion, or 13%, have either defaulted or are severely delinquent. By comparison, of the $716 billion in mortgages sold to private investors, $190 billion, or 26.5%, are similarly situated. In addition, most loans sold to the GSEs are secured by first liens, whereas many of the mortgages sold to private investors are secured by second and/or third liens.

While the amount B of A will end up owing to purchasers of Countrywide’s MBSes remains a mystery, we know at least two things. First, it’ll probably be a generous amount. And second, whatever the amount, it’ll be a function of three different categories of cases making their way through the courts:

  • BoNY breach-of-contract: A proceeding in New York in which B of A is seeking judicial approval of an $8.5 billion breach-of-contract settlement between Countrywide, 22 institutional investors, and Bank of New York Mellon (NYSE: BNY ) acting in its capacity as the trustee for $424 billion worth of MBSes.
  • Insurers breach-of-contract: A handful of cases — likewise in NY — that concern breach-of-contract actions brought by bond insurers like MBIA (NYSE: MBI ) that insured Countrywide’s mortgage-backed securities against default.
  • Securities fraud: More than 20 cases in a federal court in California that address claims of securities fraud against Countrywide and an assortment of other Wall Street banks related to the sale of MBSes.

So, where does B of A stand? If you’re an investor in B of A, it probably seems like the bank will never be done paying for its ill-fated decision five years ago to purchase Countrywide. But what I hope I’ve demonstrated here is that the end is indeed in sight. It’s just a ways off.

The bank has already put tens of billions of dollars in liability behind it with the GSE and servicing related global settlements. And by quarantining the lion’s share of remaining lawsuits into only two courts — the New York court overseeing the BNY Mellon settlement and claims by bond insurers, and the federal court in California presiding over the securities fraud charges — B of A’s legal team has positioned the bank to reach global settlements with the remaining litigants.

This isn’t to say that things couldn’t go awry, because they most certainly could. But the chances of that are decreasing with time.

While this may be the most pressing issue for Bank of America investors to consider, the big picture is much bigger than just the bank’s legal issues. To dig in further on the banking giant, I invite you to check out our in-depth company report on Bank of America. The report details Bank of America’s prospects, including three reasons to buy and three reasons to sell. Just click here to get access.


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Individuals who blew the whistle on a mortgage fraud scheme that ended up costing JPMorgan Chase (JPM) $296 million in fines have about three months to prove that their information helped lead to the settlement with federal regulators.

JPMorgan Chase agreed to pay the fines to resolve allegations that it and Bear Stearns, which it acquired in 2008, misled investors about the quality of mortgage-backed securities they sold during the run-up to the financial crisis.

Whoever can show they provided information that enabled the Securities and Exchange Commission to extract a pledge by the nation’s biggest bank has until May 9 to document how he or she helped regulators enforce laws that led to the settlement, the SEC said Friday.

The settlement stems from a lawsuit the SEC filed in U.S. District Court in Washington in November that charged JPMorgan Chase with misleading investors about loans that provided collateral for a December 2006 offering of residential mortgage-backed securities. The suit alleged the bank knew that 7% of the loans that backed the securities were delinquent by between 30 and 59 days and in some instances longer but only told investors that 0.04% of the loans had such infirmities. Investors lost at least $37 million as a result of the allegedly undisclosed delinquencies while JPMorgan Chase received fees of roughly $2.7 million in underwriting fees.

The SEC further charged Bear Stearns with failing to tell investors in 156 residential mortgage-backed securities transactions over a roughly two-year period beginning in 2005 that the firm had kept most of the proceeds from buybacks by originators of loans that suffered defaults or had other defects. According to the SEC, Bear Stearns collected roughly $137.8 million from originators without paying anything to investors who had purchased the securities.

The lawsuit was based on information from at least one unnamed person who provided information about the alleged violations of securities laws by the companies. Under the agency’s whistleblower program, which was created by Congress as part of the Dodd-Frank Act, eligible whistleblowers can claim between 10% and 30% of penalties collected by the regulators.


As part of the settlement, JPMorgan Chase agreed to pay $222.4 million to settle the bulk sales charges and $74.5 million to settle claims in connection with the delinquency disclosures.

By law the SEC, which must review the merits of any claims, can increase or lower an award based on the agency’s review of a whistleblower’s claim to proceeds. Funds that remain unclaimed by whistleblowers become the property of the government.

An SEC spokeswoman declined to comment on the case, which the agency coordinated with a joint federal-state task force that was formed last year by the Justice Department to probe misconduct in the mortgage market. A JPMorgan Chase spokesman did not respond immediately to a request for comment.

The company still faces varied claims stemming from its underwriting and sale of mortgage-backed securities on the eve of the financial crisis. In October, New York Attorney General Eric Schneiderman sued the bank charging that Bear Stearns abandoned its credit guidelines for reviewing borrowers whose loans backed securities it sold to investors over a roughly five years starting in 2003.

JPMorgan Chase also is one of 17 banks that have been sued by the Federal Housing Finance Agency for allegedly misleading Fannie Mae and Freddie Mac in connection with the sale of mortgage-backed securities.


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