All bark and very little bite

Hey there, time traveller!
This article was published 04/07/2011 (5232 days ago), so information in it may no longer be current.

NEW YORK — Not for the first time, tough talk was merely a prelude to a hefty settlement. Brian Moynihan, Bank of America’s boss, had vowed to engage in “hand-to-hand combat” with investors suing to recover losses on mortgage-backed securities peddled before the housing market collapsed. He had even likened them, none too diplomatically, to buyers of a Chevy who wanted it to be a Mercedes. In the end, though, B of A rolled over surprisingly quickly in order to relieve the worst of its housing-related headaches, a product of its ill-advised purchase of Countrywide, a gung-ho mortgage lender.

The bank will pay $8.5 billion to investors in more than 500 countrywide-linked securitizations who had claimed the loans breached basic underwriting standards. The deal is backed by the loans’ trustee, Bank of New York Mellon and 22 of the biggest out-of-pocket money managers, including BlackRock and PIMCO.

The forceful involvement of these big investors — lucrative B of A clients in a host of areas — was an incentive for the bank to agree to terms. So was the fact that the Federal Reserve Bank of New York was a plaintiff, thanks to securities inherited in the rescue of AIG. And for all his combative rhetoric, Moynihan has been keen to draw a line under B of A’s problems since taking over from the hapless Ken Lewis 18 months ago. He has shoved questionable loans into a “bad bank” and restructured key businesses, while completing the integration of Merrill Lynch, an investment bank acquired during the crisis. Analysts saw mortgage-backed securities lawsuits as the biggest of the legacy risks dragging the bank’s share price below its book value.

Some dangers remain; the settlement deals with much of the Countrywide dross, but it doesn’t cover loans handled by other B of A units or those securitized after being sold to third parties. Merrill faces $11 billion of residential mortgage claims, calculates Christopher Whalen of Institutional Risk Analytics, a ratings firm.

B of A still has lots of haggling to do with Fannie Mae and Freddie Mac, the housing finance agencies that guaranteed piles of bad loans, and with private bond insurers. The final bill will be far higher than the cheque written this week.

The bank plans to set aside a further $12 billion for mortgage-related charges and thinks another $5 billion may be needed on top of that, though given the waywardness of B of A’s past estimates, it could be more. The prices paid at the time for Countrywide and Merrill were, it turns out, just deposits.

The capitulation will worry other large banks, even though they are less exposed than B of A, which services one in five American mortgages. The two most vulnerable are Wells Fargo and JPMorgan Chase — again, largely thanks to crisis-era acquisitions (of Wachovia and Bear Stearns, respectively). Bear Stearns alone faces $18 billion in securities fraud claims out of an industry total of roughly $200 billion, calculates Whalen.

Worse, new legal challenges are emerging all the time, the latest from the federal agency that oversees credit unions, some of which were felled by bad mortgage investments. Mortgage servicers are also bracing for combined fines of between $5 billion and $20 billion as part of a settlement with state attorneys general over foreclosure practices (remember robo-signing?). And that’s to say nothing of further loan losses as house prices fall.

Moynihan deserves praise for biting the bullet on mortgage-backed securities. He is determined to end talk of his firm having replaced Citigroup as America’s clumsiest bank.

Still, it will be quite some time before B of A itself looks more like a gleaming S-Class than a lumbering old jalopy.