Regulators Ask Bank of America About Contingency Plans

The Feds appear to be taking the risk that Bank of America might go wobbly seriously, but are they taking it seriously enough?

We quoted Tom Adams on the matter of the Buffett investment in the Charlotte bank:

This is being spun as good news for BofA but it is really a sign of just how much trouble they are in. This is step one of their rescue. The powers that be felt they could not wait any longer with BofA so damaged, and that a run or crisis was one bad news day away (earlier this week I predicted some rescue action within 2-3 weeks). Step two, some additional lifeline will show up in September. Step three will be a sale of Merrill.

Some readers rejected the idea that a Merrill separation would ever be in the cards, given that Bank of America has made a great deal of noise about how it has integrated the securities firm. But the fact is that Merrill, or any of the major capital markets players would be well nigh impossible to resolve without having serious market impact. Harvey Miller, the dean of the American bankruptcy bar, was quoted in Too Big Too Fail as saying that winding down a mere midsized US securities firm was a highly disruptive event. Not that Merrill would have to be wound down, but if the old BofA foundered and Merrill had been knit tightly into the commercial banking operations, it could be extremely difficult to reverse the deal.

A story in the Wall Street Journal indicates that the bank has considered some preliminary measures in its contingency plans:

Executives of the bank recently responded to the unusual request from the Federal Reserve with a list of options that includes the issuance of a separate class of shares tied to the performance of its Merrill Lynch securities unit, these people said. Bank of America purchased Merrill Lynch in 2009, and it has become the bank’s most profitable division.

Chief Executive Brian Moynihan isn’t expected to pull the trigger soon, if ever, on the creation of a so-called Merrill Lynch tracking stock. Such a move would raise money from investors but could be viewed as counter to Mr. Moynihan’s strategy of knitting together the disparate parts of the franchise into a cohesive whole. Its inclusion on the list as a theoretical option shows the bank is considering all possibilities as it wrestles with an array of problems weighing down its shares….

The Fed’s call for more documentation about what the bank might do in more-extreme circumstances was a response to uncertainty about a U.S. economic recovery and a downward swing in Bank of America’s share price earlier this year, one of these people said. It was a one-time request, although the Fed has done the same with other firms in the past.

Bank of America did the analysis at the Fed’s request in late July and early August and then provided the Fed with its menu of options, said people familiar with the situation. Some items, such as the tracking stock, were more theoretical than others.

Mr. Moynihan isn’t giving the tracking stock serious consideration at this point, said a person familiar with the situation, but he included it on the list to show the company has multiple levers to pull.

I must stress, as the Journal does, that no action of this sort appears to be imminent. However, Bank of America’s mortgage woes appear to be worsening by the day. If Europe goes into a full-blown crisis, investors will dump investments they perceive to be risky first and ask questions later, and BofA is very likely to be caught in the downdraft. One gets the strong impression that management does not appreciate how real this risk is. Thus while regulatory prodding to develop contingency plans is in theory a sound measure, in practice they won’t do much good if management refuses to believe that they might be needed.

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  1. Mikhail Kropotkin

    Do all those contingency plans include provisions for the “head exploding” amounts of cash, as the stock will be worth nada, to usher executives on to their next appointment?

    Are those provisions visible in the documents? After all, 9 figure sums are worth hearing about.

    1. ambrit

      Dear attempter;
      Well Pardner, ifn you was an Injun, seeing tha Cavalry come over that there hill mightn’t be such a good thing. Know what I mean?

  2. Linus Huber

    Thus while regulatory prodding to develop contingency plans is in theory a sound measure, in practice they won’t do much good if management refuses to believe that they might be needed.

    That is another reason supporting the idea that no regulation will do that does not include personal liability of those bankers.

  3. NYT

    “Thus while regulatory prodding to develop contingency plans is in theory a sound measure, in practice they won’t do much good if management refuses to believe that they might be needed.”

    I think you’ve got this wrong. If management believe contingency plans might be needed, previous experience shows the best thing they can do is refuse to develop those plans.
    In fact the best thing they can do is embed themselves even further by writing more derivatives etc
    Perhaps that would even explain BofAs purchases of Countrywide and ML at seemingly insane valuations

  4. Fractal

    Bloomberg (click my name) says BAC dropped 8.5% in Tokyo this morning (presumably on the Nikkei).

    Sounds to me like we’re havin’ a long Lehman weekend!

  5. chris

    how can guys like Dick Bove stay employed? He has been saying that bank of america has so much cash and are so sound they are a bargain at this price. He said the same things before all the other banks crashed in 2007-9 ……How do they stay employed….. unreal….

    1. gs_runsthiscountry

      Dick Bove is that crazy uncle you avoid at family gatherings. Dick Bove is that professor you avoid for 3 semesters, even though he is the only one that teaches the class. Dick Bove is that man, when he walkes into the corner bar at happy hour everyone sighs, and mutters under their breath in disdain. In short, Dick Bove is an effin’ TOOL.

      Why call Chris Whalen or others to appear Bloomberg or CNBC to tell the truth, when the producers can give DICK a jingle, and trot out the resident shill and bank apologist.

      Famous last words paraphrased last week “they are very well capitalized, if you take out mortgage litigation.”

      Really DICK?

  6. Butschio

    BofA cant go down even without Merril they had ~ 70 trillions nomal value of derivatives in their books. The market value of this derivatives could swing wildly in a disruptive market or with counterparties (in europe) going down. ASFAIR Merril added around 20 trillion in nomial value.

    No major bank will be left standing if BofA goes down with this volume of derivativs. Lehmann is nothin compared to BofA hitting the wall. BofA is really to big to fail.

    1. Nathanael

      BoA will fail. The derivatives are weapons of mass destruction, as Buffett called them, and are actually likely to collapse well before the bank as a whole.

  7. lambert strether

    The banks have every advantage. There’s no regulation. The rule of law does not apply to them. They can seize people’s houses without recourse. They’re raising their fees. They’re ejecting unprofitable depositors entirely. They were handed $16 trillion of tax payer money in the last “crisis.” They can get money at 0% and lend it out for pure profit.

    And apparently they’re in financial trouble. How can that be? What’s wrong with this picture? Seriously, they’ve got everything going for them and they can’t make money? Are the balance sheets fraudulent, and all the loot is offshore?

    1. Hemeantwell

      NB the NYTimes reports this morning that the feds have decided to go after BoA, along with other banks, for their crappy mortgage securitization. Is that the straw?

    2. Siggy

      The balance sheets are misleading at best and potentially fraudulent. Why do I know this, the market says so!

    3. Susan the other

      I’ve been thinking the money from the investors didn’t go into buying more mortgages because all they do to buy more mortgages is flip a credit switch. So where did it go? Offshore, yes. And then who benefited? The military, the war effort, and our pathetic imperialism.

    4. F. Beard

      Seriously, they’ve got everything going for them and they can’t make money? lambert strether

      Those “assets” on their balance sheets depend on a healthy economy to service them. But a healthy economy depends (unfortunately) on ever increasing debt. But the banks don’t won’t to lend because the economy is unhealthy.

      Tis a classic “Catch-22”

  8. RueTheDay

    Whatever happened to the “living wills” part of Dodd-Frank?

    BAC will not be allowed to fail, but there will be no separation of Merrill. There will be a bailout.

    This will demonstrate that both Republicans and Democrats were full of scheiße. Republicans for insisting there was no need for reform and that banks could be allowed to fail. Democrats for insisting that Dodd-Frank was the be-all end-all of financial reform. We need real reform.

    1. Fractal

      Outstanding German “s” in that scheisse! Where do you get that font?

      BTW, I’m betting there will be NO bailout before the date of the last primary election in 2012 (of either party). I feel in my bones that FDIC & Fed desperately desire to resolve BAC. Not sure they will in fact “resolve” BAC as provided in Dodd-Frank, but they will kill it, because bailouts cannot happen soon enough.

    2. Septimus

      Buffett’s $5 bil can cover a pretty big fine! Did Obama KNOW this was coming when he got Buffett to invest? (Joke!)

  9. Enraged

    I want to ask a (possibly) dumb question…
    Everyone seems up in arms with the idea of BofA going under, after the hefty bailout that, obviously, wasn’t going to work from the get go and the additional mismanagement afterwards.

    Are any of its grossly overpaid and incompetent (if not flat out dishonest) directors, managers, officers, etc… going to go to jail? Please, please, please…? Are any of them going to have to repay those obscene bonuses? Will justice be served at some point in the future, during my lifetime?

  10. Hugh

    1. Nothing has changed from September 2008.
    2. All of the banks remain insolvent.
    3. BAC is just the most obviously so.

    My guess is that at some point BAC will be AIG’ed. Merill will be sold off. And Countrywide will become Maiden Lane IV.

    If Europe or China blow up, then the whole sector, not just BAC, goes too.

  11. notabanker

    Moynihan out, Bob Kelly in, ML spun off, Countrywide bad bank, BOA Retail good bank and all is well in pretendandextendland.

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