We have a deal. You, the US taxpayer, have generously provided to Bank of America the following: one Treasury-FDIC guarantee “against the possibility of unusually large losses” on a pool of assets taken over from Merrill Lynch to the tune of $118bn, and a further Fed back stop if the Treasury-FDIC piece is not enough. In return we receive $4bn of preferred shares and a small amount of warrants “as a fee”. There is a $10bn “deductible,” i.e., BoA pays the first $10bn in losses, then remaining losses are paid 90% by the government and 10% by BoA.
We are also investing $20bn in preferred equity, with a 8 percent dividend. There will be constraints on executive compensation and BoA will implement a mortgage loan modification program. Essentially, this is the same deal that Citigroup received just before Thanksgiving, known as Citigroup II, which was generous to bank shareholders but not good value for the taxpayer.
This is more of the same incoherent Policy By Deal that has failed to stabilize the financial system, while also greatly annoying pretty much everyone on Capitol Hill. Hopefully, it is the last gasp of the Paulson strategy and the Obama team will shortly unveil a more systematic approach to bank recapitalization; it would be a major mistake to continue in the Citi II/BoA II vein.
In addition, you might ponder the following issues raised by the term sheet.
1. The $118bn contains assets with a current book value of up to $37bn plus derivatives with a maximum future loss of up to $81bn. This is more detail than we got in the Citi deal, so there is evidently greater sensitivity to calls for transparency. But the maximum future loss is based on “valuations agreed between institution and USG.” What is the exact basis for these valuations? From the term sheet, it sounds like we are talking mostly about derivatives that reference underlying residential mortgages. Absent any other information, my guess is that they can easily lose more than $81bn – depending on how the macroeconomy and housing market turn out.
2. What is the strike price of the warrants? This was controversial in the Citigroup II deal (because it was unreasonably high), but at least it was quite explicit up front. The announcement is suspiciously quiet on this point, perhaps due to the recent spotlight on warrant pricing terms.
3. What kind of reporting will there be by BoA to Treasury, and what will be disclosed to Congress, in terms of the exact securities covered by this guarantee and how they perform? The lack of information is a big reason why TARP became discredited and Capitol Hill is so concerned to see more transparency going forward. There is nothing in the term sheet that reveals the true governance mechanisms that will be put in place, or how information will be shared with the people whose money is at stake (you and me, or our elected representatives). I understand there is market-sensitive information present, but there are obviously well-established ways to share confidential information with members of Congress.
Overall, it feels like the latest (and hopefully the last) in a long line of ad hoc deals, which have done very little to help the economy turn the corner. The new fiscal stimulus needs to be supported by a proper bank recapitalization program, as well as by a large scale initiative on housing.
12 thoughts on “Bank of America Gets Quite a Deal”
There is a lot of talk following the Bernanke speech in London of setting up a “Bad Bank” which would buy toxic assets from the banks and thus remove doubts about their financial health.
Of course, this was the original intent of the TARP program.
I am wondering how this could work.
First, how does one know how to fairly value these assets?
Second, if one can fairly value these assets under current conditions, will paying the fair market value leave the banks in such poor condition that they will need additional capital injections to survive?
Third, is it possible to ascertain which assets are toxic and which are not? Certain mortgages or loans may look good today only to turn toxic in a couple of months. It seems to me that as long as the economy is in recession, doubts about banks’ financial health will linger.
It would be ideal to identify all toxic assets and sequester them in a single depository. Unfortunately, I think that might be difficult to carry out.
Over the past couple of months I missed a couple of payments on my Bank of America card. I was out of town for some of the time and just forgot to make a payment. They put my interest rate at 10 times what it had been before. I pointed out that I had sent them 600.00 all of my fees and penalties but informed them that i would not be able to pay the higher interest rate which is now 30%. They refused and closed my credit card hurting my credit but keeping the new 30% interest fee intact. Bank of America has little mercy or patience for their customers and they are burying people like me and at the same time getting massive government welfare. Obviously Bank of America is a dark enterprise whose ambition for money and power has created a significant negative influence on the lives hundreds of thousands of people. I do not know what can be done about them But I do wish that something is done change this company into something much worthy of its name.
not a fan im thinking more and more they should have gone under and FDIC insured… this is a joke there is no remedy we WILL NEVER COLLECT REVENUE ON EPIC DEBT THEY HAVE NO MONEY… luckily they own the fed and will use ‘hopefully’ inflation to ‘help’ cover thair aims’… but as they seek to KEEP thair wealth and inflation is the cure… WE LOOSE THEY WIN THEY OWN THE FED AND DOLLAR POLICY… good luck in 2×9
Sweet heart deals to financial service companies are not a solution to the financial crisis. These handouts are indicative of how corrupt the U.S. government has become.
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