BAC-WT - Bank of America Warrants

[BargainValueHunter]

Quick question...

 

The liabilities of Countrywide have been discussed constantly in the press.

 

But can anyone see a day where Countrywide is a healthy mortgage originator delivering solid, steady earnings to the parent company?

 

The mortgage market won't stay broken until the end of time, after all. 8)

[ERICOPOLY]

I found this interesting -- old news (from August) to some of you:

 

L.A. judge puts time limit on BofA MBS fraud claims

http://newsandinsight.thomsonreuters.com/Legal/News/2011/08_-_August/L_A__judge_puts_time_limit_on_BofA_MBS_fraud_claims/

 

Pfaelzer's findings aren't binding on any other district court judge presiding over a Countrywide MBS fraud case, and there are still unanswered questions about whether the MBS class action tolls the statute. But the Stichting ABP opinion is definitely not good news for anyone who's still contemplating federal fraud claims in an MBS fraud suit against Countrywide. Plaintiffs are going to have come up with a very good explanation for why they waited until now to bring those claims.

[MrB]

-------------A question:: I did not understand your comments about "time is your enemy...". As I view it, it is good for equity holders that BoA will likely need to meet its liability over several years. It would be better if there were no liability, but given that there is liability spreading it out is better for equity holders. Is that what you meant?

 

On the JP Morgan report, if one assumes that it is directionally right, then BoA put-back claims were only about $11B by around Aug 2010. Perhaps the claims have gone up, but by how much is the question. I am guessing there exist more updated estimate of how much the claims stand at around now?-------------------

 

Yes. Put another way. If I am receiving $1 then the longer I have to wait the less it is worth...time not my friend/enemy...but when I have to pay $1 then the longer it takes the less I have to pay in "real" terms/present value. Anyway, you understood it right, I obviously just explained it badly.

 

Putbacks Q3 2011 - $16Bn incurred and management was expecting another $5Bn, so at $21Bn, but has been trending up and is currently a the top end of the original range. There is a lot of noise around the issue and as always it is important to anchor yourself in the facts before reading others' analysis, including views on this Board, starting with mine. See Note 9 (page 198) of the latest Q. It does a good job of laying out the GSE/non-GSE issues, including where the $8.5Bn settlement fits in.

 

When reading it bear the following in mind.

1. How big is the potential liability?

2. How long will it take to resolve (time value of money).

3. How complex is the issue. Complex is good, because it ties in with 2. above.

4. What are the mitigating issues e.g. can anything be claimed back from the mortgage insurers, correspondents, etc.

 

Hope it helps.

[MrB]

www.fairholmefunds.com/pdf/amaii2011.pdf

 

Don't think I have seen the transcript of Berkowitz's presentation at the AAII posted here. He spends quite a bit of time talking about BofA and I think the following does give his comments an interesting angle,

1. Berkowitz started his career at Merrill Lynch in London in 1982

2. He invested in the banks in a big way during the boom/bust cycle of the late 1980's/early 1990's, so he has done this before.

 

Lastly, for those that bought BofA early...

 

From page 6 "For me, the period that we’re in right now is very reminiscent of the early 90s. I remember having a gigantic position in Wells Fargo. Everyone thought they were going to go bust, because they had all of these empty commercial buildings in California and all over the place. They didn’t go bust. It was a rough time, and they made seven times money. I don’t think its going to happen that way. But if people who are in the banks during this doom and gloom period made 5 to 10 times their money, history repeats itself. Not exactly the same way but if you understand, critical to the functioning of this country, critical to job growth, critical to the safety and security of our nation, they have to succeed. Even if they succeed in a non-excessive way, with a very reasonable profit, one would do quite well based upon the price. Very reminiscent of the start in the late ‘80s, and it went to the ‘90s, 1992, 1993, it went up, it came down. People didn’t understand. They lost money again, and then boom! Because of this consolidation, there were fewer players; so tremendous uncertainty which should diminish over the next 12 months, big bias. This is how we do it. And usually it means buying something that’s hated. And something where the newspaper everyday is going to tell you, “You’re wrong.” And your friends are going to tell you, “You’re wrong.” There’s going to be something else that is hot and juicy, some new thing which you are going to want to get in on, and you usually feel pretty lousy about it. Because, when you’re early, you look wrong. You make your most money when times are at their toughest. You just don’t know it at the time. "

[MrB]

On sale. 52 wk low at time of writing.

[Rabbitisrich]

I wonder whether $5 can really represent a technical point despite hovering around that price. Wouldn't the people who have to sell at that price already have sold for risk management purposes?

[Rabbitisrich]

This will be interesting:http://blogs.desmoinesregister.com/dmr/index.php/2011/12/08/iowa-ag-says-mortgage-settlement-should-be-done-by-christmas/

 

Iowa Attorney General Tom Miller said Thursday a settlement between almost all state attorneys general and the five largest mortgage servicers should be finalized before Christmas, with or without California.The deal, which Miller has been trying to negotiate since March, would release the five servicers – Ally Financial, Bank of America, Citigroup, J.P. Morgan Chase, and Wells Fargo – from legal claims on past home loan servicing and foreclosures. The deal would not prohibit individuals from suing the banks, or government prosecutors from suing banks over issues related to the packaging of home loans into mortgage-backed securities.In return the banks will agree to pay for what Miller calls “substantial principal reductions” for homeowners who are underwater, and agree to a set of mortgage servicing standards, interest rate reductions, and cash payments to some homeowners who’ve alrady gone through foreclosure.

[ERICOPOLY]

This article cites Keefe, Bruyette, Woods stating that BofA is now at about 6.25% on a fully phased in Basel III basis.  (before counting the effect of Q4 earnings).

 

http://blogs.wsj.com/marketbeat/2011/11/22/bank-of-america-stock-price-nears-two-year-low-on-story-of-spat-with-regulators/?KEYWORDS=Bank+of+America

 

I can't find the document, but in one of the presentations or transcripts I saw BofA state that a loan book in runoff will give them another 100bps by 2015.  So that would bring it up to 7.25%

 

Elsewhere I saw Moynihan state that about $18b is 100bps.

 

Somewhere between now and 2019 (hopefully sooner) they need to retain ~$36b.  They can probably achieve this over the next 24 months if things continue to bump along in the economy.  They have those tax losses to monetize so I think $36b in two years is reasonable as that is only $18b a year before taxes.

 

So that's about the next 2 years of earnings down the drain.  Or maybe ~1.5 years of peak earnings power at 1% ROA.

 

Then there are the legal challenges.  I don't know how that plays out of course, but...

$15b to the FHFA MBS securities lawsuit filed in September (estimate is not from reliable sourse -- it came from TylerDurden so likely too high if anything)

$10b to AIG

$50b to shareholders suing over Merrill Lynch acquisition

that's $75 billion thus far, for another 3 years or so of earnings if paid in full (seems pretty unlikely).  But perhaps it's settled for as much as 1/2 of that, or say 1.5 years of pre-tax earnings.

 

So anyways, I come to about 3-4 years of earnings to flush down the drain just building capital and paying off lawsuits.

 

Maybe 4-5 years if they wind up paying another $20-25b to settle with Seth Klarman's gang.  Or perhaps they'll get more than that.  Maybe they get $40b and it's 5-6 years.

 

Anyhow, if you think it's worth 10x earnings of $2 per share yet will suck up 5 years of earnings then it's only a $12 stock (so you get 10% a year as it rises over 5 years to $20).

 

Then you take that $12 and discount it yet again to account for the fact that better companies like WFC do not trade at their peak earnings power either.  Then add more of a discount for the CDS counterparty headline risk out of Europe etc... 

 

So buying it here at roughly $5 could be worth 4x upside in 5 years time if those nightmarish legal bills come in as I described and if they are at 1% ROA by then and trading for 10x earnings.

 

Sorry if you had to read all of that.  What I'm doing here is trying to compare the discounting going on between BAC to C.  C might be worth $60 or so at 1% ROA, yet trades at $26.  Absent a Europe blowup that could theoretically wipe out common stock value of either bank or both of them,  Citi will be returning earnings sooner.  They can double their book value over the next 5 years given that they are farther along in Basel III progress and can start buying back shares next year (for 1/2 of book no less) and paying dividends which of course can be used to buy more shares (same impact as stock buybacks except for taxes). 

 

So I don't know.  C may be just as cheap as BAC when you account for the impact of how many years of BAC's earnings may be sequestered.

 

Then again, maybe BAC strings out the lawsuits and puts Countrywide into bankruptcy 5 years from now.  Or perhaps they settle with shareholders for only $10b and Klarman's gang is stuck with just $8.5b.  Then AIG is tossed out for being "sophisticated" investors or the FHFA settles for only $5b.

 

The market is seemingly thinking the legal bills will be about the size I mentioned, or at least that's what they might be discounting the stock to account for the risk of it being that large.

 

 

 

 

[onyx1]

Then there are the legal challenges.  I don't know how that plays out of course, but...

$15b to the FHFA MBS securities lawsuit filed in September (estimate is not from reliable sourse -- it came from TylerDurden so likely too high if anything)

$10b to AIG

$50b to shareholders suing over Merrill Lynch acquisition

that's $75 billion thus far, for another 3 years or so of earnings if paid in full (seems pretty unlikely).  But perhaps it's settled for as much as 1/2 of that, or say 1.5 years of pre-tax earnings.

 

So anyways, I come to about 3-4 years of earnings to flush down the drain just building capital and paying off lawsuits.

Eric,

I agree with your general framework.  My main comment is that the analysis should include litigation reserves.

 

BAC has already set up an undisclosed amount of litigation reserves that will substantially improve the results of the analysis.  These reserves are designed to cover expected losses on those cases where losses are probable and estimates can be made.

 

For example, it likely includes an estimate of the ML acquisition case liability and at a figure significantly less than the $50bln the plaintiffs are asking for.  The $50bln is based on the market value move after ML posted a $15.3bln loss after the acquisition.  The crux of the case is the timing of the disclosure of losses on ML’s MBS super senior positions prior to BAC’s shareholder vote.  SS valuation was very difficult at the time as nothing was trading.  The mark down grew from about $2bln to $11bln over several months prior to the shareholder vote.  I don’t see BAC being held responsible for Mr. Market’s reaction, but rather some amount in the low end range of the SS write down, say $3-$5bln.  This amount should be covered in current litigation reserves.

 

$10bln AIG losses should be covered by R&W reserves consistent with the settlement with BNY-Mellon.

 

FHFA lawsuit.  I agree the TylerDurden $15bln loss estimate appears too high.  The original face amount of the securities in question is $57bln.  These securities are senior to all others and are paying down around 15% of original face per year.  They have a current face of $24bln. The GSE have them marked at 67%.  If these marks are correct, then in a worst case scenario of a rescission of all trades, BAC loses $33% of $24bln = $8bln less whatever interest the GSEs have collected to date, say $1bln, or $7bln.  The losses would drop if BAC is able to collect from correspondent lenders and other guarantors representing 28% of R&W claims.  A settlement of this lawsuit of $2-4bln would not surprise me and once again this amount should be covered in reserves.

 

If litigation reserves are adequate, the 3-4 years of earnings “down the drain” becomes more like 2 years.

 

[ERICOPOLY]

onyx1,

Do you suppose they held back on setting up a reseve for the MBS securities reps&warranties until they had a form of "price discovery" via the $8.5b settlement with the BNY Mellon trusts? 

 

Then once they had that settlement inked they were obligated to put up a reserve for 100% of their estimated MBS securities liabilities with the assumption that their entire liability could be settled on similar terms?

 

 

[twacowfca]

Then there are the legal challenges.  I don't know how that plays out of course, but...

$15b to the FHFA MBS securities lawsuit filed in September (estimate is not from reliable sourse -- it came from TylerDurden so likely too high if anything)

$10b to AIG

$50b to shareholders suing over Merrill Lynch acquisition

that's $75 billion thus far, for another 3 years or so of earnings if paid in full (seems pretty unlikely).  But perhaps it's settled for as much as 1/2 of that, or say 1.5 years of pre-tax earnings.

 

So anyways, I come to about 3-4 years of earnings to flush down the drain just building capital and paying off lawsuits.

Eric,

I agree with your general framework.  My main comment is that the analysis should include litigation reserves.

 

BAC has already set up an undisclosed amount of litigation reserves that will substantially improve the results of the analysis.  These reserves are designed to cover expected losses on those cases where losses are probably and estimates can be made.

 

For example, it likely includes an estimate of the ML acquisition case liability and at a figure significantly less than the $50bln the plaintiffs are asking for.  The $50bln is based on the market value move after ML posted a $15.3bln loss after the acquisition.  The crux of the case is the timing of the disclosure of losses on ML’s MBS super senior positions prior to BAC’s shareholder vote.  SS valuation was very difficult at the time as nothing was trading.  The mark down grew from about $2bln to $11bln over several months prior to the shareholder vote.  I don’t see BAC being held responsible for Mr. Market’s reaction, but rather some amount in the low end range of the SS write down, say $3-$5bln.  This amount should be covered in current litigation reserves.

 

$10bln AIG losses should be covered by R&W reserves consistent with the settlement with BNY-Mellon.

 

FHFA lawsuit.  I agree the TylerDurden $15bln loss estimate appears too high.  The original face amount of the securities in question is $57bln.  These securities are senior to all others and are paying down around 15% of original face per year.  They have a current face of $24bln. The GSE have them marked at 67%.  If these marks are correct, then in a worst case scenario of a rescission of all trades, BAC loses $33% of $24bln = $8bln less whatever interest the GSEs have collected to date, say $1bln, or $7bln.  The losses would drop if BAC is able to collect from correspondent lenders and other guarantors representing 28% of R&W claims.  A settlement of this lawsuit of $2-4bln would not surprise me and once again this amount should be covered in reserves.

 

If litigation reserves are adequate, the 3-4 years of earnings “down the drain” becomes more like 2 years.

 

We went to the CFA conference in NYC a few weeks ago and heard from two astute analysts who were not enthusiastic about the big banks.  The EURO banks are mostly zombies.  The big money center US banks have a lot of issues that are going to take a lot of time to work through.

 

Richard Bernstein hinted in passing that most of the big money center banks are trading for about twice what they are worth, but they are starting to see value in a handful of regional banks.

 

Aswath Damodaran says CITI and Morgan Stanley will require five years of projected earnings to get their Tier I capital up to the levels needed to support the payment of substantial dividends.

 

Onyx,  how does BAC compare to CITI and MS in their capital ratios?

[onyx1]

onyx1,

Do you suppose they held back on setting up a reseve for the MBS securities reps&warranties until they had a form of "price discovery" via the $8.5b settlement with the BNY Mellon trusts? 

 

Then once they had that settlement inked they were obligated to put up a reserve for 100% of their estimated MBS securities liabilities with the assumption that their entire liability could be settled on similar terms?

 

Yes, but only for the non-GSE/non-monline exposures as they have different contractual standards.  Page 60 of Q3 10-Q, under "Representations and Warranties Liability":

 

"In the case of private- label securitizations, our estimate considers implied repurchase experience based on the BNY Mellon Settlement, adjusted to reflect differences between the Covered Trusts and the remainder of the population of private- label securitizations, and assumes that the conditions to the BNY Mellon Settlement will be met.

 

Page 35, Q2 presentation shows the breakdown: $8.6bln BNY-Mellon, plus $5.4bln implied exposure for remaining non-GSE.

 

Of course if Klarman is successful, estimates and reserves will go up across the board.  But as I posted in a previous thread it would likely be 5+ years of litigation.

 

http://www.cornerofberkshireandfairfax.ca/forum/index.php?topic=5829" data-ipsquote-contentclass="forums_Topic" 63959#msg63959

 

[ERICOPOLY]

Aswath Damodaran says CITI and Morgan Stanley will require five years of projected earnings to get their Tier I capital up to the levels needed to support the payment of substantial dividends.

 

Onyx,  how does BAC compare to CITI and MS in their capital ratios?

 

Aswath is UCLA educated, so he must be correct.  How do I start a shareholder lawsuit against Citigroup?  :D

 

Here is what Citi says:

 

Continue to expect to begin returning capital to shareholders in 2012 and operate in a Tier 1 Common ratio range of 8-9% under Basel III by end of 2012

 

See page 23

 

http://www.citigroup.com/citi/fin/data/p111020a.pdf

 

[twacowfca]

Aswath Damodaran says CITI and Morgan Stanley will require five years of projected earnings to get their Tier I capital up to the levels needed to support the payment of substantial dividends.

 

Onyx,  how does BAC compare to CITI and MS in their capital ratios?

 

Aswath is UCLA educated, so he must be correct.  How do I start a shareholder lawsuit against Citigroup?  :D

 

Here is what Citi says:

 

Continue to expect to begin returning capital to shareholders in 2012 and operate in a Tier 1 Common ratio range of 8-9% under Basel III by end of 2012

 

See page 23

 

http://www.citigroup.com/citi/fin/data/p111020a.pdf

 

Mike Mayo said that the most expensive writing ever, $183,000.00 per word was the rate for what the auditor's report cost for a bank that shall remain unnamed.  In his opinion, the reason it was so expensive is that it cost that much to gloss over and obscure their real condition that even their managers and auditors don't understand.  If they had wanted transparency, they would have given important details instead of an occult presentation, according to Mike.

[ERICOPOLY]

Aswath Damodaran says CITI and Morgan Stanley will require five years of projected earnings to get their Tier I capital up to the levels needed to support the payment of substantial dividends.

 

Onyx,  how does BAC compare to CITI and MS in their capital ratios?

 

Aswath is UCLA educated, so he must be correct.  How do I start a shareholder lawsuit against Citigroup?  :D

 

Here is what Citi says:

 

Continue to expect to begin returning capital to shareholders in 2012 and operate in a Tier 1 Common ratio range of 8-9% under Basel III by end of 2012

 

See page 23

 

http://www.citigroup.com/citi/fin/data/p111020a.pdf

 

Mike Mayo said that the most expensive writing ever, $183,000.00 per word was the rate for what the auditor's report for a bank that shall remain unnamed cost.  In his opinion, the reason it was so expensive is that it cost that much to gloss over and obscure their real condition that even their managers and auditors don't understand.

 

I'm interested in hearing about the value of Mike Mayo.  Apparently he was a bull on Lehman in 2007.  Is that accurate?

 

From what I can find, he accuses Citigroup of overstating their DTA by $10b.

[onyx1]

We went to the CFA conference in NYC a few weeks ago and heard from two astute analysts who were not enthusiastic about the big banks.  The EURO banks are mostly zombies.  The big money center US banks have a lot of issues that are going to take a lot of time to work through.

 

Richard Bernstein hinted in passing that most of the big money center banks are trading for about twice what they are worth, but they are starting to see value in a handful of regional banks.

 

Aswath Damodaran says CITI and Morgan Stanley will require five years of projected earnings to get their Tier I capital up to the levels needed to support the payment of substantial dividends.

 

Onyx,  how does BAC compare to CITI and MS in their capital ratios?

 

Did they offer any research to support their claims?  If so, I'd love to understand their reasoning.  So many of these analysts live to see their name in print or on TV that they shoot from the hip.  Reading some well thought out research would be refreshing.

[vinod1]

This article cites Keefe, Bruyette, Woods stating that BofA is now at about 6.25% on a fully phased in Basel III basis.  (before counting the effect of Q4 earnings).

 

http://blogs.wsj.com/marketbeat/2011/11/22/bank-of-america-stock-price-nears-two-year-low-on-story-of-spat-with-regulators/?KEYWORDS=Bank+of+America

 

I can't find the document, but in one of the presentations or transcripts I saw BofA state that a loan book in runoff will give them another 100bps by 2015.  So that would bring it up to 7.25%

 

Elsewhere I saw Moynihan state that about $18b is 100bps.

 

Somewhere between now and 2019 (hopefully sooner) they need to retain ~$36b.  They can probably achieve this over the next 24 months if things continue to bump along in the economy.  They have those tax losses to monetize so I think $36b in two years is reasonable as that is only $18b a year before taxes.

 

So that's about the next 2 years of earnings down the drain.  Or maybe ~1.5 years of peak earnings power at 1% ROA.

 

Then there are the legal challenges.  I don't know how that plays out of course, but...

$15b to the FHFA MBS securities lawsuit filed in September (estimate is not from reliable sourse -- it came from TylerDurden so likely too high if anything)

$10b to AIG

$50b to shareholders suing over Merrill Lynch acquisition

that's $75 billion thus far, for another 3 years or so of earnings if paid in full (seems pretty unlikely).  But perhaps it's settled for as much as 1/2 of that, or say 1.5 years of pre-tax earnings.

 

So anyways, I come to about 3-4 years of earnings to flush down the drain just building capital and paying off lawsuits.

 

Maybe 4-5 years if they wind up paying another $20-25b to settle with Seth Klarman's gang.  Or perhaps they'll get more than that.  Maybe they get $40b and it's 5-6 years.

 

Anyhow, if you think it's worth 10x earnings of $2 per share yet will suck up 5 years of earnings then it's only a $12 stock (so you get 10% a year as it rises over 5 years to $20).

 

Then you take that $12 and discount it yet again to account for the fact that better companies like WFC do not trade at their peak earnings power either.  Then add more of a discount for the CDS counterparty headline risk out of Europe etc... 

 

So buying it here at roughly $5 could be worth 4x upside in 5 years time if those nightmarish legal bills come in as I described and if they are at 1% ROA by then and trading for 10x earnings.

 

Sorry if you had to read all of that.  What I'm doing here is trying to compare the discounting going on between BAC to C.  C might be worth $60 or so at 1% ROA, yet trades at $26.  Absent a Europe blowup that could theoretically wipe out common stock value of either bank or both of them,  Citi will be returning earnings sooner.  They can double their book value over the next 5 years given that they are farther along in Basel III progress and can start buying back shares next year (for 1/2 of book no less) and paying dividends which of course can be used to buy more shares (same impact as stock buybacks except for taxes). 

 

So I don't know.  C may be just as cheap as BAC when you account for the impact of how many years of BAC's earnings may be sequestered.

 

Then again, maybe BAC strings out the lawsuits and puts Countrywide into bankruptcy 5 years from now.  Or perhaps they settle with shareholders for only $10b and Klarman's gang is stuck with just $8.5b.  Then AIG is tossed out for being "sophisticated" investors or the FHFA settles for only $5b.

 

The market is seemingly thinking the legal bills will be about the size I mentioned, or at least that's what they might be discounting the stock to account for the risk of it being that large.

 

I think you might be omitting some of the litigation. The way I see it I break down the litigation as follows

 

1. Warranties and Representations Liability

  a) GSE - My estimate is a maximum of about $5 billion further beyond what has been recognized.

 

  b) Monolines - My max estimate is $8 billion.

 

  c) Private Label - My max estimate is about $27 billion. Seth Klarman's litigation would fall under this.

 

2. Robo Signing and Claim to Title: This is being charged by the state AG's. The numbers I keep seeing is $20 billion for the industry. Let us assume $30 billion is the final agreed amount and that BAC is responsible for 25% this gives a max exposure of about $8 billion.

 

3. Charges of fraud by investors in mortgage backed securities. This is basically alleging violation of securities law in the offering documents. AIG $10 billion suit falls under this. FHFA lawsuit also falls under this although there is a lot of overlap with what would be covered under 1(a).

 

I would guess this exposure as a max of around $5 billion.

 

4. Merrill Lynch acquisition related litigation for $50 billion. I do not think the case has much merit and would be settled at a fraction of the amount. I cannot even think of a rational way to assess the likely maximum number, but I think something like $10 billion is a very reasonable maximum. I think if this dollar amount is offered by BAC, the opposing team would happily take this amount.

 

The grand total is about $63 billion as the maximum and this assumes that this number is over on top of the $14 billion or so that has already been reserved.

 

Thanks

 

Vinod

 

 

 

[vinod1]

My estimates above are based on the notes I have made for myself:

 

 

Warranties Liability

• Three different groups (1) GSE (2) Monolines (3) Whole loan sales & Private label securitizations.

• Primarily concentrated around loans sold during 2004-2008 period.

• GSE: BAC and legacy Countrywide sold $1.1 trillion to GSE during 2004-2008 period out of $2 T in 2001-2010. Of this $540 billion principal has been paid back and about $110 billion (or about 10% of loans in this period) are in default or 180 days past due.

 Through YE 2010, $21.6 B in repurchase claims made on 2004-2008 vintages or about 2% of loans. Resolved $18.2 B with a net loss experience of 27%. Collateral loss severity rate on approved repurchases has averaged 45-55%.

 Agreement with GSE completely settles all issues arising out of Countrywide sales to GSE but do not cover original BAC. Management estimates that BAC is through 70-75% of repurchase claims expected in total from GSE’s as a result of these agreements.

• Non-GSE or Private-Label Securitization (PLS): Pools of First lien mortgage loans and Home equity loans have been sold as Private-Label Securitization or in the form of Whole Loans. Many of the whole loans were subsequently pooled with other mortgages into private-label securitizations issued or sponsored by the third party buyer of the whole loans. In some of the private label securitizations, monolines have insured all or some of the issued bonds.

• Loans sold to other than GSE’s totaled $963 billion in 2004-2008 period of which $478 billion in princiipal has been paid. So only the remaining $485 billion in play (but BAC states that only $372 billion in principal is outstanding as of YE 2010. Why?) and of which $216 billion have defaulted or severely delinquent.

 Since significant payments would have been made on loans that have not defaulted or delinquent, the majority of the risk is concentrated in the $216 billion defaulted/delinquent loans and this amount is called Princiapal at Risk.

 Even in this $216 B defaulted loans, $68 B loans had borrowers who paid for over 36 months, which might indicate that there might no mis-represenation and that the borrower had intent and ability to pay at the time of the loan.

 Only $32 B out of $216 B had borrowers pay less than 13 payments. This is high probability of BAC being at fault.

 As of YE 2010, a total of $13.7 B in repurchase requests were made on these 2004-2008 loans. $6 billion has been paid and $4 billion denied. Rest in progress.

 Assume that only defaulted loans in Pay Option, Subprime or Home Equity or where borrower made less than 36 months payment are at risk to BAC (BAC thinks 25 months is enough). This gives about $150 B in loans that have defaulted (out of $216B) and where BAC is at a putback risk. Assuming that 50% of the loans have misrepresentations (or about 16% of total originated loans compared to roughly 2-3% of loans to GSE that we know so far) and assuming a 60% loss severity rate (compared to 45-55% in GSE). This suggests a maximum loss of about $45 billion to BAC from representations and warrenties to non-GSE. If we use just the loans which have less than 25 months as BAC believes, and the same estimates of losses, we get about $27B maximum loss. BAC estimate is $7-$10 B.

 PLS must generally aggregate 25% of voting interests to instruct securitization trustee to investigate repurchase claims.

 Some investors in PLS may not pursue repurchase requests as their loss is mitigated by cash flows from tranches below AAA.

 Out of $216B, monlolines have insured $48B ($33B in first lien and $15B in 2nd lien) defaulted loans. Most losses in 2nd lien loans.  At least 25 payments have been made on 52% of the loans so only about $23B is the likely exposure.

• Loans sold to other than GSE’s have less rigorous representations and warranties. Borrower fraud representations and warranties were generally not given to private-label securitizations. Few transactions contain a representation tthat there has been no fraud or material misrepresentation by a borrower or third party. Due to these factors only a portion of the Principal at Risk with respect to private label securitizations will ultimately result in a repurchase.

• In Q1, 2011 BAC reached agreement with AGO on $36 billion in loans consisting of $10.9 billion Principal at Risk (some of which already resolved) for a payment of $1.6 billion. AGO represents about a third of home equity exposure and 2nd lien home equity exposure is some of the most riskiest stuff.

 

[onyx1]

The grand total is about $63 billion as the maximum and this assumes that this number is over on top of the $14 billion or so that has already been reserved.

 

Thanks for these posts vinod1.  What did you assume about undisclosed Litigation reserves?

[twacowfca]

Aswath Damodaran says CITI and Morgan Stanley will require five years of projected earnings to get their Tier I capital up to the levels needed to support the payment of substantial dividends.

 

Onyx,  how does BAC compare to CITI and MS in their capital ratios?

 

Aswath is UCLA educated, so he must be correct.  How do I start a shareholder lawsuit against Citigroup?  :D

 

Here is what Citi says:

 

Continue to expect to begin returning capital to shareholders in 2012 and operate in a Tier 1 Common ratio range of 8-9% under Basel III by end of 2012

 

See page 23

 

http://www.citigroup.com/citi/fin/data/p111020a.pdf

 

Mike Mayo said that the most expensive writing ever, $183,000.00 per word was the rate for what the auditor's report for a bank that shall remain unnamed cost.  In his opinion, the reason it was so expensive is that it cost that much to gloss over and obscure their real condition that even their managers and auditors don't understand.

 

I'm interested in hearing about the value of Mike Mayo.  Apparently he was a bull on Lehman in 2007.  Is that accurate?

 

From what I can find, he accuses Citigroup of overstating their DTA by $10b.

 

Yeah, he talked about his being slow to downgrade Lehman as the worst mistake of his career.  He continued to believe the BS they were feeding him, until he finally caught them in a lie.  Then, he quickly put out a sell on them as they were near the brink, and that may have been the straw that broke the camel's back and pushed them over into their death slide.

[vinod1]

The grand total is about $63 billion as the maximum and this assumes that this number is over on top of the $14 billion or so that has already been reserved.

 

Thanks for these posts vinod1.  What did you assume about undisclosed Litigation reserves?

 

I did not assume any number for the undisclosed litigation reserves. I remember seeing $14 billion number somewhere as what has been reserved for Warranties & Reps.

 

Vinod

[vinod1]

Personally, the biggest risk I see is any potential irrational reaction by regulators asking BAC to raise capital. Giving banks enough time for their earnings to cover any capital shortfalls has been a very consistent historical pattern.

 

I have read a lot of what Bernanke has written, including his book Essays on the Great Depression and if has a free hand I am very comfortable with this risk. However, we have the onsite examiners and who knows what is going through their minds especially in terms of their career risk.

 

Vinod

[twacowfca]

We went to the CFA conference in NYC a few weeks ago and heard from two astute analysts who were not enthusiastic about the big banks.  The EURO banks are mostly zombies.  The big money center US banks have a lot of issues that are going to take a lot of time to work through.

 

Richard Bernstein hinted in passing that most of the big money center banks are trading for about twice what they are worth, but they are starting to see value in a handful of regional banks.

 

Aswath Damodaran says CITI and Morgan Stanley will require five years of projected earnings to get their Tier I capital up to the levels needed to support the payment of substantial dividends.

 

Onyx,  how does BAC compare to CITI and MS in their capital ratios?

 

Did they offer any research to support their claims?  If so, I'd love to understand their reasoning.  So many of these analysts live to see their name in print or on TV that they shoot from the hip.  Reading some well thought out research would be refreshing.

 

Aswath posts on his website.  If you can't find the details there, shoot him an email.  He's a professor, and I think he'll share with you.

[ERICOPOLY]

Aswath Damodaran says CITI and Morgan Stanley will require five years of projected earnings to get their Tier I capital up to the levels needed to support the payment of substantial dividends.

 

Onyx,  how does BAC compare to CITI and MS in their capital ratios?

 

Aswath is UCLA educated, so he must be correct.  How do I start a shareholder lawsuit against Citigroup?  :D

 

Here is what Citi says:

 

Continue to expect to begin returning capital to shareholders in 2012 and operate in a Tier 1 Common ratio range of 8-9% under Basel III by end of 2012

 

See page 23

 

http://www.citigroup.com/citi/fin/data/p111020a.pdf

 

Mike Mayo said that the most expensive writing ever, $183,000.00 per word was the rate for what the auditor's report for a bank that shall remain unnamed cost.  In his opinion, the reason it was so expensive is that it cost that much to gloss over and obscure their real condition that even their managers and auditors don't understand.

 

I'm interested in hearing about the value of Mike Mayo.  Apparently he was a bull on Lehman in 2007.  Is that accurate?

 

From what I can find, he accuses Citigroup of overstating their DTA by $10b.

 

Yeah, he talked about his being slow to downgrade Lehman as the worst mistake of his career.  He continued to believe the BS they were feeding him, until he finally caught them in a lie.  Then, he quickly put out a sell on them as they were near the brink, and that may have been the straw that broke the camel's back and pushed them over into their death slide.

 

“If you tell a lie big enough and keep repeating it, people will eventually come to believe it."

 

- Joseph Goebbels

 

Is Citigroup telling a huge whopper of a lie? 

 

According to Mayo Citigroup is overstating the DTA by $10b.  In doing so, they report Tier 1 ratio at 11.7% under Basel I. 

 

Mike Mayo thinks this is fraud.

 

What is the motive in this fraud?  What if they only reported 10% under Basel I?  The horrors, the horrors.  Look, they are reporting a number higher than most of their rivals even if you DISALLOW that $10b in DTA.

 

I didn't mean to discredit him for Lehman -- everybody makes a mistake.  Citigroup no longer lets him participate on conference calls.  I've read those old transcripts with Mayo asking questions and they indeed seemed disruptive in tone -- some sort of axe to grind.  I understand that he's been against Citigroup since 2001 or so, and that's fine given how Citigroup ended up -- however the new management probably doesn't appreciate being painted with the same brush given the changes they instituted.  Mayo is biting at their ankles, or so it sounds to me.

 

$10b of DTAs means sh*t to Citigroup.  They are reporting Basel I Tier 1 ratio of 11.7%.  Why make a lie that you don't need to make?

 

 

[PlanMaestro]

Personally, the biggest risk I see is any potential irrational reaction by regulators asking BAC to raise capital. Giving banks enough time for their earnings to cover any capital shortfalls has been a very consistent historical pattern.

 

I have read a lot of what Bernanke has written, including his book Essays on the Great Depression and if has a free hand I am very comfortable with this risk. However, we have the onsite examiners and who knows what is going through their minds especially in terms of their career risk.

 

Vinod

 

+1

 

Regarding Vinod's 65B estimate, my own estimate was lower (40B, one year PTPP). For example, I remember subtracting an estimate of the litigation reserves. Vinod's framework looks comprehensive though with detailed notes so it might be time to review those estimates.

 

What others think of Vinod's analysis?