BofA gets debt relief

New York: Bank of America Corp.’s record $53 billion (Dh195 billion) reduction of long-term debt in the second quarter will help the lender go three years without needing to tap the bond market, the biggest cushion in its history.

Bank of America said this week its long-term debt fell to $302 billion (Dh1.1 trillion) as improving loan performance led to a $2.46 billion (Dh9.03 billion) quarterly profit after a record loss a year earlier. The second-biggest US bank by assets said it probably won’t issue long-term senior bonds this year and won’t need to tap capital markets for another 37 months.

The bank has hustled to pare its balance sheet, cut debt and get in line for pending regulation that requires higher capital cushions. The Charlotte, North Carolina-based firm has repaid all of its debt from the Federal Deposit Insurance Corp.’s Temporary Liquidity Guarantee Programme, including $24 billion (Dh88.12 billion)in the second quarter.

Defective mortgages

The lender’s bonds surged this week, with its $2.25 billion of 5.7 per cent notes due in 2022 and issued in January reaching 115.7 cents on the dollar, the highest ever, according to Trace, the bond-price reporting system of the Financial Industry Regulatory Authority. The notes ended yesterday at 114.7 cents to yield 3.84 percent.

Chief Executive Officer Brian T. Moynihan, 52, has soothed investor doubts about whether the firm was on track to comply with coming capital rules set by the Basel Committee on Banking Supervision. He has sold more than $50 billion in assets, committed more than $40 billion to clean up defective mortgages and targeted $8 billion in annual cost cuts since taking over in 2010.

The company’s Tier 1 Common ratio, a measure of financial strength that includes common stock, retained earnings and perpetual stock, is now 11.2 percent, up from 8.2 percent in the second quarter last year, according to data compiled by Bloomberg.

“In terms of balance sheet repair, their results are extraordinary,” said Allerton Smith, senior director of the capital markets research group at Moody’s Corp. The firm’s retail banking operations meant that “their earnings were not as vulnerable to what at least is a cyclical and what is perhaps a secular slump in the banking and trading business.”

Moynihan said the firm will rely more heavily on consumer deposits to fund operations. While it costs the company roughly $2.5 billion per quarter for its $302 billion in long-term corporate debt, interest payments on $1 trillion in deposits only run $500 million per quarter, he said on a July 18 teleconference to discuss second-quarter earnings with analysts and investors.

Bank of America reduced its long-term debt by $53 billion in the quarter, which translates to about “$25 million per hour, or more than $400,000 per minute, or $6,815 a second,” David Havens, a credit-desk strategist at RBS Securities, wrote in an e-mail July 18.

Credit-default swaps on Bank of America have declined 17 basis points to 250 basis points this month, compared with an average drop of 11 basis points for the six biggest US banks, according to prices compiled by Bloomberg. The contracts pay the buyer face value if a borrower fails to meet its obligations, less the value of the defaulted debt. A basis point equals $1,000 annually on a contract protecting $10 million of debt.

Investors worried last year that mortgage costs and a slowing US economy would force Bank of America to raise capital through an equity sale.

Swaps linked to Bank of America surged last year to 483 basis points. With the pressures fading, “it’s somewhat of a relief trade,” said Marc Beulke, an analyst at Minneapolis- based Thrivent Financial for Lutherans, which oversees more than $75 billion in assets including Bank of America bonds. “There has been more comfort that things maybe aren’t the greatest, but aren’t getting worse and worse.”

The extra yield investors require to own Bank of America debt instead of Treasuries has declined 278 basis points to 287 this year through yesterday, Bank of America Merrill Lynch index data show. A basis point is 0.01 percentage point.

Moynihan’s moves have aided bondholders more than stock owners. Bank of America has dropped 8.3 per cent in New York trading since the company reported second-quarter results on July 18, the worst performance in the Dow Jones Industrial Average. The Dow Jones index has climbed 1.1 percent over that span.

Stock investors are concerned by record demands from mortgage-bond investors that the firm repurchase defective loans. The requests jumped by more than 40 per cent to $22.7 billion, the lender said this week. Bank of America has said that many of the queries are illegitimate and current reserves will cover some of them.

“What’s even worse than poor performance is just complete uncertainty about the direction or the size of possible losses,” David Nowakowski, credit strategist at Roubini Global Economics LLC in London, said in a telephone interview.

JPMorgan Chase & Co. is the biggest US bank by assets.

Bank of America is insulated from volatility in the capital markets because it is “hugely dependent” on US consumers, whose finances have stabilized this year, Beulke said.

The company is paying down debt “like an industrial,” he said. “They’re using deposits to pay it down. It’s less risky from a bondholder perspective.”