Bank of America's mortgage settlement: Good for investors now, and maybe good for homeowners later.

Commentary about business and finance.
July 1 2011 3:24 PM

Crack in the Dam

Bank of America's mortgage settlement doesn't benefit homeowners now, but it may down the road.

(Continued from Page 1)

The banking industry's initial response was to go to war against both aggrieved investors and homeowners.  BofA's executives told investors that it had the "resources to deploy" against investors who wanted compensation for the bad loans they'd bought. CEO Brian Moynihan said he'd engage in "day-to-day, hand-to-hand combat" against such repurchase requests.  As for the foreclosure problems, BofA insisted that its mistakes were merely procedural, and that no real damage had been done. Any notion that it would willingly pay a large sum, or agree to any substantial principal modifications, was a nonstarter.

What ended the war? One thing, and one thing only:  BofA's stock continued to slide.   In the second quarter of 2011, it was the worst performer in the Dow. Investors hate uncertainty, and the mortgage business had become a giant black hole of unanswered questions.  According to the strange rules of the stock market game, paying billions now to reduce uncertainty later can actually be a smart move. Investors are often willing to see such payouts as a "one time charge," and focus not on today's cost, but on the now more predictable level of future earnings.  This helps explain why Moynihan ended up saying, "It was much more adverse to the company if we kept fighting."

In addition to the $8.5 billion, BofA is putting aside another $5.5 billion to cover additional claims, and it's taking a noncash charge of $6.4 billion to reflect the drop in Countrywide's value and increased costs in its mortgage servicing operations.  (In that, there's already a sliver of good news for homeowners:  Borrowers are supposed to be able to get faster answers on modifications, for instance.) The lawyer for the investors told the New York Times that "Bank of America has charted a path that our clients expect other banks will follow," and there are now predictions that JPMorgan and Wells Fargo may do just that.  (Countrywide was the nation's biggest mortgage originator, so other banks have less exposure than BofA.)

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There are still a slew of questions about what, exactly, this means. Compared to previous dire predictions about BofA's mammoth liabilities, the bank is getting off lightly. As a consequence, some investors may not go along with the deal, especially since it's not yet clear which investors will get what parts of the $8.5 billion. In a research note, Gamaitoni, the Compass Point analyst, noted that the settlement was "significantly below what many analysts had expected private label investors would eventually be able to recoup through litigation." He thinks the number will have to be higher.  And there are securities that aren't included in the deal, including BofA's own mortgage deals, Merrill Lynch's deals, and second lien mortgages issued by Countrywide. 

The biggest issue, though, is the potential settlement with the state AGs over the foreclosure abuses. In order to put the past behind it, BofA needs to resolve that, too.   Does this week's settlement make it likelier that BofA will break ranks with the other banks and cut a deal here, too? Probably so. Such a deal might even involve modifications on the principal owed, something BofA has resisted in the past. The bank is desperate enough to put the mortgage mess behind it that what we once thought impossible is beginning to appear likely.

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