Questionable mortgage lending practices of Wall Street banks were long the concern of the Department of Justice, but several key lawsuits against JPMorgan Chase (NYSE:JPM) and Bank of America (NYSE:BAC) are finally winding down. Accusations brought against JPMorgan have served as a symbol of the government’s crackdown on Wall Street’s sale of troubled mortgage-backed securities to investors, and prosecutors aimed to hit the bank where it would hurt the most: its bottom line.
The settlement required bank officials to make an admission of wrongdoing and pay a $13 billion penalty. With that financial burden across its shoulders, JPMorgan took a $7.2 billion charge in the second quarter, giving the bank its first quarterly loss under the leadership of current CEO Jamie Dimon. Bank of America’s past few years have been filled with a large litigation hangover, while JPMorgan gave the appearance of bank that could do no wrong.
But JPMorgan’s recent settlement has necessitated a change in how analysts describe its balance sheet and its standing in the financial world. Both JPMorgan and Bank of America are now on a more even footing, leaving analysts comparing how recent penalties will hurt their bottom lines. On Monday, Bank of America announced that it inked a deal with the Federal Home Loan Mortgage Corp. — Freddie Mac – and the question is how the $404 million the bank agreed to pay to “resolve all outstanding and potential mortgage repurchase and make-whole claims” will impact its balance sheet.
Even as early as November 21, Atlantic Equities analyst Richard Staite was considering whether Bank of America’s settlement over residential mortgage-backed securities with the government-backed financier would cause a “similar hit” to earnings, as did JPMorgan’s penalty.
The settlement covers 716,000 loans created by Bank of America and sold to Freddie Mac from January 1, 2000, to December 31, 2009. As the second-largest United States lender said in a statement, the penalty — minus credits of $13 million that the bank already paid — will be covered by existing reserves that were in place as of September 30. The $404 million will “compensate Freddie Mac for certain past losses and potential future losses relating to denials, rescissions and cancellations of mortgage insurance,” the firm’s statement read.
“We are pleased to have reached this agreement with Bank of America, which now allows both companies to move forward,” Freddie Mac CEO Donald Layton said in a statement announcing the settlement. “We continue to make very good progress in recovering funds that are due to the American taxpayer.” The deal is the second such agreement made by Bank of America with Freddie Mac since 2011, and it will likely shield the bank from any further repurchase demands from the government-backed financier for loans sold before 2012. The bank agreed to a $1.35 billion settlement with Freddie in January 2011 and a $11.6 billion deal with Fannie Mae earlier this year.
More than five years have passed since the housing market bubble burst, causing a credit crisis and leaving financial institutions stuck with securities that had lost much of their value, and the federal government is still attempting to assign responsibility for the problems that drove the mortgage boom and the subsequent collapse of the housing market. Thanks to its 2008 acquisition of Countrywide Financial, Bank of America has been drawn into federal court for years regarding its mortgage business, proof of the Justice Department’s ongoing commitment to pursuing litigation with any individual or institution that damaged the U.S. financial markets.
Countrywide Financial has cost Bank of America more than $50 billion in settlements over the subprime lender’s allegedly fraudulent mortgages, and those costs have proved to be quite troublesome for the bank’s balance sheet. CEO Brian Moynihan has made it his express goal to clean up the institution’s legal docket, but that has been no easy task.
Last year, the Department of Justice filed a $1 billion fraud complaint against the bank, which alleged that Countrywide sold Fannie Mae and Freddie Mac billions of dollars of toxic mortgage loans. Federal prosecutors want the bank to pay $863.6 million to compensate losses incurred by the government after it bought thousands of home loans made by Countrywide during the housing boom. In October, a jury found Bank of America liable for knowingly selling the government backed financiers thousands of bad home loans.
Still, even with the Freddie Mac settlement and other damages due the federal government, Staite called Bank of America his “top sector pick,” as The Street reported. The bank is “primed” to outperform its competitors because of ongoing cost-cutting measures, excess capital, increasing share buybacks, an improving market share. In his note to clients, written November 21, Staite wrote that Bank of America “has started to rebuild market share, costs are set to drop by a further $9 [billion], the 2014 share buyback might exceed [JPMorgan’s] and it is a good play on the a recovering [United States] economy, higher house prices, stronger employment and higher interest rates.”
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