One month after five large U.S. banks failed, the Federal Reserve-mandated “comprehensive capital analysis and review,” Bank of America (BAC) misreported capital levels to the tune of $4 billion. The news comes two weeks after the America’s second largest bank by assets, with $2.132 trillion in holdings, missed analysts’ earnings estimates by 10 cents a share. BAC hit as low as $14.90 on Monday, which is 312 basis points lower than the fifty 52-week high of $18.03.
The sell-off is due in part to the interruption of the bank’s $4 billion share buyback plan and to increase dividends from one to five cents a share. Theoretically, share buybacks benefit the investor by decreasing supply and pushing the stock price higher. Dividends benefit the investor more directly by paying out a portion of retained earnings to stockholders quarterly.
Investors seeking value plays in an equity market were quickly losing steam and at the start of the month flocked to BAC as a potentially unvalued haven for alpha. Compared to industry competitors, BAC has lagged in settling its multi-billion dollar legal fees that resulted from the collapse of its mortgage portfolio. By the conclusion of 2013, the bank was seemingly on more stable footing after settling several legal battles and seemed poised to obtain the benchmark goals set by CEO Brian Moynihan.
These recent developments signal to the market that it may despite the improving conditions, BAC’s performance is still contingent on the same risk factors inherent to large financial institutions. The $4 billion mispricing was accompanied by news last week that the bank may be responsible for paying an additional $10 billion to the government in a mortgage bond settlement. The incident also raises the question of how relevant Generally Accepted Accounting Principles (GAAP) are to large financial institutions. The constantly evolving regulatory environment necessitates an accurate recording of liquid bank assets; if the values on bank books lose integrity, the market may see a squeeze on consumer demand for equity in these companies.
Despite the risk-factors, buyers of BAC pushed the stock price to $15.24 by market close Tuesday. BAC’s capital ratios are still well above the threshold. Even with the good news, the balance sheet amendment lowered key regulatory ratios by .3 percentage points, according to the Wall Street Journal. As regulators continue to impose stringent capital reserve requirements, BAC will retain much of the capital planned to be paid out to shareholders and although this makes them relatively less attractive to investors seeking fixed returns, many others will take this opportunity to buy at a discount. Much like watching Rocky Balboa rise from a knockdown to defeat another overmatched opponent, Americans cannot help but love an underdog. With the broader U.S. equity market returning a mere 1.37 percent year- to date, why not make a bet on a blue chip company that is down, but far from out?
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