But in a short note published on Tuesday, JPMorgan did upgrade BofA from underweight to neutral, explaining that the pressures on the bank “may actually increase the chances of a credit-positive development, such as a capital raise.”
That may be credit-positive but it doesn’t sound too equity-positive to us, at least not at first. BofA’s stock closed down 1.87 per cent, in a day when the S&P 500 rallied, finishing up 3.43 per cent. Its 5-year CDS was trading at 380bps (+9bps) at pixel time, well down on the session high, according to Markit.
(Shortly before pixel time, BofA stock accounted for 6.3 per cent of all traded stocks on the S&P 500 , its highest level since 20 October, 2010. H/T the FT’s Telis Demos.)
Anyway, here’s JPMorgan’s rationale (emphasis ours):
We originally downgraded BAC to Underweight on April 18 for three reasons. These were ongoing mortgage-related expenses, capital levels that are weak relative to peers, and valuations. At that time, 5-year CDS was trading at 137bp and was 10bp behind Citigroup. It is now at 445bp, which is wider than the peak of the financial crisis, which was 433bp on March 30, 2009. The difference with Citigroup is now 170bp. We also note the significant inversion of the CDS curve, with 1-year CDS trading around 550bp. While mortgage expenses and the relative capital shortfall remain, we no longer think it makes sense to remain Underweight.
We provided analysis supporting our views on rep & warranty expense, and capital in an August 11 note. We estimated a capital shortfall $12bn (assuming a target Basel III Tier 1 common equity ratio of 7.5% at YE’12) under our base case; our Bear case suggests a $25bn shortfall. At this point, we think it is important to maintain perspective; our estimated shortfall is not huge, and is eminently feasible in our view. This is also a relative shortfall; the company remains very well capitalized by historical standards.
Furthermore, the equity and credit markets are becoming increasingly clear in their message that the company needs to address the capital and mortgage issues; we think it is getting more difficult for management to ignore this sentiment. In our view, this raises the likelihood of a credit-positive development, such as an announcement of a capital raise.
What could management do that would reverse sentiment? We think there are a number of things, including the sale of a portion of the CCB stake, other asset sales, the approval of the $8.5bn private-label rep & warranty settlement in court, additional rep & warranty agreements, and capital raising. Some of these would help, while the last few would likely have the largest impact.
We acknowledge the possibility that the credit continues to drift wider amidst increasingly negative sentiment, and think this is likely in the near term. However, we cannot ignore the reality that current challenges are solvable. With CDS trading wider than at the peak of the financial crisis, current valuations appear to us to reflect irrationality, rather than the true, manageable, scope of issues facing the company.
Speaking of irrational responses, earlier on Tuesday BofA issued a press release to counteract a post by Henry Blodget over at Business Insider.
Mr. Blodget is making “exaggerated and unwarranted claims,” which is what the SEC stated publicly when he was permanently banned from the securities industry in 2003.
The sovereign exposure is off by a factor of 10.
The commercial real estate figures are off by a factor of four.
The mortgage analysis was provided by a hedge fund that has acknowledged it will benefit if our stock price declines.
The blogger’s recommendations on goodwill accounting would be prohibited by generally acceptable accounting practices.
Traditional bank valuation relies upon tangible book value per share, which excludes by definition 100 percent of goodwill and other intangibles. As of June 30, our tangible book value per share was $12.65.
securities industry outlaws bloggers, eh?
Good morning Bank of America – FT Alphaville
Oh My Goodness: Now Bank Of America Is Blaming Its Collapsing Stock On ME – Business Insider
BofA attacks blogger over asset valuations – FT