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Credit suisse bac cs-1

  1. 1. 09 January 2013 Americas/United States Equity Research Multinational Banks Bank of America Corp. (BAC)Rating (from Outperform) NEUTRAL* [V]Price (08 Jan 13, US$) 11.98 DOWNGRADE RATINGTarget price (US$) (from 11.00) 12.00¹52-week price range 12.11 - 6.27Market cap. (US$ m) 129,121.38 Downgrading to Neutral from Outperform onEnterprise value (US$ m) 129,121.38*Stock ratings are relative to the coverage universe in each Valuationanalysts or each teams respective sector.¹Target price is for 12 months.[V] = Stock considered volatile (see Disclosure Appendix). ■ We are downgrading shares of Bank of America to Neutral from Outperform on valuation. Current valuation appears to be ahead of the Research Analysts company’s near to intermediate-term performance and appears to be Moshe Orenbuch discounting significantly faster improvements in efficiency than we would be expecting. At its current valuation, the shares appear to be discounting at Jill Glaser, CFA least a 16% improvement in costs over the next year vs. our estimate of 10%. Despite the announced mortgage servicing sales, it will take until 2014 for the annual run-rate of expense saves. Separately, we think it will be hard for Bank of America to grow revenues faster than the “average” bank. ■ Where could we be wrong? If BAC is able to get an additional 5 percentage point improvement in the efficiency ratio, this would correspond to $0.30 in EPS, and over 200 bps in ROTE. This would be sufficient to have the shares be attractive at current levels. However, this represents about 40% of Legacy Assets & Servicing costs, which will likely take through 2015 to achieve that level of reduction. ■ Estimates. We are reducing our 2013/14 EPS estimates to $1.08/$1.40 (from $1.15/$1.55) primarily driven by lower revenue forecasts offset by recalibration of expenses. Our 2015 EPS estimate stands at $1.55. Our price target increases to $12 from $11 to reflect improved valuations for the bank group, although our target reflects 0.8x forward TBV. Given an 8.2% ROTE by 2013 and the DTA representing 18% of BV we think this warrants a valuation at a discount to TBV.Share price performance Financial and valuation metrics Daily Jan 09, 2012 - Jan 08, 2013, 1/09/12 = US$6.27 Year 12/11A 12/12E 12/13E 12/14E 12 EPS (CS adj.) (US$) 0.54 0.80 1.08 1.40 10 Prev. EPS (US$) — 0.72 1.15 1.55 P/E (x) 22.1 15.0 11.0 8.6 8 Relative P/E (%) 148 106 86 74 6 Jan-12 Apr-12 Jul-12 Oct-12 Revenue 90,962.0 89,164.8 90,812.3 93,384.3 Price Indexed S&P 500 INDEX Preprovision Income (US$ m) 23,024 20,782 25,262 31,834 Book Value (US$) 20.05 20.42 21.54 22.94On 01/08/13 the S&P 500 INDEX closed at 1457.15 Tangible book value (US$) 12.73 13.52 14.73 16.17 ROE (%) 2.68 4.05 5.53 6.71 ROA (%) 0.25 0.40 0.58 0.76Quarterly EPS Q1 Q2 Q3 Q4 Book Value (Next Qtr., US$) 20.42 Tangible BV (Next Qtr., US$) 13.522011A 0.24 0.33 0.06 -0.07 P/BV (x) (Next Qtr.) 0.59 P/TBV (x) (Next Qtr.) 0.892012E 0.16 0.14 0.28 0.23 Dividend (Next Qtr., US$) 0.04 Shares Outstanding (m) 10,7782013E 0.29 0.23 0.23 0.33 Dividend yield (%) 0.33 Source: Company data, Credit Suisse estimates. DISCLOSURE APPENDIX CONTAINS IMPORTANT DISCLOSURES, ANALYST CERTIFICATIONS, INFORMATION ON TRADE ALERTS, ANALYST MODEL PORTFOLIOS AND THE STATUS OF NON-U.S ANALYSTS. FOR OTHER IMPORTANT DISCLOSURES, visit or call +1 (877) 291-2683 US Disclosure: Credit Suisse does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the Firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. CREDIT SUISSE SECURITIES RESEARCH & ANALYTICS BEYOND INFORMATION® Client-Driven Solutions, Insights, and Access
  2. 2. 09 January 2013OverviewWe are downgrading shares of Bank of America to Neutral from Outperform,primarily on valuation. Current valuation appears to be ahead of the company’s near tointermediate-term performance and appears to be discounting significantly fasterimprovements in efficiency than we would be expecting. Currently, Bank of Americashares are trading at 11 times 2013 earnings versus JPMorgan Chase and Citigrouptrading at closer to 8.5 times. At its current valuation, the shares appear to be discountingabout a 16% improvement in costs over the next year from current levels compared to ourestimate of 10%. Despite the announced mortgage servicing sales, it will take until 2014to see the annual run-rate of expense saves. Separately, we think it will be hard for Bankof America to grow revenues faster than the “average” bank.Where could we be wrong? If BAC is able to get an additional 5 percentage pointimprovement in the efficiency ratio, this would correspond to $0.30 in EPS, and over 200bps to the return on tangible equity (ROTE). This would be sufficient to have the sharesbe attractive at current levels. However, this likely represents about 40% of LegacyAssets & Servicing costs, which will likely take through 2015 to achieve that level ofreduction. In the event that BAC shows considerably more traction with regards toexpenses, this could cause us to upwardly revise estimates and re-evaluate our pricetarget. Given our current view that the revenue environment will be challenged, the stockmore than doubled in 2012 and the shares trade at 11 times our 2013 EPS estimate, welook for a more meaningful transformation to get more aggressive on the shares. Long-term, we think earnings power may be in the $2 range; however, we think this could takeimprovement in the macro growth, improved interest rate environment and costreduction/business realignment to get to that the level of earnings generation, which couldbe 2015 or later.The recent announcement of the settlement with Fannie Mae and the sale of MSRsis a positive and should alleviate some expense pressure related to rep/warrantyexpense; however servicing costs will likely not see the annual cost benefit until2014. The settlement with Fannie Mae is an important step in putting legacy Countrywidemortgage issues behind the company. This settlement results in a cash payment to FNMof $3.6 billion and a repurchase of $6.75 billion of loans, but this will be covered byexisting repurchase reserves, as well a $2.5 billion addition to the repurchase reserve.Separately, the sale of MSRs will result in $306 billion of servicing assets being transferredout of the bank—a sizeable piece of BAC’s overall servicing assets (~20%). We think thatBAC could pursue additional sales of servicing assets given other interested buyers, andwould not rule out other sales to the current buyers after they have had time to digest thecurrent portfolio sales. We estimate that portfolio shrinkage and the sale of servicingassets (including both performing and non-performing assets) could equate to $5 billion ofcost savings to Bank of America over time. We think that BAC will see the annual run-ratebenefit of the most recent servicing asset sales in 2014 given that the sales will occur instages in 2013. Given the nature of the non-performing servicing assets, we think that thetransfer of non-performing assets will come later in the transfer process, with the costbenefit seen thereafter.Revising EPS estimates lower. We are reducing our 2013 and 2014 EPS estimates to$1.08 and $1.40 (from $1.15/$1.55), respectively, primarily driven by lower revenueforecasts offset by recalibration of expense levels. Our earnings forecasts now includemore moderate estimates of revenue growth in 2013 (up 1% y/y) and up 3% y/y in 2014.We are establishing a 2015 EPS estimate of $1.55. Additionally we revised our 4Q’12EPS estimate to $0.23 per share on an operating basis and $0.02 per share on a reportedbasis which reflects $0.21 per share one-time charges reported by Bank of America. Referto Exhibit 2.Bank of America Corp. (BAC) 2
  3. 3. 09 January 2013We are increasing our 12-month price target to $12 from $11 previously. We expectthat Bank of America should be able to generate an 8.2% ROTE by 2013. We areincreasing our 12-month price target to $12 from $11 to reflect improved valuations for thebank group, although our price target reflects 0.8 times forward TBV. We believe that thelevel of returns, coupled with the fact that the DTA represents a high-teens (18%)percentage of book value warrants a modest discount to tangible book value. We view apotential risk of an additional 3-5% hit to book value from mortgage losses.Revenue environment will be challengingWe are forecasting operating revenues of $90.8 billion in 2013 which represents a 2% y/yincrease. While we expect incremental fee income improvement (up 4% y/y on anoperating basis), we forecast that spread income will be under (down 1% y/y). Despite thefact that Bank of America has some levers to pull in terms of high cost debtextinguishment; we would expect modest pressure on the net interest margin. We areforecast the NIM to decline 3bps y/y in 2013 with expectations of a relatively flat balancesheet. We expect incremental improvement in fee income in 2013 relative to 2012 withgrowth in service charges, investment banking income and trading. In general, we think itwill be hard for Bank of America to grow revenues faster than the “average” bank.Given our view that 2013 will represent a revenue-challenged environment, we expect acontinued focus on the reduction of expenses to recalibrate the expense structure. Whilewe expect cost saves from the sale of servicing assets, the current valuation appears to beahead of the company’s near to intermediate-term performance and appears to bediscounting significantly faster improvements in efficiency than we would be expecting. Atits current valuation, the shares appear to be discounting a 16% improvement in costsover the next year from current levels compared to our estimate of 10% decline. Wewould note that Bank of America will likely be somewhat more revenue challenged thanother major banks as a result of the size of its market position and the competitive andmarket forces at work.Firm-wide cost saving program to provide somerelief given crisis-related costs are elevated/lumpyBank of America has announced its “New BAC” expense initiative which is expected toyield $8 billion in total cost savings by mid-2015. The expense program is beingimplemented in two phases. Phase 1 of New BAC includes $5 billion of annualized costsavings in Bank of America’s consumer businesses (excluding Legacy Assets & Servicing)by full implementation by year-end 2013. Phase 2 of New BAC is focused on $3 billion ofcost savings in the Corporate, Institutional and Wealth Management businesses with fullimplementation in mid-2015. We estimate that $8 billion in cost saves could reduce thecurrent efficiency ratio by 900 bps. We are currently estimating about a $13 billion declinein reported expenses by year-end 2015 to roughly $59 billion from an estimated $72 billionreported expenses in 2012. This decline in reported expense levels includes the $8 billionof cost saves related to the New BAC initiative, in addition to our estimate of $5 billion costsaves in Legacy Assets & Servicing by year-end 2015 and incremental decline in litigationexpense.Servicing costs will decline, but it will take timeBank of America’s Legacy Assets & Servicing segment currently employs 41,700 full-timeemployees and 17,0000 consultants. The unit accounts for 7.9 million with about 12% ofthe loans in the portfolio 60+ days delinquent. Bank of America’s Legacy Assets &Servicing segment generates about $3 billion of expenses per quarter for a run-rate ofclose to $12 billion annually. Management estimates that current costs in this segmentare running about 6 times the level of more “normalized” costs to run this segment.Specifically, management indicated a normalized run-rate of about $500 million quarterly.Management is working on reducing the headcount in LAS with a reduction uponBank of America Corp. (BAC) 3
  4. 4. 09 January 2013completion of timely modification requirements as well as single point of contact which wasan element of the national mortgage settlement. The pace of headcount reductions isexpected to accelerate going forward.The recent announcement of the sale of mortgage servicing rights is a positive; howeverservicing costs will likely not see the annual cost save run-rate until 2014. The sale ofMSRs will transfer roughly $300 billion of servicing assets out of the bank—a sizeablepiece of BAC’s overall servicing assets (~20%). We think that BAC could pursueadditional sales of servicing assets given other interested buyers in the marketplace, andwould not rule out other sales to the current buyers after they have had time to digest thecurrent sales. We estimate that the transfer of these assets as well as declines in theservicing portfolio (including both performing and non-performing assets) could equate toabout $5 billion of cost savings to Bank of America over time. We think that BAC will seethe annual run-rate benefit of the most recent servicing asset sales in 2014 given that thesales will occur in stages in 2013. Additionally, given the nature of the non-performingservicing assets, we think that the transfer of non-performing assets will come later,delaying the benefit of the cost saves. Refer to Exhibit 1. There could be more sales ofservicing assets that would further reduce the level of costs.Exhibit 1: Bank of America: Legacy Assets & Servicing Highlights: Loans, Delinquencies, Costs and Headcount$ in millions, unless otherwise stated Sale of Change in MSRs 4Q12 3Q11 2Q12 3Q12 (Note 1) (Note 2) Post-SaleTotal Number of Loans (in thous.) 9,979 8,435 7,893 (2,000) 5,893 Note 3Total Number of Performing Loans (in thous.) 8,753 7,373 6,957 (1,768) 5,350Total Number of 60+ day Delinq Loans (in thous.) 1,226 1,062 936 (232) (161) 543 Note 4 % 60+ day Delinquent 12% 13% 12% 12% 9%Estimated Total Expenses $2,700 $2,700 $3,400 Estimated Litigation Expense $290 $151 $432 $250 Estimated Expenses, Excluding Litigation $2,500 $2,600 $3,000FTE Employees (in thousands) 36.9 42.1 41.7 Estimated Quarterly Expense RunrateContractors and Others (in thousands) 12.9 16.4 17.0 Once Asset TransfersQuarterly Expense Estimates: Estimated Expenses, Excluding Litigation $2,410 $2,549 $2,968 $2,216 Est. Annual Estimated Litigation (Note 5) $290 $151 $432 $432 ReductionTotal Costs $2,700 $2,700 $3,400 $2,648 ($3,008)Annualized Costs $10,800 $10,800 $13,600 $10,592Estimated Processing Costs 60+ Day Delinquent Loans (Note 6) $935 $810 $714 ($177) ($123) $414 Performing Loans (Note 7) $109 $92 $87 ($22) $67Estimated Processing Costs $1,044 $902 $801 ($199) ($123) $479Source: Company data, CS estimates. Note 1-Announced sale of mortgage servicing assets on 1/7/13. Note 2-Est. decline in 60+ daydelinquencies in 4Q’12, not including the sale of MSRs in the qtr. Note 3-Estimated remaining number of loans given sale of 2.0mm in 4Q’12.Note 4-Est. number of 60+ day delinquent loans post sale based on 3Q’12 balances, MSR sale and BAC disclosure of a 161mm decline in4Q’12. Note 5-Litigation expense disclosed by BAC for reported periods, estimated for post-sale run-rate at $250mm per qtr. Note 6-Est. costsassociated with 60+ day delinquent loans and estimated $3k per loan to service. Note 7-Est. costs associated with performing loans andestimated $50 per loan to process. Note 9-Estimated quarterly expense run-rate once asset transfers are completed and costs are removedfollowing transfer (1-2 quarter estimated lag; expect to see annual cost benefit in 2014.Management has indicated that the costs of servicing these assets are as much as $2billion per quarter above “normal” and that the costs will decline proportionally with thedecline in delinquent assets in the LAS segment. Bank of America spends approximately$3k per delinquent loans and closer to $50 per performing loan to process these loans.Bank of America Corp. (BAC) 4
  5. 5. 09 January 2013We estimate that the decline in delinquent loans and sale of servicing portfolios couldreduce the cost structure in this business by about $5 billion by 2015. Refer to Exhibit 1.Further cost reductions would likely require that BAC reduce the infrastructure that it hasbuilt up in the servicing area--which will likely take several years.While rep/warranty expense was episodic, the settlement should substantiallyreduce further additions to the repurchase reserveGiven the purchases of both Countrywide and Merrill Lynch, Bank of America has been atthe epicenter of the mortgage crisis. The company has already taken charges, costs andreserves of about $40 billion. Bank of America reached a settlement a year ago withFreddie Mac as to the legacy representation and warranty issues for Countrywide’soriginations. At that time, Bank of America reached a deal with Fannie Mae although thesettlement was on outstanding claims at the time of the deal. On January 7, 2013, Bank ofAmerica announced that it had reached a settlement with Fannie Mae to resolve agencymortgage repurchase claims on loans originated and sold directly to Fannie Mae fromJanuary 1, 2000 through December 31, 2009 sold by Bank of America and legacyCountrywide. The agreement covers mortgage loans with $1.4 trillion of original unpaidprincipal balance and $300 billion of outstandings. Unresolved claims by Fannie Maerepresented $11.2 billion of unpaid principal balance as of September 30, 2012. And theagreements substantially resolve outstanding claims for compensatory fees. In total,these actions will reduce Bank of America’s pretax income by approximately $2.7 billion in4Q’12.Bank of America will make a cash payment to Fannie Mae of $3.6 billion and alsorepurchase $6.75 billion certain residential mortgage loans which BAC values at less thanpurchase price. These actions are expected to be covered by existing reserves and anadditional $2.5 billion (pretax) in representation and warranty provision in 4Q’12. Inaddition, Bank of America agreed to make a cash payment to FNM to settle outstandingand future claims for compensatory fees arising out of past foreclosure delays. Thispayment is expected to be covered by existing reserves and an additional provision of$260 million (pretax) recorded in 4Q’12. Going forward, we think that rep/warrantyexpense related GSE’s will be substantially reduced. We would expect that futureadditions to the mortgage repurchase reserve related to the GSE’s would predominantlybe due to future mortgage originations (or any originations after 2009) which, in general,should have substantially better credit quality and were underwritten with much stricterstandards—curtailing potential putback risk and loss to Bank of America.Potential for additional costs related to private label mortgagesWhen Bank of America reached the settlement with Bank of New York Mellon, it accruedat a comparable rate for the $418 billion of original balance that were in trusts that werenot part of the settlement. In the past, the company had indicated that there was rangepossible loss of up to $6 billion. With the recent settlement with Fannie Mae, Bank ofAmerica reduced its range of possible loss above existing accruals for both GSE and non-GSE exposures of up to $4.0 billion at December 31, 2012. We estimate that existingmortgage repurchase reserves of $16.3 billion as of September 30, 2012 includes $8.5billion related to the pending Bank of New York Mellon settlement and roughly $5.5 billionallocated to private label (reserved in 2Q’11), leaving an estimated repurchase reserve ofabout $2.3 billion for GSE claims. With the $2.5 billion addition to the reserve in 4Q’12related to the Fannie Mae settlement and an estimated $2.3 billion of allocated repurchasereserves for the GSE claims, we estimate total loss at roughly $5 billion related to the cashpayment to Fannie and the repurchase of loans (not including compensatory fees of $1.3billion).Bank of America reduced its potential range of loss estimate to $4.0 billion. Assuming the$5.5 billion allocated in 2Q’11 and range of loss of up to $4.0 billion, this would put“potential” losses from private label parties and monolines of up to about $9 billion. Wewould estimate that this loss estimate on remaining private label originations (while highBank of America Corp. (BAC) 5
  6. 6. 09 January 2013and not probable) likely encompasses potential loss (based on the existing BK settlementand assuming that the current settlement proceeds as currently outlined). In addition, wewould note that there are likely litigation reserves set aside for exposure to monolines andsecurities litigation.Potential for additional legal costsAnother driver of elevated expenses has been litigation expense. Bank of Americaincurred estimated litigation expense of $3.4 billion for the nine-months ended September30, 2012. This comes on top of an estimated $6.2 billion in litigation expense in 2011 and$2.6 billion in 2010. Over the last 3-4 years, we estimate Bank of America incurred about$13 billion in litigation and legal-related costs. In the near to intermediate-term these costsare likely to remain high (and at times could even increase based upon the progress inspecific lawsuits). We are currently estimating total litigation expense of $2-3 billion for2013 compared to $4 billion estimated for 2012. Over the longer term, these costs willlikely moderate to less than $1 billion per year, though this may take several years.4Q’12 One-Time ChargesDespite 4Q’12 charges, Bank of America expects to report modestly positive 4Q’12earnings per share. With about $0.21 per share in charges in 4Q, this comes in slightlybetter than our EPS estimate of $0.15 and the Street at $0.19 per share. Refer to Exhibit2 for 4Q’12 charges that Bank of America outlined. In addition to charges related to theFNM settlement and MSR sale, BAC expects to record a $2.5 billion charge partly relatedto the foreclosure review, in addition to a negative DVA and FVO charge of $700 millionand a tax benefit of $1.3 billion.Exhibit 2: Bank of America: Estimated 4Q’12 Chargesin millions, unless otherwise stated Est. Per Pre-Tax After-Tax Share Impact Representation and warranty expense for FNM -$2,450 -$1,544 ($0.14) Additional provision for FNM outstanding claims -$260 -$164 ($0.02) Gain on MSR above book value $325 $205 $0.02 Ind foreclosure review, litigation (mtg-related) -$2,500 -$1,575 ($0.15) Negative DVA and FVO -$700 -$441 ($0.04) Tax benefit from recognition of foreign tax credits $1,300 $0.12 Estimated EPS Impact ($0.21)Source: Company data, Credit Suisse estimatesCharge Relate to Independent Foreclosure ReviewTen mortgage servicing companies reached an $8.5 billion settlement with regulatorsincluding the OCC and Federal Reserve related to deficient foreclosure practices. Thetotal settlement includes $3.3 billion in direct payments to eligible borrowers and provides$5.2 billion in other assistance, such as loan modifications and forgiveness of deficiencyjudgments. Bank of America announced that it expects to record a 4Q’12 charge of $2.5billion related to the foreclosure review, with a portion of that charge likely due to the IFR,which we estimate that the 4Q’12 charge could total $1.2 billion assuming that the $1.9billion related to other assistance (including loan modifications and forgiveness) is alreadyaccrued for in the existing loan loss reserve balance.Bank of America Corp. (BAC) 6
  7. 7. 09 January 2013Exhibit 3: Estimated Foreclosure Settlement by Bank with Federal Reserve and OCC (Notes 1-8)US$ in millions, unless otherwise stated Estimated Foreclosure Settlement Details Total Relief to Other Assistance Est. EPS Settlement Borrowers including mods Impact Institution (Note 1) (Note 2) (Note 3) (Note 7)Settlement with Servicers (Note 3): Bank of America Corp. BAC $3,148 $1,222 $1,926 $0.07 Note 4 Wells Fargo & Co. WFC $1,857 $721 $1,136 $0.09 JPMorgan Chase & Co. JPM $1,754 $681 $1,073 $0.12 Citigroup, Inc. C $805 $305 $500 $0.07 Note 5 PNC Financial PNC $173 $67 $106 $0.08 U.S. Bancorp USB $208 $80 $128 $0.03 Note 6 Total for Ten Servicers $8,500 $3,300 $5,200 8%Source: Company data, CS estimates. Note 1- Credit Suisse estimate of total settlement amount based on total delinquencies on the servicingportfolio. Note 2-Estiamted relief to borrowers based on total $3.3bn or 39% of the total $8.5 billion settlement. Note 3-Estimated assistanceincluding modifications and forgiveness. Note 4-Bank of America noted in a press release that it plans to record a charge of $2.5Bn in 4Q’12related independent foreclosure review, litigation (primarily mortgage-related) and other mortgage related matters. Note 5-Citi expects to reporta $305mm charge in 4Q’12 and has $500mm to assist borrowers. Note 6-USB announced that its portion of the settlement is a cash payment of$80 million and $128mm for mortgage assistance which is already accrued for in the loan loss reserve. Note 8 – Estimated EPS impact basedon total settlement amount and a tax rate of 35% and 3Q’12 avg share count.Forecast incremental improvement in ROTE andbook valuesWe expect 5% growth in book value and 9% growth in tangible book value in 2013.Currently we are forecasting 2013 year-end book value of $21.54 and tangible book valueof $14.73. We are currently forecasting that Bank of America will generate an 8.2% ROTEin 2013 and 9.7% in 2014 which assumes 36% operating EPS growth in 2013 and 29% in2014. Our assumptions also include 9% payout (including dividends and share buyback)in 2013 and 20% in 2014 as we think that the company and regulators will have a morecautious view towards capital return given mortgage issues that could take years toresolve. We believe that the level of returns, coupled with the fact that the DTA representsa high-teens (18%) percentage of book value warrants a modest discount to tangible bookvalue. In addition, there is risk of an additional 3-5% hit to book value from mortgagelosses. Our price target of $12 equates to 0.6 times forward book value and 0.8 timesforward tangible book value.Bank of America Corp. (BAC) 7
  8. 8. 09 January 2013Exhibit 4: Bank of America Book Value Growth Exhibit 5: Bank of America Tangible Book Value Growth $22 $15 Book Value per Share Tangible Book Value per Share $14 $21 $13 $12 $20 $11 $19 $10 1Q10 2Q10 3Q10 4Q10 1Q11 2Q11 3Q11 4Q11 1Q12 2Q12 3Q12 4Q12E 1Q13E 2Q13E 3Q13E 4Q13E 1Q10 2Q10 3Q10 4Q10 1Q11 2Q11 3Q11 4Q11 1Q12 2Q12 3Q12 4Q12E 1Q13E 2Q13E 3Q13E 4Q13ESource: Company data, Credit Suisse estimates. Source: Company data, Credit Suisse estimates.However, a meaningful piece of book value is represented by the DTAThe regulatory capital rules under Basel III are especially punitive to deferred tax assets(DTA) whereby a large portion of Bank of America’s DTA’s are excluded from capital. Atthe peak, Bank of America’s deferred tax assets represented 41% of its book value,although DTA’s now represent 20% of book value (which is above average for the largecap banks). Refer to Exhibit 6. Bank of America’s net deferred tax asset stands at $28.5billion as of September 30, 2012. The reduction was the result of the fact Bank of Americahas already reduced its loan loss reserves by about $20 billion, the realization of theremainder will likely be driven by domestic profitability. However, we would note that anyadditional mortgage-related charges (or other one-time charges) would delay the ability ofthe company to convert this asset to cash. Separately, if the corporate tax rate were tochange, it could result in a ~3% hit to tangible book value of the corporate tax rate movedto 30%.Exhibit 6: Bank of America: Net Deferred Tax Asset ($) and Relative to Tangible Book Value (%)in billions, unless otherwise stated Net Deferred Tax Asset ($bn) $35 45% % of Tangible Book Value $30 40% 35% $25 30% $20 25% $15 20% 15% $10 10% $5 5% $0 0% 2008Q3 2008Q4 2009Q1 2009Q2 2009Q3 2009Q4 2010Q1 2010Q2 2010Q3 2010Q4 2011Q1 2011Q3 2011Q4 2012Q1 2012Q2 2012Q3 2011Q2Source: SNL Interactive, company data, Credit Suisse estimates.Bank of America Corp. (BAC) 8
  9. 9. 09 January 2013Potential risk to book valueWe view a potential risk of an additional 3-5% hit to book value from mortgage losses.Bank of America reduced its range of possible loss above existing accruals for both GSEand non-GSE exposures of up to $4.0 billion at December 31, 2012 over existing accrualscompared to $6.0 billion at September 30, 2012. We estimate that mortgage repurchasereserves could stand at about $5 billion (not including the $8.5 billion allocated to the Bankof New York Mellon settlement). Assuming reserves in addition to a range of loss estimateof $4.0 billion, this would put “potential” losses from private label parties and monolines ofup to $9 billion. Assuming the potential loss range of $4 billion was recognized, this wouldequate to a 3% hit to tangible book value. Incremental losses could result from theobligations as the underwriter of mortgage securities.Capital return expected to be modestBank of America has done a good job at managing capital levels, particularly in advance ofthe Basel III rules. Basel III Tier 1 common equity ratio has improved meaningfullystanding at an estimated 8.97% as of September 30, 2012 and above the expected fullyphased-in minimum of 8.5%. Despite improved capital positioning, we would regulators toscrutinize the volatility of earnings. Given mortgage issues at the company, we wouldexpect management to remain measured in its request for capital return in 2013. Wewould expect a preference towards share buyback versus dividends given the earningsprofile, I addition to the current share price below tangible book value. We are factoring ina modest share buyback of $500 million over the four quarters beginning in 2Q’13. Weestimate that the company could also increase the dividend to $0.02 per share from $0.01per share currently which would equates to a modest dividend payout ratio of 6% in 2013.Overall we are forecasting modest capital return of 9% of earnings.Bank of America Corp. (BAC) 9
  10. 10. 09 January 2013Companies Mentioned (Price as of 08-Jan-2013)Bank of America Corp. (BAC.N, $11.98, NEUTRAL[V], TP $12.0)Citigroup Inc. (C.N, $42.46)JPMorgan Chase & Co. (JPM.N, $45.5)PNC Financial Services Group (PNC.N, $60.25)U.S. Bancorp (USB.N, $32.97)Wells Fargo & Company (WFC.N, $34.71) Disclosure AppendixImportant Global DisclosuresI, Moshe Orenbuch, certify that (1) the views expressed in this report accurately reflect my personal views about all of the subject companies andsecurities and (2) no part of my compensation was, is or will be directly or indirectly related to the specific recommendations or views expressed inthis report.Price and Rating History for Bank of America Corp. (BAC.N)BAC.N Closing Price Target PriceDate (US$) (US$) Rating16-Apr-10 18.41 23.00 O16-Jul-10 13.98 20.0015-Apr-11 12.82 18.0029-Jun-11 11.14 17.0017-Aug-11 7.46 14.0003-Oct-11 5.53 13.0019-Dec-11 4.99 11.00* Asterisk signifies initiation or assumption of coverage. O U T PERFO RMThe analyst(s) responsible for preparing this research report received Compensation that is based upon various factors including Credit Suissestotal revenues, a portion of which are generated by Credit Suisses investment banking activitiesAs of December 10, 2012 Analysts’ stock rating are defined as follows:Outperform (O) : The stock’s total return is expected to outperform the relevant benchmark*over the next 12 months.Neutral (N) : The stock’s total return is expected to be in line with the relevant benchmark* over the next 12 months.Underperform (U) : The stock’s total return is expected to underperform the relevant benchmark* over the next 12 months. *Relevant benchmark by region: As of 10th December 2012, Japanese ratings are based on a stock’s total return relative to the analysts coverage universe whichconsists of all companies covered by the analyst within the relevant sector, wit h Outperforms representing the most attractive, Neutrals the less attractive, andUnderperforms the least attractive investment opportunities. As of 2nd October 2012, U.S. and Canadian as well as European ra tings are based on a stock’s totalreturn relative to the analysts coverage universe which consists of all companies covered by the analyst within the relevant sector, with Outperforms representing themost attractive, Neutrals the less attractive, and Underperforms the least attractive investment oppor tunities. For Latin American and non-Japan Asia stocks, ratingsare based on a stock’s total return relative to the average total return of the relevant country or regional benchmark; Austr alia, New Zealand are, and prior to 2ndOctober 2012 U.S. and Canadian ratings were based on (1) a stock’s absolute total return potential to its current share price and (2) the relative attra ctiveness of astock’s total return potential within an analyst’s coverage universe. For Australian and New Zealand stocks, 12 -month rolling yield is incorporated in the absolute totalreturn calculation and a 15% and a 7.5% threshold replace the 10-15% level in the Outperform and Underperform stock rating definitions, respectively. The 15% and7.5% thresholds replace the +10-15% and -10-15% levels in the Neutral stock rating definition, respectively. Prior to 10th December 2012, Japanese ratings werebased on a stock’s total return relative to the average total return of the relevant country or regional benchmark.Restricted (R) : In certain circumstances, Credit Suisse policy and/or applicable law and regulations preclude certain types of communications,including an investment recommendation, during the course of Credit Suisses engagement in an investment banking transaction and in certain othercircumstances.Volatility Indicator [V] : A stock is defined as volatile if the stock price has moved up or down by 20% or more in a month in at least 8 of the past 24months or the analyst expects significant volatility going forward.Analysts’ sector weightings are distinct from analysts’ stock ratings and are based on the analyst’s expectations for the fundamentals and/orvaluation of the sector* relative to the group’s historic fundamentals and/or valuation:Overweight : The analyst’s expectation for the sector’s fundamentals and/or valuation is favorable over the next 12 months.Market Weight : The analyst’s expectation for the sector’s fundamentals and/or valuation is neutral over the next 12 months.Underweight : The analyst’s expectation for the sector’s fundamentals and/or valuation is cautious over the next 12 months.Bank of America Corp. (BAC) 10
  11. 11. 09 January 2013*An analyst’s coverage sector consists of all companies covered by the analyst within the relevant sector. An analyst may cov er multiple sectors.Credit Suisses distribution of stock ratings (and banking clients) is:Global Ratings DistributionRating Versus universe (%) Of which banking clients (%)Outperform/Buy* 42% (53% banking clients)Neutral/Hold* 39% (47% banking clients)Underperform/Sell* 16% (43% banking clients)Restricted 3%*For purposes of the NYSE and NASD ratings distribution disclosure requirements, our stock ratings of Outperform, Neutral, an d Underperform most closelycorrespond to Buy, Hold, and Sell, respectively; however, the meanings are not the same, as our stock ratings are determined on a relative basis. (Please refer todefinitions above.) An investors decision to buy or sell a security should be based on investment objectives, current holdin gs, and other individual factors.Credit Suisse’s policy is to update research reports as it deems appropriate, based on developments with the subject company, the sector or themarket that may have a material impact on the research views or opinions stated herein.Credit Suisses policy is only to publish investment research that is impartial, independent, clear, fair and not misleading. For more detail please referto Credit Suisses Policies for Managing Conflicts of Interest in connection with Investment Research: andanalytics/disclaimer/managing_conflicts_disclaimer.htmlCredit Suisse does not provide any tax advice. Any statement herein regarding any US federal tax is not intended or written to be used, and cannotbe used, by any taxpayer for the purposes of avoiding any penalties.Price Target: (12 months) for Bank of America Corp. (BAC.N)Method: Our $12 target price for BAC is 0.8 times forward tangible book value (TBV) estimate. This multiple represents a discount to large cap peers and represents a discount to BACs 10-year median TBV multiple of close to 3.0x owing to fundamental headwinds, as well as company-specific issues/risks. Further our $12 target reflects 11 times 2013E earnings.Risk: Risks to BACs achievement of our $12 target price are tied to the pace and duration of the economic and housing recovery and change in credit quality metrics. Risk surround the potential for credit quality costs that are higher than we are currently anticipating, in both consumer and commercial portfolios. Other risks surround deals including Countrywide Financial and Merrill Lynch, and contingent liabilities regarding these transactions, including mortgage putbacks. Capital markets results can be volatile. Additionally, uncertainty remains around capital standards and implementation of Basel proposals. We believe financial regulatory reform will have a negative impact on the banking industry and projected profitability of Bank of America, although final rules will be determined over the coming years.Please refer to the firms disclosure website at for the definitions of abbreviations typically used in thetarget price method and risk sections.See the Companies Mentioned section for full company namesThe subject company (BAC.N, C.N, JPM.N, USB.N, WFC.N, PNC.N) currently is, or was during the 12-month period preceding the date ofdistribution of this report, a client of Credit Suisse.Credit Suisse provided investment banking services to the subject company (BAC.N, C.N, JPM.N, USB.N, WFC.N, PNC.N) within the past 12months.Credit Suisse provided non-investment banking services to the subject company (BAC.N, C.N, JPM.N, USB.N, WFC.N, PNC.N) within the past 12monthsCredit Suisse has managed or co-managed a public offering of securities for the subject company (BAC.N, C.N, JPM.N, WFC.N, PNC.N) within thepast 12 months.Credit Suisse has received investment banking related compensation from the subject company (BAC.N, C.N, JPM.N, USB.N, WFC.N, PNC.N)within the past 12 monthsCredit Suisse expects to receive or intends to seek investment banking related compensation from the subject company (BAC.N, C.N, JPM.N,USB.N, WFC.N, PNC.N) within the next 3 months.Credit Suisse has received compensation for products and services other than investment banking services from the subject company (BAC.N, C.N,JPM.N, USB.N, WFC.N, PNC.N) within the past 12 monthsAs of the date of this report, Credit Suisse makes a market in the following subject companies (BAC.N, C.N, JPM.N, USB.N, WFC.N, PNC.N).Important Regional DisclosuresSingapore recipients should contact Credit Suisse AG, Singapore Branch for any matters arising from this research report.Bank of America Corp. (BAC) 11
  12. 12. 09 January 2013The analyst(s) involved in the preparation of this report have not visited the material operations of the subject company (BAC.N, C.N, JPM.N, USB.N,WFC.N, PNC.N) within the past 12 monthsRestrictions on certain Canadian securities are indicated by the following abbreviations: NVS--Non-Voting shares; RVS--Restricted Voting Shares;SVS--Subordinate Voting Shares.Individuals receiving this report from a Canadian investment dealer that is not affiliated with Credit Suisse should be advised that this report may notcontain regulatory disclosures the non-affiliated Canadian investment dealer would be required to make if this were its own report.For Credit Suisse Securities (Canada), Inc.s policies and procedures regarding the dissemination of equity research, please visit of the date of this report, Credit Suisse acts as a market maker or liquidity provider in the equities securities that are the subject of this report.Principal is not guaranteed in the case of equities because equity prices are variable.Commission is the commission rate or the amount agreed with a customer when setting up an account or at any time after that.For Credit Suisse disclosure information on other companies mentioned in this report, please visit the website at or call +1 (877) 291-2683.Bank of America Corp. (BAC) 12
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