Bank of America was greatly affected by the 2008 financial crisis and the current Chief Executive Officer Brian Moynihan will have to do a lot to clean up the mess. The bank took over Countrywide at a point when the U.S. housing market was on the decline and it will now have to sell rights to service loans from Countrywide too. The acquisition of Countrywide also saw the bank drop in rank from first to fourth and it consequently lost business to competitors like JPMorgan Chase & Co. (NYSE:JPM) and Wells Fargo & Company (NYSE:WFC). The clean-up measures being implemented by the CEO will see Bank of America spending nearly $50 billion for litigation costs and for refunds for faulty mortgages.
The bank has been able to increase its mortgage originations by about 37 percent. Mortgage rates may fall if Bank of America’s home lending business increases volume. Fourth quarter results had to cover legal expenses yet they were still considered modestly profitable. The cost of protecting debt using credit swaps has reduced though shares are yet to indicate a stable increase or decrease.
It is clear that Bank of America is trying to avoid another downfall. Quality checks are carried out on mortgages three times to ensure that there are no loopholes that would lead to future disputes. Though the checks are a move in the right direction for the home lending business, CEO Brian Moynihan indicates that it will affect the frequency with which the bank originates mortgages. According to Moynihan, “It’s frustrating to me because we can’t get our loans closed fast enough for our customers.”
Bank of America Corp (NYSE: BAC) will also have to pay about $2.9 billion in a different settlement that involves 10 of the largest mortgage servicers and U.S. regulators. The lender still has a long way to go after settling Fannie Mae since it will also have to deal with MBIA and other counterparties who are demanding refunds. The pressure to make refunds is mounting, so Bank of America may take as long as two more years to settle all the disputes.
Valuation
Many reinsurance stocks and banks embroiled in lending issues are trading at discounts to their book values:
| Ticker | Company | P/E | P/S | P/B | D/E |
| CS | Credit Suisse | 27.37 | 1.49 | 0.9 | 8.41 |
| BAC | Bank of America | 44.12 | 2.07 | 0.5 | 2.53 |
| GNW | Genworth Financial | 12.82 | 0.41 | 0.25 | 0.43 |
| AGO | Assured Guaranty | NA | 4.24 | 0.7 | 0.6 |
| MBI | MBIA | NA | 3.56 | 0.74 | 5.48 |
| MTG | MGIC Investment | NA | 0.36 | 0.8 | 1.22 |
| RDN | Radian Group | NA | 1.32 | 1.48 | 1.05 |
I am not excited about this. Normally, value investors find P/B ratios that are less than one to be exciting based on the premise that the accounting value of equity is a conservative estimate. With financial companies, this cannot be assumed.
Conclusion
Reinsurance companies and lenders are cheap for a reason. Losses in this sector are still working their way through the legal system. Investors determined to speculate on cheap companies on this list should consider Assured Guaranty and Bank of America before their competitors since they trade at the steepest discounts to their book values. However, investors will have to research the accounting basis for this seemingly attractive ratio.
The article Will Legacy Issues Haunt These Stocks Forever? originally appeared on Fool.com and is written by Bill Edson.
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