Bank of America climbs on plan to sell China stake

SAN FRANCISCO (MarketWatch) — Bank of America said Monday it plans to sell 13.1 billion shares of China Construction Bank in another move to bolster capital on its balance sheet, an issue that’s been dogging the nation’s largest bank this summer.

The deal, slated to close in the third quarter, is expected to raise $8.3 billion in cash. Bank of America BAC +5.03%  will retain a 5% stake in the Chinese bank CICHY +2.20%  after the transaction.

“This sale of approximately half of our shares of CCB stock is expected to generate about $3.5 billion in additional Tier 1 common capital and reduce our risk-weighted assets by $7.3 billion under Basel I,” said Chief Financial Officer Bruce Thompson in a statement.

Bank of America shares surged 5% to $8.13 in mid-morning trades Monday, making it the top gainer among major U.S. bank stocks.

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Markets Rally after Hurricane Irene

There are thin trading volumes due to late summer vacations and people staying after hurricane Irene, but the markets opened with a rally. Steven Russolillo and Michael Casey explain the market moods on Markets Hub. (Photo: Reuters.)

Better yet, the Chinese bank stock sale, which many investors had figured would eventually happen, follows on the $5 billion investment Bank of America got from Warren Buffett’s Berkshire Hathaway BRK.A +3.00%   BRK.B +3.02%  on Thursday. Read about Buffett’s $5 billion investment in Bank of America.

This is calming jittery investors who had been selling Bank of America’s stock in droves from the end of July through mid-August. Shares of the Dow component have jumped more than 35% since Tuesday, when they hit a 52-week low of $6.01.

The three other financial stocks on the Dow Jones Industrial Average — J.P. Morgan Chase JPM +2.73% , American Express Co. AXP +0.39%  , and Travelers Inc. TRV +4.85%  — all traded higher.

On Monday morning, the financial sector was the top industry gainer on the S&P 500 SPX +2.09% . The Financial Select SPDR ETF XLF +3.21% , which tracks financial companies on the S&P, advanced 2.9% to $13.14. The KBW Bank Index BKX +3.17%  , which consists of the nation’s 24 leading banks, moved up 2.9%.

Citigroup Inc. C +3.85%  rose nearly 4%, Goldman Sachs Group Inc. GS +2.93%  gained 2.9%, and Wells Fargo WFC +2.56%  rose 2%.

Post-Irene insurer shares surge

After Hurricane Irene passed over the East Coast with less damage than anticipated, insurers turned out to be one of the strongest subsectors on the S&P 500. Hartford Financial Services Group Inc. HIG +10.44%  led the charge with shares up more than 9%.

Shares of Allstate Corp. ALL +6.08%  , XL Group PLC XL +6.59%  , Lincoln National Corp. LNC +6.53%  , Genworth Financial Inc. GNW +6.14%   and MetLife Inc. MET +5.59%   all traded 5% or higher.

$2 Million Bet That Bank Of America Will Be $4 By November

Will BAC be at $4 by November? We don't know. But someone just made a $2 million bet that this is precisely what will happen. Minutes ago, 54k $4 BAC November Puts were purchased at $0.37. The total price: $2 million. Will this event occur? Like we said, we don't know, but it sure looks far more realistic than Paulson's bet that BAC will trade at $30 by the end of the year.

Time to Bet on Bank of America

Shares of the giant bank are down 46% this year, thanks to the housing mess and worries about a global slowdown. At their current level, that's all priced in and more.

Investors pulled their money out of Bank of America with both hands last week, driving the stock to its lowest level since March 2009, as concerns about a slowing economy rattled the banking industry, and lingering losses from loans it made during the housing bubble raised fears that the bank would need to raise additional capital.

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timates and they're worth $14.70.

The bank has made some progress in cleaning up after the housing meltdown. It has bolstered reserves on its $939 billion loan portfolio to $37 billion. If loan performance doesn't get worse—a big if in many investors' minds—the bank won't have to increase those reserves and a major drag on earnings over the past few years will disappear.
Bank of America (ticker: BAC) has also improved its liquidity and its capital, with $400 billion of cash and liquid assets on hand and $1 trillion in deposits. The bank's earnings power was apparent in its second quarter results. Outside the residential mortgage area, the bank's businesses generated roughly $6 billion of net income, and each enjoyed lower provisions for credit losses.

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Recent Price	$7.19
52-week change	-45%
Revenue 2011E (bil)	$90.2
EPS 2011E	-$0.25
EPS 2012E	$1.47
Tangible shareholder equity (bil)	$128
Tangible equity/share	$12.65
Current Yield	0.6%
E=Estimate. Source: Thomson Reuters

But the good news has been overshadowed by the bad: the European debt crisis, a chaotic stock market and fears about global growth, which pushed U.S. Treasury yields down. That's to say nothing of the heap of lawsuits stemming from the mortgage mess.
Low interest rates are hurting net interest income at all banks. And a faltering global economy could mean the industry underwrites fewer securities, trades less, makes fewer loans and facse higher-than-expected loan losses.
Matt O'Connor, an analyst at Deutsche Bank wrote in a note last week that his $1.35 earnings estimate for Bank of America in 2012 could fall by 47 cents and his $1.75 estimate for '13 could be too high by 96 cents. Betsy Graseck, Morgan Stanley's bank analyst, lowered her 2011 earnings estimate by six cents, to 76 cents a share and her 2012 estimate by 29 cents, to $1.53 a share. She lopped her bullish target price by $2, to $15.

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Dan Picasso for Barron's

 Concerns also flared over a report last week that claimed the bank may have to lift its reserves dramatically to offset new problems with its residential mortgage portfolio. BofA's consumer real estate division racked up a $14.5 billion loss in the last quarter, hurt by a $12.8 billion increase in the representations and warranties provision. Reps and warranties basically promise investors in mortgages that the bank did its job in correctly underwriting the loan.

"At the end of the second quarter, Bank of America had approximately $18 billion to cover the recently announced $8.5 billion settlement with Bank of New York Mellon and other future representation and warranties repurchase liabilities," a spokesman wrote in an e-mail. Still, the firm has said it may have to boost provisions by up to $5 billion more.

Now for the Good News

Bank of America's businesses are growing smartly, but housing bubble loans are still dragging it down.

Business Segment	Net Income Q2 2011 (mil)	Chg From  Q2 2010
Deposits	$430	-36%
Card Services	2,035	146
Wealth & Investing	506	54
Commercial Banking	1,381	69
Banking & Markets	1,558	73
Consumer Real-Estate Svcs.	-14,520	NA
Source: Company reports

SOME THINK THAT NUMBER could go a lot higher. Last week Compass Point Research & Trading published a report estimating that BofA would have to boost reserves by another $25.7 billion. That's the most extreme estimate so far, and Bank officials disputed it hotly.
Ironically, the shares may have already priced in Compass Point's worst case scenario, which has BAC boosting reserves by $44 billion. Once that reserve increase is adjusted for taxes and divided by the bank's huge share base of more than 10 billion shares, tangible book value would be reduced by roughly $2.50 a share. That would still leave $10 a share in tangible book, estimates John McDonald, a Sanford C. Bernstein Research analyst. He has a $13 price target on the stock.
The other thing weighing on shares is a lack of confidence in Bank of America's ability to meet an increase in regulatory capital requirements by 2019 through retained earnings and the sale of assets. Under Basel 3, the bank's tier 1 ratio needs to be 3.5% in 2013.

The Bottom Line

A slew of bad news hammered Bank of America's shares to their lowest level since March 2009. Under even the most bearish scenario, they look cheap. Why they could rise 35%.

The bank's goal is to have a ratio of 6.75% to 7% by 2013 and to exceed capital requirements in all periods without raising equity. But the market is acting as if it needs to raise equity now to meet the requirements and be competitive with rivals like JPMorgan (JPM).
CEO Brian Moynihan failed to convince investors on a conference call last week that the bank had turned things around. But with tons of bad news priced into the stock, a few quiescent quarters may be all it takes to lift the shares out of their funk.