Bank of America bending us over again

[AZRogue]

Here's a very horrible article about Bank of America that pissed me off and so I thought I'd share. It seems they've managed to move trillions of dollars of toxic assets over to their FDIC insured branch, thus leaving we the taxpayers stuck with the bill. Again.

$75 trillion dollars is a LOT of money.





http://dailybail.com/home/holy-bailout-federal-reserve-now-backstopping-75-trillion-of.html (http://www.kaytastrophe.com/vb/redirector.php?url=http%3A%2F%2Fdailybail.com%2Fho me%2Fholy-bailout-federal-reserve-now-backstopping-75-trillion-of.html)

HOLY BAILOUT - Federal Reserve Now Backstopping $75 Trillion Of Bank Of America's Derivatives Trades
Oct 19, 2011 at 4:38 PM
DailyBail in Bank Bailouts, Bank of America, JP Morgan, bailouts, bank of america, banks, cds, cds, derivatives, derivatives, fdic, fdic, fed, federal reserve, federal reserve, jpmorgan

UPDATE - Chcek out regulator William Black's blistering reaction to this story HERE (http://www.kaytastrophe.com/vb/redirector.php?url=http%3A%2F%2Fdailybail.com%2Fho me%2Fwilliam-black-not-with-a-bang-but-a-whimper-bank-of-americas.html).
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This story from Bloomberg just hit the wires this morning. Bank of America is shifting derivatives in its Merrill investment banking unit to its depository arm, which has access to the Fed discount window and is protected by the FDIC.
This means that the investment bank's European derivatives exposure is now backstopped by U.S. taxpayers. Bank of America didn't get regulatory approval to do this, they just did it at the request of frightened counterparties. Now the Fed and the FDIC are fighting as to whether this was sound. The Fed wants to "give relief" to the bank holding company, which is under heavy pressure.
This is a direct transfer of risk to the taxpayer done by the bank without approval by regulators and without public input. You will also read below that JP Morgan is apparently doing the same thing with $79 trillion of notional derivatives guaranteed by the FDIC and Federal Reserve.
What this means for you is that when Europe finally implodes and banks fail, U.S. taxpayers will hold the bag for trillions in CDS insurance contracts sold by Bank of America and JP Morgan. Even worse, the total exposure is unknown (http://www.kaytastrophe.com/vb/redirector.php?url=http%3A%2F%2Fdailybail.com%2Fho me%2Fbehind-europes-debt-crisis-lurks-another-giant-bailout-of-wa.html) because Wall Street successfully lobbied during Dodd-Frank passage so that no central exchange would exist keeping track of net derivative exposure.
This is a recipe for Armageddon. Bernanke is absolutely insane. No wonder Geithner has been hopping all over Europe begging and cajoling leaders to put together a massive bailout of troubled banks. His worst nightmare is Eurozone bank defaults leading to the collapse of the large U.S. banks who have been happily selling default insurance on European banks since the crisis began.
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Bloomberg
Excerpt:
Bank of America Corp. (BAC), hit by a credit downgrade last month, has moved derivatives from its Merrill Lynch unit to a subsidiary flush with insured deposits, according to people with direct knowledge of the situation.
The Federal Reserve and Federal Deposit Insurance Corp. disagree over the transfers, which are being requested by counterparties, said the people, who asked to remain anonymous because they weren’t authorized to speak publicly. The Fed has signaled that it favors moving the derivatives to give relief to the bank holding company, while the FDIC, which would have to pay off depositors in the event of a bank failure, is objecting, said the people. The bank doesn’t believe regulatory approval is needed, said people with knowledge of its position.
Three years after taxpayers rescued some of the biggest U.S. lenders, regulators are grappling with how to protect FDIC- insured bank accounts from risks generated by investment-banking operations. Bank of America, which got a $45 billion bailout during the financial crisis, had $1.04 trillion in deposits as of midyear, ranking it second among U.S. firms.
“The concern is that there is always an enormous temptation to dump the losers on the insured institution,” said William Black, professor of economics and law at the University of Missouri-Kansas City and a former bank regulator. “We should have fairly tight restrictions on that.”
Moody’s Downgrade

The Moody’s downgrade spurred some of Merrill’s partners to ask that contracts be moved to the retail unit, which has a higher credit rating, according to people familiar with the transactions. Transferring derivatives also can help the parent company minimize the collateral it must post on contracts and the potential costs to terminate trades after Moody’s decision, said a person familiar with the matter.
Keeping such deals separate from FDIC-insured savings has been a cornerstone of U.S. regulation for decades, including last year’s Dodd-Frank overhaul of Wall Street regulation.
U.S. Bailouts
Bank of America benefited from two injections of U.S. bailout funds during the financial crisis. The first, in 2008, included $15 billion for the bank and $10 billion for Merrill, which the bank had agreed to buy. The second round of $20 billion came in January 2009 after Merrill’s losses in its final quarter as an independent firm surpassed $15 billion, raising doubts about the bank’s stability if the takeover proceeded. The U.S. also offered to guarantee $118 billion of assets held by the combined company, mostly at Merrill.
Bank of America’s holding company -- the parent of both the retail bank and the Merrill Lynch securities unit -- held almost $75 trillion of derivatives at the end of June, according to data compiled (http://www.kaytastrophe.com/vb/redirector.php?url=http%3A%2F%2Fwww.occ.gov%2Ftopi cs%2Fcapital-markets%2Ffinancial-markets%2Ftrading%2Fderivatives%2Fdq211.pdf) by the OCC. About $53 trillion, or 71 percent, were within Bank of America NA, according to the data, which represent the notional values of the trades.
That compares with JPMorgan’s deposit-taking entity, JPMorgan Chase Bank NA, which contained 99 percent of the New York-based firm’s $79 trillion of notional derivatives, the OCC data show.
Moving derivatives contracts between units of a bank holding company is limited under Section 23A of the Federal Reserve Act, which is designed to prevent a lender’s affiliates from benefiting from its federal subsidy and to protect the bank from excessive risk originating at the non-bank affiliate, said Saule T. Omarova, a law professor at the University of North Carolina at Chapel Hill School of Law.
“Congress doesn’t want a bank’s FDIC insurance and access to the Fed discount window to somehow benefit an affiliate, so they created a firewall,” Omarova said. The discount window has been open to banks as the lender of last resort since 1914.
Continue reading at Bloomberg... (http://www.kaytastrophe.com/vb/redirector.php?url=http%3A%2F%2Fwww.bloomberg.com% 2Fnews%2F2011-10-18%2Fbofa-said-to-split-regulators-over-moving-merrill-derivatives-to-bank-unit.html)


http://dailybail.com/storage/derivatives.JPG?__SQUARESPACE_CACHEVERSION=1318953 680629

[Hatter]

This is a more clear perspective, it's not really correct to say that taxpayers are accountable since taxpayer money isn't used to back the FDIC.

link (http://crooksandliars.com/karoli/truth-about-bank-americas-derivatives-trans)

Truth About Bank of America's Derivatives Transfer: It's Not A Taxpayer Bailout

Let me get this out of the way first: I believe Bank of America is evil and does unspeakably evil things. This post does not in any way change my mind on that nor is it intended to change yours. However, I do believe facts matter, and in the case of the mind-boggling "scare everyone half to death" headlines surrounding the Bank of America derivatives transfer, a few facts were left out that substantially change what has actually transpired. Without question, it should not be this difficult for anyone to report facts and actually understand what is going on. It is certainly an indictment of our complex and byzantine financial industry that it was this difficult and that it was reported incompletely and often hysterically.

In September, Moodys downgraded several big banks, including BofA. The downgrade was specifically on projections that these big banks would not be rescued by the federal government even if they were so exposed they posed a risk of failure.

Why no bailout? Because Dodd-Frank set procedures in place for failing banks -- particularly failing banks that might pose systemic risk to the economy -- to be unwound on an orderly basis and liquidated. Quoting Moodys:

The government is "more likely now than during the financial crisis to allow a large bank to fail should it become financially troubled, as the risks of contagion become less acute," the ratings agency said.

Because some derivatives contracts carry a requirement that they be liquidated if ratings drop, there was a very real concern that a demand for liquidation could stress the investment banking side. So falling into line alongside Merrill Lynch, Citibank and others, BofA moved their remaining derivatives over to their retail banking subsidiary where deposits are, in fact, insured by the FDIC.

The astronomical number stated in headlines -- $75 trillion -- was tossed all over the Internet as the mind-boggling amount the FDIC and Fed would cover in the event of a run or other wobble in BofA's stability. Only, that number means less than nothing, particularly in the world of bank "rescues". The $75 trillion number is a statement of "notional value." Notional value does not represent the exposure a bank might have, nor does it even represent the value of the derivatives contracts. It is a number which represents the total amount of money a small amount of money might control. Via DesertBeacon:

Notional value is: “The total value of a leveraged position’s assets. This term is used commonly in the options, futures, and currency markets to describe how a very small amount of invested money can control a large position (and have a large consequence for the trader).” [FinDict] Here’s where the going got sticky — “a small amount of money controlling a large position.”

In the case of derivatives which have been carved up and sold to many parties, each party has a stake in the notional value of all parties.

Investopedia offers an example: “As an example, one S&P 500 Index futures contract obligates the buyer for 250 units of the S&P 500 Index. If the index is trading at $1,000, the futures contract is the equivalent to investing $250,000 (250 × $1,000). Therefore, $250,000 is the notional value underlying the futures contract.” [FinDict] I think we can all figure out where this is going. If the notional value can be calculated like the S&P Index, since we can all look at the television set or check online to see the price of S&P Index trading, then life is good, the transaction has a predictable value. If, however, the swap is being made on something-anything-everything for which a notional value cannot be readily determined — oh, say something like the value of securitized asset vehicles sliced diced and tranched out of home mortgage paper — then what we have is not managed risk but layered risk.

Do we know what BofA's actual, real-dollar exposure is? Not really, but FTAlphaville has a pretty decent estimate based on earnings reports [see chart]:

To get to $75 trillion, add up all the numbers on the far left. In terms of actual exposures at the time that the report was filed, we’re talking $66.6bn on the asset side and $54.4bn on the liability, once netting and collateral has been accounted for.

Ok, back to Dodd-Frank and the FDIC. First, a clarification on the FDIC. Taxpayers do not pay for it. Banks do, and only banks. We can have a discussion about whether it is adequately funded, but it's wrong to say taxpayers pay for FDIC rescues and unwinds of failed banks, because we don't. Dodd-Frank laid out very specific ways that an investment bank or holding company like BofA would be isolated and unwound in the event that they were teetering on the edge.

EconomicsofContempt has an excellent explanation. Here's an excerpt:

Now we get to the actual resolution. What would the resolution of a large financial holding company look like under the OLA? First, the FDIC would be appointed as receiver of the holding company, all its US primary entities (except for any insurance companies, which are still resolved by the states), and all its US booking entities. Technically, the FDIC would be appointed as receiver of the US commercial bank under the Federal Deposit Insurance Act rather than the OLA, but this is a distinction without a difference for our purposes, as the statutes are substantially similar. As receiver, the FDIC would succeed to all the rights, titles, powers, and privileges of these companies and their assets — in other words, the FDIC would be in complete control.

The FDIC resolves the vast majority of failed commercial banks through what’s known as “purchase and assumption” agreements (called “P&As”), in which a healthy bank purchases some or all of the assets of a failed bank and assumes some or all of the liabilities, including all insured deposits. For example, the FDIC resolved WaMu — which had over $300bn in assets — through a P&A with JPMorgan, in which JPM acquired all of the assets ($296bn), and almost all of the liabilities ($265bn) of WaMu’s depository instutition. Crucially, JPM left behind some $28bn of WaMu’s senior unsecured debt, subordinated debt, and preferred stock — and those creditors took huge haircuts. The particular structure of the P&A, and of the resolution, depends on the situation the FDIC is facing.

In the case of a large financial holding company, there are essentially four types of situations that the OLA needs to be able to handle:

1. A buyer for the entire FHC can be identified prior to triggering the OLA;
2. A buyer for only some of the FHC’s assets can be identified prior to triggering the OLA (most likely);
3. Potential buyers have been identified, but no agreement has been reached by the time the OLA is triggered;
4. No buyer can be or will ever be identified (least likely).

I highlighted the part about creditors taking haircuts to amplify what would actually be at risk if the consumer bank (which now has the derivatives on their books) were to be taken over by the FDIC. Instead of a bank run on those contracts and shaking the entire economy here and abroad (because of the notional value and idea that those assets are spread across many entities, all of whom are at risk), the bank is effectively isolated and the FDIC has the authority to write down the value of the assets and dispose of them as they see fit.

This is why bankers hate Dodd-Frank. They have to stay within the parameters or risk takeover and unwinding. It forces them to limit their casino stake and potential profits (and losses, of course). It also protects taxpayers from having to fork up a bunch of money once again to keep them from failing while they still pay out ginormous bonuses.

The headlines were scary. They fit really, really well with the Occupy Wall Street protests. The problem is, they just weren't true. Dodd-Frank does have teeth, and especially in these situations. The bottom line here? BofA is still evil, but taxpayers will not bear the brunt of their gambling ways as they would have before Dodd-Frank.

Extra credit reading:

Safe Harbors and Dodd-Frank
Dodd-Frank for Bankruptcy Lawyers (PDF)
In Defense of the Dodd-Frank Resolution Authority, Part I

Note: This post came about as the result of discussions on Twitter over posts on C&L and elsewhere reporting that $75 trillion in risk was being shifted to the FDIC and constituted a bailout. A belated h/t to @rootless_e for several links and the discussion of the underlying issues that led me to the conclusion that notional values are not an accurate statement of risk and helped clarify the role of Dodd-Frank.

[AZRogue]

Thanks for the article, and nice find. I read several before posting and the one I used was the most mild. Funny that he mentions OCW, too, since that's what I was reading up on when I encountered the story. One question, though, is that the FDIC is backed by the "full faith and credit of the United States", so any amount that exceeds the fund itself would necessarily have to come from the government. Is that not the case? Toss in the proposed $75 trillion figure and it would be hard not to imagine the government left to meet the (vast) difference.

[DarwinOfMind]

Yeah except the GOP all want to repeal Dodd-Frank if they get more power...

[Ergeheilalt]

As soon as my company transitions to direct deposit of expenses, I'm totally going to a local credit union and abandoning BofA.

[Algolei]

I abandoned my credit union because it turned itself into a bank in all but name.


...then I went back after nine months 'cause I DO need someplace to cash my cheques after all.

I'm fuckin' trapped. I hate my credit union, they charge me for everything except deposits. I found out the hard way they even charge me for complaints: $1.00 per bitch. Unless I do it outside of the building.

[Hatter]

Yeah except the GOP all want to repeal Dodd-Frank if they get more power...

They're trolling for donations. I'm just shocked to read that Dodd-Frank actually has teeth, though I should have guessed by how much bitching and moaning was being done by the banking industry.