Will $1.6 Billion Bank of America Settlement Embolden Others?

Critics are warning that Bank of America Corp.’s $1.6 billion settlement over dodgy home loans could serve as a starting point in a fight that ends up costing the bank tens of billions more.

The settlement with Assured Guaranty Ltd resolved claims Bank of America was responsible for mortgage bonds full of loans by its Countrywide Financial unit that did not meet lending standards.

Assured Guaranty insured those bonds and when the loans went bad, investors suffered losses and the insurer had to pay out.

“Generally we believe that there’s now going to be admitted in the market that this is a real issue and it shows that an actual large settlement has happened related to the claims,” said Chris Gamaitoni, an analyst with Compass Point Research & Trading LLC.

Several analysts have been warning the bonds contain billions of dollars of improperly written loans and investors and bond insurers could force the Wall Street banks that created the bonds to cover their losses.

While the settlement sent Assured Guaranty’s shares up 25 percent, it also lit a fire under the stock of another bond insurer, MBIA Inc., which some investors view as a bet on these type of legal claims because of lawsuits it has brought.

In addition to bond insurers, investors who are holding hundreds of billions of dollars of mortgage bonds have been organizing, with one large group working through a syndicate set up by Talcott Franklin, a Texas attorney.

Assured Guaranty’s deal shows legal claims relating to improperly written loans packaged into bonds are valid, said Gamaitoni.

“So the argument that its purely investors not wanting to realize their own losses … goes out the window,” he added.

A spokesman for Bank of America said observers were wrong to extrapolate from the Assured Guaranty settlement and apply it outstanding potential claims.

“Every case is going to be a little bit different,” said Jerry Dubrowski.

He said bond insurers had greater protection than private investors against what are known as breaches of representations and warranties about the quality of the underlying loans.

Bill Frey, president of Greenwich Financial Services, has been working to organize the Talcott Franklin group and said the Assured Guaranty deal would embolden the investors.

“Investors have the ability to force these types of settlements by acting in concert,” he added.

Many estimate Wall Street could be facing settlements costing more than $100 billion and Gamaitoni put Bank of America’s potential cost at more than $30 billion.

One auditing specialist said last Friday’s settlement reinforced those estimates.

“It would cause me some concern that as (Bank of America) makes additional settlements, if they are at this ratio, they could be very large numbers,” said Bob Christensen, senior advisers who specializes in auditing issues with Natoma Partners.

But the bank has said the potential cost is far below what analysts such as Gamaitoni estimate, putting it at up to $10 billion.

“No one can definitely say what is the exposure for Bank of America,” said Dubrowski.

He said there are so many factors contributing to a loan going bad that it makes it difficult to pinpoint an underwriting breach.

Stuart Plesser, an analyst with Standard and Poor’s, said Bank of America cannot really set aside provisions for the future settlements, in part because the huge potential claims from private investors have yet to be tested in the courts.

“The numbers are still hazy,” he added. “The assumptions are not clear cut.”

(Reporting by Tom Hals; editing by Andre Grenon)