The practice of repurchasing loans is not new. However, the recent crisis surrounding falsified mortgages that were bundled into Residential Mortgage Securities (RMBS) may leave large banks such as Bank of America (BAC) exposed with billions of dollars in losses.
A recent article posted on CNNMoney.com reports how institutional investors are raising questions about home loans that had been bundled together by banks and sold as RMBS.
Earlier this week, the New York Fed, along with investor firms BlackRock and the Pacific Investment Management Company, sent a letter to Bank of America alleging that its subsidiary, Countrywide, has failed to properly service loans totaling $47 billion.
Although the practice of bundling mortgages became standard practice in recent years, the recent robo-signing fiasco has brought to light underlying problems in the initial paperwork, and baseline quality of these loans.
If successful, banks would be forced to repurchase these securities at exactly the time that they are trying to clear toxic assets off their books.
“It’s really going to be up to the courts to decide on this one … Certainly investors will try to use this to avoid losses,” said Joseph Mason, a professor at Louisiana State University, who studies legal risk in finance and banking.
Bank of America is among the most exposed of all the banks due to the sheer scale of its business. It sold a staggering $1.2 trillion in loans Fannie Mae and Freddie Mac between 2004 and 2008, and thus far has received repurchase requests on $18 billion of those loans.
But it says only $2.5 billion in losses have resulted from those requests.
“The risk is relatively sealed on this … the issue is how long the fight will take,” Bank of America CFO Charles Noski said during the company’s third quarter earnings call.
Each bank has a different internal process, but in many cases losses are avoided by providing supplementary documents that prove the claim is invalid.
Bank of America estimates it is more than two-thirds through the wave of repurchase requests on loans made at the height of the mortgage free-or-all, and Moynihan has vowed to fight unjustified repurchase demands in order to protect shareholder interests.
“If you think about people who are going to come back saying I bought a Chevy Vega, but I want it to be a Mercedes with a 12 cylinder. We’re not putting up with that, and we will be very ardent to protect the shareholders interest,” Bank of America CEO Brian Moynihan said during the earnings call.
But Bank of America’s outstanding repurchase claims have climbed in each of the last four quarters, reaching a peak of $12.9 billion in the third quarter of 2010.
Worries over the bank’s exposure have kept its stock under pressure, sending shares to a 52-week low on Thursday.
JP Morgan Chase (NYSE: JPM) reported paying out $1.5 billion in repurchases in the third quarter, an increase of $1 billion over last year. And the bank added $1 billion to its repurchase reserve in anticipation of an increase in requests. But that remains a relatively small figure compared to the bank’s $24.3 billion in third quarter revenue.
