Bloomberg’s Jonathan Weil took a look at Bank of America’s stock price, which is trading at less than half of the Charlotte bank’s book value, and discussed whether the bank is at risk of a serious crisis. If a levered financial firm’s stock trades at a severe discount from book value, it is not attractive to raise equity via selling shares (the dilutive impact on existing shareholders is punitive). Yet the steep discount is a sign that the market doubts the strength of the concern’s equity base. If those worries persist, and the company is not able to shore up its balance sheet via earnings (ie, either its profits are impaired or they are offset by writeoffs), first long term and eventually short-term lenders will start to demand higher interest rates. Once that happens, it is easy for confidence to vanish and a death spiral to start. Weil enumerates the reasons for doubt. First, the bank has been overly optimistic. It refused to write down $4.4 billion of goodwill from Countrywide until late last year, and maintained it would only suffer $4.4 billion [yes, the same number] in mortgage-related losses, then wrote off $19.2 billion more last quarter. Second, the bank appears to be in denial:
The crucial question today is whether Bank of America needs fresh capital to strengthen its balance sheet. Moynihan emphatically says it doesn’t, pointing to regulatory-capital measures that would have us believe it’s doing fine. The market is screaming otherwise, judging by the mammoth discount to book value. Then again, for all we know, the equity markets might not be receptive to a massive offering of new shares anyway, even if the bank’s executives were inclined to try for one.
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