You may have seen a number of stories in the news recently about Bank of America's financial problems. You certainly can't turn on the tv or read news sites without seeing story after story about the mess in the lending industry. I ignored these stories, largely because, although I have two Bank of America credit cards, my checking account and mortgage are with other banks, and since I have a standard mortgage, I didn't think it had a whole lot to do with me. As it turns out, I was wrong. Find out how after the jump.
I have two credit card accounts with Bank of America that I have had for a number of years. Recently, I received notice that Bank of America intended to raise the annual percentage rates on these cards from about 11.5 and 13.5 percent, respectively, to 22 and 24 percent, respectively. Understandably dismayed at the prospective near-doubling of my finance charges, I immediately called the phone number on the notice to ask why. After about a half-hour, I was told that my interest rates were being raised because, after viewing my credit report, Bank of America was concerned that I was spending more on my credit cards than I was paying off. I thanked the representative, had the account locked at my current rate, and cut up my credit cards. After thinking about it, however, I have decided that the explanation that I received made little to no sense, and I have one of my own to suggest.
First, some information about my credit card accounts. I have not missed a payment on any account in the last six years, as far as I can remember, and certainly not in the last three. My total debt on the two accounts is just over $24,000. In February of last year, the debt on the two accounts was about $22,000, so there is a marginal amount of truth to the statement that the debt has risen recently. One account rose from $12,500 to $16,500, while the other dropped from $9,300 to $7,700. In that same amount of time, however, I paid off a Citibank credit card that had about a $2,200 balance as of February 2007. So in the last year, my total credit card debt (which, I am fairly sure, is on my credit report), has not changed. The only thing that has is the distribution of that debt. I would think that Bank of America would be pleased that I chose to have all of my debt with them; after all, they were the ones who offered me the credit cards with the low initial balance transfer rates. They also have offered my wife not one, but two credit cards with lower rates than either of mine. Maybe since we don’t have the same last name, they don’t think we talk to each other. Speaking of my wife, two other things have changed in our financial status in the last year. First, her salary has increased 30% in that time (woohoo!). As a result, I would think we are now a bit less of a risk than we were a year ago. Secondly, she has reduced her credit card debt from about $5000 in February to about $1,000 now, which will be paid off by April. So our household debt, while annoying to us, is certainly manageable. After all, we're doing everything they should want usto do, right? We're making more than the minimum payment, we put all of our debt with them, and our total household debt is not only manageable, it has actually decreased in the last year. We are everything they should want in a customer.
Bank of America is dramatically increasing my interest rates, using the excuse that I am a greater loan risk than in the past. However, that excuse does not hold water. If I am such a great risk, why would they have offered me two credit cards with a total credit line of $32,000? I am maintaining a balance that is $7,500 below what they are allowing me to borrow, but I am a greater risk? Or perhaps they think I am being financially irresponsible, and this is their way of "helping". Well, last I checked, that’s what a credit limit is for. Those things work: you can’t borrow more than that. Well, unless you’re Congress.
I have an alternate explanation: that Bank of America needs money and a better bottom line, and is using any excuse it can find to get that money from its clients. Here are some recent changes that Bank of America has made in the last year:
• Stock price. Bank of America’s stock price has dropped from a 52-week high of $54.21 per share in February 2007 to a current price of just under $40.00 per share. Three months ago, it was at $48 per share. One week ago, its stock price closed at about $36, having lost one third of its value in the last year and having lost 25% of its value in the 4th quarter alone. Yikes.
• Countrywide. Bank of America recently spent a significant sum of money to purchase part, then all, of Countrywide. Initially, Bank of America spent $2 billion to buy Countrywide stock when it was valued at $18 per share. After Countrywide dropped to about $7 per share, Bank of America, having lost over $1.2 billion dollars of its original investment, bought the remainder of Countrywide for $4.1 billion. According to a report on CNBC,
Along with the $2 billion investment from Bank of America, Countrywide was forced to draw on an $11.5 billion line of credit to steady itself in August. It also tightened its credit guidelines and stopped selling some types of adjustable rate loans. But analysts said it wasn't enough, with one noting this week that Countrywide needed an infusion of $4 billion in capital within the next two weeks to save itself.
So in the last year, BofA has spent $6.1 billion dollars on what is now its own stock, losing $1.2 billion dollars in the process. It also has drawn on its own line of credit ("credit card?") just to stay afloat. And, it has "tightened its credit guidelines." More on that below.
• Subprime loans. Bank of America is not a huge subprime lender, in that it doesn’t necessarily issue a large number of subprime loans. However, that didn’t stop them from buying into the big mess. From CNBC again:
Results at Bank of America reflected $5.44 billion of trading losses, compared with profits of $460 million a year earlier. This reflected a $5.28 billion write-down related to collateralized debt obligations, which the bank said reduced trading profit by $4.5 billion and other income by about $750 million.
CDOs are complex investments that combine slices of different kind of risk and often are backed in part by subprime mortgages -- loans given to customers with poor credit history -- as well as other loans.
Bank of America, like many banks, doesn’t even really know how bad the subprime debacle is going to be yet, but it’s already lost them over $5 billion.
• Recent profits, or lack thereof. Also from CNBC:
Bank of America Corp. said Tuesday its fourth-quarter earnings fell 95 percent, hurt by mounting credit losses and weak investment banking results.
Net income at the Charlotte-based bank dropped to $268 million, or 5 cents per share, in the three months ended Dec. 31 from $5.26 billion, or $1.16 per share, a year ago.
The bank's revenue fell 32 percent to $12.67 billion from $18.49 billion last year.
The quarter included results from LaSalle Bank, which Bank of America purchased on Oct. 1.
Analysts expected earnings of 18 cents per share on revenue of $13.24 billion, according to a poll by Thomson Financial. The earnings estimates typically exclude one-time items.
In premarket trading, Bank of America shares were down $1.92 at $34.05.
So their net income for the quarter was $5 billion less than the same quarter last year. That is a staggering figure, and one would have to imagine that executives would take steps to repair this damage. This $5 billion also makes up the bulk (86%) of the difference between the net incomes over 2006 and 2007. Later in the same article:
Bank of America said it also set aside $3.31 billion for possible future credit losses.
So things aren’t in the best of financial shape at BofA. In fact, they may get worse:
The sharp slide in Bank of America Corp.'s profit in the fourth quarter will play a crucial role in whether Moody's downgrades the bank's credit, the ratings agency said Tuesday.
• Stock sale. Bank of America announced yesterday that it is selling $6 billion in stock to raise money, saying it will use the income from the stock sale for "general purposes."
So Bank of America, in the last six months, has lost $1.2 billion in the Countrywide mess, had its stock price lose over 20% of its value in the last three months alone, and lost $5 billion in net income during the fourth quarter of 2007. As a result, they find themselves in a cash quandary, and have been forced to draw on their enormous credit line. It seems to me like they are a bigger risk than my credit cards.
Which brings me back to, well, me. Raising the interest rates on consumers like me is a no-lose situation for Bank of America. There is no law to stop BofA from raising my interest rate without cause, as they have done. The only thing to stop them from doing so is that it will cause me to get so annoyed that I move my debt to another lender. (Ironically, they said the problem was that my debt was getting too big.) Basically, there are three possible outcomes of raising a consumer’s rate:
- The rate goes up. If I had done what I often do when BofA sends me mail, I would have thrown out the notices, unopened. Then, in two months, the rate would have gone up, and it would have cost me $240 per month in finance charges. Do that to only 10,000 cardholders, and you just made $30 million in extra finance charges every year.
- The rate and debt stay the same. If, unluckily for the lender, the customer discovers what is happening, he or she may have the interest rate frozen, but must stop using the credit card. This limits the additional debt paid out by the lender, and makes life marginally less convenient for the client.
- The customer bolts. I used to get over 20 credit card offers a month – just from Chase bank. You could see the giant 0% offer through the envelope. If the customer is annoyed enough, he or she may acquire enough credit cards to move the balance to a lower interest rate. So the lender loses the debt, but gets the cash.
What is truly going on here is that Bank of America is in real financial difficulty. So, to "tighten their credit guidelines," they seem to have looked for clients with sizeable debts and the wherewithal to repay part or all of them. They raised the rates on people like me because the worst thing that can happen to them is that they lose my business, which means that they will get their money. If I shift all of my balance to another lender, or pay it all off immediately through some other means, they will get almost $25,000. Doing that to 240,000 other clients like me would raise them $6 billion, as much as their stock sale. Bank of America is balancing their budget on my back. If any of you kossacks are dealing with similar issues, I'd love to hear about it.