Bank of America
The limits of fasting
Severe cost-cutting is getting a giant of American banking only so far
Yet even these grizzled veterans have their doubts about Bank of America. Its profits fell by 13% in the first quarter—much better than some. But that left its return on equity at a measly 4%, the lowest figure among the big six (see chart). Its shares are priced at just 66% of the value of the assets on its books, lower than any of its peers and far below figures of 106% at JPMorgan Chase and 150% at Wells Fargo.
This is all the more disappointing given Bank of America’s many strengths. Its funding is remarkably cheap (it pays just 0.12% interest, on average, on the $1.2 trillion of deposits in its commercial bank). It is a more pervasive presence in America than its rivals, with branches all over the country, bringing it a degree of geographic diversification that others lack. And in Merrill Lynch, its wealth-management arm, it has the biggest salesforce for financial products in America, catering to a wealthy clientele.
What is more, Bank of America’s management has been avidly cutting costs to boost profits. The number of employees has dropped from 288,000 to 213,000; the number of branches has been cut from 6,100 to 4,700. The floorspace occupied by the bank has dropped by one-third, or 44m square feet—equivalent, it proudly declares, to 14 Empire State buildings. All this has reduced operating expenses dramatically, from about $17 billion a quarter to $13 billion.
The current chief executive, Brian Moynihan, has also laboured to clean up the mess left by his predecessor, Ken Lewis, who bought Countrywide, a big subprime mortgage lender, in 2008.
Since 2010 Bank of America has spent some $194 billion to cover costs linked to the financial crisis, including $36 billion for litigation and $46 billion to address all Countrywide’s dud loans.
It had to hire 56,000 people to sort out delinquent mortgages, which peaked at 1.4m but now number only 88,000.
More prosaically, Bank of America has trimmed back the bewildering thicket of products and systems left over from the acquisitions of Mr Lewis and his predecessor, Hugh McColl. The number of different kinds of current accounts has fallen from 23 to 3, of credit cards from 18 to 6, of savings accounts from 44 to 11, of home loans from 136 to 39 and so on.
The relentless cost-cutting, however, is in part a reflection of how tricky it is for Bank of America to boost income. New rules on liquidity make it harder to lend out those cheap deposits, and low interest rates constrain the profits to be made. The bank’s loan-to-deposit ratio, which often used to exceed 100%, is just 74%. Its net interest margin (the difference between the average rate it pays depositors and that it charges borrowers) is two percentage points, well below the historical average. “All of these numbers add up to significant unutilised earnings capacity,” says Richard Bove of Rafferty Capital Markets, a bróker.
Moreover, as one employee says with a sigh, the regulators “keep coming at us”. The latest cudgel is the “fiduciary rule”, which is intended to prevent financial advisers from elevating their own interests above those of their clients and in practice makes it hard to manage money in exchange for trading commissions rather than fees. The companies that stand to benefit from the rule are asset managers that provide cheap index-tracking funds, such as Vanguard and BlackRock. Those that offer more complicated and expensive products face extra compliance costs, at the very least.
Given that Merrill Lynch has America’s biggest network of what were once called brokers but are now wealth managers, Bank of America is bound to be affected. It is putting on a brave face, saying that the rule will affect only 10% of the almost $2 trillion of assets it manages and will have no impact on earnings. But Keefe, Bruyette & Woods, a research firm, says that the rule will reduce the bank’s earnings in 2017 by 2.7%—the most among the universal Banks.
In short, regulation is making assets such as a mountain of cheap deposits and a huge network of brokers less valuable to Bank of America than they would have been in the past. Neither low rates nor the onslaught of new regulation will last forever. But in the meantime Mr Moynihan’s response to the lacklustre first-quarter results gives a good sense of Bank of America’s strategic impasse: he promised to cut costs even more fiercely.