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Bank of America Corporation (NYSE:BAC)

Q1 2009 Earnings Call

April 20, 2009 9:30 am ET

Executives

Kevin Stitt – Investor Relations

Kenneth D. Lewis – Chairman, Chief Executive Officer

Joe L. Price – Chief Financial Officer

Analysts

Christopher Mutascio - Stifel Nicolaus & Company, Inc.

Betsy Graseck - Morgan Stanley

Michael Malarkey - Calyon Securities (NYSE:USA) Inc.

Nancy Bush - NAB Research

Moshe Orenbush - Credit Suisse

Steven Wharton - J.P. Morgan

Meredith Whitney - Meredith Whitney Advisory LLC

Jason Goldberg - Barclays Capital

Operator

Welcome to today’s teleconference. (Operator Instructions) Please note today’s call may be recorded.

It’s now my pleasure to turn the program over to Kevin Stitt. Please begin sir.

Kevin Stitt

Good morning. Before Ken Lewis and Joe Price begin their comments, let me remind you that this presentation does contain some forward-looking statements regarding both our financial condition and financial results in that these statements involve certain risks that may cause actual results in the future to be different from our current expectations. These factors include, among other things, changes in economic conditions; changes in interest rates; competitive pressures within the financial services industry; and legislative or regulatory requirements that may affect our businesses. For additional factors, please see our press release and SEC documents.

With that let me turn it over to Ken Lewis.

Kenneth D. Lewis

Good morning and thank you for joining our earnings review. Our goal that we communicated to you in January given our view of the economy was to produce earnings for 2009 that are accretive to capital markets. We believe first quarter results are a clear example of our ability to produce such earnings to offset the significant impact of a contracting economy and abnormally high credit costs.

Further revenue on an FTE basis was in excess of $36 billion, while pretax pre-provision income was approximately $19 billion. Both were easily record levels. Positive drivers in the quarter included a particularly favorable trading environment for interest rate products, currencies, credit products, and equity derivatives; elevated mortgage banking income related to higher volumes; benefits from the sale of certain securities and equity investments; continued momentum in new deposit generation; and true to balance sheet management.

The earnings impact of these positives was offset by a substantial increase in provision expense and the impact of lower consumer spending across many of our businesses. It is interesting that the two businesses, that is Merrill Lynch and Countrywide that garnered the most press provided a significant contribution to revenue and earnings growth. For the first quarter of 2009, Bank of America earned $4.2 billion before preferred dividends or $0.44 per diluted share after including preferred dividends of $1.4 billion.

Major items in the quarter included the addition of Merrill Lynch on January 1 accounted for approximately $3.7 billion in net income this quarter prior to certain merger related costs; mortgage banking income increased $1.8 billion to $3.3 billion compared to fourth quarter as first mortgage production levels of $85 billion increased significantly reflecting the strength of origination platform; shares of China Construction Bank were sold for a pretax gain of $1.9 billion which reduced our ownership from 19% to approximately 17%.

Also included securities in BAS were sold for a gain of $1.5 billion in part to avoid prepayment risk. Structured notes at Merrill Lynch, which were mark-to-market under the fair value option, were revalued resulting in a $2.2 billion increase to the BMF. Total realized [inaudible] from the Merrill Lynch transition were approximately $420 million in the quarter, while merger related expenses for Merrill Lynch were approximately $510 million pretax.

Total credit extended in the first quarter was $183 billion including commercial renewals, up from $181 billion in the fourth quarter. The larger components are $85 billion in first mortgages, $71 billion in commercial and $11 billion in commercial real estate. The remaining $16 billion includes other consumer retail loans and small business loans. Provision expense increased almost $5 billion in the quarter, and included a $6.4 billion reserve increase versus $3 billion in the fourth quarter.

Included in our record revenue models were losses in global markets totaling $1.7 billion associated with additional market disruption losses that had impacted past quarters which Joe will review.

We decreased the [inaudible] balance sheet in global markets on a pro forma basis by 21% or $149 billion. Average core retail deposit levels, that is legacy Bank of America before the addition of Countrywide and Merrill Lynch, ended the quarter up $33 billion or 6% from levels a year ago, which we believe is a multiple of market grow.

We exited the fourth quarter with a focus on balancing deposit growth and profitability, demonstrated by our efforts to lead market pricing lower in response to significant Fed fund rate declines. As we saw competitive and market pressures increase early in the first quarter, we responded with new savings products, marketing and associate engagement activities during the month of February. By the end of the quarter and continuing into the second quarter, we believe we have regained momentum in our ability to grow market share.

Capital levels improved from the end of December. Tier 1 capital increased to $171 billion or 10.1% of risk weighted assets, while the tangible common equity ratio increased to 3.13%.

Before I turn it over to Joe, let me make a couple comments about our thinking given the current environment. First note make no doubt about it, credit is bad and we believe credit is going to get worse before it will eventually stabilize and improve. Whether that turn is later this year or in the first half of 2010, I’m not going to hazard a guess, but I do know that our associates are doing everything they can, not only to manage through the turmoil but to offset higher credit losses with continued revenue generation across all product lines. Results this quarter will attest both to the value and breadth of the franchise, the brand, the product mix and the perseverance of our associates who’ve been weathering this environment for the past seven quarters.

The additions of Countrywide and Merrill Lynch have clearly been accretive to earnings, as these market sensitive businesses offer diversification to offset the core consumer credit headwinds we are now facing. For the rest of the year we look for charge-offs to continue to trend upward, but think it will be at a slower pace than we’ve experienced in the past few quarters. Reserve build will also continue for the next couple of quarters, but not at the level we experienced this quarter.

We continue to position the balance sheet to ride out the recession, which you can see in our actions this quarter, by de-levering the balance sheet, adding long term debt, shrinking certain asset positions, and substantially adding to the reserve levels. Many of these actions have increased our liquidity approximately $174 billion at the end of March, as you can see in the hard cash and cash equivalent levels. While these actions are prudent they are also very expensive in the short term but well worth the cost in the long term.

From an economic standpoint we believe we can see weak but positive GDP growth by the fourth quarter of this year. I have to say that even our internal economists are a little at odds as to the timing, with some seeing recovery earlier. However, we think it prudent to run the company on the expectation that it will be later in the year or early next year. We believe unemployment levels won’t peak until next year, at somewhere in the high single digits. At this point we don’t see unemployment meeting or exceeding 10%, but that will of course be impacted by how long the economy stays in recession.

As most of you know, unemployment was a lagging indicator and is only one of the factors we look at along with home prices, bankruptcy expectations, and speculatively grade default rates, to name a few.

But at this point I want to turn it over to Joe for some additional color and commentary.

Joe L. Price

Thanks Ken. Before commenting on specific businesses, let me point out that with our acquisition of Merrill Lynch we’ve moved our reporting from three to six primary segments that you can see on Slide 7. Essentially what we did is divide the three previous segments into further detail with some minor geography changes.

Now in order to better coordinate our consumer payments businesses, we consolidated our card products into global card services which means debit card has moved from deposits to global card services. Investment banking is part of global banking, and investment banking fees are allocated between global banking and global markets. Global markets consist of sales and trading activities and fixed income, currencies, commodities and equities.

Now let me quickly touch on some highlights in each of the businesses that demonstrate how we’re performing in the face of a contracting economy. We first stated impacting some of the segments this quarter as lower residual net interest income, which is the revenue allocated to the business segments, that is the result of our asset and liability management and corporate strategy. Corporate decisions such as de-levering the balance sheet or changing interest rate positioning will impact the level of revenue that we allocate to the separate business segments.

Under deposit segment, which you can see on Slide 8, earnings were $493 million in the quarter, down from $1.5 billion in the fourth quarter due to lower net interest income and service charges. The lower net interest income was due to the lower residual income of approximately $800 million allocated to the business. And we continue to add new customers on a net basis in VDA savings accounts as well as online banking.

While sales are in line with a year ago, we’re seeing more account closures by both the bank and by the customer as customers face the pressure of the recessionary environment. Net new DBA accounts for instance were 218 thousand in the first quarter, up 68% from the fourth quarter, but down by more than half from a year ago. This growth correlates with what we think is higher retail deposit market share as Ken referenced earlier when he talked about deposit levels, which we show in Slide 9.

In global card services, which is on Slide 10, earnings were a negative $1.8 billion versus $26 million in the fourth quarter due mainly to $2.5 billion increase in credit costs. Average managed consumer credit card outstandings were down 2% from the fourth quarter.

Now pressure on consumers to moderate spending has driven a drop in retail purchase volume, a 9% seasonal drop from fourth quarter activity and a 10% drop from the first quarter a year ago. Even though the economy is contracted, we continue to add new accounts, 800 thousand new domestic, retail and small business credit card accounts in the quarter with credit lines of approximately $5.5 billion.

Now turning to home loans and insurance, and you can see this on Slide 7, the businesses going full bore is evidenced by the fact that we’ve added or intend to add almost 5,000 new positions in addition to transferring over 700 associates from other parts of the bank to fulfill the increased volume.

Total revenue for the quarter was $5.2 billion, up 60% from fourth quarter levels. However, earnings were negative due to a high level of provision, but still improved versus the fourth quarter as the higher revenue more than offset the $1.7 billion increase in provision.

We saw first mortgage funding spike 91% over the fourth quarter. Approximately one quarter of the fundings were for home purchases. Our market share remains strong at about 20% and we expect strong origination trends to continue for the balance of 2009.

The global wealth management, which is shown on Slide 12, earned $510 million in the first quarter in line with fourth quarter levels and more than double the earnings versus a year ago. This business was also impacted by our overall balance sheet strategies as net interest income absorbed over $250 million in lower allocated revenue. Also as you note it’s a tough environment for asset managers given the condition of global markets and investors response to market conditions.

Assets under management ended the quarter just under $700 billion, down on a pro forma basis from the end of the year due to the drop in market valuations and outflows in [Columbia’s] cash funds. And both asset management and brokerage fees were down due to lower market levels.

Much has been written about the disruption of our financial advisors, and some have taken substantial bonuses to move elsewhere, but for the most part we’re keeping the FAs who are most productive. Over 95% of the high producing FAs have remained with Bank of America, and of the FAs who have left the organization more than 1,200 or 55% were trainees.

Now turning to global banking, which is shown on Slide 13, it encompasses our commercial bank, corporate bank and the investment bank. Here we earned $175 million in the quarter, down from $1 billion in the fourth quarter due to higher provision, higher expenses levels and lower allocated deposit net interest income that more than offset higher non-interest revenue. Credit spreads continued to widen as facilities were re-priced at higher market rates. And although commercial and corporate clients are being cautious given the economy, organic revenue growth across these client segments was 10% versus a year ago. Average loans as reported for the quarter were flat with the fourth quarter. Average deposit levels were stable, factoring in some seasonal activity and were up 22% from a year ago.

Now investment banking fees, and this would be across the corporation, exceeded $1 billion and you can see this on Slide 14 which is a strong showing in a pretty weak environment. Now with industry wide deal volumes were down across the board for the quarter, with maybe the exception of debt capital markets. But combined Bank of America-Merrill Lynch franchise ranked number one in U.S. equity capital markets, high yield, leverages indicated loans by volumes, and was a top five merger and acquisitions advisor in the U.S. and globally based on announced deal volumes.

Global markets on Slide 15 earned $2.4 billion in the first quarter versus a loss of $3.7 billion in the fourth quarter. Clearly the trading environment in the first quarter was much improved from the fourth quarter and was characterized by high levels of volatility and increased client driven activity, especially in more liquid products. A strong business performance this quarter is a testimony to the strength of the combined sales and trading platform, and in particular the excellent talent we have retained from both legacy companies in these businesses.

All core businesses posted record revenues reflecting the environment, greater volatility in liquid products, a rebound in credit, and the complementary nature of bringing the two platforms together.

Now let me add some additional comments on the performance as well as some color around the positions at quarter end. As you can see on Slide 16, sales and trading revenue increased to just short of $6 billion in the quarter versus a negative $5.8 billion in the fourth quarter. This included absorbing charges on legacy positions of $1.7 billion, the largest related to write downs of mono line guarantor counterparty receivables of about $1.2 billion but also benefited from credit valuation adjustments. Now rates and currencies had a very strong quarter, $3.6 billion or almost 60% of the total sales in trading versus $181 million in the fourth quarter as we have been able to capitalize on increased volatility in the interest rate markets, the flight to safety in U.S. Treasuries and agencies, and solid customer flow.

The commodities business reflected strong first quarter revenue which is typical for this business. And in credit products, where we had $890 million versus a negative $2.2 billion in the fourth quarter, debt issuance in capital markets rebounded from the depressed levels of 2008 as issuers took advantage of improved investor appetite and attractive rates, some of which making an acceleration of refinancing.

Credit trading had strong first quarter results driven by increased volatility and liquidity, offering better opportunities in client flow trading as credit spread relationships normalized from the dislocations experienced in the fourth quarter of 2008.

Now for the rest of the year we expect continued strength in origination and more normalized trading results. Structured products had a loss in the quarter due to the additional marks which I’ll address in a minute. However within structured products, mortgage products benefited this quarter from favorable market conditions and agency related securities due to investor appetite for yield, and government efforts supporting the mortgage market. Equities also had a good quarter, $1.4 billion in revenue versus a loss of $18 million in the fourth quarter.

Now despite the quarter being generally characterized by continued weakness in global equity markets, equity derivatives benefited from high levels of volatility. Cash equities were solid due primarily to the addition of the Merrill equity franchise.

Now looking at the non business as usual results, losses of $1.7 were certainly lower than the levels we saw in 2008. However, we continued to carry exposures at risk in the current economic environment, although at reduced amounts and market current levels. Let me give you a quick update as detailed on Slide 17. Now starting with leveraged lending, we ended the quarter with exposures of $8.3 billion which we’re carrying at $4.4 billion. The pre-disruption exposures or those not having current market terms totaled $6.9 billion which obviously is included in that $8.3, and are carried at $1.3 billion or $0.45 on the dollar. During the quarter we wrote down an additional $98 million net of hedging results. And looking back, in order to keep perspective, Bank of America’s total leveraged exposure was over $32 billion while Merrill’s was over $52 billion in 2007.

On the CMBS side we ended the quarter at $7.3 billion. Now approximately $5.5 billion relates to acquisition related large floating debt rate carried at $0.75 on the dollar. The $7.3 billion excludes approximately $4 billion of senior positions that we transferred through the accrual book in connection with the merger and in recognition of the fact that we’ll be holding these positions.

The floating rate CMBS market remains relatively closed to issuance at this time. And charges during the quarter totaled $174 million and related predominantly to this floating rate debt. We also recorded $150 million of losses associated with equity investments we made in acquisition related financing transactions.

Now on Slide 18 and in the supplemental package you can see our CDO related exposure, along with the changes during the quarter were recorded losses of $525 million. The losses were comprised of $192 million in super senior CDO write-downs, a charge of $210 million to reflect counterparty risk associated with our positions and hedges, and an additional write-down of $123 million mainly on positions retained from CEO liquidations.

At the end of March our un-hedged, sub-prime, super senior related exposure dropped to $1.4 billion while the bonds retained from liquidations were $1.8 billion. These positions are carried at a combined $0.25 on the dollar. Now the $1.95 billion of non sub-prime super senior hedged exposure is carried at $0.65 on the dollar. The carrying value of the super senior CDO hedged exposure for sub-prime and non sub-prime of $1.3 billion and $606 million reflect values of $0.19 and $0.85 respectively.

Regarding the counterparties on the associated insurance wraps, $5.6 billion is with mono line financial guarantors. We’re carrying a 60% reserve against our $4.2 billion receivable related to these wraps.

Now in addition to the mono line financial guarantor exposure related to super senior CDOs, we’ve got $55.9 billion of [notion] exposure that predominantly hedges corporate CLO and CDO exposure related to legacy Bank of America correlation trading books, but also covers CMBS, RMBS and other ABS cash and synthetic exposures; $14.7 billion of the $55.9 billion is carried as a receivable; and we’re carrying a reserve of just over 40% on that receivable. Charges to increase this reserve total $960 million during the first quarter.

Finally, we had additional negative marks associated with auction rate securities of $73 million. Going forward I probably won’t spend as much time on these exposures but thought it was important this time given the merger.

Now not including the six business segments is equity investment income of $1.3 billion in the first quarter. As Ken said earlier we sold some of our investment in China Construction Bank and booked a pretax gain of $1.9 billion. Now in addition we’ve had negative marks and impairments of approximately $900 million on various investments including global principal investing.

Now let me switch to credit quality, which starts on Slide 19. As Ken referenced, credit quality deteriorated further during the quarter as the economy continued to weaken. Consumers experienced increased stress from higher unemployment and underemployment levels, as well as further declines in home prices, leading to higher losses in almost all consumer portfolios. Now while we’re seeing an improvement in early stage delinquencies in many consumer products, we’re largely attributing this to seasonal factors until we see more sustained improvement.

These factors, along with further pullbacks and spending by consumers and businesses and continued turmoil in the financial markets also negatively impacted the commercial portfolio. Consequently, first quarter provision of $13.4 billion exceeded net charge-offs with the addition of $6.4 billion to the reserve versus an addition of $3 billion in the fourth quarter as we fortified our balance sheet to absorb the expected impacts going forward.

Now reflective of continued economic stress on the consumer, reserves were added for most consumer related products, most notably consumer real estate; credit card; and consumer lending. The reserve addition also includes approximately $850 million associated with a reduction in expected principal cash flows from the Countrywide impaired portfolio driven by continued deterioration in the economy and the home price outlook.

On the commercial side we added approximately $1.2 billion to the reserves for small business and broad based deterioration in the commercial real estate and domestic portfolios. Our allowance for loan losses now stands at $29 billion or 3% of our loan and lease portfolio. Our reserve for unfunded commitments now stands at $1.4 billion bringing total reserves to $30.4 billion.

Now on a held basis, net charge-offs in the quarter increased 49 basis points from the fourth quarter levels to 2.85% of the portfolio or $6.9 billion. On a managed basis, overall consolidated net losses in the quarter increased 56 basis points to 3.4% of the managed loan portfolio or $9.1 billion. Net losses in the consumer portfolios were 4.26% versus 3.46 in the fourth quarter. And credit card represents almost half of total consumer losses. As you can see on Slide 20, managed consumer credit card net losses as a percentage of the portfolio increased to 8.62% from 7.16% in the fourth quarter; 30 day delinquencies in consumer credit card increased 117 basis points to 7.85%. Now U.S. credit card delinquencies continued to increase across all states, but more significantly in California and Florida.

Early stage delinquencies have shown improvement over recent trends, but as I said earlier we’re attributing this to seasonality. With unemployment levels projected to go higher, we’d expect that consumer credit card net loss ratio to increase as well. And as I said last quarter, exceed unemployment levels by at least 100 basis points and be further impacted by decreasing loan levels. Credit quality in our consumer real estate business continued to deteriorate in the first quarter as shown on Slide 21.

Our home equity portfolio continued to be negatively impacted by rising unemployment and centered in higher CLTV loans, particularly in the states that have experienced significant decreases in home prices. Our largest concentrations are in California and Florida which make up 41% of quarter end balances and 61% of home equity net charge-offs during the quarter. Home equity net charge-offs increased to $1.7 billion or 4.3% of 138 basis points from the prior quarter. Now we did have some catch up items in the first quarter that inflated the rate approximately 70 basis points, but having said that we still expect loss rates to hover in the 4s for awhile.

30 day performing delinquencies were actually down 7 basis points to 1.68% and as a positive sign, although we again are attributing the trend right now to seasonality. We continue to see increased utilization rates of 180 basis points to 54% driven by additional line management and net draws on home equity lines of credit. Now our ending home equity balance of $158 billion was up due to the addition of Merrill. That’s about $5 billion.

Nonperforming loans in home equity rose to 2.28% of the portfolio from 1.75% in the prior quarter. Loans with a greater than 90% CLTV on a refreshed basis currently represent 42% of loans versus 37% in the fourth quarter. Reflecting my earlier comment on loss expectations in home equity, we increased reserves for this portfolio to 4.73% of ending balances, reflecting a continued elevated level of delinquencies; frequency of defaults; and loss severities.

Now turning to residential mortgage, our portfolio showed an increase in losses to $785 million or 120 basis points for the quarter. That would be 95 basis points net of our resi wrap reduction. Excluding our community reinvestment act portfolio, and that totals about 7% of the residential book, but about 24% of the losses. Losses would have been $597 million or 98 basis points. If you combine that with the resi wrap it’d be 71 basis points net of both of those.

Now we continue to see increased delinquencies and losses across our portfolio and to no one’s surprise in those states most affected by housing problems. California and Florida, which combined comprise 43% of the balances, drove 59% of the net losses. And although period end loans are up due to Merrill Lynch, we’ve reduced the legacy Bank of America portfolio through lower balance sheet retention and new originations, as well as sales and converters in existing loans to securities, both of which further strengthen liquidity. But this also has the effect of bringing down the average loan balances, thereby negatively impacting the reported loss rate and other credit metrics.

Now we do expect to see continued deterioration and anticipate additional reserve increases in this portfolio. We anticipate overall loss ratios to remain in excess of 100 basis points, which could potentially go higher due to lower balance sheet retention of new originations.

Now on Slide 22 we provide you details on our direct and indirect loans which includes the auto portfolio and consumer lending. Switching to our commercial portfolios, and you can see this on Slide 26, net charge-offs increased in the quarter to $1.5 billion or 168 basis points, up 9 basis points from the fourth quarter. Almost all of the higher net charge-offs are driven by commercial real estate and small business. Losses in the remaining commercial portfolios actually declined from last quarter. Net losses in small business, which are reported as commercial loan losses, increased $71 million to 13.47% and are most pronounced in the states experiencing severe housing pressure.

Now as we’ve discussed before, many of the issues in small business relate to how we grew the portfolio over the last few years which is now compounded by the current economic trends. Our current allowance for small business after adding to the reserves in the first quarter stands at just under 16.5% of the portfolio.

Now excluding small business, commercial net charge-offs increased $73 million from the fourth quarter to $870 million representing a charge-off ratio of 102 basis points. The increase was driven by commercial real estate. Within commercial real estate, net losses increased 20 basis points to 2.56% and commercial real estate losses continue to be centered in home builders and land. Reservable criticized utilized exposure in our commercial book increased to 11.13% of the book from 8.9% at the end of the year. The increase continued to be broad based across industries, lines of business and products. Nearly one-fourth of the increase was related to the addition of Merrill. Of the remainder, 27% was non homebuilder commercial real estate and 40% was commercial domestic, centered on consumer facing industries like specialty retail and restaurants.

Commercial NPAs rose $2.9 billion to $9.7 billion; 13% of the increase was the addition of Merrill while the remaining increase was centered in commercial real estate, still concentrated in homebuilders, but also some in retail and commercial land. Nearly 40% of the commercial NPAs relates to homebuilders.

Now going forward we think we’ll see some leveling off of commercial real estate charge-offs, offset by growth in commercial domestic. Overall we’d expect to see a continued uptick in charge-offs given the economy, but still within the range of expectations. Now as we did with all the portfolios, additional allowance for loan losses were added in the first quarter bringing our commercial coverage to 2.11% of loans.

Okay, let me get off credit quality and say a couple of things about net interest income, and here I’m on Slide 28. Compared to the fourth quarter on a managed and FTE basis, net interest income was down $95 million. Core dropped approximately $425 million, offset by $330 million of higher trading net interest income. Merrill Lynch added approximately $375 million into core net interest income and $375 million to trading.

Excluding the addition of Merrill Lynch, managed core net interest income decreased approximately $800 million and was due essentially to three factors. First, 2 less days in the quarter resulting in approximately $200 million less; second, higher levels of long term debt cost us approximately $200 million as we continued to lengthen maturities; and finally, we continued to take steps to de-lever the balance sheet which cost us $350 million this quarter. Now while earlier de-levering actions were designed to increase our liquidity, our current actions have more to do with the continued decline in mortgage rates and the fact that prepayments would have eliminated gains in our mortgage backed security portfolio.

This quarter, as you can see in the results, we sold approximately $51 billion of mortgage backed securities for gains of $1.5 billion. These actions also indicate that in the short term, we’ll probably wait to reinvest given the possibility that the forward curve may shift higher and continue to position ourselves toward an asset sensitive balance sheet. What that means is there could be some continued decline in net interest income.

Now the core net interest margin on a managed basis also decreased 39 basis points to 3.63% due to lower margin, Merrill additions and lower credit card balances. At this point I wouldn’t expect a lot of movement in the core net interest margin in the near term.

Now prior to fourth quarter our risk position had been liability sensitive, where we benefited as rates declined and our exposure rates rise. This risk position has evolved over the last two quarters to become asset sensitive. Given the low level of rates, short term funding products are unable to re-price much lower while our discretionary portfolio is prepaying faster. This has also been driven by a change in our balance sheet composition, including a reduction in our fixed rate assets because of our discretionary portfolio reductions, and an increase in fixed rate funding; namely equity, and most of that due to preferred stock.

Now in addition, Merrill Lynch added a [inaudible] of mostly variable rate asset base that is largely funded by sweep deposit accounts. As you can see from the bubble chart on Slide 30, our interest rate risk position has become more asset sensitive when compared to year end, primarily due to agency MBS sales and the addition of Merrill Lynch net of the additional receipt fixed swap positions. Given how low rates are, we’re comfortable with our current interest rate risk profile.

Now let me say a few things about capital, and you can see this on Slide 32. Tier 1 capital at the end of March was 10.1% up from 9.15% at the end of the year due to the addition of Merrill Lynch, additional preferred and quarterly earnings. This Tier 1 ratio is lower than the pro forma projection we estimated in January due to the fact that we haven’t finalized the insurance wrap with the Federal Reserve and therefore the benefit is excluded from the 10.1%. It’s estimated to add approximately 65 basis points.

Our tangible common equity ratio is 3.13%. Now as you’ve heard us say before, this is a pretty blunt calculation. For instance, adding back the OCI associated with higher quality MBS that we expect will payoff in full and a restricted China Construction Bank shares increased the tangible common ratio by approximately 37 basis points, giving you an adjusted TC of about 3.5. Likewise if you consider the excess cash and cash equivalent positions we’re currently carrying, you’d get another lift.

Now our tax rate this quarter excluding the FTE impacts was 21% which is in the range we expect for the rest of the year, and is driven by the level and geographical mix of our pretax earnings. Going forward in 2009 and in line with what Ken said, we’ve been fighting the downturn for almost 7 quarters now and expect to continue fighting it for a few more quarters until we see stabilization and an eventual turn in economic growth.

We have a strong balance sheet with a robust, conservative liquidity position; strong credit reserves; and a strong capital position. As first quarter results demonstrated, we’re engaged 100% in leveraging the strengths of the corporation to be profitable on an EPS basis and add to our capital level. And while we expect credit losses to trend higher in most of our businesses, we believe the level of our reserves and revenue generation over the next several quarters will enable us to get through the period with minimal impact on capital levels.

As you know by now, both Merrill Lynch and Countrywide contributed positively during this quarter. The Merrill Lynch integration effort, while difficult given the environment, is on track and as Ken said cost saves benefited the quarter and for the most part are in line with expectations. We completed the Merrill Lynch assessment phase of the transition in March, and they’re now into execution.

During the second quarter we will focus on businesses that serve corporate and institutional clients. These lines of businesses will introduce new brands and logos for their combined organization, allowing them to interact with clients and customers as a united team.

Likewise at Countrywide we’re re-branding our stores this month so our customers will be looking at the Bank of America name across our entire mortgage operation. So while the next quarters will be challenging, we believe we can move Bank of America forward from a competitive standpoint and operational standpoint, and earnings standpoint.

With that, let me open it up for questions and I thank you for your attention.

Question-and-Answer Session

Operator

Thank you sir. (Operator Instructions) Your first question comes from Christopher Mutascio - Stifel Nicolaus & Company, Inc.

Christopher Mutascio - Stifel Nicolaus & Company, Inc.

Joe, I want to get a little more color on the commercial side of the loan book. I was taken back a little bit by how the MPLs went this quarter in commercial real estate and CNI. Clearly is this an indication of we’re now entering the second stage if you will of the credit cycle? We’ve all been worried about the consumer side and still we’re seeing some pressure there, but the commercial side is now full force. And if so, did the MPLs this quarter exceed your expectation and therefore does it mean that the loss rates going forward could be higher than what you currently expect?

Joe L. Price

I think if you look at as I said in our comments there was some contribution from Merrill Lynch coming in also. Kind of take that out, and that was about 13% of it I think. And the rest was still centered in commercial real estate and still centered in homebuilders, although some came from retail and land, so you are seeing some spread of that into other commercial components. And then if you look at our criticized, you can see some into the other domestic – the increase that came from other domestic.

So you remember part of this effort on criticizing and non-performing is to quickly identify, get these things in special workout groups and be aggressive about that. So I wouldn’t say they exceeded expectations as much as it’s kind of the natural progression that you’d see in credit management coming in this weak environment.

Christopher Mutascio - Stifel Nicolaus & Company, Inc.

You know, there has been some reports in the paper about you maybe selling off some other business lines and some in asset management. Any thought on that going forward? Are there other lines of business that you might be looking to to sell or to monetize?

Kenneth D. Lewis

This is Ken. Well, you know we’ve got First Republic in the process as we speak. And we don’t comment on any others before we put them up for sale, but any time you acquire a property the size of Merrill Lynch you step back and you look across all your business lines to make sure that you’ve got the ones that are strategically important, and then look very carefully at ones you may or may not think that are. So that process is going on, but that’s a natural process given any again large acquisition.

Christopher Mutascio - Stifel Nicolaus & Company, Inc.

Other than the $2.2 billion and the debt write-up of Merrill, were there any other like fair market value adjustments that are noteworthy in the quarter?

Joe L. Price

You would have had your by normal components of CBA in your derivatives books, you know, across Tom Montag’s platform or the global market’s platforms. They would have had favorability in them this quarter also.

Christopher Mutascio - Stifel Nicolaus & Company, Inc.

Can you quantify that?

Joe L. Price

It’s probably somewhere in the $1.5 billion kind of number all in, but, you know, on our spread side is the way to think about it.

Operator

Your next question comes from Betsy Graseck - Morgan Stanley.

Betsy Graseck - Morgan Stanley

On Page 16 you went through the sales and trading numbers, and then you indicated that going forward you think you can get to a more normalized level of trading. Clearly there’s been a lot of volatility from write-downs, etc., and you’ve also had an increase it looked like in the [var] in the quarter but I’m sure that that’s due in part to Merrill. Can you just give us a sense as to how you’re thinking about managing the trading activities and what kind of level of risk you’re comfortable with?

Kenneth D. Lewis

I guess I’d start, Betsy, by saying you’re correct; this is a market driven business and you start every day at zero is the way to think about it. But in regards to the bias of our business, I think we saw very solid customer flows throughout the quarter. Those flows continue and this quarter, and that would be the bias. Having said that, the var will increase when you combine the two platforms, not only because of a calculation methodology meaning that you’ve got a lot of volatility in the history, but because there are positions whether they’re market making inventory and proprietary that will always be part of the business. But I would say that you should think of Tom’s bias as being the customer flow business first and everything else off the back of that.

Betsy Graseck - Morgan Stanley

And would you give 4Q ’08 for Merrill based on these categorizations on Page 16 at some point?

Kenneth D. Lewis

I’m looking to Kevin to jot that down as we think about when we put the 10-Qs out, okay?

Betsy Graseck - Morgan Stanley

And then separately, there’s been discussion of the [PPEP], the bad assets health, that kind of programs. Is that anything that you’re considering for exposures that you have?

Kenneth D. Lewis

I guess at this point it’s not been finalized exactly what the process will be, so we’ve got to first see exactly what it is. I think any program that adds to price discovery and adds to some pricing in the marketplace will be helpful. And at this point our inclination would be to think about giving it a small trial run to see what it yields and to see if it offers an additional avenue of time to manage the businesses and assets and see where we go from there. So right now we’ve still got a lot to go before we make any kind of determination.

Operator

Your next question comes from Michael Malarkey - Calyon Securities (USA) Inc.

Michael Malarkey - Calyon Securities (USA) Inc.

Just a follow up on the first to commercial problem assets, I guess Slide 26 in the presentation, reservable criticized utilized exposure. That went from $37 billion up to $49 billion. Are these criticized lines out there that are getting drawn down by the customers? Or what is that? Why is that going up so much and what does that mean for future commercial losses?

Joe L. Price

First, actual draws or utilizations were flat to slightly down, Mike, this quarter. So I think you know a tad of that may be seasonal, but I think in general speaking you did not see any significant draw down across the board. You saw a little bit of the opposite. If you look at the increase that came, think of it as about and this is looking at about I guess a $12 billion increase, think of about $3 of it coming out of non-homebuilder commercial real estate, about $3 of it coming out of the Merrill Lynch additions, and then the rest coming out of your consumer facing industries in domestic. And I referenced a few when we gave the comments.

But that’s kind of the make-up of it and I would say again generally this classification is where we highlight, you know, the credits that need special attention or need more attention on them and focus on them, and we segregate them for workout. And so that’s what you should read into it. The loss expectations as I commented earlier is we will see some uptick in losses around commercial domestic in this weak economy, but nothing outside at this point is kind of our view.

Michael Malarkey - Calyon Securities (USA) Inc.

Are you surprised at how good commercial loan losses are? I mean, just the traditional commercial, 56 basis points of loans from the first quarter.

Kenneth D. Lewis

If you think of what we’ve tried to do over time, we tried to migrate a lot of the weaker structured credit in the commercial book into the markets business. We carried on fair value option hedges there, so if you took something for instance like some of the names you’ve heard, the majority of what’s in our accrual book is secured whereas some of the unsecured paper is carried in the fair value option on the trading side. And we pretty actively hedge it, and I’m not saying we haven’t taken some charges over the last several quarters in that type of paper.

But I think it’s kind of what we decide to carry in the accrual book has probably as much to do with it. And obviously we feel pretty good about the underwriting.

Michael Malarkey - Calyon Securities (USA) Inc.

And then separately, on the consumer portfolio you said seasonal factors several times and kind of showing some caution, I guess, in the next couple of quarter. Is that indicative of your portfolio or simply how you expect the industry to perform?

Kenneth D. Lewis

I guess I would say I would expect to see some of that across the industry and to the extent that we have a little more favorability in a few of those early stage. Maybe that’s telling us something. But again, we’re kind of managing as if it isn’t until we see that on a sustained basis.

Michael Malarkey - Calyon Securities (USA) Inc.

And what are those seasonal factors?

Kenneth D. Lewis

Typical things. I mean, take something like an auto portfolio; it’s the way car buying happens throughout the year. I mean, some of these are masked a little bit by the economy but it’s those typical early spring, you know, early year, early spring kind of factors that you generally see some reductions in delinquencies.

Michael Malarkey - Calyon Securities (USA) Inc.

And would the foreclosure moratorium be part of that at all, now that you can foreclose on homes again?

Kenneth D. Lewis

Well, realistically not in this quarter. You know, the foreclosure moratoriums you probably saw a build up in some of our later stage delinquencies as things were not referred to foreclosure from those standpoints. But that probably worked, later staged not earlier staged, and probably work against you versus for you.

Operator

Your next question comes from Nancy Bush - NAB Research.

Nancy Bush - NAB Research

Could you just talk about the durability of the kind of gains or kind of business that you’re seeing at Countrywide going into the second quarter? I know you had big origination revenues. You did have, I think, a pretty good MSR adjustment gain. I mean, how do you see the second quarter shaping up?

Kenneth D. Lewis

On the production side, I think we’re continuing Barbara’s team is continuing to see good inflow, so I’d expect that to quite frankly just continue for at least until you see some kind of significant change in rates. Although, as I pointed out in the comments, you’re actually seeing a reasonable percent in purchased money. And so obviously that’s helped by the first time homebuyer credit and the level of rates and all those things. So on that side I would anticipate continuing to see some pretty good results.

On the MSR side, Nancy, remember that we wrote down our MSR values in the first quarter by almost $7 billion and that was offset by – excuse me, the fourth quarter offset by hedges here. You had a little bit of a reversion back up and then hedge results were pretty good. The way I kind of think of it is I look back and say where do we have the ending MSR value and I think we’re around 83 basis points when most of the people that are out there so far this quarter are somewhere into 90. So I feel pretty good that you’re not going to get a surprise off of that, you know, although it will be impacted by future [race] and some of the administration’s programs.

So recently sustainable but probably a little bit high this quarter.

Nancy Bush - NAB Research

Second question would be just sort of the tenor of the deposit businesses here. I mean you know accounts opening, that sort of thing. How are those tracking?

Joe L. Price

New account openings are actually doing very well. Feel very good about that. We are seeing a little heavier closure, both by that we’re affecting as well as consumers, and I attribute some of that to just kind of the general economic environment. But even on a net basis, I think from quarter to quarter we’re up by over – if you look back to the first quarter of last year, we’re down slightly. But again it wouldn’t be driven by the sales side as much as on the closure side. So we feel pretty good about that. Some of the closures are low balance, less profitable, but also where customers are electing to consolidate accounts to save fees, things of that nature.

Nancy Bush - NAB Research

And just sort of the general tracking of deposit spreads? Have you kind of hit the wall here and how far you can lower deposit costs.

Kenneth D. Lewis

I think reasonably speaking, you know, if you ask me, that doesn’t mean there’s not room in certain markets in certain areas, but I think that on an at large basis you’re correct.

Operator

Your next question comes from Moshe Orenbush - Credit Suisse.

Moshe Orenbush - Credit Suisse

Could you talk a little bit in greater detail, expand a little bit on the prospects for the credit card business? You lost almost $3 billion with a foreign change $1 billion reserve addition. What’s the prospect for the interplay and what kind of steps have you taken in pricing? And how much of the increase in losses that you’re likely to see could that offset?

Joe L. Price

Well, there’s clearly unsecured consumer credit, mainly credit card where you feel the peak of this slowdown. We don’t necessarily view that as a term kind of issue from a strategic view for how you run the credit card business, although given all the other regulatory changes in the winds, we’ll have to be responsive to those, Moshe. Pricing, you know, we have taken certain actions on pricing and we have some in the works, although think of those as risk based; think of those as less introductory, low rates, things of those nature. So I don’t have a percentage right now of how much of that increased loss those will offset. And I think that’s why you saw us building – you know, you’ve seen us build reserves to take care of a lot of our future expected loss in that portfolio. But I don’t know, Ken, if you have anything to add but I kind of look at it more as we’re responsive to the changing environment but we’re also staying true to the kind of core business.

Kenneth D. Lewis

Yes. I wouldn’t add anything to that.

Moshe Orenbush - Credit Suisse

As you see comments kind of originally obviously from the Fed and [inaudible] but now out of the administration and Congress, any thoughts about the prospects for the revenue side of the business?

Kenneth D. Lewis

That’s what, I guess, Joe was referring to, kind of going forward. There are things of that nature, which you know probably better than we, that are causing us to step back and look at the business and see what should we do differently to kind of relate to that operating environment. But that’s kind of in the process as we speak.

Operator

Your next question comes from Steven Wharton - J.P. Morgan.

Steven Wharton - J.P. Morgan

I just have a quick follow up question on you mentioned that the [inaudible] had not been finalized and that that would lead to a 65 basis point increase I think in the Tier 1 ratio, quarter end? Would that be a similar increase for the tangible common equity to risk weighted asset ratio? Have you calculated what that impact would be?

Joe L. Price

I don’t – think of that asset pool as carrying a 20% risk weighting, and that’s what drives plus there’s preferred issue incentive, Steve. I don’t have that handy right off, but it would have a risk weighted asset impact there.

Steven Wharton - J.P. Morgan

Is there a reason why it’s taking so long to get it finalized and will this be changed or impeded at all by stress tests?

Kenneth D. Lewis

I guess I’d say it probably had something to do with the stress test in that the Federal Reserve guys have been relatively busy, you know, this past quarter, but no greater linkage than that to my knowledge. I’d look for us to try to address it in the second quarter.

Operator

Your next question comes from Meredith Whitney - Meredith Whitney Advisory LLC.

Meredith Whitney - Meredith Whitney Advisory LLC

I wanted to ask a question related to this release versus last release and the concentration issue in terms of mortgage loans and credit card loans and losses. So it looks like the losses are spreading out through the rest of the country as opposed to just concentrated from California and Florida, that the spread factor is an increasing factor. Or in fact do you see Florida, California improving? And just so what I’m looking for is more color regionally. And then also if you’re seeing any type either of stabilization or in fact a worsening potential, another leg down with sub-prime from California and Florida, given the fact that it looks like another wave of contraction has been taken out of the system or liquidity’s been taken out of the system with the shuttering of HSBC and so many finally closing their sub-prime books.

Joe L. Price

I guess on a regional basis I would say – and look, Meredith, it’s too early to call stability probably in this cycle, but I’d say California feels a little bit better. You’re seeing signs of life in terms of certain markets, although they’re clearly still MSA’s that are severely under pressure. So there I feel a little better.

I think Florida you continue to see some pretty hard downdraft in that one. I wouldn’t point to any particular points of light at this time. I think on a broader basis, you know, your thought about this economic weakness spreading much broader around the country is valid and we are seeing the impact although I’d say both because of the size of those two particular areas, as well as the size of the portfolio or our concentrations, we’re still focused principally on those types of areas.

Meredith Whitney - Meredith Whitney Advisory LLC

So nothing further in terms of weak spots regionally? Hot spots regionally? Or exposure that you worry about?

Joe L. Price

Like I said, it’s more of a broader spread as opposed to real hot spots beyond that, but I’d probably still put Florida at the top of your and our list of focus.

Meredith Whitney - Meredith Whitney Advisory LLC

And then would you update from last quarter your unemployment and peak to trough home price assumptions?

Joe L. Price

As Ken said in his comments, at this point we don’t see unemployment peaking in the double digits. We still see it in the high single digits as the way we kind of characterize that, and likewise on his comments about GDP. From an HBA standpoint, you know, the – I’d say we were pretty close to blue chip consensus. Think of it as still in that mid-thirties peak to trough. Think of it as having been through almost 30% of that, so quite a ways there although different regions will act very differently in that.

When you think about our reserving policies, remember we reserve kind of on an incurred loss, so when I give you loss projections or give you thoughts about where basis points of loss might be, that tends to incorporate our view on the home price outlook more so than the exact reserve at the point of time.

Operator

Your next question comes from Jason Goldberg - Barclays Capital.

Jason Goldberg - Barclays Capital

I guess Ken during the course of the quarter, I guess, in the press I’ve seen you comment several times about your adequacy of capital levels. Can you just discuss that in terms of do you feel enough capital I guess in light of this stress test to [quanta] that capital? There’s a lot of talk about preferred to common conversions, etc.

Kenneth D. Lewis

First of all, with regard to needing additional capital we absolutely don’t think we need additional capital. With regard to the second part of the conversion, we think we’re fine but it’s now out of our hands and into others. So from all the ways that we’ve looked at it, we think we’re fine, but again this is in the hands of the Reg guys at the moment.

Jason Goldberg - Barclays Capital

Can you comment in terms of where you think you are with respect to the stress test or kind of what your views were in terms of what you submitted?

Kenneth D. Lewis

No. I think we’ve said before that we submitted the information and that’s where we are. It’s now in their hands.

Jason Goldberg - Barclays Capital

Secondly, appreciate, I guess, the outlook on charge-offs and such on credit quality. And in terms of, I guess, a $6.4 billion addition to the reserve, obviously a big number. How do you think the pace of reserve builds will progress as the year goes on?

Kenneth D. Lewis

Well, you’re right. That’s an extraordinary reserve build and I think as we look at a gain from CCB or whatever you’ve got to look at it in context of a reserve build that big closely at the height of the recession. So I think you have to put these things in context. But we would expect further reserve build but not of that magnitude going forward, Jason.

Operator

Your last question comes from Christopher Mutascio - Stifel Nicolaus & Company, Inc.

Christopher Mutascio - Stifel Nicolaus & Company, Inc.

I’m sorry, Joe, I wanted to just make – clarify my first question. You talked about the fair value adjustments in the quarter could be another, I guess, another gain of $1.5 billion. Is that separate and aside from the investment security gains of $1.5 billion?

Joe L. Price

That would be the component or counterpart of risk valuation adjustment embedded in global markets.

Christopher Mutascio - Stifel Nicolaus & Company, Inc.

So some large kind of gains in the quarter with China Construction Bank, investment security gains, the Merrill debt and then that’s the fair value. And offset to that, I guess, would be merger related expenses and did you also mention you had some security losses in the quarter? And can you tell me what they were?

Joe L. Price

Equity losses that we – if you go back in our comments, Chris, you can see that when we talked about principal investing there’s somewhere in the $900 million range. But also we’ve got kind of ongoing business as usual charges embedded in global markets, too, so what we tried to spell out for you was the stuff that we viewed as more unusual.

Kenneth D. Lewis

And don’t forget, Chris, that the higher than usual was that $1.7 billion that Joe had mentioned. That would be – we would view as kind of not business as usual.

Kevin Stitt

Thank you very much.

Operator

This concludes today’s teleconference. Have a great day. You may disconnect at any time.

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