Bank Of America's Day Of Reckoning

Oct.28.13 | About: Bank of (BAC)

These days, prosecutors are belatedly yet firmly acting against the architects of 2008's subprime mortgage crisis. As a result, this is a time of turmoil in the banking industry. It often seems as if the fines and indictments against big banks will never end.

Bank of America (NYSE:BAC) is the latest major financial institution to face alarming consequences for playing fast and loose with the law. Late last week, the bank received a guilty verdict in one of the most influential and momentous fraud trials of the century so far.

This trial is potential game-changer for mortgage banking and the larger financial industry. The trial highlighted the activities of Countrywide, a once-lauded subprime lender bought by Bank Of America during 2008. At the height of its success, Countrywide became the envy of its industry for reporting stellar profits. Unfortunately, the lender generated these profits by pushing loans on hapless borrowers who had little ability to fulfill their obligations. Countrywide's behavior crossed the line into fraud when the company routinely lied about its loan approval standards. The lender dishonestly sold these loans to Fannie Mae and Freddie Mac, helping precipitate a financial crisis that would have negative ramifications for billions of people around the world.

Upon purchasing Countrywide, Bank of America had to make some critical managerial choices. Instead of reining in Countrywide's excesses, Bank of America enthusiastically adopted and expanded the Countrywide model. With little regard for borrowers or the health of the economy, Bank of America pursued a course of reckless profit-seeking. The bank's guilty verdict will send a powerful message to the entire banking industry. The decision should act as a powerful deterrent, sobering executives who have long relied on wealth and power as a shield against legal scrutiny.

Prior to the recent blow against Bank of America, many critics had long despaired of seeing irresponsible banks held accountable for their actions. Though the verdict against Bank of America is a promising development, it leaves many wondering why it took five years to hold banks accountable for the damaging, avoidable mortgage crisis.

In a very real sense, enforcement actions against irresponsible institutions are materially beneficial for the U.S. economy. Beyond preventing bubbles in exotic derivatives, active enforcement encourages stockholders to think twice before investing in companies with reckless business models.

Conclusion

In the wake of its legal defeat, Bank of America's stock tumbled almost immediately and we believe investors would be prudent to take profits in the stock.

While some experts believe the bank will ultimately recover, investors will not soon forget the consequences of buying stock in an organization with flagrant practices. To further bolster the trust of the investing public, Bank of America may well push out Brian Monynihan, its ill-fated CEO. Corrective measures like these would further demonstrate that the giants of Wall Street are willing to change--if such willingness truly exists.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.