Given the huge just announced J.P. Morgan (NYSE:JPM) settlement, investors need to tread very carefully when it comes to Bank of America (NYSE:BAC). Although this bank is a veteran institution with a long history of massive revenues, the organization is facing enormous difficulties. After years of heavy-handed dealings and seeming invulnerability, BoA could also soon pay a massive government fine to settle some of their problems.
In 2011, Bank of America was sued by the Federal Housing Finance Agency (FHFA). In its suit, the government claimed that BofA had misrepresented the quality of its mortgage-backed securities. By selling toxic securities worth tens of billions, BofA may have helped threaten the foundations of the U.S financial system.
Today, BoA may be close to formally settling the FHFA lawsuit. This painful process may see the bank pay as much as $8 billion in fines and a lot more in legal and accounting fees. In the wake of harried J.P Morgan agreeing to pay well over $13 billion in fines and legal fees, the FHFA is likely to strike a hard bargain with Bank of America.
Unsurprisingly, Wall Street analysts differ in their takes on the possible effects of the upcoming fine. Most agree that the fine will have decidedly negative effects on BofA's stock price. Whenever any popular stock enters troubled waters, numerous commentators do their best to raise alarms. When reviewing market information sources, it is important for investors to exercise prudence and caution. Far too many Wall Street commentators obscure the public discourse by conflating their own preferences with the needs of the public.
Since Bank of America is a massive corporation, thousands of people will lose money if the bank's stock price declines. Some of these people use position and influence to promote their own financial interests. Don't buy into the idea that Bank of America's success is critical for the growth of the national economy. Regulatory enforcement actions fulfill important roles in modern society. Whatever some people might say, no single company is indispensable for U.S economic development. In fact, massive companies often use their power to manipulate markets in unhealthy ways.
To fully understand the dynamics of financial markets, investors need to understand the invigorating effects of corporate failures and bankruptcies. Every time a major company fails, a company with more intelligent practices achieves greater success. In the free market system, businesspeople are rewarded for acting with integrity and fiscal conservatism. This system only works if irresponsible companies face consequences for imprudent actions.
When the government uses taxpayer funds to bail out failing companies, this can create serious market distortions. When companies with reckless habits receive preferential treatment, moral hazard can follow. Moral hazard refers to the process whereby elites receive rewards for making poor business decisions. Nearly without fail, these decisions cost ordinary investors vast sums. In general, this process saps public trust in Wall Street and the business community.
Small-scale, independent investors drive growth for Wall Street and the broader economy. When these investors feel maligned or neglected, they withdraw important support from financial systems. This can create a chain reaction contributing to economic contraction and malaise.
Capitalizing on its world-famous brand and legendary history, Bank of America may have acted dishonestly in the run-up to the Great Recession of 2008. By misrepresenting the qualities of its mortgage-backed securities, BofA may have negligently contributed towards the formation of a dangerous investment bubble. While the bank certainly didn't act alone in its indiscretions, BofA's upcoming fine is a reasonable enforcement measure with positive long-term implications for the stock market and Wall Street.
Investors should consider taking some profits in their mega bank holdings like BAC and JPM given the problems at these banks and the run up in the stock market this year.