Bank Of America And Its High Marginal Cost Of Funds


  • Banking is a brutal business where cost efficiency, both operational and funding, determines the winners and the losers.
  • We compare the marginal cost of funding for Bank of America Corporation using the U.S. Dollar Cost of Funds Index and traded bonds on September 8, 2014.
  • We find that Bank of America has a funding disadvantage of about 0.30% versus Wells Fargo and that the implicit guarantee of the TBTF banks cannot erase this difference.

Forty years ago, I spent two summers working with an MIT-educated genius named Wm. Mack Terry, head of the Financial Analysis and Planning Group at Bank of America in San Francisco. One of the many lessons of that experience is that banking is a brutal, efficiency-driven business where the competitors with the lowest marginal costs create the most shareholder value. Those costs can be split into operating costs and the marginal costs of funding. In this note, we compare the marginal cost of funding for Bank of America Corporation (NYSE:BAC) with the U.S. Dollar Cost of Funds IndexTM, which uses observable bond pricing for the 4 largest deposit-focused banks in the United States.

Conclusion: We find that Bank of America suffers a funding disadvantage of as much as 0.30% versus major competitors like Wells Fargo & Co. (WFC). We also find that many other banks among the top 20 banks in the United States can out-compete Bank of America from the perspective of the marginal cost of wholesale funding. Bank of America can only lower its marginal cost of funds by lowering the risk profile of its liabilities with more capital, more profits, and lower costs in other aspects of its business.

The Analysis

Step one in today's analysis is to report the composite credit spreads of the four "too big to fail" banks underlying the U.S. Dollar Cost of Funds IndexTM. The big four banks represented 4 of the 8 most heavily traded bond issuers in the United States in this chart of fixed-rate non-call senior debt issues. For information on bond types excluded from the construction of the index, please see the note on the index below. Here is a summary of trading volume on September 8, 2014:

There were 2,604 trades in 414 bond issues representing $698 million

This article was written by

Donald van Deventer profile picture
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Donald R. van Deventer is a Managing Director in the Center for Applied Quantitative Finance at SAS Institute, Inc. Prior to the acquisition of Kamakura Corporation by SAS on June 24, 2022, Dr. van Deventer was the Chairman and Chief Executive Officer of Kamakura Corporation. He founded the Kamakura Corporation in April, 1990. The second edition of his book, Advanced Financial Risk Management (with Kenji Imai and Mark Mesler) was published in 2013.  Dr. van Deventer was senior vice president in the investment banking department of Lehman Brothers (then Shearson Lehman Hutton) from 1987 to 1990. During that time, he was responsible for 27 major client relationships including Sony, Canon, Fujitsu, NTT, Tokyo Electric Power Co., and most of Japan's leading banks. From 1982 to 1987, Dr. van Deventer was the treasurer for First Interstate Bancorp in Los Angeles. In this capacity he was responsible for all bond financing requirements, the company’s commercial paper program, and a multi-billion dollar derivatives hedging program for the company. Dr. van Deventer was a Vice President in the risk management department of Security Pacific National Bank from 1977 to 1982. Dr. van Deventer holds a Ph.D. in Business Economics, a joint degree of the Harvard University Department of Economics and the Harvard Graduate School of Business Administration. He was appointed to the Harvard University Graduate School Alumni Association Council in 1999 and served through 2021. Dr. van Deventer was Chairman of the Council for four years from 2012 to 2016. From 2005 through 2009, he served as one of two appointed directors of the Harvard Alumni Association representing the Graduate School of Arts and Sciences. Dr. van Deventer also holds a degree in mathematics and economics from Occidental College, where he graduated second in his class, summa cum laude, and Phi Beta Kappa. Dr. van Deventer speaks Japanese and English.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it. The author has no business relationship with any company whose stock is mentioned in this article.

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