Bank of America Gets $138 Billion Lifeline for Merrill Losses

By Scott Lanman and Craig Torres

Jan. 16 (Bloomberg) -- Bank of America Corp., the largest U.S. bank by assets, received a $138 billion emergency lifeline from the government to support its acquisition of Merrill Lynch & Co. and prevent the global financial crisis from deepening.

The U.S. government agreed to invest $20 billion more in Bank of America and guarantee $118 billion of assets “as part of its commitment to support financial-market stability,” the Treasury Department, Federal Reserve and Federal Deposit Insurance Corp. said in a joint statement shortly after midnight in Washington.

The bailout may increase pressure on Chief Executive Officer Kenneth D. Lewis, who reports fourth-quarter results today, to defend his decision to buy the ailing Merrill. Lewis overreached by rescuing two money-losing firms in six months, including New York-based Merrill and Calabasas, California-based Countrywide Financial Corp., said analysts including Paul Miller of Friedman Billings Ramsey Group Inc.

“This thing is unraveling so fast that he may know his job is lost,” Miller said.

Bank of America spokesman Robert Stickler said the firm doesn’t comment on “uninformed gossip.”

Shares of Bank of America plunged 18 percent yesterday, sliding $1.88 to $8.32 in New York Stock Exchange composite trading after hitting $7.35, its lowest level since February 1991. The bank moved up its fourth-quarter report to today at 7 a.m. New York time.

‘Fire-Fighting Tactics’

“The motivation is to try and basically get information to the market sooner rather than later because of all the anxiety that’s out there,” said Bert Ely, chief executive officer of Ely & Co., a bank consulting firm in Alexandria, Virginia. It’s a “very tense situation now,” he said.

Today’s emergency action shows officials so far have failed to quell concerns about the viability of some of the biggest banks, even after deploying $350 billion of a financial-rescue fund and a doubling of the Fed’s balance sheet. Citigroup Inc.’s shares also tumbled amid concern of rising credit losses.

“This is more short-term fire-fighting tactics,” said Ed Rogers, chief executive officer at Tokyo-based hedge-fund adviser Rogers Investment Advisors Y.K. “Once again, the U.S. government does not seem to be thinking in terms of final solutions to the problem.”

Citigroup Model

The U.S. had already injected $15 billion into Bank of America, the country’s biggest lender, and another $10 billion to Merrill to bolster the combined company against the credit crunch.

The plan mirrors the government’s emergency actions with Citigroup in November, which explicitly insured the bank against losses on toxic assets with taxpayers footing the bill. The U.S. backed up a $306 billion portfolio of Citigroup real-estate loans and securities, sharing losses beyond $29 billion on what were likely to be some of the bank’s worst holdings.

With today’s Bank of America deal, the government will protect a $118 billion pool of assets that a U.S. official said includes residential and commercial real-estate holdings and credit-default swaps. The official spoke to reporters on a conference call on condition of anonymity.

The $20 billion purchase of preferred shares, which carry an 8 percent dividend, will be made today. The funds come from the first half of the Treasury’s Troubled Asset Relief Program. Yesterday, the U.S. Senate voted to allow the release of the next $350 billion of the program.

Acquisition Spree

Lewis, 61, has spent $129 billion on acquisitions, including regional lenders FleetBoston Financial Corp. and LaSalle Bank, credit-card issuer MBNA and investment manager U.S. Trust Co.

Bank of America on Sept. 15 agreed to buy Merrill Lynch, the world’s largest securities firm, after a weekend of negotiations between Lewis and Merrill CEO John Thain. The $19.4 billion transaction came as Lehman Brothers Holdings Inc. sank into bankruptcy, crippled by the frozen credit markets.

“Bank of America has all kinds of problems with its acquisitions,” said Gary Townsend, president of Hill-Townsend Capital LLC in Chevy Chase, Maryland. “They’ve been so acquisitive, they find themselves with very little in tangible equity.”

Talks between the government and Bank of America have been held for the past couple of weeks, an official said. The Charlotte, North Carolina-based bank told regulators in December it might abandon the takeover because of Merrill’s worse-than- expected results, three people familiar with the matter said before the announcement.

Future Losses

The government insisted the Merrill deal proceed because its collapse would renew turmoil in financial system, according to the people, who declined to be identified as talks were private.

Bank of America will absorb the first $10 billion of losses in the pool of assets, of which the “large majority” were assumed with the Merrill purchase, the statement said. The company will absorb 10 percent of any additional losses, with the government on the hook for the remainder.

The Fed will backstop assets with a loan, after the government’s first $10 billion in losses, shared by the Treasury and the FDIC.

The asset pool includes cash assets with a current book value of as much as $37 billion and derivatives with maximum potential future losses of as much as $81 billion, according to the term sheet provided by the government.

Separately, the FDIC said today it plans to propose changing its bond-guarantee program for banks to cover debt as long as 10 years, from the current three-year maturity. The FDIC will soon propose rule changes to the Temporary Liquidity Guarantee Program, today’s statement said.

“The U.S. government will continue to use all of our resources to preserve the strength of our banking institutions and promote the process of repair and recovery and to manage risks,” the joint statement said.

Federal Reserve Chairman Ben S. Bernanke earlier this week said troubled assets remain a “continuing barrier to private investment” in financial institutions and recommended that they be extracted with government help. He urged a “comprehensive plan,” with one possibility being to erect a so-called bad bank to purchase and administer the troubled loans and securities.

Treasury plans 'bad bank' to buy toxic assets

A state owned "bad bank" to buy up tens of billions of pounds of toxic assets from high-street banks with taxpayers' money could be set up, under plans being drawn up by the Treasury.

By Robert Winnett and Andrew Porter
Last Updated: 7:45AM GMT 16 Jan 2009

Alastair Darling: Treasury plans 'bad bank' to buy toxic assets

Gordon Brown is preparing a new multi-billion pound rescue package for the banks which is expected to be announced next week.

In his strongest hint yet that a "bad bank" is a serious option, the Prime Minister said that "action" on toxic debts, which are blamed for the failure of high-street banks to resume normal lending, is now essential.

Ministers will spend this weekend locked in talks with senior bank executives, who are thought to be resistant to the "bad bank" proposal.

However, Mr Brown has been warned by City experts that the scheme may have to be quickly introduced to prevent the economic and financial crisis worsening.

Amid scenes not seen since before the last banking bailout in the autumn Bank shares fell sharply yesterday amid growing fears over the levels of bad debts.

The controversial "bad bank" scheme, which would involve taxpayers having to take on billions of pounds in risky assets, is increasingly seen as critical if banks are to begin lending again.

Banks may receive billions of pounds in taxpayers' money and the Government may take further stakes - or the right to purchase shares - as part of the package.

The Bank of England is also expected to offer tens of billions in credit to banks to fund new loans for homeowners and businesses.

The plans could be introduced internationally in co-ordination with the new American administration and European governments.

On Thursday, bank shares around the world dropped sharply. Barclays fell in value by 8 per cent, Lloyds was down 11 per cent and RBS by 4 per cent following reductions earlier in the week.

In America, shares in Citigroup, the world's largest bank, and Bank of America fell by more than 20 per cent at one point as speculation mounted that they would be seeking further Government assistance.

Speaking in Berlin after meeting Angela Merkel, the German Chancellor, Mr Brown indicated for the first time that the Government was planning to act over toxic bank debts.

"We must secure the widest possible transparency and the necessary renewal of trust in the banking system," he said. "That is an essential element of rebuilding the global financial system."

"It will also require us to take action on impaired assets in the banking system. It will mean that we will have to have new standards of surveillance and supervision for global financial institutions."

A Government source added: "Ministers are astounded by the scale of the losses that the banks have to write off. It isn't yet clear to the public quite how irresponsible some of the decisions made by bankers have been. The details are still sketchy."

The toxic bank scheme is set to be the latest audacious attempt by the Government to tackle the global credit crisis.

Two banks have already been nationalised, and a further three banks have sold stakes to the Government worth £37 billion. The Bank of England has also offered high-street banks tens of billions of pounds in Government loans.

However, although the previous bailouts may have prevented high-street banks from collapsing they have failed to pave the way for banks to begin lending normally again. Homebuyers and businesses have complained they are unable to obtain credit.

Banks argue that because of the extensive bad debts on their balance sheets they are effectively unable to take on more debts and resume normal lending.

Therefore, until their balance sheets have been "cleaned" and the toxic assets removed the credit crisis is likely to continue.

The issue is thought to have become urgent over the past few weeks as banks are currently preparing to announce their financial results for 2008. The scale of bad debts at some banks may be so high that it is difficult for the financial result statements to be signed off by accountants.

Specialist auditors are understood to be currently analysing the balance sheets of RBS, HBOS and Barclays to calculate the value of their toxic assets. The assets are mostly complicated financial instruments which are linked to sub-prime mortgages and commercial debts.

However, they are notoriously complicated and opaque - and are therefore difficult to value. Banks are likely to receive a small fraction of the assets' original value from the Government.

A senior Government source said: "We are looking at the unprecedented nature of the losses on the balance sheet. In short we do not know what they are worth.

"All the assets on the balance sheet have got to be valued to the best of our ability. Auditors have been brought in to work this out."

The scheme could cost the Government tens of billions of pounds - which could be financed by the issuing of new bonds or gilts. However, much of the money may be retrieved if the assets can eventually be sold on or the debts are repaid.

The Government may also take further stakes in the banks and therefore profit if bank share prices rise.

It is hoped the "bad bank" will expose the taxpayer to less of a risk than full-scale nationalisation of other banks which it was feared may also become necessary if the current financial turmoil continues.

Treasury officials are understood to have been studying a "bad bank" scheme introduced in Sweden in the early 1990s which may provide a blueprint.

The Swedish Government set up a series of state-owned financial vehicles that bought bad banking debts.

The equivalent of about four percent of the country's entire economy was spent on buying up the toxic bank debts. Specialists were employed by the Government to run the new bad banks and sell-off or run down the bad debts.

After many of the loans were successfully restructured, renegotiated and then sold on again, the Swedish Government lost about half of its original investment, about eight billion dollars.

Paul Volcker, the former head of the Federal Reserve appointed by Barack Obama to help advise on the financial crisis, said yesterday that the banking system was still a "mess".

Global economy to shrink; deflation greatest threat, says UN

The cost of goods leaving US factories has fallen for five months in a row, helping to reinforce fears of deflation

Gary Duncan, Economics Editor

The deepening global recession means that the world economy as a whole could shrink next year and will battle to avoid destructive Thirties-style deflation, the United Nations said yesterday.

The UN alert over what threatens to be the worst year for the global economy since the Second World War came as fears of deflation were stoked when US producer price inflation slid into negative territory, registering an annual fall of 1.5 per cent last month.

In a bleak assessment of world prospects, the UN said that the global economy was now deteriorating at such a pace that its main projections in yesterday’s grim report were already out of date.

Rather than its main published forecast for world growth this year of a meagre 1 per cent, the UN said that its more pessimistic scenario of zero growth, or outright global decline by 0.4 per cent, was now more realistic.

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Heiner Flassbeck, director of globalisation and development strategies at the UN Conference on Trade and Development (Unctad), said: “There is nothing unfortunately at the moment where we can say ‘this is positive’ or ‘this is giving a positive stimulus’ . . . For the world as a whole, the outcome could be zero, or even slightly below zero [growth]. I do not say this will go on for ever, but the coming months will get extremely tough.”

Mr Flassbeck said that the greatest threat now came from deflation of the sort suffered during the Great Depression, when falls in wages of 10 to 15 per cent in some economies triggered a drastic slump in consumer demand and brought world growth to a virtual standstill.

With official interest rates across the West tumbling towards zero, the UN issued a call for coordinated fiscal stimulus packages in countries around the world, such as that being planned by the incoming Obama Administration in the US.

The European Central Bank yesterday stepped up its efforts to combat the eurozone recession, cutting interest rates by a further half-point to 2 per cent, equalling previous record lows for the single currency era. The ECB has now cut rates by 2.25 percentage points since October.

Jean-Claude Trichet, the ECB president, signalled that the bank was set to cut eurozone rates still further, but indicated that the next move would probably come in March. “We didn’t say that it was now the limit and we would not move any more,” he said.

Anxieties over deflation taking hold were multiplied, meanwhile, by yesterday’s US producer prices figures. The cost of goods leaving factories fell for a fifth month in a row, dropping by 1.9 per cent, or 1.5 per cent down on a year earlier.

Headline US inflation, for consumer prices, is also widely tipped to turn negative in further official figures today.

However, these trends still fall short of full-blown deflation of the destructive sort suffered in the Thirties, since they are so far driven almost entirely by the rapid reversal of the past surge in oil prices. These have now plummeted from record highs above $140 a barrel in July last year to reach levels yesterday just above $35.

So-called “core” US inflationary pressures, which strip out food and energy costs, remain far higher than headline inflation. Core producer price inflation in December climbed to an annual 4.3 per cent rate in yesterday’s figures, for example.

— The Russian rouble sank to historic lows against the dollar and euro yesterday as a growing threat of recession forced Moscow to further devalue the currency.

After the Russian central bank widened the rouble’s permitted trading band for the fourth time in recent months, the currency fell to its lowest levels against the dollar since Russia opened up its economy in the Nineties, allowing the dollar to climb to 32.35 roubles. The euro also hit a record high of 42.55 roubles.

The move came with the once-booming Russian economy sliding as demand for its oil and gas slumps.