As we expected, Bank of America isn’t taking a huge hit this morning from its earnings disappointment. It’s down about 3.5% right now but still holding above the lows it hit in early August. Lots of people seem happy to concentrate on the positive signs and to write-off the losses as a function of “this summer’s credit crunch.”
Well, we’re not going to spend all day on this but we thought we’d spend a bit more time dwelling on the negative. In particular, we’re fascinated by how B or A’s corporate lending business and credit market related sales and trading illustrate just how bad the credit crunch hit the banks in the third quarter. After quickly flicking through the supplemental financial slides, here are a few points that stuck out.
• Lower lending revenues and growth in risky and non-performing corporate loans. Revenue from corporate lending shrank from $179 million for the third quarter of 2006 to $175 million in this quarter. Risky, so-called “criticized” corporate loans grew from $1.4 billion to $1.5 billion. As a percentage of all corporate loans, however, this actually represents a slight improvement from 2006′s third quarter, from 2.12% to 1.98%. They can’t say the same for non-performing corporate loans, which grew in absolute terms—from $145 million to $269 million—and as a percentage—from 0.44% to 0.62%.
• A Third Quarter Reversal. B of A’s lending balance sheet was steadily improving through the first half of 2007 but made a sharp reversal in the third quarter. To really get a sense of how the credit crunch hit the bank, it helps to look not just at the third-quarter to third-quarter comprables, but to see what happened from the second to the third quarter of this year. Non-performing corporate loans, for instance, grew ten-fold, from $21 million in the third quarter of last year to $269 million.
• Sales and Trading Revenue Falls Off A Cliff. Revenues from sales and trading in structured products and credit products made a sharp reversal in the third quarter, creating huge losses. B of A made $521 million from structured products sales and trading in the second quarter of this year, and lost $569 million in the third quarter. Losses in credit products sales and trading were so severe that they wiped out all the year-to-date gains from this business for B or A. To look at it another way, in the third quarter of this year B of A lost more than 3.5 times what it made in the third quarter of last year from trading and sales in credit products. Even if it recovers to last year’s revenue levels in the fourth quarter, it will barely have made any money from this business in 2007.
• 93% Decline in Profits for Investment Banking. Profits at the corporate and investment-banking division were decimated. In the third quarter, they shrunk to $100 million from $1.43 billion a year earlier. That’s a 93% drop. We’d ask why they are even in this business but it might be too late for that. On a revenue basis, they almost aren’t. Wonder how much they’ll pay out in bonuses to their investment bankers?
• Smaller Than Expected LBO Mark Down. It would be nice to know more about how the investment banking unit calculated the mark down on the value of its LBO financing. They’re reporting a mark down of just $247 million. They are the number 2 lender for leveraged loans, so it’s surprising that they haven’t taken more of a hit in this area. Analysts at Citigroup had predicted a writedown of as much as $700 million. It’s hard not to wonder whether there might be some rosy assumptions in their mark downs. But then again, with TXU loans pricing close to par, maybe this business isn’t in for the hit many predicted.

Bank of America posted terrible quarterly results this morning, managing to achieve even worse results than most analysts had expected.
Perhaps even more distressing than the actual results is the vagueness about what caused the losses. Lots of blather about “dislocations.” We should probably be grateful they didn’t actually say that the markets were “misbehaving” or mention a “28 sigma event.” Still when talking about this stuff Bank of America sounds like a quant fund manager in mid-August begging investors not to send in redemption notices.
The bank says it took a $607 million loss in trading revenue “due principally to the breakdowns in traditional pricing relationships, which made hedges ineffective, and the widening of credit spreads.” Which we take to mean that they were massively short volatility. You can call that a hedge, we guess. But keep in mind that when you ask a whore in Beijing what her name is, she almost always replies, “I make a name for you. What you want to call me?”
The results also imply that financial engineering may have passed the point of human comprehension. Does anyone understand how to trade CDOs? If so, they don’t work at Bank of America, which took a $527 million hit.
Just about the only bright(ish) spots on the earnings report was that Bank of America didn’t take too large a hit from losses in buyout loans. And, of course, they aren’t run by Chuck Prince. (As a side note, however, if B of A takes a large hit from the earnings report, which is might not since already people are saying trading revenues are unpredictable and might go up next quarter, it could lose it’s place just ahead of Citigroup in the race for who has the bigger market cap.)
And, hey, who knows. Maybe The Entity will make everything okay.

Bank of America Third Quarter Earnings Per Share Decline 31% to 82 Cents [PR Newswire]