CHICAGO--(BUSINESS WIRE)--Fitch Ratings has affirmed Bank of America's (BAC's) Long-Term and Short-Term Issuer Default Ratings (IDR) at 'A'/'F1'. The Outlooks for the Long-Term IDRs are Stable.
At the same time, Fitch has affirmed the company's Viability Rating (VR) at 'a' due to BAC's slowly improving earnings profile despite market challenges, the maintenance of good liquidity levels, satisfactory capital ratios, and materially lower litigation costs than at any point over the last few years.
The rating affirmations have been taken in conjunction with Fitch's periodic review of the Global Trading and Universal Banks (GTUBs).
KEY RATING DRIVERS
IDRS, VR AND SENIOR DEBT
Fitch's affirmation of BAC's rating and maintenance of the Stable Outlook reflect the company's slowly improving earnings profile while maintaining a strong liquidity position and satisfactory capital ratios.
Fitch believes that over time, the strength and earnings power of BAC's core franchises will start to be more evident. While the revenue and market environment for BAC as well as other banks continues to be challenged, Fitch continues to believe that BAC should be able to further improve its earnings performance through continued cost reductions, a greater emphasis on simplifying the company's operations, and through a more targeted use of technology solutions to drive efficiencies.
The key near-term opportunity for additional cost reductions remains reductions in the company's Legacy Assets & Servicing (LAS) segment. To this end, as more and more of BAC's problem loans and loans serviced are either resolved or sold, management should be able to continue to reduce headcount as well as other resources devoted to this segment.
Over the medium term, Fitch expects BAC to continue to invest in technology to digitize both back-office and middle-office processes as well as develop more technology-driven customer interfaces. While at least initially costly, Fitch believes these efforts will over time allow the company to more aggressively reduce costs and improve efficiencies out of its core operations, as well as improve customer retention and wallet share.
Additionally, Fitch continues to expect BAC to focus on the ongoing efforts to optimize its overall branch network through branch closings, the introduction of reformatted branches, as well as corresponding headcount reductions across its branch banking platform.
Some of this will come in the wake of certain technology solutions described above as well as through the continued implementation of the company's 'Simplify and Improve' program. This program is focused on reducing the complexity of BAC's operations and organization, and Fitch believes that management is focused on instilling the mind-set of BAC's 'Simplify and Improve' program throughout the company culture to help focus staff on continuous efficiency improvements.
To the extent that management is successful in these various efforts, Fitch believes that BAC's efficiency ratio could drop to the low 60% range over the medium-term time horizon. Should management be successful in this efficiency ratio improvement such that BAC's earnings consistently reach or exceed Fitch's estimate of the company's cost of equity of between 10%-12%, it could lead to some upward rating momentum over a longer-term time horizon.
Potentially giving a further boost to the company's efficiency ratio is the possibility for short-term interest rates to eventually rise. While the first 25-basis point rise in interest rates had a muted impact on the company's first quarter results, should more meaningful increases in short-term interest rates occur, BAC may benefit from a stronger net interest income (NII) than some peers given its proportionately larger retail deposit base. This revenue pick-up would increase the denominator of efficiency ratio calculations, helping drive the ratio lower over time.
Fitch continues to note that BAC's liquidity position is good and continues to be supported by its very strong retail deposit base. This is a key advantage for the company relative to some peers, and is supportive of today's actions.
Fitch also notes that BAC's capital position remains satisfactory for the company's rating level, though it is below that of some of the other institutions covered in this peer review. As of the end of the first quarter of 2016 (1Q16), BAC's pro forma fully phased-in Basel III Common Equity Tier 1 (CET1) ratio under the advanced approaches (BAC's binding constraint) was 10.1%, up from 9.8% at YE2015. As noted this ratio is below the averages of peer institutions, though it does incorporate a significant component of operational risk weighted assets (RWA) in the denominator of the calculation, which Fitch believes adds some conservatism to the ratio.
Additionally, BAC is in compliance with the Enhanced Supplementary Leverage Ratio (SLR), which as of 1Q16 was 6.8% at the parent company (5% requirement) and 7.4% (6% requirement) at its main bank subsidiary, Bank of America, N.A.
SUBSIDIARY AND AFFILIATED COMPANY
Fitch notes that the VRs remain equalized between BAC and its material operating subsidiaries. The common VR of BAC and its operating companies reflects the correlated performance, or failure rate between the BAC and these subsidiaries.
However, the Long-Term IDRs for the material U.S. operating entities are one-notch above BACs Long-Term IDR to reflect Fitch's belief that the U.S. single point of entry (SPE) resolution regime, the likely implementation of total loss absorbing capacity (TLAC) requirements for U.S. global systemically important banks (G-SIBs), and the presence of substantial holding company debt reduces the default risk of domestic operating subsidiaries' senior liabilities relative to holding company senior debt.
Additionally, the 'F1' Short-Term IDRs of BAC's bank subsidiaries are at the lower of two potential Short-Term IDRs, mapping to an 'A' Long-Term IDR on Fitch's rating scale to reflect a greater reliance on wholesale funding than some smaller institutions. BAC's and its non-bank operating companies' Short-Term IDRs at 'F1' reflect Fitch's view that there is less surplus liquidity at these entities than at the bank, particularly given their greater reliance on the holding company for liquidity.
Fitch notes that the MBNA Limited subsidiary is one-notch below the IDR of BAC, as Fitch views it as a strategically important subsidiary to the overall franchise. In addition, the ratings of Secured Asset Finance Company, LLC are based on parent-company guarantees, and are thus aligned with the ratings of BAC.
MATERIAL INTERNATIONAL SUBSIDIARIES
Merrill Lynch International (MLI) and Bank of America Merrill Lynch International Limited are wholly owned subsidiaries of BAC whose IDRs and debt ratings are aligned with BHC's because of their core strategic role in and integration into the BHC group.
Fitch's Positive Outlook for BAC's material international operating subsidiaries reflects the likelihood of internal TLAC as required by the Financial Stability Board (FSB). The Positive Outlook reflects the agency's belief that the internal TLAC of material international operating companies will likely be large enough to meet and exceed Pillar 1 capital requirements and will thus be sufficient to recapitalize them.
A one-notch upgrade is likely once Fitch has sufficient clarity as to additional disclosure on the pre-positioning of internal TLAC and its sufficiency in size to cover a default of senior operating company liabilities. Sufficient clarity may, however, take longer to come through than the typical Outlook horizon of one to two years.
Specific factors that Fitch seeks additional clarity on before resolving the Rating Outlook and potentially upgrading the subsidiary ratings will include host country clarification on internal TLAC, the quantum of internal TLAC and whether it will be pre-positioned. The quantum is relevant because per Fitch's criteria the agency will look to the sufficiency of the amount of capital available to that subsidiary to recapitalize it.
If the amount of TLAC is sufficient for recapitalization in Fitch's opinion and is pre-positioned, Fitch will likely upgrade the subsidiary ratings. Further, if home- and host-country regulators reach agreements where pre-positioning is not required, the rating will not be upgraded and the Outlook will be revised to Stable.
If clarity on host country internal TLAC proposals is further delayed beyond the next six months, Fitch will likely revise the subsidiary Outlooks to Stable until there is clarity on these proposals.
SUPPORT RATING AND SUPPORT RATING FLOOR
The SR and SRF for BAC reflect Fitch's view that senior creditors cannot rely on receiving full extraordinary support from the sovereign in the event that MS becomes non-viable. In Fitch's view, implementation of the Dodd Frank Orderly Liquidation Authority legislation has now sufficiently progressed to provide a framework for resolving banks that is likely to require holding company senior creditors participation in losses, if necessary, instead of or ahead of the company receiving sovereign support.
BAC's international entities have a support rating of '1', which reflects Fitch's view of institutional support for the entities.
SUBORDINATED DEBT AND OTHER HYBRID SECURITIES
Subordinated debt and other hybrid capital issued by BAC are all notched down from the common VR in accordance with Fitch's assessment of each instrument's respective non-performance and relative loss severity risk profile, which vary considerably.
BAC's subordinated debt is one-notch down from BAC's VR, its preferred stock is five notches from the VR, which encompasses two notches for non-performance and three notches for loss severity, and BAC's trust preferred stock is four notches from the VR, encompassing two notches for non-performance and two notches for loss severity.
Subordinated debt issued by the operating companies is rated at the same level as subordinated debt issued by BAC, reflecting the potential for subordinated creditors in the operating companies to be exposed to loss ahead of senior creditors in BAC. This is also supported by the FSB's proposal to have internal TLAC rank senior to regulatory capital at the operating company.
DEPOSIT RATINGS
Deposit ratings are one-notch higher than senior debt ratings reflecting the deposits' superior recovery prospects in case of default given depositor preference in the U.S. BAC's international subsidiaries' deposit ratings are at the same level as their senior debt ratings because their preferential status is less clear and disclosure concerning dually payable deposits makes it difficult to determine if they are eligible for U.S. depositor preference.
RATING SENSITIVITIES
IDRS, VR AND SENIOR DEBT
Fitch sees limited downside to BAC's ratings and notes that the company's ratings are likely near the lower end of their potential range.
As previously noted, further upside to BAC's VR would likely be predicated on continuing to improve the company's earnings performance such that BAC's returns consistently exceed those of peers as well as the company's cost of equity, which Fitch estimates to be in a range of approximately 10%-12%, over an extended period.
Fitch notes that this may cause BAC to look to further optimize its business mix by focusing on less capital-intensive businesses that carry higher returns, such as wealth and asset management.
Fitch notes that this would likely require BAC to sustainably improve its efficiency ratio to between 55%-60% through continued cost reduction initiatives and the realization of revenue growth opportunities over a longer-term time horizon.
While we believe that with continued execution of the company's strategy, management should at least be able to close the earnings gap relative to peer institutions and potentially leap some of the hurdles described above. However, should management be unable to achieve stronger profitability metrics over a longer-term time horizon, it is likely that ratings would remain at current levels.
Downside risks to ratings, while not expected, include any remaining litigation exposures or other unforeseen charges that result in a significant net earnings loss, or if the company's regulatory or tangible capital ratios begin to decline meaningfully over a multi-quarter period.
Additionally, while Fitch expects some continued credit deterioration from the company's energy-related borrowers, Fitch continues to believe that this will be absorbable within the context of the company's current earnings performance. However, should BAC's overall credit quality materially deteriorate over the near term such that it causes consecutive quarters of a net loss, or the company experience a severe and unexpected risk management failure, this could also negatively impact the VR.
SUBSIDIARY AND AFFILIATED COMPANY
All U.S. bank subsidiaries carry a common VR, regardless of size, as U.S. banks are cross-guaranteed under the Financial Institutions Reform, Recovery, and Enforcement Act (FIRREA). Thus subsidiary ratings would be sensitive to any change in BAC's VR.
MATERIAL INTERNATIONAL SUBSIDIARIES
A one-notch upgrade is likely once Fitch has sufficient clarity as to additional disclosure on the pre-positioning of internal TLAC and its sufficiency in size to cover a default of senior operating company liabilities. Sufficient clarity may, however, take longer to come through than the typical Outlook horizon of one to two years
MLI and Bank of America Merrill Lynch International Limited ratings are sensitive to the same factors that might drive a change in BAC's IDRs.
SUPPORT RATING AND SUPPORT RATING FLOOR
SRs would be sensitive to any change in Fitch's view of support. However, since SRs were downgraded in May 2015, there is unlikely to be any change to them.
BAC's international entities' SR of '1' is sensitive to any change in Fitch's views of potential institutional support for this entity.
SUBORDINATED DEBT AND OTHER HYBRID SECURITIES
Subordinated debt and other hybrid ratings are primarily sensitive to any change in BAC's VR.
DEPOSIT RATINGS
BAC's deposit ratings are sensitive to any change in the IDRs, which are sensitive to any change in the VRs, as the IDR receives a one-notch uplift from the VR. Thus, deposit ratings are ultimately sensitive to any change in the VR.
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Fitch has affirmed the following:
Bank of America Corporation
--Long-Term IDR at 'A'; Outlook Stable;
--Long-Term senior debt at 'A';
--Long-Term subordinated debt at 'A-';
--Long-Term market linked securities at 'A emr';
--Senior shelf at 'A';
--Short-Term IDR at 'F1';
--Short-Term debt at 'F1';
--Viability Rating at 'a';
--Preferred stock at 'BB+'';
--Support at '5';
--Support floor at 'NF'.
Bank of America N.A.
--Long-Term IDR at 'A+'; Outlook Stable;
--Long-Term senior debt at 'A+';
--Long-Term subordinated debt at 'A-';
--Short-Term IDR at 'F1';
--Short-Term debt at 'F1';
--Long-Term deposit rating at 'AA-';
--Short-Term deposits at 'F1+';
--Viability Rating at 'a';
--Support at '5';
--Support floor at 'NF'.
Bank of America California, National Association
--Long-Term IDR at 'A+'; Outlook Stable;
--Short-Term IDR at 'F1';
--Viability Rating at 'a';
--Support at '5';
--Support floor at 'NF'.
Merrill Lynch & Co., Inc.
--Long-Term senior debt at 'A';
--Long-Term market linked notes at 'A emr';
--Long-Term subordinated debt at 'A-';
--Short-Term debt at 'F1';
Merrill Lynch, Pierce, Fenner & Smith, Inc.
--Long-Term IDR at 'A+'; Outlook Stable;
--Short-Term IDR at 'F1'.
Bank of America Merrill Lynch International Limited
--Long-Term IDR at 'A'; Outlook Positive;
--Short-Term IDR at 'F1'.
Secured Asset Finance Company LLC
--Senior secured debt at 'A'.
BofA Canada Bank
--Long-Term IDR at 'A'; Outlook Stable;
--Long-Term senior debt at 'A';
--Long-Term subordinated debt at 'A-';
--Short-Term IDR at 'F1'.
MBNA Limited
--Long-Term IDR at 'A-'; Outlook Stable;
--Short-Term IDR at 'F1'
--Support at '1'.
Merrill Lynch International
--Long-Term IDR at 'A'; Outlook Positive;
--Short-Term IDR at 'F1';
--Support at '1'.
Merrill Lynch International Bank Ltd.
--Long-Term IDR at 'A'; Outlook Stable;
--Short-Term IDR at 'F1';
--Support at '1'.
Merrill Lynch B.V.
--Long-Term IDR at 'A'; Outlook Stable;
--Long-Term senior debt at 'A';
--Long-Term market linked securities at 'A emr';
--Support at '1'.
Merrill Lynch & Co., Canada Ltd.
--Short-Term IDR at 'F1';
--Short-Term debt at 'F1'.
BAC Canada Finance
--Long-Term IDR at 'A'; Outlook Stable;
--Long-Term senior debt at 'A';
--Short-Term IDR at 'F1';
--Support at '1'.
Merrill Lynch Japan Finance GK.
--Long-Term IDR at 'A'; Outlook Stable;
--Long-Term senior debt at 'A';
--Short-Term IDR at 'F1';
--Short-Term debt at 'F1';
--Support at '1'.
Merrill Lynch Japan Securities Co., Ltd.
--Long-Term IDR at 'A'; Outlook Stable;
--Short-Term IDR at 'F1';
--Support at '1'.
Merrill Lynch S.A.
--Long-Term market linked securities at 'A emr'.
Countrywide Financial Corp.
--Long-Term senior debt at 'A';
Countrywide Home Loans, Inc.
--Long-Term senior debt at 'A';
--Long-Term senior shelf unsecured rating at 'A'.
FleetBoston Financial Corp
--Long-Term subordinated debt at 'A-'.
LaSalle Funding LLC
--Long-Term senior debt at 'A'.
MBNA Corp.
--Long-Term subordinated debt at 'A-'.
--Short-Term debt at 'F1'.
NationsBank Corp
--Long-Term senior shelf debt at 'A';
--Long-Term senior debt at 'A';
--Long-Term subordinated debt at 'A-'.
BAC Capital Trust VI-VIII
BAC Capital Trust XI - XV
--Trust preferred securities at 'BBB-'.
BAC AAH Capital Funding LLC I - VII
BAC AAH Capital Funding LLC IX - XIII
--Trust preferred securities at 'BBB-'.
BankAmerica Capital III
BankBoston Capital Trust III-IV
Countrywide Capital III, IV, V
Fleet Capital Trust V
MBNA Capital B
NB Capital Trust III
--Trust preferred securities at 'BBB-'.
Merrill Lynch Capital Trust I, II and III
--Trust preferred securities at 'BBB-'.
Additional information is available on www.fitchratings.com
Applicable Criteria
Global Bank Rating Criteria (pub. 20 Mar 2015)
https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=863501
Additional Disclosures
Dodd-Frank Rating Information Disclosure Form
https://www.fitchratings.com/creditdesk/press_releases/content/ridf_frame.cfm?pr_id=1006061
Solicitation Status
https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=1006061
Endorsement Policy
https://www.fitchratings.com/jsp/creditdesk/PolicyRegulation.faces?context=2&detail=31
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