Bank of America Surges Toward $10 Mark

Tickers in this article: BAC C

NEW YORK (TheStreet) -- Bank of America shares are on fire once again following Federal Reserve "stress tests," which the bank passed handily this week.

Bank of America had long been viewed as having the weakest balance sheet among the largest U.S. banks, contributing to its more than 58% decline in 2011. Even Citigroup the other "problem child" among the four largest U.S. lenders, was seen as having a healthier balance sheet because it required more government assistance in the wake of the 2008 crisis. That larger government role, according to the view of some analysts, meant regulators spent more time addressing the bank's capital shortfall.

But constant worrying over Bank of America's capital hole forced management to pull out all the stops to address the issue. Bank of America sold off several businesses, exited others, and issued equity and debt in order to retire preferred and trust preferred shares, a maneuver that improved regulatory capital ratios.

Those moves helped Bank of America generate 1.26% of Tier 1 common capital in 2011 as it reduce risk-weighted assets by $172 billion. Tier 1 capital is the type of capital regulators consider the safest, though some observers argue it can be easily manipulated by banks, as well as regulators looking to make the financial system appear safer than it is.

While Bank of America was embarrassed a year ago when it asked the Federal Reserve for permission to raise its dividend and was turned down, the bank opted not to seek such permission this time around--a move that gave it credibility with regulators, according to Wells Fargo analyst Matt Burnell.

Citigroup was more aggressive than Bank of America this year in seeking permission to raise its dividend, and it was one of just four banks that failed the stress test of the 19 largest U.S. lenders.

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Since the results were made public following Tuesday's close, Bank of America shares are up nearly 9%, while Citigroup shares are down.

Even ahead of the stress test, Bank of America shares got a big boost after the bank reported fourth quarter earnings. The main reason, analysts argued, was that the bank had answered questions about its capital shortfall. Still, analysts have been concerned that selling off businesses and shrinking operations would hurt Bank of America's earnings potential. Following the release of first quarter numbers, several analysts lowered earnings estimates for the bank.

While this week's stress test results reinforced investor confidence that Bank of America's balance sheet had indeed improved, it did nothing to enhance investor perception of the bank's earnings power.

Analysts sharply lowered earnings estimates for Bank of America following its fourth quarter earnings report, and Stifel Nicholaus analyst Chris Mutascio argues the consensus among his peers is still too high.

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Mutascio cut his estimate of "normalized" earnings at the bank to $1.14 from $1.85 following the fourth quarter report, pointing to reduce fee income, a higher share count, higher operating expenses and a smaller balance sheet. Unlike his peers, who have an earlier time table, Mutascio believes it will take Bank of America until 2014 to reduce operating expenses to where they need to be to earn $1.14 per year. Mutascio sees Bank of America earning just $0.80 in 2013.

-- Written by Dan Freed in New York.

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Tickers in this article: BAC C