July 18 - Standard & Poor’s Ratings Services today said its ratings on Bank of America Corp. (BofA; A-/Negative/A-2) are not immediately affected by the company’s fair second-quarter results, given the current operating conditions. BofA generated Standard & Poor‘s-adjusted pretax income of $3.1 billion, compared with $4.5 billion in the first quarter and a loss of $363 million in second-quarter 2011. Second-quarter results benefited from $1.9 billion in reserve releases (about $1.5 billion related to consumer portfolios), versus $1.6 billion the previous quarter and $2.4 billion the previous year. Results included fewer one-time events relative to previous quarters, and reported results are more reflective of fundamental trends. Consumer and Business Banking revenues were down 15.6% year over year, while Consumer Real Estate Services revenues were markedly better than the prior year, which included representation and warranty settlement expenses and a write-down of mortgage servicing rights. Investment banking fees fell 5.7% from the seasonally strong first quarter and 32% year over year. Sales and trading revenues (excluding debt valuation adjustments) declined 7.3% year over year, reflecting tepid capital market activity, with fewer new issuance volumes and reduced client flows, and global macroeconomic uncertainty. BofA’s net interest margin (NIM) declined 10 basis points from the first quarter to 2.32% after adjusting for market-related premium amortization and hedge ineffectiveness, reflecting lower yields on securities and commercial loans. We expect earning assets to continue to decline as the company shrinks its balance sheet and focuses on its core businesses. Concurrently, we expect capital to increase. The NIM likely will remain under pressure as a result of weak new loan demand and persistently low interest rates. Expenses declined about 25% versus the prior year on reduced litigation and mortgage-related assessments, waivers, and similar costs associated with foreclosure delays. Moreover, the bank stated that it expects Phase 2 cost savings under the two-phase “New BAC” expense initiative to reach approximately $3 billion by mid-2015, bringing total expected annual cost savings for this initiative to $8 billion. Asset quality improved as net charge-offs decreased to 1.64% (of average loans and leases) and nonperforming loans fell to 2.7% (of total loans and leases) from 1.80% and 2.85%, respectively. Consumer delinquencies continued to decline, largely because of improvement in the consumer real estate and U.S. credit card categories. We expect asset quality to continue to strengthen, though at a slower pace than in the past. Within commercial loans, commercial real estate posted the biggest improvement. The coverage of allowances to nonperforming loans is 90x, which lags peers’. BofA’s Basel I Tier 1 common capital ratio was 11.24% at the end of the second quarter, up 46 basis points from the previous quarter. The company’s estimated Basel III Tier 1 common capital ratio was 8.1% at the end of the second quarter, well ahead of its previous year-end 2012 target of 7.5%. Notably, the estimated Basel III ratio excludes an estimated impact for the Federal Reserve’s Notices of Proposed Rulemaking because of the need for more clarity around its final outcome, though the company has indicated that it believes the impact could be about negative 15 basis points. We expect BofA to continue to build capital, though the potential earnings volatility stemming from evolving global macroeconomic trends adds some uncertainty to our forecast. BofA’s exposure to Greece, Ireland, Italy, Portugal, and Spain, including net credit default protection, remained essentially flat with the first quarter at $9.6 billion. We believe direct exposures are manageable based on BofA’s capital levels, but the exposures, along with concerns about contagion of the European crisis, remain focal points of our analysis. Also, during the second quarter, BofA reported a sizable $6.6 billion increase in outstanding representation and warranty claims. The increase was split between government-sponsored entity claims (up $2.9 billion), where BofA continues to note that such claims are inconsistent with past GSE conduct and BofA’s interpretation of its obligation, and private-label claims (up $3.7 billion) from trustees not included in BofA’s settlement with Bank of New York Mellon. The bank said that it both anticipated these claims and reflected them in its reserves prior to this quarter. We expect this issue to linger, though we do not expect it to have an impact on ratings because the company should be able to generate sufficient earnings over time to cover ongoing claims. Our negative outlook on BofA partly reflects our negative outlook on the U.S. sovereign credit rating, given the two notches of extraordinary support we incorporate into our ratings on BofA. We continue to monitor BofA’s ability to deleverage its balance sheet and better position itself to strengthen earnings. We also continue to evaluate possible adverse conditions in the housing market, rulemaking from new legislation (particularly the Volcker Rule), and derivatives legislation. In our view, these issues could pressure earnings, but we currently don’t expect them to have an impact on ratings. BofA maintains significant litigation and other exposures to the housing and mortgage markets. Although the more troubling exposures seem to have stabilized in recent quarters, we still believe BofA faces potentially sizable and volatile downside risks. In addition, although BofA has not been implicated with setting incorrect LIBOR rates, it is our understanding that U.S. regulators are investigating the matter. This could lead to significant lawsuits if the investigation discovers any wrongdoing.