Bank of America Derivatives Transfer Draws Lawmaker Scrutiny

Thursday, 27 Oct 2011 03:20 PM

 

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Congressional Democrats are asking regulators whether they explored possible risks connected to Bank of America Corp.’s moving of derivatives from Merrill Lynch into its deposit-taking unit after a credit downgrade.

Fourteen lawmakers signed onto letters from Representative Brad Miller and Senator Sherrod Brown seeking information on whether agencies consulted on the transfer considered the potential impact on the bank’s health and customer accounts.

“Because of the favored treatment of derivative contracts in receivership, it appears highly likely that losses on derivatives would result in losses to insured deposits ultimately borne by taxpayers,” Miller wrote in his letter, which was signed by eight House Democrats. The transfers were first reported by Bloomberg News on Oct. 18.

Democratic lawmakers, many of whom sought Dodd-Frank Act amendments to wall off banks’ customer deposits from risky businesses such as derivatives trading, are pressing the Financial Stability Oversight Council for information on its role and oversight of the transaction. Bank of America doesn’t believe regulatory approval was needed for the transfer, people with knowledge of the bank’s position said last week.

Bank of America, based in Charlotte, North Carolina, transferred the derivatives after a September downgrade by Moody’s Investors Service spurred some partners of the bank’s Merrill Lynch brokerage unit to ask that contracts be moved to the higher-rated retail bank, according to people familiar with the transactions.

Federal Reserve Act

Moving derivatives contracts between units of a bank holding company is restricted under Section 23A of the Federal Reserve Act, which is designed to keep lenders’ affiliates from benefiting from federal subsidies and protect banks from excessive risk originating at non-bank affiliates.

Jerry Dubrowski, a Bank of America spokesman, had no immediate comment on the letters.

“We had worked very hard over the course of the last nine months to be prepared to the extent that we did receive a downgrade, and feel very good about the way that we’ve minimized the potential impact,” Bank of America Chief Financial Officer Bruce Thompson said on an Oct. 18 conference call with analysts.

Geithner

Miller’s letter, which was sent to Treasury Secretary Timothy F. Geithner and members of the oversight council, asks regulators about the quality of the transferred portfolio, as well as a price for the derivatives book if it was considered by the Fed to be an asset purchase. It also asks whether Bank of America made proprietary risk models available to regulators and whether there was exposure to Europe’s debt crisis.

Brown’s letter, dated today and signed by six senators including Carl Levin, the Michigan lawmaker who leads the Permanent Subcommittee on Investigations, sought similar information and questioned whether the Fed explicitly granted an exemption and whether the transfer was legal.

“This provides an additional safety net subsidy for one of the biggest derivatives dealers that is contrary to not only the principles, and potentially the strictures, of the Dodd-Frank Act, but also the original intent of the Federal Reserve Act and the Federal Deposit Insurance Act,” Brown wrote in the letter to Fed Chairman Ben S. Bernanke, Acting Federal Deposit Insurance Corp. Chairman Martin J. Gruenberg and Acting Comptroller of the Currency John Walsh.

Andrew Gray, a spokesman for the FDIC, declined to comment on the letters. Barbara Hagenbaugh, a spokeswoman for the Fed, and Dean DeBuck, a spokesman for the OCC, didn’t have immediate comment on the letters.

Stronger Rules

Separating complex transactions from FDIC-insured savings has been a cornerstone of U.S. regulation for decades, including Dodd-Frank, the regulatory overhaul enacted last year. Bank of America’s transfer prompted some lawmakers to push for stronger rules than were included in that sweeping law.

Senator Bernie Sanders, a Vermont Independent who supported legislation to separate trading operations from commercial banking, said the transaction is a “perfect example why we should break up too-big-to-fail financial behemoths.”

“If federal regulators give the green light to Bank of America to move its risky derivative schemes it acquired from Merrill Lynch into its federally insured commercial banking subsidiary that would be outrageous,” Sanders said.

Representative Maurice Hinchey, a New York Democrat who pushed to require splitting commercial and investment banking, said Bank of America’s actions underline a lost opportunity.

“What Bank of America is doing is perfectly legal -- and that’s the problem,” he said.

Glass-Steagall

Hinchey is among more than 40 House lawmakers who have signed on to a bill that would reinstate the Glass-Steagall Act, the Depression-era law that enforced separation of depository institutions from investment operations before it was partially repealed in 1999.

“The FDIC is in effect being forced to insure Wall Street’s risk-taking,” Hinchey said in a statement. “This is the opposite of capitalism -- the risks are socialized and the benefits are privatized.”

Senators John McCain, an Arizona Republican, and Maria Cantwell, a Washington Democrat, lobbied last year for a Senate floor vote to reinstate Glass-Steagall. The amendment never got a vote.

© Copyright 2014 Bloomberg News. All rights reserved.

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