Bank of America (BofA) has received the results of its stress
test, conducted by the Federal Reserve on 7 May, and now has to
increase its Tier 1 common capital by $33.9 billion.

Although BofA proclaimed that the stress test showed the company
was “healthy”, it nonetheless offloaded 5.7 percent of its 16.7
percent stake in China Construction Bank (CCB) on 12 May, five days
after the stake lock-in period expired, garnering BofA $7.3 billion
– cash that it desperately needs as it scrambles to meet the Fed’s
requirements before for a capital-raising plan to be submitted by 8
June, with capital-raising actions completed by 9 November.

The sale raises further questions about BofA’s continued
involvement with CCB and its presence in the Chinese market. BofA
initially invested in CCB in 2005, and the two banks established a
credit card joint venture in April 2007.

As of 2008, CCB had issued a total of 18.71 million credit cards,
with total spending surging to CNY157 billion and total credit card
loans reaching CNY22.9 billion. CCB issued 6.10 million new cards
in 2008 alone.

BofA has sold the 5.7 percent stake, or 13.5 billion shares, to
predominantly Chinese mainland investors including China Life, Hopu
Investment Management and Temasek of Singapore. The shares were
sold at a discount of 14.3 percent to CCB’s share closing price on
11 May – a larger discount offered compared to BofA’s earlier $2.8
billion stake sale of CCB shares in January.

BofA is one of several Western banks that have recently offloaded
partial or whole stakes in Chinese commercial banks as they rush to
bolster capital reserves in their domestic markets – BofA’s
remaining stake in CCB is locked in until August 2011.

Stress tests could force asset sales

The stress tests, conducted by the Fed on 19 US financial
institutions, were implemented to gauge how banks would be able to
withstand two years of severe economic circumstances, and measure
banks’ projected income, expenses, credit and capital market losses
in a climate of deepening recession. The Fed then concluded whether
individual banks needed to raise their capital positions to buffer
them from worsening economic circumstances.

The Fed’s stress tests found that 10 institutions now need to raise
a total of $74.6 billion in capital and that a prolonged recession
could result in potential losses of $599.2 billion in 2009 and 2010
for the 19 lenders examined. BofA had the biggest funding
shortfall, followed by Wells Fargo at $13.7 billion. However,
American Express and Capital One were judged to have ‘passed’ their
respective stress tests, already having sufficient capital buffers
in place.

Although BofA has $69 billion above the Tier 1 standard, it fell
short of the Fed’s Tier 1 common equity ratio guideline of 4
percent established in the stress test review. According to Moshe
Orenbuch, an analyst at Credit Suisse First Boston, BofA will seek
to reduce its capital shortfall through common share issuances,
asset sales and capital improvement actions. BofA has already
announced that it is to shed businesses including First Republic,
Columbia Management and joint ventures, which are expected to
generate $10 billion of Tier 1 common equity.

Stress test results