Part 1 of interview with BofA CEO Brian Moynihan

FIRST WORD: A chat with an upbeat Brian Moynihan (Part 1 of 2). Last Thursday, I met with Bank of America CEO Brian Moynihan in his New York office. He is very pleased with how the company has been performing, and was very generous with his time, as our discussion lasted a little over an hour. We touched on the most important and difficult changes he has made in his 14 and a half years as CEO, as well as the areas where the company is working to further improve and expand. If you remember the state of Bank of America at the end of 2009 and compare it to today, it has been one hell of a journey! Some highlights from our discussion.

Where does the Basel III endgame proposal stand? I have asked this question of both Moynihan and Jamie Dimon in the last month, and have been a little surprised that they don’t seem to know much more than the rest of us have read in the press. Moynihan simply believes the plan will be re-proposed in the fall with about half the negative impact on banks as the original proposal. He is hoping that the new proposal will be close enough to the European standards that the industry can truly declare “game over” regarding the constantly evolving capital standards for the largest banks. He believes the Fed is leading the charge to unite the FDIC and OCC behind the new proposal, but he says the Fed will go it alone if it has to to get the job finished this year.

What about the annual stress tests? Dodd-Frank requires the Fed to conduct annual stress tests of the large banks. The tests have been happening for over ten years now, and Moynihan says minimal new information is gained each year because the absolute and relative losses among the banks stay in a pretty narrow range. Of course, Bank of America constantly does its own internal tests that incorporate different scenarios than the Fed’s one-scenario test. Like other bank CEOs, Moynihan complains that the Fed publishes the results with commentary that suggests the tests show what the banks’ actual losses would be under the hypothetical stress scenario, except that no management actions are assumed over the nine-quarter period. Moynihan pointed out that would never be the case and cited the fact that Bank of America started to make significant balance sheet changes as soon as the pandemic broke out. He also notes that the Fed’s scenario forces Bank of America to assume its expenses would rise to the highest quarterly level experienced in the defined period. For BofA, this hypothetical quarter included a $7 billion goodwill impairment charge. Crazy! The good news is Moynihan believes the Fed is finally open to at least listening to suggestions for how the process can be improved.

What were the most important and difficult decisions on the journey? After the Basel III and stress test discussion, I asked what the toughest big decisions were, rather than just the most important decisions. He didn’t know the question was coming but he gave me a concise answer and then several examples of how it actually played out. The toughest decisions centered around narrowing the company’s risk profile and increasing the company’s focus. What made the decisions tough is that they led to the cutting back or elimination of good businesses that simply didn’t fit the company’s new strategy. They all involved stepping back to switch to a better path going forward. Here are some examples.

• The mortgage business. This is the largest and best example. When the business review started, Bank of America accounted for 20% of all mortgage originations in the U.S., with three-quarters of the originations coming from the correspondent business, where others do the actual originating. Given the credit and servicing problems that Bank of America and the industry overall had at the time, Moynihan concluded it didn’t make sense for the company’s brand to be responsible for the origination practices of third parties. Today, Bank of America’s originations are limited to its own customer base. The company now has just a 4% share of overall originations.
• Credit cards. Bank of America closed on the purchase of MBNA and its $35 billion in credit card receivables at the start of 2006. MBNA was the pioneer and dominant player in affinity group credit card marketing. The 2008 recession revealed that the old MBNA business was taking an unacceptably high level of risk compared with Bank of America’s new risk parameters. The business was downsized through net chargeoffs and the termination of many of the affinity group marketing agreements. The net result was a shrinkage of the company’s overall card business.
• Financial advisors in Japan. Merrill Lynch, a Bank of America subsidiary, had a small group of investment advisors in Japan that was losing money and operating under the burden of several different regulatory bodies. Moynihan concluded that the company needed to expand to at least 200 advisors or get out. In 2012, BofA sold the business to Julius Baer. It was another good business that might have been grown at a different point, but not in 2012.
• By exiting some of the more volatile elements of its trading business, BofA has given up some revenue opportunities but has lowered the breakeven point of the business by $1 billion and reduced quarterly earnings volatility.
• Exiting rural banking markets. Moynihan concluded that the company should focus on urban markets and divest or shut down its operations in rural markets. This was a brilliant decision that some at Wells Fargo and U.S. Bancorp surely wish they had copied at the time. Today there is more regulatory and legislative concern about the development of banking deserts despite all the progress and availability of digital banking tools.
• Shift the retail banking focus to customers from products. What makes such a move difficult is that sales and revenue are negatively affected right away, while the benefits from a relationship approach take time to build, but they also keep growing. Prior to 2016, I suspect all of BofA’s predecessor banks (including NCNB, NationsBank, and the old Bank of America) had had net negative checking account growth every year since at least 1985. The only growth in retail checking accounts took place via acquisition.Under the product mentality, the company became very good at opening free checking accounts. In fact, in 2015 the company opened 1 million new retail checking accounts, but its net growth was zero! This year, using the relationship approach, the company will open one-third the number of new accounts, but the growth in net retail checking accounts will exceed 500,000. The company has just completed its 22nd consecutive quarter of net checking account growth. Quite a change! Moynihan started to list many of the people who deserve the credit for the retail bank transformation, but I would single out Dean Athanasia, now the president of regional banking.

Why doesn’t Moynihan consider his decision to continue to make large investments in tech when the company was having a tough time one of his toughest decisions? You might not remember, but Moynihan’s predecessor, Ken Lewis, made the surprising announcement on September 30, 2009, that he would be retiring at yearend. The board was unprepared and divided about who should succeed him. They looked at candidates outside the firm, but the decision eventually came down two internal candidates, and the board split, largely on the basis of which predecessor institution the directors were from. They ultimately chose Moynihan to take over on January 1.

The first six months were rocky for many banks during that time, but particularly for Bank of America, because of its huge and varied exposure to the residential mortgage market and related expenses. Some investors expressed displeasure with the progress Moynihan made in his first nine months in particular and in the first two years in general. I have always felt that for him to continue to make heavy investments in tech over that period was one of the bravest management decisions I have ever seen. It would have been so easy to hold off on the investments and report somewhat better earnings to ease some of the pressure off Moynihan. I asked him why he kept on spending. At first, he said the bank used the savings from the data center consolidations (35 down to two or three) to pay for the investments, but the consolidation was costly in itself. But then he gave the real answer: at that point in the company’s earnings difficulties, what would an extra $1 billion in expense reduction really have provided? I asked Moynihan this question two years ago, and he gave me the same answer. It is still my opinion that cutting back spending would have hurt the bank in the long run, but would have eased the pressure on Moynihan, and not doing so truly was bold leadership.

The controversy over Bank of America’s unrealized bond portfolio losses. Investor concern and media sensationalism over Bank of America’s unrealized losses in its held-to-maturity securities portfolio hit a peak when the company reported its first quarter earnings in April and the unrealized losses exceeded $100 billion, causing some in the media to fret that the loss amount was equivalent (on a pretax basis) to half of the company’s tangible common equity. I won’t waste time writing why the concern is so misguided regarding a company with as much excess liquidity as Bank of America has that it will never need to sell the securities before maturity. In addition, the size of its HTM portfolio could never lead to major earnings problem. But it does make for a sensational headline. Even Barron’s outstanding reporter Andrew Bary wrote about it soon after the company reported its earnings.

All banks experienced a massive inflow of deposits after the pandemic began. Bank of America’s deposits were $451 billion greater than its loans when the pandemic began, and the gap reached a peak of $1.085 trillion at yearend 2021. During this period, the company increased its HTM securities portfolio to $675 billion from $216 billion. In hindsight, the company wishes it didn’t increase the portfolio as much as it did, but those securities have begun to roll off, the unrealized loss total has declined, and net interest income will be gradually helped from here.  There has been a lot of bluster but not much substance.