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The “F” on Bank of America Corp (BAC)’s Report Card

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A dizzying array of legal battles have and continue to be waged as a result of the financial crisis, but few approached the intensity of the recently concluded fight between Bank of America Corp (NYSE:BAC) and MBIA Inc. (NYSE:MBI). For the nation’s second largest bank by assets, it was in many ways a matter of principle, as an unfavorable outcome could have induced new claimants to follow suit. And for MBIA, it amounted to nothing short of a death match. Had the mortgage-bond insurer failed to attain a considerable settlement, there was doubt about its ability to survive as an independent going concern.

Bank of America Corp (NYSE:BAC)

At this point, of course, we’ll never know whether these fears would have actually come to fruition or not, because the two parties reached an agreement at the beginning of last month to settle the cantankerous dispute. In exchange for MBIA Inc. (NYSE:MBI)’s release of all outstanding representations and warranties claims against Bank of America Corp (NYSE:BAC), the latter agreed to pay $1.6 billion in cash, remit all of the insurer’s outstanding debt that the bank had acquired in an effort to gain negotiating leverage, and release MBIA from billions of dollars in credit default swap protection that Merrill Lynch had purchased in the lead-up to the crisis. It was, in every sense of the word, a comprehensive settlement.

With the agreement now in the rearview mirror, it’s possible to look back at the conflict as a whole. Why was it so contentious? Did its elongation cause irrevocable harm to either party? Are there lessons that investors can glean from it? These are just a few of the questions that I posed to Christian Herzeca, a veteran New York-based securities and finance attorney and author of the blog MBS Litigation Commentary for Speculators, a high-level conversation about, well, just what its title suggests.

John Maxfield: First of all, thank you for agreeing to shed light on this case. While many of our readers are experienced investors, it’s safe to assume that few have an extensive knowledge of securities law in general, and this case in particular. Without further ado, I wonder if you would provide a high-level synopsis of MBIA’s case against Bank of America Corp (NYSE:BAC). How did it come about? What were the principal legal issues involved?

Christian Herzeca: On its face, this was a relatively straightforward case involving MBIA’s claims that Countrywide Financial breached a number of representations and warranties that it had made in connection with mortgage-backed securities that MBIA insured. MBIA claimed that Countrywide breached these representations both with respect to the manner in which it underwrote, or sourced and securitized, its mortgage loans, as well as with respect to the details of the individual loans themselves (e.g., whether the loans were subject to appraisals by a qualified appraiser).

Bank of America Corp (NYSE:BAC) came into the picture in 2008 via is acquisition of Countrywide. Since the latter would not be able to pay any substantial judgment to MBIA, MBIA also claimed that Bank of America had succeeded to Countrywide’s liabilities because of asset-stripping transactions Bank of America conducted following the acquisition. If true, this would have made Bank of America Corp (NYSE:BAC) liable for any judgment against Countrywide as well.

Maxfield: As I noted in the introduction, this was one of the most contentious legal battles to spawn from the financial crisis. What made this case so much more acrimonious than, say, the lawsuits brought against Bank of America by other monolines such as Assured Guaranty Ltd. (NYSE:AGO) and Syncora Holdings? Given some of the adverse rulings that went againstBank of America Corp (NYSE:BAC) toward the tail end, was it a mistake for the bank’s attorneys to string the case along as opposed to settle it, and thereby avoid the potentially damaging legal precedent?

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