Bank of America Legal Woes Shouldn't Surprise, But They Might

NEW YORK ( TheStreet)--Don't be surprised if Bank of America ( BAC)'s legal problems once again drag down the shares when the bank reports third quarter earnings Friday, even though B of A may have nothing new to disclose.

Bank of America disclosed Sept. 28 that its $2.43 billion settlement of a class action lawsuit over its acquisition of Merrill Lynch would knock 28 cents off of third quarter earnings, but the bank's shares lost just 1.6% that day on below average volumes, and recouped the losses a day later.

"This $2.4 billion is just to me an indication that they're not reserving enough for the future litigation of the company and that is their big issue. The stock is up and people like it. They think it's a cheap way to play housing, but the company still struggles to make money because of all this litigation expense," says Paul Miller, analyst at FBR Capital Markets.

Miller believes the settlement may not have received as much attention as it warranted because "there's so many suits out there you kind of get lost of where you are with everything and this kind of came out of the blue. It didn't really garner a lot of headlines nor did it create a lot of noise in the stock."

Still, that could change Wednesday as investors have so far overreacted to relatively small surprises from other big banks in the third quarter, according to Miller. He believes both the negative investor reaction Friday and Monday to slightly worse than expected net interest margin pressure from Wells Fargo ( WFC), and the positive reaction Monday to what he believes are unsustainable results from Citigroup ( C) were excessive. As of Monday's close, Wells Fargo shares lost 3.6% in the two days since it reported third quarter earnings. Citigroup, meanwhile, gained 5.5% Monday after beating analyst estimates in a quarter that included three major one time adjustments. Miller expects Bank of America's trading results will be strong, as was the case at Citigroup and JPMorgan Chase ( WFC), while the margin pressure at Wells does not bode well for Bank of America, he argues.

Keefe, Bruyette & Woods Jefferson Harralson believes JPMorgan's results Friday have "a positive read-across for Bank of America as consumer credit trends improved...significantly at JPMorgan and mortgage and investment banking both performed well, giving some upside potential to Bank of America's quarter."

Still, Harralson noted an increase in reserves for bad loans at JPMorgan "gives us slight pause," however, he believes Bank of America's reserves will still be below his $400 million estimate "given JPMorgan's low overall reserve level.

Analysts surveyed by Thomson Reuters are looking for Bank of America to lose seven cents per share on revenues of $21.89 billion. The bank earned 19 cents per share on revenues of $22.20 billion in the second quarter and 58 cents on revenues of $28.70 billion in the third quarter of 2011.

-- Written by Dan Freed in New York.

Disclosure: TheStreet's editorial policy prohibits staff editors, reporters and analysts from holding positions in any individual stocks.

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