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Dec 10 (Reuters) - Banking giants Bank of America Corp (BAC.N) and Wells Fargo & Co (WFC.N) may need to raise billions of dollars in common equity and face a high risk of a dividend cut, a banking analyst at Atlantic Equities said and downgraded both the stocks.
Analyst Richard Staite lowered his rating on Bank of America to “underweight” from “neutral” and Wells Fargo to “neutral” from “overweight.”
Staite said JPMorgan Chase & Co (JPM.N) has the strongest capital ratios — a measure of capital strength that investors are closely watching these days — and is the least likely of the three banks to cut its dividend or raise new equity.
He expects Bank of America and Wells Fargo to raise $15 billion and $10 billion in common equity, respectively, and said their payout ratios could exceed 100 percent in 2009.
“These payout ratios are too high and given the uncertainty of a recovery in 2010 we now think there is a high chance of a dividend cut from both Bank of America and Wells Fargo,” he said.
Bank of America’s acquisition of Merrill Lynch MER.N and Wells Fargo’s acquisition of Wachovia Corp WB.N have hurt their tangible common equity to tangible asset ratio, thereby making equity raise necessary, Staite said.
After the acquisitions, Bank of America’s tangible common equity to tangible asset ratio will fall to 3 percent, while that of Wells Fargo will fall to 2.9 percent, which are “too low”, the analyst added.
Staite said capital from the U.S. Treasury’s Troubled Assets Relief Program does not help tangible common equity capital ratios and that it boosts only Tier 1 capital ratio, which is not a not a “good guide” to the risk being faced by common shareholders.
The U.S. Treasury has invested $25 billion at Wells Fargo and $15 billion at Bank of America in October under its financial rescue package.
Bank of America shares, which have been battered by heavy losses and write downs from risky assets, could face yet another decline on concerns about rising credit losses and difficulty in integrating Merrill Lynch, Staite said.
Shares of Bank of America have shed 59 percent of their value since the start of the year and touched a multiple-year low of $10.01 on Nov 21, according to Reuters data.
“We set a price target of $15.00 (on Bank of America stock) and recommend switching into JPMorgan,” Staite said.
JPMorgan’s acquisition of Washington Mutual WAMUQ.PK should be relatively easy to integrate and will increase the company’s market share, particularly in investment banking, the analyst said. He maintained an “overweight” rating on JPMorgan shares.
Staite reduced his fourth-quarter and 2009 profit estimates on all three banks and said a severe recession will extend throughout 2009. [ID:nWNAB1388]
He expects higher credit costs to hurt banks’ earnings in 2009 and 2010, and lower volumes and lower fee income to hit revenue during the period.
“Unlike in previous cycles we do not expect to see an improvement in net interest margins because deposit competition is too intense,” Staite added.
Staite expects net charge offs to jump to a total of $66 billion in 2009 from $35 billion in 2008 at Bank of America, Wells Fargo and JPMorgan.
“With a dramatic pick up in corporate bankruptcies and rising unemployment the news-flow relating to the large banks will remain very negative,” Staite said.
Bank of America shares were down about a percent at $16.85 in late morning trade on Wednesday, while those of Wells Fargo were down about 2 percent at $29.92 on the New York Stock Exchange.
JPMorgan shares were up almost 3 percent at $34.90. The broader KBW Banks Index .BKX was up almost a percent at 47.59. (Reporting by Anurag Kotoky in Bangalore; Editing by Himani Sarkar)