Red flags popping up all over Bank of America

By John Carney, Senior Editor, CNBC.com

Bank of America shares were lower this morning on disappointing earnings. But a bad quarter may be the least of the bank’s worries.

The largest bank by deposits just lost its chief financial officer and just hired one of the most connected regulatory lawyers in the U.S.

Both events are alarming.

The bank says that Charles Noski requested to step aside due to family illness. There’s no doubt some truth in this: a family member is ill, and Noski probably volunteered his resignation. But it comes on the back of some very troubling developments:

• Earlier this month we learned that Bank of America’s announcement that the government had denied its insane request to raise its dividend had not been reviewed by Noski before it was made public. No one has offered a credible explanation for this lapse in internal controls.

• Bank of America recently announced that it was going to start charging some 5 percent of its credit card customers a brand new $59 annual fee. This is a breathtakingly obvious attempt to drive $180 million in profits through a loophole in Dodd-Frank—which prohibited interest rate increases unless customers were seriously delinquent, but left open the possibility of random fee hikes.

• Bank of America has been estimating for three quarters that it is more than two-thirds through the wave of repurchase requests on soured home loans, and that the total losses will not amount to more than $10 billion. This quarter it provided for just $1 billion in mortgage repurchase and litigation expenses—compared with $2.2 billion for JP Morgan Chase in the first quarter. Does anyone believe that the bank with exposure to Countrywide’s loans is better off than JP Morgan?

(Update: Reader Herman Chan says that I’m comparing apples to oranges here. The equivalent of JP Morgan’s $2.2 billion for the first quarter, is really $2.4 billion for Bank of America. So perhaps I should reword the question above: do you—does anyone—believe that Bank of America’s exposure to flawed mortgages is just $200 million more than JP Morgan's?)

Bank of America gives so little information on how it is arriving at these rosy loss calculations that the SEC has started demanding answers.

Perhaps the loss of the CFO on top of these developments is just situation normal at Bank of America. Perhaps.

The hiring of Gary Lynch, who recently resigned from Morgan Stanley, is another red flag. Lynch was one of the toughest SEC enforcement heads ever—drawing comparisons to famously tough lawman Elliot Ness.

More recently, he was the London-based vice-chairman of Morgan Stanley. Bringing him on at least hints that Bank of America sees legal and regulatory trouble ahead.

Perhaps this will wind up being good news for investors. If anyone can twist the courts and regulators to view Bank of America in a better light, it’s probably Lynch. Perhaps.

Distressingly, Wall Street’s banking sector analysts seem to be unphased by all this. They’re already back to asking about when the dividend might be raised and talking about price targets well above where the stock is trading now.