Bank of America's tangible common equity ratio is roughly 0.7% using mark-to-market accounting

Tangible common equity is one important ratio the Treasury is believed to be using in it's "stress test" of banks. Citigroup's low tangible common equity ratio is believed to be the reason common shareholders are having their stakes massively diluted.

The formula for the tangible common equity ratio is:

tangible common equity ratio = (common shareholder's equity – goodwill – intangible assets) ÷ (total assets – goodwill – intangible assets)

Bank of America recently reported a tangible common equity ratio of 2.6%. However, things are much worse if you use mark-to-market accounting for the loans on their books.

Loans held to maturity are not subject to mark-to-market accounting, but banks do have to report the mark-to-market value once per year. Bank of America just released that number yesterday. According to Bloomberg, the mark-to-market value of their loans is $44.6 billion less than what the balance sheet says. So, by looking at their balance sheet and doing a little math, we can figure out Bank of America's mark-to-market tangible common equity ratio.

First let's figure out the tangible assets. A month ago they reported total assets as $2,485.2 billion. Goodwill was $87.3 billion and intangible assets were $14.3 billion. That gives us tangible assets worth $2,383.6 billion.

Second, let's calculate tangible common equity. Bank of America didn't list their common equity separately from their preferred equity, but we can easily figure out their tangible common equity by multiplying their tangible assets by 2.6%. That gives us $62 billion in tangible common equity.

Third, to figure out the mark-to-market tangible common equity ratio, we need to subtract $44.6 billion from both tangible assets and tangible common equity. That gives us $2,339 billion and $17.4 billion, respectively.

Finally, divide $17.4 billion by $2,339 billion to get 0.7%. Yikes!

For Bank of America's sake, let's hope a temporarily high risk premium (market fear) is causing the mark-to-market value of the loans to be unreasonably undervalued.

Update: Morningstar suggests a minimum acceptable tangible common equity ratio should be about 3%.