Reports that Bank of America Corp is in talks with the U.S. Treasury to repay $20 billion of its federal bailout was met by the market with joy -- and a little skepticism.

The bank is offering to repay nearly half of its $45 billion in bailout funds -- a $20 billion infusion it received in January to support its $50 billion Merrill Lynch acquisition. BofA also would end a controversial $118 billion loan guarantee program with the Treasury, the Wall Street Journal reported.

Such moves would be the first steps of the bank to shake off nearly a year of intense government scrutiny, and sparked industry speculation about how such a repayment would look.

Less government intervention is never a bad thing, said Jason Goldberg, a Barclays Capital bank analyst.

Even a partial repayment of the bank's U.S. federal bailout funds indicates Bank of America's financial health is in better shape one year after collapsing markets led to the demise of Lehman Brothers. Bullish analysts and investors said the news indicated a brighter outlook for the bank.

Looking at it as a common shareholder, there might be some short-term dilution. But if I take 5 percent dilution in exchange for having a 3 percent dividend in a year, maybe that's not the worst thing, said analyst Ben Wallace of Grimes & Co, a Westborough, Massachusetts, money manager that has a small holding in Bank of America shares.

Yet Bank of America's shares fell 6.4 percent to $16.46 Tuesday amid a wider retrenchment in financial services stocks driven by renewed fears of rising credit losses and bank failures.

NOT SO FAST

Some analysts were more pessimistic about Bank of America.

Paul Miller, a FBR Capital Markets bank analyst, said he is skeptical any TARP repayment is imminent, given possible looming credit problems through next year.

At this point, the Bank of America franchise still has a lot of problems to work through, he said. This bank needs all the money it can get, they're not out of the woods yet.

Miller projects the bank will report elevated credit problems and minimal earnings through 2010. Bank of America's $20 billion repayment also would need to approved by the U.S. Treasury, which Miller and others said was no guarantee.

Treasury, he said, would be wary of approving a repayment, only to see Bank of America need additional assistance later.

Earlier this year, federal authorities allowed Goldman Sachs, Morgan Stanley and several other banks to repay their TARP capital. BofA and Citigroup, retail banks with sprawling consumer lending businesses, were not.

Then there is the question of just how Bank of America would repay the funds: with cash or with stock.

AVENUES

Bank of America raised roughly $40 billion at the behest of the U.S. government's stress, released May 6 that mandated the bank raise at least $34 billion.

It did so through a combination of selling part of its stake in China Construction Bank, selling a merchant processing business to a joint venture, converting non-government preferred stock to common stock and raising $13.5 billion through an offering of 1.2 billion shares.

The moves gave Bank of America the cash it needs to repay TARP, analysts said.

They have plenty of liquidity to do that, said Matt Burnell, a Wells Fargo banking analyst. Its not a particularly high hurdle, in our view.

Another alternative would be to pursue another stock offering.

Several of the stress-tested banks, in the wake of the results, raised capital through common stock offerings.

But Bank of America has few free shares left to issue. The bank has 1.4 billion shares out of 10 billion shares authorized by shareholders, according to Bank of America's second quarter report.

A third option would be issuing new debt not backed by federal guarantees, though analysts said this would likely be a smaller component of a larger capital raise.

Most analysts, however, noted if Bank of America repaid $20 billion by year's end, it would merely be a first step.

The repayment of the $45 billion of TARP, in total, will be a more lengthy process, said Mosche Orenbuch, a Credit Suisse banking analyst.

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