Monday, November 17, 2008

Who Will Save Citi?

With news that Citi will be slashing its workforce by 50,000 people, there is an interesting post / conspiracy theory over at John Hempstead's Bronte Capital detailing how desperate a situation Citi may be in and how Wachovia's troubles created an opportunity for it to be saved (only for that opportunity to slip away).

First lets rewind back to September 29th, when the FDIC released the statement that:

Citigroup Inc. will acquire the bulk of Wachovia's assets and liabilities, including five depository institutions and assume senior and subordinated debt of Wachovia Corp. Wachovia Corporation will continue to own Wachovia Securities, AG Edwards and Evergreen. The FDIC has entered into a loss sharing arrangement on a pre-identified pool of loans. Under the agreement, Citigroup Inc. will absorb up to $42 billion of losses on a $312 billion pool of loans. The FDIC will absorb losses beyond that. Citigroup has granted the FDIC $12 billion in preferred stock and warrants to compensate the FDIC for bearing this risk.
This is where John dives in (FYI- Sheila Bair is the Chairperson of the FDIC):
And so we need to understand the significance of that guarantee. The significance is as follows: Once Citi owns $312 billion in assets on which they can only lose $42 billion the remaining pool must be worth $270 billion. That $270 billion is guaranteed by the US Government – as the FDIC is a full faith and credit organisation. Citigroup can put that $270 billion (plus the $42 billion in non-guaranteed assets) in a pool and repo it – and as Treasuries yield very little they will wind up paying well under a percent of interest. The Sheila Bair decision was equivalent to a cash injection into Citigroup of 270 billion because the repo-market will turn government guaranteed loans into cash.
In other words, while Citi was assuming Wachovia liabilities (i.e. deposits), the guarantee enabled Citi to turn the deposits into cash at a time when cash is king. Back to John:
That cash injection is almost 40 percent of the size of the whole bailout package and it was given to Citigroup by Sheila Bair without congressional oversight. We got all stroppy at giving Paulson that sort of unilateral powers – but – hey – we are prepared to forget that Sheila Bair already has them.


Unfortunately for Citi, Wells Fargo strolled in and pushed Citi out of the picture. It is becoming clearer why it is so important to instill confidence at Citi. Felix Salmon points out over at Portfolio:
If you ask me, Citi's "unique global universal bank model" is in fact its greatest weakness. As of June 30, Citigroup had a whopping $820 billion in total deposits -- but its estimated insured deposits were only $126 billion, and fully $554 billion -- yes, well over half a trillion dollars -- was held abroad.


Felix concludes:
Citi, of course, is big and global, but it's not looking nearly as safe these days as it used to be. And so it stands to reason that a large number of Citi's foreign depositors might be moving their money elsewhere. If that happens, it's hard to see how Citi can survive without a massive cash infusion of hundreds of billions of dollars. All banks are vulnerable to bank runs, but Citi is one of the few which is vulnerable to even a large minority of its foreign customers deciding to take their money out.
I would tend to agree with him on the shakiness of Citi, but I believe the "big and global" nature of Citi makes them an entity that is too big to fail. Whether the FDIC was intending to provide a backdoor bailout or not, I expect something else (policy or entity) to save Citi when necessary.

Source: Bronte Capital