Furthering the debate over Citi’s capital needs, or not-needs, is this note from UBS this morning.
While broadly positive on the bailout deal announced for Citi yesterday, the analysts, led by Glenn Schorr, don’t think it will be enough (emphasis FT Alphaville’s):
… there’s little doubt that Citi is in better shape post this deal than before it and we think the government did as good a job as possible walking the fine line of protecting the debt holders (didn’t have an option here) and not causing too much harm to the equity side given the fragility of the market (this was nothing close to an AIG, FNM or FRE-like deal), as this too would have spooked investors, even further restricted credit availability, and put more pressure on other bank stocks, in our view. Still, while there are several positives to point to as a result of this deal, we think losses will continue to eat into Citi’s capital position (that’s an exposure thing and an environment thing) and it looks increasingly likely that Citi will eventually need to issue common equity to help improve its capital structure.
In fact, as noted by UBS, the deal has left Citi’s tangible common equity even lower as a percentage of total equity than before. Just a reminder, but the capital injection announced yesterday consists mostly of preferred stock, which will boost Citi’s Tier 1 capital. It does not, however, do much for tangible common equity — the stuff from which Citi’s losses are taken first. Thus, losses incurred at Citi could eat through a big chunk of the bank’s tangible common equity (which stands at about $35bn according to UBS, with Citi’s losses now stopgapped by the US government at over $29bn) before touching the preferred stuff. This leads UBS to conclude:
While the ratio is better as a percentage of risk weighted assets, we do feel it’s tough to run a bank with common equity that’s too low, in our opinion, and Citi is still in the first loss position for up to $29 billion of losses on the $306 billion portfolio. The point is, we think there will eventually be some significant common issuance, though the good news is, the government probably won’t force it on them too soon.
Of course, that’s what passes for good news for bank shareholders nowdays…
For the record, UBS are keeping a neutral rating on Citi. They note the stock is cheap, but expected losses and dilution from the preferred stock (not to mention further dilution from common issuance) mitigate that. To put it mildly.
Related links:
Citi of over-leveraging – FT Alphaville
Tangled tangibles – FT Alphaville
Citigroup’s ‘capital’ was all casing, no meat – Bloomberg (HT reader Carlemagno)
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