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WSJ: US Agrees to Bail Out Citi (Updated)

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Oddly, I saw this comparatively late (about an hour), and no notice Bloomberg, which is perfectly willing to pick up news reports by competitors with attribution, and Asian markets ex Japan (closed today) were still in negative territory, although slightly less so.

Note key element of the deal is that the Federal government will guarantee $300 billion of Citi assets, a much bigger number than had been leaked earlier, with a rather convoluted loss-sharing arrangement, but the bottom line is that Citi is at risk for at most $40 billion. Citi also gets a $20 billion equity injection, on slightly more onerous terms than the initial TARP investments, but still more favorable than Warren Buffett’s investment in Goldman. Oh, and it appears there will be NO management changes.

I do not see how GM can be denied a rescue now (not that that outcome is really in doubt, merely how much pain will be inflicted on management and the UAW).

This seems to validate the theory advanced by John Hempton, and dismissed by some as a “conspiracy theory.” From an earlier post, citing Hempton:

John Hempton has suggested that the reason Shiela Bair pushed the deal with Citi, despite it being worse for the taxpayer that the one offered by the successful bidder, Wells Fargo, was that it would have provided a route for a back-door bailout:
Sheila Bair – as readers will remember – forced Wachovia to sell itself in three days whilst other parties had not had anything like enough time to complete due diligence. She – unilaterally and incorrectly – told the world that this deal could not be done without government assistance. She unilaterally decided to issue a guarantee that on a pool of $312 billion of Wachovia assets Citigroup could not lose more than $42 billion. She made that decision even though Wells Fargo was telling her that all they required was more time to do due diligence.

Given that Wells Fargo was willing to acquire Wachovia at no-cost to taxpayers that looks like a very bad decision indeed. But this is the post assuming that Sheila Bair is smarter than all of us.

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.

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.

Yves again. The cash that Citi would have gotten via a Wachovia deal, $270 billion, is perilously close to what it can reap under the new deal. Citi can now repo its guaranteed assets.

From the Journal:

The federal government agreed Sunday to take unprecedented steps to stabilize Citigroup Inc. by moving to guarantee close to $300 billion in troubled assets weighing on the bank’s books, according to people familiar with details of the plan.

Treasury has agreed to inject an additional $20 billion in capital into Citigroup under terms of the deal hashed out between the bank, the Treasury Department, the Federal Reserve, and the Federal Deposit Insurance Corp. Treasury officials will charge a higher interest rate for the capital injection — 8% for the first few years — than it has charged to dozens of other banks now borrowing money under the government’s the $700 billion rescue package approved by Congress last month.

In addition to the capital, Citigroup will have an extremely unusual arrangement in which the government agrees to backstop a roughly $300 billion pool of its assets, containing mortgage-backed securities among other things. Citigroup must absorb the first $37 billion to $40 billion in losses from these assets. If losses extend beyond that level, Treasury will absorb the next $5 billion in losses, followed by the FDIC taking on the next $10 billion in losses. Any losses on these assets beyond that level would be taken by the Fed.

Citigroup would also agree to work to modify — if possible — troubled mortgages held in the $300 billion pool, using standards created by the FDIC after the collapse of IndyMac Bank.

The government is not expected to require any management changes, as that was seen as potentially being too destabilizing…

The government also is considering injecting more capital into Citigroup, according to a person familiar with the government’s plans….

It was unclear Sunday night whether the government would take an additional equity stake in Citigroup in return for the support. Citigroup previously agreed to issue the government preferred shares in return for the $25 billion the bank received as one of the first nine companies to get capital infusions.

Update 12:50 AM: Bloomberg’s story puts the bad asset program slightly higher, at $306 billion. Key terms from the press release (hat tip reader Steve):

Treasury and the Federal Deposit Insurance Corporation will provide protection against the possibility of unusually large losses on an asset pool of approximately $306 billion of loans and securities backed by residential and commercial real estate and other such assets, which will remain on Citigroup’s balance sheet. As a fee for this arrangement, Citigroup will issue preferred shares to the Treasury and FDIC. In addition and if necessary, the Federal Reserve stands ready to backstop residual risk in the asset pool through a non-recourse loan.

In addition, Treasury will invest $20 billion in Citigroup from the Troubled Asset Relief Program in exchange for preferred stock with an 8% dividend to the Treasury. Citigroup will comply with enhanced executive compensation restrictions and implement the FDIC’s mortgage modification program.

Some key points form the term sheet that have not gotten much comment:
Term of Guarantee:

FDIC standard loss-sharing protocol: Guarantee is in place for 10 years for residential assets, 5 years for non-residential assets.

Deductible:

Institution absorbs all losses in portfolio up to $29 bn (in addition to existing reserves)

Any losses in portfolio in excess of that amount are shared USG (90%) and institution (10%).

USG share will be allocated as follows:
UST (via TARP) second loss up to $5 bn;
FDIC takes the third loss up to $10 bn;

Financing:

Federal Reserve funds remaining pool of assets with a non-recourse loan, subject to the institution’s 10% loss sharing, at a floating rate of OIS plus 300bp. Interest payments are with recourse to the institution.

Fee for Guarantee -
Preferred Stock:

Institution will issue $7 bn of preferred stock with an 8% dividend rate
(under terms described below). $4 bn of preferred will be issued to UST, $3 bn will be issued to the FDIC. ….

Dividends:

Institution is prohibited from paying common stock dividends, in excess of $.01 per share per quarter, for 3 years without UST/FDIC/FRB consent. A factor taken into account for consideration of the USG’s consent is the ability to complete a common stock offering of appropriate size.

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33 comments

  1. Anonymous

    Hempton’s comments have been all over the blogosphere and though quite amusing represent the same sort of thinking that got us into this mess. Namely, the construction of elaborate financial models that rely on leverage and borrowing which ultimately have to fail due to the lack of a solid underpinning.

    Yes, Citi now has leverageable assets so far as the Fed is concerned but at some point the loans have to be unwound and the real value of the collateral taken as a loss by someone. We are just transferring the deck chairs from a sinking boat to one that is much bigger but starting to spring some leaks as well.

  2. General Glut

    In an overpopulated industry/herd desperately in need of killing off many of its weaker members, hasn’t Citi just purchased the best form of life insurance — the financial interest of the state up to some $300bn (USG’s potential losses of $250bn plus now $45bn in preferred shares)?

  3. Martin

    The FDIC pdf is pretty interesting.

    Yves, I would love to see you (or some other non-MSM type) tackle some of the particulars in the document. Particularly, the size portion: up to $306 bln (based on valuation agreed upon between institution and USG)…is there likely to be any transparency on what that valuation is based on and how close it is to original par value of the securities?

    Second, the WSJ mentions $37-40 bln that Citi would have to absorb. As I read the pdf that means that Citi currently has $8-11 bln in reserves: in the deductible section $29 + existing reserves.

    This certainly seems to validate Hempton’s analysis of the Wachovia deal as the amounts are within $10 bln of each other give or take. With this bailout I count TARP as having $35 bln left before it is tapped out ($250 to banks, $40 to AIG, $20 to Citi preferred and $5 to insure ringfenced assets = $315) Can’t wait to see what Geithner does with the other half.

  4. mxq

    I have a feeling this citigroup miasma is ultimately going to get treated like the AIG mess…Citi will get more gov’t money than initially stated and will eventually get it at a cheaper rate.

  5. Anonymous

    If there is justice in this world, a disgruntled employee with go postal on the head management.

    Too harsh? 300 billion of worthwhile investments could save hundreds of thousands (millions?) of lives.

  6. alexblack

    I’m compiling a “Zombie Pin-Up Calender”, for publication next year. Just got my “Miss November”.

  7. m donner

    privatized profit and socialized debt. does this pattern seem familiar…banks lend to mexico at very high rates and if mexico doesn’t pay the Us will. banks lend to students and if they don’t pay the Us will. banks create mortgages and if folks don’t pay the gov will.
    anyone see a pattern here? would we all like to be in a business where i can win both ways so easily and legally?

  8. Anonymous

    The lack of management changes is just… egregious, unbelievable. “Too destabilizing?” It didn’t stop things at AIG, and it shouldn’t stop here. The folks who drove this thing into the path of the iceberg (so many convenient Titanic metaphors) shouldn’t be manning the lifeboats.

  9. tom a taxpayer

    Splitting Citi into a good bank and a bad bank means:
    Splitting into a Citi-crime-pays bank and Citi-screw-the-taxpayer bank.

  10. alexblack

    Tp anonymous at 1:07:
    Yes, 300 billion COULD save a million lives, but none of them have degrees from Hah-vahd, so what would be the point? Oh, Pumpkin, my martini is running low. Be a dear and freshen it, would you?

  11. comrade holiday

    Это безумие, которое будет, как якорь тянуть нас вниз еще дальше в направлении ада

  12. Anonymous

    Well said, comrade. And, if I may translate for the non-Bolshevik readers of this blog, you said:

    “This madness which will be as an anchor to pull us downwards further away in the direction of hell.”

  13. alexblack

    Top two news stories on Yahoo:

    #2 – $300 billion rescue plan for Citi

    #1 – White House unaware of any rescue plan for Citi

  14. bg

    I see this exactly as I have seen its predecessors. Expected government action at the point of maximum fear that will cause financial shares to rally. And as before, I will short into that rally.

  15. Francois

    NO management changes?

    Everything I could say is categorically impossible to reproduce in a family show.

  16. Anonymous

    The new OB team can relax now, the banks have taken over and they have people in both camps. All hale the chiefs, SG,JPM,AIG so on.

    Recommend every in the US to stop buying anything past food, necessity’s, turn off TV and stop reading/viewing media, get to know your family and friends again, grow your own food in yard or planters and share it with others, in other words just drop out of their game. Don’t give them a penny more than you have too. Hit them where it really hurts, their cash flow! Do it till they start eatting each other.

  17. Anonymous

    What an outrage. USG preaches “free-market” principles to other nations, while socializing the greatest losses in history. Where is the retrospective claw-back legislation to strip every last senior banker of their decade of ill-gotten gains? How can the US taxpayer be put on the hook while those responsible sail off into the sunset? When does moral outrage turn to revolution. This is becoming INSANE.

  18. Anonymous

    Term sheet sure is interesting reading .. how is it that $300bn bucks can be spent on the back of a 4-page document that some kid could have whacked up in an hour? The open-ended laxness and indefiniteness of many of the provisions is just breathtaking.

    Take executive compensation for example .. just waffle about something to be submitted later for approval. I’ll give you an executive compo plan worth approving: a firing squad for the half-dozen mosty senior bankers; one after the next, Pandit last.

    Whatever happened to good old “traitors will be shot”?

  19. Anonymous

    Different Investors are going to treat this news differently. Private investors will initially like the deal as it extends some security to the shares. Pensions funds will dump the shares in large quantities as the only reason to hold them was the dividend. Those with large amounts of money in Citigroup may well be discreetly cutting their exposure and spreading cash to other banks. Those preferred shares will also make investors very nervous as it will make them more likely to loose their money if further problems occur. Other banks are likely to be damaged in the fallout as investors weigh whether other banks are likely to see their shares diluted.
    We know the AIG bailout was not big enough and on that basis it might be a reasonable guess that the steps to safeguard the bank may not be significant enough. The 300 billion of loans and securities may well be US only and there are rumours that Citigroup have deteriorating assets in other markets.

  20. Anonymous

    Well, this not only seals the deal for GM, Chrysler, Ford, it also seals the deal for California, New York, etc. It is increasingly difficult to see how the nation will survive all this. And it is pretty clear that there will not be any change in this respect in the new administration. It’s the bonfire of the brights.

  21. Anonymous

    “but the bottom line is that Citi is at risk for at most $40 billion”

    this is wrong. citi is on the hook for 29bn plus is credit reserves (25bn as of Q3) before the guarantee kicks in. also, since these guarantees depend on mutually agreed upon valuations, losses should arise here as well.

    so its at least 25 + 29 + 30 = 84bn

  22. Richard Kline

    Wretched bad. Massive guarantees and beaucoup up-front vigourish given for a song; management remains; equity untouched (though obviously at risk); a four-page document which leaves loopholes wider than the Vanern Passage: I repeat, this country is run by a kleptocracy on the principles of oligarchic fascism. The public pays for everything, and gets nothing in return except a gun removed from its temple for a few days.

    Compare: an industry with 2.5 million well-paid jobs dependent upon it directly and indirectly (if run by nincompoops) gets howled out of Congress asking for (an inadequate) $25B, while a single stone incompetent mega-bank whose management makes those nincompoops look like rocket scientists by comparison gets (an inadequate) $20B for the equivalent of a poem on a napkin in a few hours, following a similar $25B, with mondo guarantees as well (and much, much more to come). Both failures are systemic risks, but it’s the bank failure which puts the wealth class at risk. Who got bailed?

    Liberals are always fools enough to think that voting solves Big Problems. Rubin-Summers-Geithner change nothing but the name tags on the valets of the philosophy of “Of the Rich, By the Rich, For the Rich.” Lots of feet in dusty boots have to change facts on the ground, then ‘the elected’ come round to where they have to stand to stay on the podium rather than under the soles. So, keep stealing all youse plutocrats: I want the public to get a good look at the corporate fascist one-party political machine in operation which they just endorsed again like trained monkeys. (Probably learn the wrong lesson, like always, but still . . . .)

  23. tompain

    Isn’t it interesting that for the first time a distressed financial institution has been given government aid without the government insisting on a management change or significant dilution for shareholders. What is it about C that its management and shareholders deserve better treatment than WM, WB, FNM, FRE, BSC, AIG, NCC, all of whose shareholders were diluted by 80% or more, even when the rescue was imposed rather than requested. But C shareholders get minor dilution and Pandit gets to stay. I guess this explains why Bob Rubin – ex Goldman, ex Treasury – is worth the hundreds of millions he has been paid.

  24. Warm, Dry and Well Fed

    I’ve posted a slighly longer version of this comment at

    http://warmdryandwellfed.blogspot.com/2008/11/on-citi-bailout.html

    There are some material differences between the Term Sheet for the Citi bailout and the press announcement
    http://www.theconglomerate.org/2008/11/the-citi-deal-l.html .

    First, according to the press release, “Eligible Assets” include “$306 billion of loans and securities backed by residential and commercial real estate and other such assets” but the Term Sheet seems not to limit the bailout to “other such assets”; the Term Sheet says simply “other assets the U.S. Government (USG) has agreed to guarantee”… a pretty big loophole. Credit card debt anyone? New bonds?

    Second, in the same paragraph the wording says “each specific asset must be identified on signing of guarantee agreement.”; singular “asset” and no article (“an” “the”). Very odd wording. We will not know how much of the “up to” $306 billion of assets are covered and how many of the guarantee contracts there are for weeks, or probably until well into the early Obama administration. But until then… words, not real guarantees; words that have the same value as the vague Fannie and Freddie guarantees that the market doesn’t treat as solid.

  25. tom a taxpayer

    Jail and/or vasectomy and/or castration for Citi? Serial rapists and pedophiles present systematic risk to society. So does Citi, and AIG, and Goldman Sachs, and JP Morgan, and Bank of America, and [fill in the blank].

    How can the government continue multbillion bailouts of these perverts without restraining the perverted behaviour? That is what really hurts. The refusal of the government, when they have these bassturds by the testicles, to require measures to prevent future “systematic risks” and rape and pillage of the taxpayers.

  26. Anonymous

    Can someone explain to me why the markets would rally on the news that one of the world’s largest banks needs to be bailed out?

    “Up” is now “down”….”black” is now “white”….”Lies” are now the “truth”

  27. Anonymous

    I’m OUTRAGED!!! My tax dollars keep the company afloat and they hit me up with a 5 point increase in interest rate???? WTF??? This is why companies like this should be ALLOWED to fail.

  28. Anonymous

    Dear all, no offence, but i persnoally feel, before seeking a bailout, would it not be in order, that the company seeking a financial package / bailout from the public money, in the first place cut down all its flambount expenditures, like business class tickets, 5/7 star hotel stays, super luxury cars, etc to its top executives, CEO’s, directors / promotors, etc.

    vivekbrjain@gmail.com

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