Whither Citigroup’s $1.1 Trillion of Off Balance Sheet Assets?

It seems so long ago that the Treasury’s failed effort to organize an SIV bail-out entity, the MLEC, was regular front page news in the financial press. Citigroup was to be the biggest beneficiary of this operation.

Well, the MLEC never came to be, and Citi still has those pesky off balance sheet assets to contend with. Bloomberg provides an update, and it isn’t pretty:

At an investor presentation in May, Citigroup Inc. Chief Executive Officer Vikram Pandit said shrinking the bank’s $2.2 trillion balance sheet….was a cornerstone of his turnaround plan.

Nowhere mentioned in the accompanying 66-page handout were the additional $1.1 trillion of assets that New York-based Citigroup keeps off its books…

Now, as Citigroup prepares to announce second-quarter results July 18, those off-balance-sheet assets, used by U.S. banks to expand lending without tying up capital, are casting a shadow over earnings. Since last September, at least $100 billion of assets have flooded back onto Citigroup’s balance sheet, accompanied by more than $7 billion of losses.”’….

Seven of the biggest U.S. banks, including Citigroup, are on the hook for at least $300 billion of credit and liquidity guarantees for off-balance-sheet loans and bonds, according to a June 30 report from consulting firm RiskMetrics Group Inc. in Rockville, Maryland. Such guarantees seemed remote when pledged as an inducement to bond buyers. Now, the first year-over-year decline in housing prices since the Great Depression and rising home-loan, commercial-mortgage and credit-card delinquencies have begun to trigger them.

“You will rapidly realize what a farce these off-balance- sheet things are,” said Ladenburg Thalmann & Co. analyst Richard X. Bove. “You could pick up a lot of loan losses with the stuff you’re putting back on.”

It’s impossible to predict what the losses might be from off-the-books assets or liabilities because disclosures are thin relative to what is required for balance-sheet assets, said Neri Bukspan, chief accountant for Standard & Poor’s in New York.

“A lot of information tends to disappear or becomes second or third class,” Bukspan said.

Citigroup has had to bail out at least nine investment funds in the past year, including seven structured investment vehicles, or SIVs, whose funding withered. The bank had to assume $45 billion of securities from those SIVs, which are now included in the $400 billion of on-balance-sheet assets Pandit says he’s trying to unload in the next three years…

The Financial Accounting Standards Board, the five-member panel in Norwalk, Connecticut, that sets U.S. accounting rules, voted earlier this year to eliminate “qualifying special- purpose entities,” or QSPEs, a category of off-balance sheet financing exempted from tighter standards enacted following the collapse of U.S. energy trader Enron Corp. FASB also plans to clamp down on “variable interest entities,” or VIEs, that banks used when their vehicles couldn’t qualify as QSPEs. And it voted June 11 to force banks to consolidate off-balance-sheet assets whenever an “obligation to absorb losses can potentially be significant.”

Banks are required to disclose their off-balance-sheet assets in annual reports. According to Citigroup’s most recent financial statement, filed in May, the bank’s $1.1 trillion of off-the-books assets as of March 31 included $760 billion of QSPEs and $363 billion of unconsolidated VIEs.

“Our quarterly financial report provides full disclosure of our off-balance-sheet assets, including our maximum exposure to assets in unconsolidated VIEs,” Citigroup spokeswoman Shannon Bell said. That figure was $141 billion as of March 31 and included funding commitments and guarantees, company reports show.

To lose the full amount, all the assumed assets would have to be written down to zero. The figure exceeds Citigroup’s market value of about $90 billion, which dropped more than $180 billion since the end of 2006.

Citigroup’s financial statement also says that about $517 billion of the QSPEs are related to mortgage securities, and that they are “primarily non-recourse,” which means the risk of future credit losses is transferred to purchasers’…

Regulators may part ways with accounting overseers and grant banks a waiver from having to raise capital against assets that have to be consolidated on the balance sheet, said Tanya Azarchs, a managing director at Standard & Poor’s in New York.

“They really don’t want to introduce any more instability into the banking system,” Azarchs said…..

“The bank examiners are probably more thorough now and even skeptical in looking at these things,” Isaac said. “They’re probably doing more what-if scenarios and stress tests. People thought there was a 1-in-100 chance of something happening, and as we see now, it has happened.”

Citigroup had $25 billion of “liquidity puts” — a kind of guarantee — last year on off-balance-sheet “commercial paper CDOs” set up to sell short-term debt known as commercial paper, according to the May financial statement. In the second half of the year, after a surge in market rates for the commercial paper, the bank had to preempt the formal exercise of the guarantees by buying the debt, according to the statement.

By the end of 2007, the full amount had been brought back on the books. The assets had to be written down by $4.3 billion in the fourth quarter and $3.1 billion in the first quarter. The remaining balance stood at $16.8 billion as of March 31.

The commercial-paper CDO assets are in addition to the assets Citigroup took over last December from its failing SIVs. In that case, the bank didn’t have a contractual guarantee; it intervened to cushion the losses for its clients. Citigroup had $212 million of losses related to the SIVs in the first quarter, according to the financial statement.

“People say they don’t have any liquidity backstop, they don’t have any guarantee,” said Russell Golden, the FASB’s technical director. “But then they act like they always had a guarantee.”

Murkier still are the $15 billion of assets Citigroup has had to import this year from four off-balance-sheet hedge funds that unraveled. They include the Old Lane hedge fund that Pandit helped open in 2006. Citigroup bought Old Lane Partners LP last July for about $800 million. Earlier this year the bank said it would close the fund because Pandit and other Old Lane founders had moved on to management jobs at the bank.

Citigroup incorporated about $9 billion of Old Lane assets into its trading desk.

“You had risks off the balance sheet that came back to roost,” said Marc Siegel, head of accounting research and analysis at RiskMetrics.

“As soon as the cycle turned, all of these risks started to come back, and companies weren’t prepared,” Siegel said. “It wasn’t transparent to the investors what was going on.”

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  1. Yves Smith

    If you looked at the original, this is not the whole story. The original piece was very long by Bloomberg standards and the sections omitted are significant. There are ellipses to indicate that.

  2. Anonymous

    CITI is obviously not alone, in that every bank needs to disclose these Level 3 securities; last week I found tons of crap at Merrill and your story here on Citi is right on! Thanks!!

    Re: Banks are required to disclose their off-balance-sheet assets in annual reports. According to Citigroup’s most recent financial statement, filed in May, the bank’s $1.1 trillion of off-the-books assets as of March 31 included $760 billion of QSPEs and $363 billion of unconsolidated VIEs.

  3. Anonymous

    Merrill Lynch & Co Inc · 10-Q · For 3/28/08

    Level 3 assets are primarily comprised of:

    • mortgage related positions, both residential and commercial, within trading assets of $9.3 billion, derivative assets of $20.6 billion and loans measured at fair value on a non-recurring basis of $12.5 billion;
    • credit derivatives of $18.0 billion on corporate and other non-mortgage underlyings that incorporate unobservable correlation;
    • corporate bonds and loans within trading assets of $6.2 billion (including $1.6 billion of auction rate securities);
    • private equity and principal investment positions of $4.3 billion within investment securities;
    • equity, currency and commodity derivative contracts of $7.6 billion, that are long-dated and/or have unobservable correlation.

    Level 3 liabilities are primarily comprised of:

    • mortgage related derivative liabilities, both residential and commercial, of $25.0 billion;
    • credit derivatives of $16.9 billion on corporate and other non-mortgage underlyings that incorporate unobservable correlation;
    • equity and currency derivative contracts of $7.5 billion that are long-dated and/or have unobservable correlation;
    • structured notes classified as long term borrowings of $5.7 billion with embedded equity and commodity derivatives that are long-dated and/or have unobservable correlation; and
    • non-recourse debt arrangements classified as long term borrowings of $1.7 billion related to certain non-recourse long-term borrowings issued by consolidated SPEs.

  4. Anonymous

    Ok, I actually read the story before coming to your blog and at first glance it looked like you quoted the whole story. My bad.

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