Federal regulators late Sunday agreed to backstop about $306 billion of Citicorp's riskiest assets to bolster the staggering banking giant, in yet another in a growing list of radical efforts to shore up confidence in troubled financial markets.
Under the agreement announced by the Treasury Department, the FDIC and the Federal Reserve, the government will protect Citi securities backed by residential and commercial real estate. The assets will remain on Citigroup's c balance sheet. As a fee for the government protection, Citi will issue $7 billion in preferred stock to the Treasury and FDIC.
In addition, the Treasury Department will inject another $20 billion into Citigroup, in exchange for preferred stock, with the money coming from the recently approved $700 billion Troubled Asset Relief Program. The government has previously invested $25 billion into Citigroup under the program.
The federal guarantees will be in place for 10 years for residential assets, and five years for the other securities. To further protect taxpayers, Citigroup will absorb all losses in the portfolio up to $29 billion, in addition to existing reserves it is required to hold against the pool of assets. Losses beyond that amount will first be shared by the Treasury and the FDIC, with the Fed backing the remaining large pool of assets, officials said.
The Citigroup rescue came after a weekend of marathon discussions led by Treasury Secretary Henry Paulson and Fed Chairman Ben Bernanke. Timothy Geithner, president of the Federal Reserve Bank of New York, who is being tapped by President-elect Barack Obama as his Treasury chief, also participated.
Vikram Pandit, Citi's chief executive officer, welcomed the action. "We appreciate the tremendous effort by the government to assure market stability," he said in a statement issued early Monday.
Citigroup is such a large, interconnected player in the global financial system that it is seen by Washington policymakers as too big to fail. The company has operations around the globe in more than 100 countries.
As a condition of the rescue, Citigroup is barred from paying quarterly dividends to shareholders of more than 1 cent per share for three years unless the company obtains consent from the three federal agencies. The bank is currently paying a dividend of 16 cents, halved from a 32-cent payout the previous quarter. The agreement also puts restrictions on executive compensation, including bonuses.
Importantly, the agreement calls on Citigroup to take steps to help distressed homeowners.
Specifically, Citigroup will modify mortgages to help people avoid foreclosure along the lines of an FDIC plan that was put into effect at IndyMac Bank, a major failed savings and loan based in Pasadena, Calif.
Under the IndyMac plan, struggling home borrowers pay reduced interest rates for five years. Rates are reduced so borrowers aren't paying more than 38% of their pretax income on housing.
The IndyMac plan also was used as a model for a new program by mortgage finance companies Fannie Mae and Freddie Mac and for two other failed thrifts taken over by the government on Friday. FDIC Chairman Sheila Bair has been pressing Treasury to use $24 billion from the $700 billion bailout program to put the mortgage modification program on national footing, but Paulson is opposed to that idea.
A government official briefing reporters defended the Citigoup deal as necessary to reassure Citi investors that the risk associated with the company's balance sheet have been reduced.
The bank's stock has dropped every day for two weeks, losing 55% in the past three days and 88% in the past 12 months, to close Friday at a 16-year low of $3.77 a share.
"Citi is in miserable shape, and additional support is critical," says Sean Egan,. managing director of ratings agency Egan-Jones..
Yet, Citigroup, one of the world's largest banks, has $2 trillion in assets and $800 billion in deposits from 109 countries.
The company has made repeated efforts to restore confidence. Pandit met with employees on Friday to dismiss rumors that the bank will be forced to sell some units, including the Smith Barney brokerage. On Thursday, Citigroup said it "has a very strong capital and liquidity position." That same day, Prince Alwaleed Bin Talal Bin Abdulaziz al-Saud of Saudi Arabia said he was increasing his stake in Citigroup from 4% to 5%.
All these actions failed to calm investors who have already seen two once-pre-eminent Wall Street firms fail.
"Executives at Bear and Lehman were all saying, 'We're strong,' and look where they are," says Anton Schutz, portfolio manager at the Burnham Financial Funds, a Citigroup shareholder.
After meeting with employees on Friday, Pandit met with Citigroup's board of directors to discuss options to halt the slide in the share price.
There's been a steady stream of news to fuel the concerns. Last Monday, Pandit said he was slashing 52,000 jobs, the largest single job cut from any industry in 15 years. On Wednesday, investors were spooked by news that Citigroup will buy the last $17.4 billion of its derivative assets that are held in off-balance-sheet entities, with already eroded values. The fear: Further damage from the derivatives portfolio put Citigroup in a more precarious position. Citigroup also lost out to rival Wells Fargo on its planned acquisition of Wachovia.
It's been less than 12 months since Pandit became CEO. "I think he's been a dealt a terrible hand, and he has few cards left," says Matt McCormick at Bahl & Gaynor Investment Counsel.