NEW YORK -- The latest bailout of Citigroup c helped soothe financial markets Monday and could serve as a model for other U.S. banks looking for help with their large portfolios of toxic assets.
The U.S. government late Sunday offered $20 billion for Citi preferred stock, on top of the $25 billion it has already given the bank. But this time, the government also said it will assume 90% of losses from Citi's $306 billion portfolio of loans related to bad mortgages if the losses exceed $29 billion, in return for another $7 billion in Citi preferred stock.
The news boosted Citi shares 58% to $5.95, helped lift other battered financial stocks and triggered a broad market rally Monday in which the Dow Jones industrials surged 397 points to 8443.
Analysts say the backstop was essential to calm investors worried that the values of U.S. bank portfolios have been getting worse each passing month. "Persistent downward pressure on valuations of residential mortgage assets are being compounded by falling valuations of commercial real estate and other assets," says Brian Bethune at IHS Global Insight.
Any bank with similar toxic assets in their portfolio now has a chance to ask the government for similar cover. "Bank of America bac can use this template to reduce the risk on Merrill's mer portfolio before they close the deal," says Cassandra Toroian, chief investment officer at Bell Rock Capital. BofA declined comment.
For the government, this is a way to stretch the fast-dwindling cash available from the $700 billion bailout fund. "It enables the government to leverage taxpayers' money better," says Keith Davis, financial analyst at Farr Miller & Washington. "This way, you can avoid buying up bad assets, and hopefully not have to bear losses unless the situation worsens."
For the banks, analysts say, this could calm investors by putting a floor on losses from the bad assets. Also, it's like an insurance policy, which the banks might never need to access, Bethune says.
This marked another reversal for the government, which two weeks ago said it would not take any action related to toxic assets, as it had planned, and instead would invest directly in the banks. That news sent financial stocks tumbling. Citi was especially hard hit, falling 60% to $3.77 last week, prompting the bank to ask for more federal help. Now, "If the investors start to go after Goldman (Sachs) gs or Morgan Stanley, ms you can see them, too, ask for similar government guarantees," Davis says. Goldman and Morgan declined comment.