Citigroup: A Bet Against the End of the World
Sep/112
This is the first of a three part posting on Citigroup. The second part compared the opportunity in Citigroup to Bank of America. The final part will review a list of reasons why investors avoid Citigroup and how I overcome these objections.
Betting on the End of the World by shorting the major U.S. banks is not a winning strategy. This is not to say investors should blindly depend on policy makers to bailout the financial system every time there is an issue. We have clear, recent evidence from September 2008 that bailouts do not always come for investors. Also, I fear we will have a repeat of September 2008 in the future as anti-bailout proponents continue to gain power in Washington. However, the current financial policy makers (Geithner and Bernanke) will not repeat the mistakes of September 2008, so shorting the major U.S. banks now is a losing strategy.
The sellers of bank stocks at these levels fear the financial system will collapse if there is a hard default by Greece. Their thesis is if Greece defaults, major European banks will take losses directly and suffer additional counterparty losses from the failure of smaller banks. As the European banks take losses, risk aversion will rise and liquidity will drain from the system. Lower levels of liquidity will drive asset prices lower causing losses in both U.S. and European banks. These additional losses may cause a major a European bank to fail, and U.S. banks will suffer additional losses as a result. If the losses for the U.S. banks rise to a high enough level, we may see a major U.S. bank have to fire-sale assets and/or raise capital at dilutive stock prices.
I disagree with several parts of this thesis. Most important, I believe the current policy makers learned an important lesson from September 2008 and will not compound a crisis by letting their financial institutions fail due to a lack of liquidity. Plus, the major U.S. banks have liquidity and capital levels that will allow them to survive a severe downturn in the financial markets. I have been expressing my view by adding to my position in Citigroup.
My preferred way to implement my view that the financial system will not collapse is to own shares of Citigroup. I believe all of the large banks are attractive, including JP Morgan Chase, Bank of America, Goldman Sachs, Morgan Stanley and Wells Fargo. I own most of them, but my largest position is in Citigroup. My preference for Citigroup is due to its low valuation and its ongoing corporate restructuring which is generating excess capital.
I do not think the financial system is going to collapse due to the current European crisis. Political leaders have learned important lessons from the Lehman Brothers bankruptcy that orderly wind-down of major financial institutions is needed. I believe the distress in the financial system in September 2008 is etched on the minds of Geithner and Bernanke. They will not allow a major financial institution to fail due to a shock from Europe.
Treasury Secretary Tim Geithner consistently shows in his speeches and interviews that the lessons learned from September 2008 are well in grained. On September 19th, Geithner said in a Bloomberg interview, “I think you’re going to see them draw on the lessons of our crisis, draw on the lessons of things that worked here in the United States. I think you’ll see that reflected in some of the choices they make.”
In the end, I believe the European leaders have learned these same lessons. They will protect their own country’s banks from losses. It may be bumpy trip, but we see evidence that European political leaders are starting to get it. Merkel and Sarkozy released a joint statement saying that they “are convinced that Greece’s future is in the eurozone.” At the recent G7 meeting, the finance ministers stated their support for the banks, “We will take all necessary actions to ensure the resilience of banking systems and financial markets,”
In addition to the support from political leaders, I believe Citigroup is approaching a potential Greek default with much more solid liquidity and capital positions than. Here’s a look at the high level numbers:
| Dec 2007 | June 2011 | |
| Cash as % of Assets | 10.2% | 16.7% |
| Reserves/Loans | 1.9% | 5.3% |
| Deposits/(Loans+Securities) | 79% | 89% |
| Tangible Common Equity/Tangible Assets | 1.6% | 7.3% |
These are clearly stronger numbers and position Citigroup to handle a stressful environment better than 2008. In addition, Citigroup has spent the past 3 years reducing risk within its loan book. With the credit quality metrics declining, I get the sense that management has a much better sense of its balance sheet and the risks than it did 3 years ago.
I believe Citigroup is well positioned here to survive a stressful period in the markets due to a Greek default. With the stock at 60% of tangible book value, I believe it is an attractive stock. The reason it is at these low valuation level is the potential for potential problems in the financial system due to a Greek default. I do not believe
Disclosure: Long C, BAC, WFC & MS
Disclaimer: This is not investment advice. This intended to be a window into my thinking when analyzing Citigroup. Please do you own work before making an investment. My positions listed in the disclosure may change without further update.
Best One Liners from Buffett’s 2010 Shareholder Letter
Mar/101
I always enjoy getting up the first Saturday in March to read Warren Buffett’s annual letter to Berkshire hathaway shareholders. Here are my favorite one liners from this year’s letter:
“I subtly indicated that I was older and wiser…I was just older.”
“If Charlie, I and Ajit are ever in a sinking boat – and you can only save one of us – swim to Ajit.”
“We shouldn’t expect our regulators to live up to their end of the bargain unless we live up to ours.”
“It’s clear that I failed you in letting NetJets descend into this condition. But, luckily, I have been bailed out.”
“There were three ways to cure this overhang: (1) blow up a lot of houses, a tactic similar to the destruction of autos that occurred with the “cash-for-clunkers” program; (2) speed up household formations by, say, encouraging teenagers to cohabitate, a program not likely to suffer from a lack of volunteers or; (3) reduce new housing starts to a number far below the rate of household formations.”
“Our first venture was also christened Berkadia. So let’s call this one Son of Berkadia. Someday I’ll be writing you about Grandson of Berkadia.”
“It’s been an ideal period for investors: A climate of fear is their best friend.”
“In the end, what counts in investing is what you pay for a business – through the purchase of a small piece of it in the stock market – and what that business earns in the succeeding decade or two.”
“It has not been shareholders who have botched the operations of some of our country’s largest financial institutions.”
“In my view a board of directors of a huge financial institution is derelict if it does not insist that its CEO bear full responsibility for risk control.”
“Charlie and I enjoy issuing Berkshire stock about as much as we relish prepping for a colonoscopy.”
“our recommendation in respect to the use of advisors remains: ‘Don’t ask the barber whether you need a haircut.’”
“P.S. Come by rail.”
If you didn’t see your favorite Buffett one liner from this year’s letter, please tell me yours and why in the comment section below.
Paul Pilecki Moves to Kilpatrick Stockton
Feb/100
Paul Pilecki moved to a new law firm, Kilpatrick Stockton, last week. He specializes in bank regulatory law. If you know any bankers who need help dealing with their regulators, Pilecki can help them. Here’s the press release from Kilpatrick:
Kilpatrick Stockton’s Financial Institutions Team Adds Prominent Partner
WASHINGTON, DC (February 16) – Kilpatrick Stockton announced today that Paul S. Pilecki and Michael A. Mancusi have joined Kilpatrick Stockton’s leading Financial Institutions Team. Mr. Pilecki and Mr. Mancusi, who will be resident in the Washington, DC office, are joining from Winston & Strawn.
“We are thrilled to have attorneys of Paul and Michael’s caliber join our nationally-recognized practice serving the financial services industry,” stated Paul Aguggia, Chair of Kilpatrick Stockton’s Financial Institutions Team and Member of the Executive Committee. “Their combined practice, which provides deep bank regulatory expertise for both top foreign and domestic banks, is a perfect complement to our existing practice and will provide clients with another outstanding resource. Their expertise will help keep Kilpatrick Stockton on the cutting edge of this constantly changing area of law.”
“Michael and I are excited to join one of the leading practices in bank M&A and capital transactions,” stated Mr. Pilecki. “The Kilpatrick Stockton Financial Institutions Team is well-positioned for what should be an active period in corporate transactions in the banking industry.”
Paul S. Pilecki concentrates his practice in the representation of foreign and domestic banking organizations on regulatory and corporate matters, and has extensive experience in helping banking organizations plan new activities and corporate structures for their U.S. activities.
Mr. Pilecki’s experience includes matters under the Bank Holding Company Act, the Federal Reserve Act, the Federal Deposit Insurance Act, the International Banking Act, and other federal and state banking and securities laws. He also represents financial institutions on supervisory and enforcement matters, including conducting internal investigations, fashioning remedial programs, and advising on compliance with formal enforcement actions and supervisory agreements. Mr. Pilecki advises diverse clients on compliance with the Bank Secrecy Act and implementing anti-money laundering and anti-terrorist financing measures. He has served as an expert witness on bank regulatory issues, including matters under the Bank Holding Company Act, the Edge Act, and the Bank Merger Act. Mr. Pilecki began his professional career as a bank examiner for the Federal Reserve Bank of Philadelphia and was a member of the Legal Division of the Federal Reserve Board in Washington.
He currently chairs the Executive Council of the Federal Bar Association’s Banking Committee and is an active member of the International Banking Subcommittee of the American Bar Association’s Banking Law Committee. Mr. Pilecki is a contributing author to the multi-volume treatise Banking Law and is a frequent speaker on bank regulatory issues. He was named a Client Service All-Star for the second time in 2010 and is included in Who’s Who of Banking Lawyers.
Michael A. Mancusi represents foreign and domestic banking organizations in regulatory, compliance, and enforcement matters, and has substantial experience representing clients in government and corporate internal investigations.
Mr. Mancusi counsels diverse clients on corporate issues that relate to banking organizations and structures, including corporate governance, national banking associations, operating subsidiaries, and holding companies under the National Bank Act, the Federal Reserve Act, the Bank Holding Company Act, the Federal Deposit Insurance Act, and the Bank Merger Act. He also has experience with issues related to interstate branching and main office relocations as well as merger-related activities, including bank/thrift combinations, antitrust issues, and affiliate transactions.
In addition, Mr. Mancusi’s experience includes matters related to preparing for, and responding to, examination issues, and compliance with anti-money laundering and foreign assets control requirements. His internal investigations experience involves the Bank Secrecy Act as amended by the USA PATRIOT Act, Office of Foreign Assets Control compliance, the Foreign Corrupt Practices Act, accounting improprieties and misleading financial disclosures, compliance strategy, and civil antitrust issues. Mr. Mancusi has served as an attorney for the Comptroller of the Currency, where he handled federal banking law enforcement actions such as civil money penalties, suspensions and removals, and temporary cease and desist orders.
He currently serves as Chair of the American Bar Association Banking Law Committee’s Enforcement, Director Liability, and Problem Banks Subcommittee. Mr. Mancusi also serves as a member of the Federal Bar Association’s Banking Committee Executive Council. He served as the Chair of the District of Columbia Bar Financial Institution Committee.
About Kilpatrick Stockton
Kilpatrick Stockton LLP is a full-service international law firm with nearly 500 attorneys in nine offices across the globe: Atlanta and Augusta, GA.; Charlotte, Raleigh and Winston-Salem, NC.; New York, NY; Washington, D.C.; Dubai; and Stockholm. Kilpatrick Stockton’s delivery of innovative business solutions provides results-oriented counsel for corporations, from the challenging demands of financial transactions and securities to the disciplines of intellectual property management. Collaboration among Kilpatrick Stockton’s corporate, litigation and intellectual property attorneys provides knowledgeable and proactive guidance for companies at every stage of the business life cycle. For more information, please visit www.kilpatrickstockton.com.
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