Over the past 80 years, the US government has engineered not one, not two, not three, but at least four rescues of the institution now known as Citigroup Inc. In previous instances, the bank came back from the crisis and prospered. Will Citigroup rise again from its recent near-death experience?
The answer to that question concerns not only the 276,000 employees who work at what was once the world’s largest bank, but the US’ taxpayers as well. Even as Citi’s stock has soared from a low of $1.02 (Rs48) to its current $4.09—and the company has eked out a $101 million profit in the third quarter along the way—it’s still unclear whether it can climb out of the hole that its former leaders dug before and during the mortgage mania. If Citigroup remains stuck, taxpayers will be on the hook for outsize losses.
Citigroup remains a sprawling, complex enterprise, with 200 million customer accounts and operations in at least 100 countries. And when people talk about institutions that have grown so large and entwined in the economy that regulators have deemed them too big to be allowed to fail, Citigroup is the premier example.
Hurdles ahead: Citigroup headquarters in New York. Analysts at Fitch Ratings project that Citigroup will continue to be plagued with hefty loan loss provisions and that its operations will remain weak into 2010. Eremy Bales / Bloomberg
As a result, the government has handed Citigroup $45 billion under the Troubled Asset Relief Program (TARP) over the last year. Through the Federal Deposit Insurance Corp. (FDIC), a major bank regulator, the government has also agreed to back roughly $300 billion in soured assets that sit on Citigroup’s books. Even as other troubled institutions recently curtailed their use of another FDIC programme that backs new debt issued by banks, Citigroup has continued to tap the arrangement.
Citigroup is also one of only two TARP recipients so desperate for capital that they’ve swapped government-issued shares into common stock, diluting existing shareholders. (GMAC is the other.)
While Citigroup has written down tens of billions of dollars worth of mortgages on its books, there are looming problems in its huge credit card portfolio. Of the company’s $1.2 trillion in credit commitments outstanding in the second quarter, $873 billion were credit card lines. A measure of the bank’s efforts to wrestle that problem to the ground is the interest it charges customers: In October, Citigroup raised interest rates on some credit card holders to 29.99%.
Chris Whalen, editor of the Institutional Risk Analyst, calls Citigroup “the queen of the zombie dance”, referring to the group of financial institutions that the government has on life support.
Vikram S. Pandit, Citigroup’s chief executive officer, said in an interview that he was confident that Citi was on the right course, focusing on global banking and shedding segments of the company—such as insurance and the brokerage business—that aren’t part of that mission. To date, he said Citigroup had sharply reduced its expenses, improved how it monitors risk, and established a management team that he said would return the bank to sustained profitability.
“Our distinctiveness is we connect the world better than anyone else,” he said, noting Citigroup’s global reach. “We have a great capability of building a business around that. And we are in the process of building a culture around that.”
Pandit said he was working with federal regulators on a schedule for paying back TARP funds, which he said was crucial to restoring Citigroup’s image among consumers.
In trying to right itself, Citigroup plans to undo much of what it did during a period some insiders call the lost decade—with events that included merging with Travelers Group in 1998 and a huge, dizzying expansion of its asset base. To untangle the company, Pandit has split Citigroup in half. One part consists of operations that Citigroup executives consider central to the bank’s future; these include retail banking worldwide, investment banking and transaction services for institutional clients.
The other part contains businesses that Citigroup executives hope to exit or unload. This includes asset management and consumer lending, such as residential and commercial real estate, as well as auto loans and student loans. Citigroup is also selling some of the many companies it acquired in recent years. However, buyers are few.
To be sure, Citigroup’s financial cushion has fattened significantly, thanks in large part to taxpayer relief—prompting some banking analysts to be relatively optimistic about the bank’s prospects.
One is Matt O’Connor, an analyst at Deutsche Bank AG. He says that Citigroup is still saddled with potential risks, but that it’s well positioned for an economic recovery, in that it can sell off assets more quickly, or for another downturn, since it has government protection and relatively little commercial real estate exposure. “We find Citi shares could reach $10,” O’Connor wrote in a recent report to investors. “However, this may be several years away and many uncertainties remain—both to Citi and banks overall.”
Yet, compared with other big banks such as JPMorgan Chase and Co. or Goldman Sachs, Citigroup’s operations are not yet generating enough profits to cover potentially devastating write-downs to come. In the third quarter, none of the units upon which Citigroup has pinned its hopes showed a jump in revenue.
Analysts at Fitch Ratings project that Citigroup will continue to be plagued with hefty loan loss provisions and that its operations will remain weak into 2010. The primary reason for Citigroup’s woes, of course, is relatively straightforward. The bank simply placed too large a bet on risky consumer loans, especially mortgages. These were often repackaged into complex financial instruments that went sour when the economy collapsed. Citi ended up eating these losses.
Citigroup also sank deeper into the swamp of troubled loans than its peers, according to interviews with more than a dozen former employees and analysts, because of a number of other factors: a culture of deal-making that trumped efforts to help existing businesses grow on their own; constant churn among the executive ranks; the sapping of top talent; the blunting of dissent; and a drive to mimic competitors’ risk-taking while failing to assess when those gambles were becoming perilous.
A by-product of these flaws is now smouldering on taxpayers’ doorstep, causing worries on Capitol Hill that the US may never get back the bailout money it gave to Citigroup. Representative Lloyd Doggett, a Texas Democrat on the House Ways and Means Committee, recently registered unease about the government’s guarantee of $300 billion in Citi’s assets and how effectively treasury secretary Timothy Geithner, was monitoring the bank.
Although history does not repeat, now and then, as Mark Twain famously proclaimed, it rhymes. Nowhere in the financial world, perhaps, is that more true than for Citigroup.
During the 1920s, the institution, then known as National City Bank, opened stores around the country to encourage the middle class to invest in stocks and bonds. With little money down—10% of the cost of a trade was all an investor needed to buy shares—investors poured into the stock market. Charles E. Mitchell, CEO of National City, hyped these sales throughout the period. Then came the Great Crash of 1929. Vilified as a “bankster” in the aftermath of the crash, Mitchell testified to Congress that banks “were too ready to loan, too ready to meet the competition of neighbours, too willing to cut down their margins to a point of encouraging excessive bargaining”.
Before the crash, industry practice allowed National City not only to underwrite securities but also to employ a sales army to peddle them to depositors. After Congressional hearings determined that this conflict of interest was a major cause of the debacle, lawmakers passed the Glass-Steagall Act, separating activities of commercial banks from those of investment firms.
Although thousands of smaller banks failed, government policies to prop up the banking sector helped National City and other major banks.
Fifty years later, what was then known as Citicorp found itself in trouble again as huge loans to developing countries in Latin America soured.
Citicorp survived this crisis with an infusion of cash from a Saudi Arabian prince and a gift from Alan Greenspan, then the chairman of the Federal Reserve. Greenspan’s Fed kept interest rates unusually low, allowing Citicorp and other troubled banks to borrow money cheaply and lend at higher rates.
By 1998, Citicorp had more than regained its footing and was willing to take a more aggressive stance. At the direction of its chief executive, John S. Reed, Citicorp agreed to join forces with the Travelers Group, an amalgam of insurance, brokerage and investment banking services run by a brash deal maker named Sanford I. Weill. The largest merger in history followed, creating a colossus named Citigroup with $700 billion in assets.
Because Travelers had an investment firm under its umbrella, the creation of Citigroup prompted Congress to eliminate what remained of the Depression-era separation between Main Street banking and Wall Street trading. Reed and Weill argued persuasively for the change, and, along with the rest of the financial industry, deployed an armada of lobbyists in Washington. In 1999, Congress overturned Glass-Steagall.
Profits soared, and by 2003, Citigroup was generating nearly $18 billion a year in them. But even as the money flowed, the euphoria over earnings was tempered by personnel upheaval, recurrent scandals and the realities of managing such a behemoth.
Weill’s longtime sidekick and heir apparent, Jamie Dimon, was ousted eight months after the merger. (He now runs JPMorgan.) A steady exodus of top talent followed Dimon’s departure from Citigroup; it has only accelerated since the financial crisis began in 2007.
After a series of financial scandals that tarnished the bank’s reputation, Weill announced his retirement as chief executive at the end of 2003, handing the reins to Charles O. Prince III, his longtime general counsel who had navigated the company through its various legal and regulatory crises but had never run a major financial institution. Prince did not return several phone calls seeking comment.
Deal-making largely continued unabated under Prince, while the bank’s myriad parts were never effectively knit together. During his three-and-a-half-year reign, Citigroup bought five large mortgage lenders or loan servicers and four credit card lenders or portfolios.
Even with occasional regulatory restraints, Citigroup’s assets ballooned from $1.49 trillion to $2.19 trillion from 2005 to 2007, an increase of 46.9% (and three times the size of Citigroup’s balance sheet when the merger that created it occurred).
But amid that impressive growth, dubious mortgage loans and questionable trading in mortgage and other debt-related securities began to undermine Citigroup’s finances. One ugly class of securities continues to haunt the bank: collateralized debt obligations, or CDOs.
From 2004 to the beginning of 2008, Citigroup underwrote $70 billion in CDOs but had to keep $57 billion of that amount on its own books when it couldn’t find buyers, according to a class-action lawsuit filed in federal court in Manhattan, on behalf of disgruntled Citigroup investors. The suit contends that by late 2006, Citigroup’s CDO operations “had devolved into a Ponzi scheme where unsold portions of older CDO securitizations were recycled as the asset base for new CDO securitizations”.
Furthermore, the lawsuit says, Citigroup executives engaged in various accounting gimmicks to conceal the bank’s ownership of assets that eventually soured. Citigroup denies the allegations and says it will vigorously fight the suit.
Still, the unfortunate truth about the bank during the last several years, according to analysts and former insiders, is that it was managed horribly. “They just blew it,” said one former Citigroup executive, who like many others interviewed for this article requested anonymity because of pending lawsuits and a desire to preserve relationships with former colleagues. “It’s really hard to drive the car if you don’t have the headlights on.”
If Citigroup was driving blind, regulators seem to have been unaware. Officials at the Office of Comptroller of the Currency and the Fed—overseen at the time by Geithner, who has since become the treasury secretary—stood by as Citigroup amassed a portfolio that would ultimately generate losses of more than $35 billion.
Citigroup’s financial architecture remains rickety. One reason is that it relies much more heavily than most other large domestic banks on uninsured deposits in overseas locales, where customers are quick to pull their money at the first sign of trouble. Also, some of the accounting machinery it put in place to temporarily move assets off of its balance sheet (and make the bank look financially healthier) has backfired.
Pandit maintained that Citigroup’s strategy would take some time and depended in part on how the economy fared. Should the economy continue to improve, for instance, he said the bank would snare handsome returns when it sells off assets. Other assets, like some mortgages, for example, will simply be paid off over time, he said.
“We have time,” he said. “If markets do turn around, these are going to be very valuable businesses. This is going to take awhile.”
Yet analysts say that for Citigroup to survive, it must quickly sell the businesses it wants to exit. And that is especially hard to do given that it is shopping its wares at a time when few people appear to want them, particularly Citigroup’s middle-tier operations in far-flung regions around the globe.
©2009/THE NEW YORK TIMES