- The Washington Times - Saturday, February 28, 2009

The U.S. Treasury Department said Friday that it would take up to a 36 percent stake in Citigroup in exchange for $25 billion of bailout funds it previously provided to the ailing New York bank, taking a big step toward what many regard as the first major bank nationalization in the United States.

The restructuring of Citi’s bailout package, which already has cost taxpayers more than $45 billion, increases the risk that taxpayers will lose some or all of their money. The common stock that Treasury accepted Friday in exchange for previously acquired preferred shares does not pay dividends and can be quickly wiped out if the bank does not survive.

Citi became the first bank to benefit from a new program the Treasury set up this week to help banks deal with mounting losses on loans by allowing them to treat their federal bailout money as a capital cushion against such losses. The preferred shares the Treasury acquired in previous bailouts is not counted as capital because it poses major liabilities for the banks: They not only have to pay 9 percent yearly dividends on the stock, but they eventually must redeem the shares from the government.

In arranging the latest rescue measures, Citi agreed to reshape its board of directors and continue downsizing and restructuring its giant operations, extensive divisions and overseas offices. Other preferred shareholders, including a Saudi prince and the governments of Kuwait and Singapore, also must agree to exchange their shares for common stock, providing them with a combined stake of about 38 percent in the bank and giving Citi a further $27.5 billion cushion against losses.

“It may be this latest dance with D.C. has done the trick” and will help Citi survive what is expected to be another bad year for the economy and credit markets, said Antony Currie, analyst at Breakingviews.com. He noted that the deal not only greatly increases Citi’s cash cushion, but it wipes out $2.8 billion of yearly dividends the bank previously had to pay.

Still, “skepticism is likely to persist,” he said, noting that Citi’s stock has plummeted after two previous moves by Treasury to prop up the bank. “There’s no guarantee this marks a floor for Citi.”

Citi shares sank 39 percent Friday to a new low of $1.50 as bank investors reacted to the broad dilution that left them with only a 26 percent stake in the bank. Bank stock indexes plummeted 9 percent on the news, as investors in Bank of America and other big firms braced for similar fates.

The announcement also did not do much to bolster confidence in the broader stock market, where the Dow Jones Industrial Average fell 119 points to 7,063, coming within a few points of breaching the 7,000 mark for the first time in more than 11 years.

The Standard & Poor’s 500 Index fell to 735, its lowest level since December 1996. The 19 percent drop in the blue-chip index since the beginning of the year is its worst on record. The bank-led drop in the stock market overall has erased $10 trillion in investor wealth since October 2007.

While the Treasury’s move is negative for stockholders, it is positive for Citi’s creditors and bondholders because it shows more than ever that the government is standing behind the bank, said David Hendler, analyst with CreditSights Inc.

“While cable jibber jabbers may bemoan the state of the common shareholder, it is the credit holder that is in control of Citi’s fate,” he said. “Confidence needed to be restored so that normal funding and liquidity requirements are maintained.”

Though Friday’s move does not involve giving Citi any new money, it greatly increases the government’s stake in the survival of the international superbank, which once was the nation’s largest but which has shriveled under the load of toxic debts it acquired during the credit boom.

The bank announced that swelling losses are forcing it to eliminate its quarterly dividend and take an accounting charge that brought its losses in 2008 to a record $27.7 billion. Moody’s Investors Service and Standard & Poor’s Corp. both said the bank’s deteriorating condition will force it to more drastically reduce expenses and seek additional government aid.

More taxpayer money is likely to be pumped into the bank after the Treasury conducts “stress tests” on Citi and other major banks later this year. In addition, the Treasury is working on a plan to help relieve Citi and other banks of some of their toxic loan assets through a public-private purchase program. The administration earmarked $250 billion to help finance that effort in its budget plan Thursday.

Citi has been a bellwether in the government’s bank rescue program since September. It not only was the first to negotiate a partial government takeover, but it also was the first to receive a second Treasury cash infusion in the fall as well as partial government guarantees against losses on $300 billion of souring loan investments.

Citigroup Chief Executive Officer Vikram Pandit said the government’s major stake in the bank won’t force it to divest its ownership of Banamex, a bank in Mexico where foreign government ownership of banks is prohibited.

“We have structured these investments and are in the process of structuring them so that all our franchise in the form of Citicorp remains intact,” he said on a conference call.

Mr. Pandit disputed the assessment of many analysts that the bank has been essentially nationalized since Treasury has become the largest stockholder. In accepting the government money, Citi has already limited executive pay and luxury perks as well as joined the Treasury’s foreclosure prevention program.

Rather, Mr. Pandit said the government’s majority stake should increase investor confidence in the bank. “This capital should take the confidence issues off the table,” he said.

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