A Citi, Divided Against Itself, Can Prosper

Citigroup's (C - commentary - Trade Now) plan to split itself into two banks -- the retail/service/investment bank and Citi Holdings, which would consist of (among other things) the household lending arm and the old special purpose vehicles -- will work if the government gives it time. It will work for the same reason the "Bankers Win Big in Toxic Pay Plan," article in The Wall Street Journal states: Much of what was thought to be worthless or worth pennies in Citi Holdings is really money good and will pay off when due.

That's how you can get the book value of Citigroup to go up, and given that Tier 1 capital has not been an issue -- they have a ton of it -- you are going to see book go up quarter after quarter.

There is a realization all over Wall Street these days. The realization is that the real problem, the real rot in the system, is the brokered mortgage pool put together by the likes of all of those slick originators, the Fremonts and the New Centurys and the Ameriquests and the American Home Mortgages. We are discovering -- everyone from Wells (WFC - commentary - Trade Now) to Citigroup to MBIA (MBI - commentary - Trade Now) -- that much of this stuff was a joke, where people were basically kiting houses liked they kited checks. We still can't get our arms around how big it is. It seems that the stuff bought in 2005-2006 is worthless, especially the second-lien brokered mortgages. (Wells Fargo has the most on this and has talked about it endlessly.) The fraudulence here is incredible. So there's no coming back from that paper.

But asset-backed paper is surprisingly good at this point in the cycle, and so are many student loans. The bulk of what's going to be in Citi Holdings is going to pay off, and then it can be run as a runoff institution and the costs taken out of it.

I mention all of this because I am going to follow up repeatedly on my change of heart at Citigroup, repeatedly, because it is the great call on the world's economies, not the U.S. When you see all of those markets up -- and almost every market is soaring this year -- you should think that Citigroup has a piece of the action because only half of the business is here.

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