Citigroup Was Punished for Not Playing Nice With the Feds

NEW YORK (TheStreet) -- Although Citigroup (C) passed the first round of stress tests (called the Dodd-Frank Act Stress Tests), the Big Four bank failed to impress in the second round announced Wednesday.

The bank met the capital requirements with Tier 1 common ratio at more than 5% (first round of stress testing), and review of quantitative charts of the Fed's report showed adequate ratios on the capital requirements with a proposed capital plan including dividends and share buybacks in the second round of tests (see table below).

So why was the bank's 2014 capital plan rejected in the second round, known as the Comprehensive Capital Analysis and Review?

According to the Federal Reserve's comments from its report, the central bank objected to Citigroup's capital plan (dividend increases and share buybacks) based on qualitative concerns. The wording the Fed used was: "significantly heightened supervisory expectations for the largest and most complex Bank Holding Company (BHCs) in all aspects of capital planning."

The Federal Reserve also had concerns about Citigroup's ability "to project revenues and losses under a stressful scenario for material parts of the firm's global operations and its ability to develop scenarios for its internal stress testing that adequately reflects its full range business activities and exposures."

A comparison of the Big Four U.S. money center banks in the table below shows that Citigroup has key financial metrics in line with the other three biggest U.S. banks, including some of the highest capital ratios and 2015 financial performance ratios.

Bank

Federal Reserve Tier 1 Results

FY 2013 Performance

Common Equity Ratio1

"DFAST"

Common Equity Ratio1

"CCAR"

Risk-Based Capital Ratio1

"CCAR"


Leverage Ratio1

"CCAR"


Adj. NPL

to Loans %2

Revenue Growth %2

Net Income Growth %2

JPMorgan Chase (JPM)

6.3%

5.5%

6.6%

4.2%

1.93%

-1.1%

-15.8%

Bank of America (BAC)

5.9%

5.3%

6.3%

4.1%

2.39%

6.7%

172.9%

Citigroup (C)

7.2%

6.5%

9.1%

5.6%

1.47%

9.2%

79.1%

Wells Fargo (WFC)

8.2%

6.1%

6.9%

5.6%

2.34%

-2.7%

14.7%

Threshold1

5.0%

5.0%

6.0%

4.0%

     

1 Source: Federal Reserve stress test results. CCAR results/thresholds from Table 6A of report (Projected minimum in 2015).

2 Statistical data provided by FDIC and Yahoo! Finance Web sites.

Citigroup's dividend proposal was in line with Bank of America (BAC) but Citigroup proposed a share buyback plan that was five times greater than what was already allowed and 50% more than what Bank of America submitted in its reduced proposal.

Citigroup has 30 days to resubmit another plan while addressing the Fed's operational concerns or it can choose not to contest the results and wait until next year to work on the risk concerns addressed in the report.

Bank

Proposed Dividend

(per share)

Proposed Share Buybacks

$ ( in bil)

Current Dividend (per share)

Current Share Buybacks

$ (in bil)

JPMorgan Chase (JPM)

$0.40

$6.50

$0.38

X

Bank of America (BAC)

0.05

4.00

0.01

X

Citigroup (C)

0.05

6.40

0.01

$1.20

Wells Fargo (WFC)

0.35

0.35

0.30

X

In defense of the Federal Reserve, Citigroup does have the highest exposure to foreign global markets with nearly 50% of business coming from foreign concerns. The table below shows the risk exposure of the Big Four from foreign customers (source: FDIC call reports).

Bank

Foreign Deposit %

Foreign Loan %

Foreign % of Net Income

Original TARP $ (in bil)

Assets Guaranteed $ (in bil)

Citigroup (C)

54%

48%

55%

45.0

306.0

JPMorgan Chase (JPM)

24%

17%

43%

25.0

118.0

Wells Fargo (WFC)

9%

3%

1%

25.0

X

Bank of America (BAC)

7%

12%

0%

45.0

X


Note: Bank of America and Goldman Sachs (GS) had to modify their plans to be accepted.

Additionally, although all TARP money has been repaid by the group in the table above, Citigroup was on the hook for the most TARP money and asset guarantees for nonperforming loans. So there might be some residual concern about whether Citigroup could deliver acceptable results in the event of another catastrophic event mimicked by the stress tests given its history of poor performance in the financial crisis of 2008.

Also complicating matters is the most recent $400 million loan fraud in Citigroup's Banamex unit in Mexico, which highlights the difficulty in managing risk in foreign countries. Althogh the Federal Reserve did not mention this incident in its report, it goes to the heart of what concerns regulators in their comments cited above.

Although, I am sure no one will ever admit it, relations between regulators and Citigroup's previous management did not go smoothly. They were harshly criticized from as early as 2009 for taking inordinate risk (bad loans) and complicated banking operations of the "supermarket" banking model that nearly led to Citi's collapse.

This criticism, along with the rejection of Citi's capital plan last year, led to the resignation of former CEO Vikram Pandit.

Several analysts have said that they were "shocked" by the rejection to return excess capital to shareholders.

Citigroup is overcoming a large stigma from their recent past, however, and it's clear management needs to mends fences and do a better job guiding its regulators on risk assessment on all of its operations, including expansive global operations.

See article on money center stock values: "Make Some Bank on Bank of America"

At the time of publication, the author held shares of BAC, C and WFC.

This article represents the opinion of a contributor and not necessarily that of TheStreet or its editorial staff.


Gene Kirsch, independent senior banking analyst, genekirsch.net, has more than 20 years of financial industry experience in credit-risk portfolio management, lending and loan review analysis within various sized, regional credit unions, finance companies and banks at both the retail and commercial level. He has led a major independent ratings firm's bank and credit union ratings division of over 14,000 institutional ratings and developed the methodology for global bank and credit union ratings. He has numerous published articles, quotes in various national publications and appeared in several media interviews. He holds a Bachelor of Science in Management Information Systems and Finance from the State University of New York at Buffalo and a minor in Psychology with continued educated in commercial banking with various institutions in Florida and North Carolina.

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