Citi Is Asking The Government To Convert Its Preferred-What’s Up?

Go out to dinner and the whole world crashes down. Give me a break.

Apparently, according to the WSJ, Citi is in talks with the government about converting its preferred stock interest into common stock. The details are anything but clear, however, here is how the WSJ is reporting it:

Under the scenario being considered, a substantial chunk of the $45 billion in preferred shares held by the government would convert into common stock, people familiar with the matter said. The government obtained those shares, equivalent to a 7.8% stake, in return for pumping capital into Citigroup.

The move wouldn’t cost taxpayers additional money, but other Citigroup shareholders would see their stock diluted. A larger ownership stake by the government could fuel speculation that other troubled banks will line up for similar agreements.

When you first start reading about this it sounds like the government is moving in. After you read the press reports a couple of times, you are left scratching your head. Apparently, and I use that word purposefully, it sounds as if Citi is behind these talks. Why is any one’s guess. Unless there is a run on the bank that hasn’t been publicized there doesn’t appear to be any reason to make this move before the infamous “stress tests” confirm whatever the government chooses to have them confirm. Yeah, the stock is in the dumpster but so what. That has little to do with short-term viability at this time.

Consider this other little nugget from the article.

There are at least two catalysts for the recent talks with the government.

First, Citigroup’s shares have fallen to historic lows. That doesn’t pose a direct threat to the company’s stability. But if it spooks customers into pulling their business, that could push the bank toward a dangerous downward spiral.

Second, bank regulators this week will start performing their battery of stress tests at the nation’s largest banks as part of the Obama administration’s industry-bailout plan. As part of those tests, the Federal Reserve is expected to dwell on the TCE measurement as a gauge of bank health, according to people familiar with the matter.

The crisis is triggering a deep re-examination of the way bank health is measured in the U.S. financial system. This complex exercise boils down to calculating various ratios of capital to a bank’s total assets.

Until recently, TCE — essentially a gauge of what common shareholders would get if an institution were dissolved — has been one of the less prominent ways to measure a bank’s vigor. TCE is also among the most conservative measures of financial health.

Bankers and regulators generally prefer to use what is known as “Tier 1″ ratio of a bank’s capital adequacy. It takes into account equity other than common stock. By Tier 1 measurements, most big banks, including Citigroup, appear healthy. Citigroup’s Tier 1 ratio is 11.8%, well above the level needed to be classified as well-capitalized.

By contrast, most banks’ TCE ratios indicate severe weakness. Citigroup’s TCE ratio stood at about 1.5% of assets at Dec. 31, well below the 3% level that investors regard as safe.

The regulators’ new focus on TCE represents an important shift. The government’s recent injections into hundreds of institutions were predicated on the idea that Tier 1 was key. Because the investments weren’t in the form of common stock, they didn’t affect the companies’ TCE ratios.

So we’ve already agreed that the stock price is a non-issue. Why in the world it tangible common equity all of a sudden the be all and end all of bank solvency. Tier 1 has been the modus operandi for years and now all of a sudden it’s out the window. What gives? There’s a rat running around here that smells to high heaven. Is this a shift that’s meant to dictate outcomes?

It’s puzzling to say the least. Is Citi trying to head off full scale nationalization? Is it a way for management to keep its power? What is the real game? Beats the hell out of me but I’m willing to put up good money that there is something more than what appears on the surface here.

Oh well, I probably won’t lack for anything to write about tomorrow.

more: here and here (FT article if you get blocked by the WSJ firewall)

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