Citigroup in a Pickle, Again

In a desperate attempt to avoid being sued by its retail investors in April, Citigroup chose to bail Smith Barney investors out of Falcon, a hedge fund that lost 75% in three months. Institutional investors are now stepping up to the Citi bailout trough. Wachovia and Fifth Third have disclosed enormous losses from investments in Falcon. According to the Wall Street Journal, Fifth Third is suing the insurer and brokerage firm that arranged the investments. Fifth Third and Wachovia had invested in Falcon through their Bank Owned Life Insurance assets. For those unfamiliar with BOLI, this is life insurance that banks take out on their employees in order to collect money if and when their employees die. If you think it is morbid and creepy that banks hope to collect money when their employees die, rest assured that they have ulterior motives. Apparently, BOLI is some sort of a tax shelter.
Fifth Third and Wachovia had invested over $600 million and $1 billion in Falcon respectively and are now facing combined losses of approximately $1.2 billion. They weighed the embarrassment factor of disclosing the losses against the magnitude of $1.2 billion. Although it was probably a very close call, they chose to suck it up and go after the money. After all, Citigroup has already set a precedent by propping up other hedge funds that were failing and bailing out its retail investors in Falcon. It is true that institutional investors shouldn't be able to sue for refunds based on the "we didn't know what we were doing" defense, since it is their job to know. But it's worth a shot. Citi has already written down $40 billion in losses and raised $44 billion in new capital. What's another $1.2 billion, if investors are willing to continue to throw money at the bank? Note to Wachovia and Fifth Third: If you're looking for a better place to put your BOLI money, give me a call. I'm thinking of starting a hedge fund that comes with a guarantee that it won't lose more than 50% in the first three months.