Monday, May 4, 2009

Citi, B of A Argue Stress Test Results

Citi and Bank of America are not happy with the results of the government-mandated stress tests, which will force them to raise significant amounts of new capital. According to the FT, Citi needs $10 billion more, while B of A needs “well in excess of $10 billion.” The banks are furiously arguing their case, claiming the stress test results were too pessimistic. PNC and Wells are also mentioned as regional lenders that would be required to raise capital, unless they manage to convince the Feds otherwise.

In the event that the government prevails, Citi is rooting around for more securities it has issued that can be converted into equity. The good news, for Citigroup at least but not so much for investors that were hoping to continue to collect interest on their trust preferreds, is that Citi has around $15 billion in trust preferred securities lying around that it can convert. No word yet on how B of A plans to fill its hole.

Stress test results have been delayed and will be released on Thursday, May 7th giving the market plenty of time to continue rallying for no good reason. Somebody wake me up if anything interesting happens before then.

3 comments:

Joshua said...

I struggle to understand the capital structure and solvency ratios like TCE, etc. But how does converting a bunch of preferred to common solve anything for these banks? I guess it helps to have those large preferred dividends get cut, but is Citi somehow magically solvent when it converts one form of equity to another? If the $15b outstanding averages an 8% coupon, that's saving them a whopping $1b per year on their $2,000b balance sheet. Am I missing something?

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K10 said...

Josh,

I don't think that preferred stock counts as part of TCE. So by converting the preferred to common, it magically gives them more of a capital cushion. But yes, it does seem to be an acounting trick than any sort of real solution to potential solvency issues. The reality is that they still have $2 trillion in assets and probably nowhere near enough equity to cover potential losses.