Citigroup Flunks Stress Test: Ghosts of Glass-Steagall Haunt the Fed

By Pam Martens: March 27, 2014

From Federal Reserve Photo Archives

It only took three press releases over as many days but the Federal Reserve finally spit out the truth yesterday on its stress tests of the big banks: Citigroup, the largest bank bailout recipient of 2008, still doesn’t have its house in order more than five years later. How many more years of economic malaise will it take before the delusional Fed admits to the public that only the restoration of the Glass-Steagall Act, separating banks holding insured deposits from gambling casinos on Wall Street, will put our financial system back on sound footing?

The Fed’s comments on Citigroup yesterday included the following:

“While Citigroup has made considerable progress in improving its general risk-management and control practices over the past several years, its 2014 capital plan reflected a number of deficiencies in its capital planning practices, including in some areas that had been previously identified by supervisors as requiring attention, but for which there was not sufficient improvement. Practices with specific deficiencies included Citigroup’s ability to project revenue 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 reflect and stress its full range of business activities and exposures.”

As a result of flunking the stress test, the Fed has barred Citigroup from raising its dividend or boosting share buybacks without a resubmission of its plan and specific written approval from the Fed.

During the financial crisis of 2007 to 2010, Citigroup caused more Fed nightmares than any other bank, eventually soaking up $45 billion in equity infusions, over $300 billion in asset guarantees and more than $2 trillion in below-market rate loans from the government.

The Fed, which says it prides itself on as much early guidance and transparency to the markets as possible, in this case confused the market with its staggered press releases on the outcome of its stress tests. It issued press releases last Friday, again Monday and finally dropped the bomb on Citigroup just after the market closed yesterday. The shocker caused Citigroup’s share price to drop approximately 5 percent in after-hours trading.

The Wall Street Journal was so confident from Friday’s press release from the Fed that it went with this headline and opening paragraph on Friday: “Fed ‘Stress Test’ Results: 29 of 30 Big Banks Could Weather Big Shock.” (The outlier on Friday was Zions Bancorp over capital issues.) The Wall Street Journal told readers: “The Federal Reserve’s annual test of big banks’ financial health showed the largest U.S. firms are strong enough to withstand a severe economic downturn, a sign that many will get the green light soon to reward investors by raising dividends and buying back shares.”

On the front page of today’s print edition of the Wall Street Journal, a 48 point bold headline stretches across the top five columns of the paper, declaring: “Fed Kills Citi Plan to Pay Investors.”

All of this conjures up unwelcome images of a November 25, 2008 front page of the New York Post, dedicated to “Citi of Fools,” featuring Citigroup’s Board of Directors, which at the time included former U.S. Treasury Secretary Robert Rubin who was also appearing in photos at the time at the elbow of newly elected President Obama as a key advisor. Inside the newspaper, an editorial urged the ouster of the Board of Citigroup (“Bounce These Bozo Bankers”) or perhaps a stronger remedy (“Off with their heads”).

The New York Post outrage and ridicule followed an eight-day period of one disaster after another at Citigroup, punctuated by the following:

On Monday, November 17, Citigroup had called a Town Hall meeting with employees and announced it would sack 52,000 workers.  On Tuesday, it said it had lost 53 per cent of an internal hedge fund’s money in a month’s time and that it was bringing $17 billion of off-balance sheet assets back onto its balance sheet. Wednesday brought the unwelcome news that a law firm was alleging that Citigroup had marketed a MAT Five Fund as “safe” and “secure” then watched it lose 80 per cent of its value. On Thursday, Saudi Prince Walid bin Talal, a major shareholder, stepped forward to reassure the public that Citigroup was “undervalued” and he was buying more shares. The next day the stock dropped another 20 percent to close at $3.77.

In just that one week, Citigroup lost 60 per cent of its market value and 87 percent year to date. The company’s market value went from $250 billion in 2006 to $20.5 billion on Friday, November 21, 2008, or $4.5 billion less than the $25 billion the Federal government had pumped into Citigroup with Troubled Asset Relief Program (TARP) funds just one month prior. That reality did not stop the government from pumping in another $20 billion in TARP funds and $300 billion in asset guarantees.

That a bank like Citigroup, one of the largest in the U.S., can lose 60 percent of its stock market value in one week seriously calls into question the Fed’s idea of loss-absorbing equity capital as a means of warding off the next banking crisis. The only reason that Citigroup’s share price looks respectable today is because it did a 1-for-10 reverse stock split, boosting the share price but leaving shareholders with one-tenth the number of shares previously held. 

In yesterday’s announcement, the Fed Board of Governors also objected to the capital plans of HSBC North America Holdings Inc.; RBS Citizens Financial Group, Inc.; and Santander Holdings USA, Inc. based on qualitative assessments. Zions Bancorporation’s capital plan received an objection from the Federal Reserve based on the quantitative assessment. Like Citigroup, the banks will not be permitted to implement their requested plans for increased capital distributions and are “required to resubmit their capital plans to the Federal Reserve following substantial remediation of the issues that led to the objections, consistent with the requirements in the Federal Reserve’s capital plan rule.”

As Wall Street On Parade reported in October, banks are still failing at ten times the pre-crisis rate. A significant part of this failure involves the inability to compete against the banking behemoths. On March 31, 2009, the FDIC reported that there were 8,246 FDIC insured institutions with total domestic deposits of $7.5 trillion.  Just four institutions, Bank of America, JPMorgan Chase, Wells Fargo & Co. and Citigroup, controlled 35 percent of all the insured domestic deposits in 2009.

By June 30, 2013, according to FDIC data, the 8,246 banks and savings institutions had shrunk to 6,940 institutions with Bank of America, JPMorgan Chase, Wells Fargo & Co. and Citigroup controlling a combined $3.511 trillion in domestic deposits, a stunning 58.8 percent of the total. The market share of these four mega banks has increased by 24 percent in just 4 years.

The $6.2 billion in speculative losses by JPMorgan in its London Whale operation, using deposits from its FDIC bank; the allegations of big banks rigging Libor and foreign exchange and commodities markets and the coming trials in those areas; the latest investigation of Citigroup for potential money laundering – again; the very real possibility that the banks are up to the same high-risk shenanigans in toxic, synthetic derivatives that brought the country to its economic knees just five years ago, should be sending loud siren calls to the Fed that Dodd-Frank financial reform is an utter failure. The only means of saving the system from the next looming financial catastrophe is the return of the Glass-Steagall Act.

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