Citigroup, Hawaii Settle Spat Over $1.1 Billion in Auction-Rate Securities

Citigroup Inc. agreed to buy back $869 million of auction-rate securities it had sold to Hawaii and repay the state for losses on securities it had previously liquidated, Hawaii’s Attorney General Mark Bennett said.

The settlement means Hawaii’s taxpayers will lose no principal on their investments in the securities, Bennett said in a statement posted on his official website. Citigroup admits no wrongdoing and Hawaii won’t pursue claims against the bank, according to the statement.

Hawaii has liquidated at par value $200 million of the securities, which are backed by pools of federally guaranteed student loans, since February 2008. Under the agreement with Citigroup, the state can obtain “interim liquidity” on as much as $150 million of the securities from July 2012 at market value. The bank will pay the difference between that market value and par in July 2015.

Alexander Samuelson, a Citigroup spokesman, said in a statement that the bank was “pleased to provide this liquidity solution to the state.”

The state’s portfolio would be valued at about $100 million less than par if it were sold today, according to SecondMarket Inc., a New York-based firm that matches buyers and sellers of alternative investments.

“This is a big win for Hawaii, although they’ll have to wait a little while to get their money back,” said Espen Robak, president of Pluris Valuation Advisors, a New York-based firm that provides valuation services for illiquid assets.

“From a valuation perspective, this gives Citi another headache it didn’t want,” he said in a telephone interview. SecondMarket’s parent company owns a minority interest in Pluris.

Market Collapse

Auction-rate securities got their name from the weekly, bank-run sales where the interest rate they pay investors is determined. The market, which once stood at $330 billion, collapsed in 2008 as banks stopped using their own cash to prop up the auctions. That left investors with bonds they couldn’t sell and forced borrowers such as hospitals to pay a premium.

Bloomberg News reported in March that the securities were sold to Hawaii as low-risk substitutes for U.S. Treasury bills by Citigroup broker Pete Thompson in Honolulu.

The state’s auction-rate purchases began after the broker successfully lobbied legislators in 1997 for a change in state law to permit the transactions. Thompson didn’t know the market was failing when he sold the state the bonds, he said in a March 24 interview.

‘Sorely Lacking’

Hawaii last year rejected as “sorely lacking” an offer by Citigroup to buy back at an unspecified discount the auction- rate securities sold by Thompson, Randall Nishiyama, a deputy attorney general, said in a telephone interview earlier this year. The Hawaiian Treasury bought the auction-rate bonds without making all of the required monthly disclosures to the state’s director of the Finance & Budget Department, according to a March 18 report by Auditor Marion M. Higa.

Hawaii’s finance department made its first investments in student loan auction-rate securities in 1998, according to the report by Higa. The holdings climbed from $427 million in July of 2007 to almost $1.1 billion in February 2008, when the auctions that allowed investors to sell the bonds began failing.

The settlement won’t result in a charge for Citigroup because the expected costs are covered under previously accumulated legal reserves, said a person with knowledge of the matter who requested anonymity.

Saber Partners LLC, a New York-based financial adviser, assisted Hawaii in the negotiations with Citigroup, said the firm’s chief executive officer, Joseph Fichera.

To contact the reporters responsible for this story: Douglas Wong in Hong Kong at dwong19@bloomberg.net; Christopher Palmeri in Los Angeles at cpalmeri1@bloomberg.net.

To contact the editor responsible for this story: Mark Tannenbaum at mtannen@bloomberg.net.

Press spacebar to pause and continue. Press esc to stop.

Bloomberg reserves the right to remove comments but is under no obligation to do so, or to explain individual moderation decisions.

Please enable JavaScript to view the comments powered by Disqus.