Citigroup Vows to Try Again as Some Lenders Fail Fed Test

Citigroup Inc. (C), the lender that took the most government aid during the financial crisis, will seek approval for a “meaningful” payout to shareholders after failing to meet minimum standards in U.S. stress tests.

“We still believe that our company has the capacity to return more capital to shareholders,” Chief Executive Officer Vikram Pandit said in an internal memorandum obtained by Bloomberg News. “We will work with the Federal Reserve to formulate a plan that returns meaningful capital while satisfying our regulators.”

The Fed objected yesterday to Citigroup’s capital plan, which may have included a request for a higher dividend. SunTrust Banks Inc. (STI), Ally Financial Inc. and MetLife Inc. (MET) also fell short in the Fed’s test of how 19 of the nation’s biggest lenders would fare in a severe economic slump.

The results are a blow to Pandit, who has told investors the New York-based bank is ready to return capital to shareholders after slashing the dividend during the financial crisis. Capital plans submitted for the tests typically involve requests for higher dividends and share buybacks, which the Fed allowed for JPMorgan Chase & Co. (JPM) and Wells Fargo & Co. (WFC)

“Investors are going to be disappointed,” said Michael Shemi, a director at Christofferson, Robb & Co., a New York- based investment firm with about $1.5 billion under management, referring to Citigroup. “Citi appears to have been too aggressive with their capital plans.”

Photographer: Daniel Acker/Bloomberg

Citigroup Center in New York. Close

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Photographer: Daniel Acker/Bloomberg

Citigroup Center in New York.

Shares Decline

Citigroup fell 3.2 percent to $35.27 at 11:50 a.m. in New York, the biggest drop on the 24-company KBW Bank Index. JPMorgan, which jumped 7 percent yesterday, was up 0.4 percent, and Wells Fargo declined 1 percent.

Pandit scrapped Citigroup’s dividend in 2009 as part of the company’s $45 billion bailout, which was later repaid. He reinstated a 1-cent payout last year and has been selling riskier assets to rebuild the bank’s strength. The Fed didn’t object to keeping the current quarterly payout, Citigroup said.

The Fed’s decision “is disappointing, but we remain very optimistic about the long term,” Pandit wrote in his memo.

The tests may also set back Ally, the Detroit-based auto and home lender rescued by taxpayers, which had planned an initial public offering to repay its bailout. Ally, run by CEO Michael Carpenter, and SunTrust, led by CEO William H. Rogers, said they will submit revised plans.

Deep Recession

The Fed is testing to see how the capital of U.S. banks might hold up through a deep recession and a second housing crisis. The scrutiny focused on variables such as trading and counterparty losses and write-offs on credit cards and first- lien mortgages. Most of the 19 banks passed.

Disclosure of stress-test results in May 2009 boosted confidence in the financial system by giving investors more certainty on the maximum losses firms might sustain, and bank stocks beat the Standard & Poor’s 500 Index in the next 12 months. The KBW Bank Index (BKX) jumped 4.6 percent yesterday after JPMorgan, the biggest U.S. lender, announced it had passed the test and was raising its dividend 20 percent.

The average estimate of six analysts surveyed by Bloomberg was for Citigroup to increase its payout to 28 cents this year from 3 cents. They projected the bank would buy back about $2.18 billion in shares, or 2.2 percent of the total, after making no repurchases last year.

Overstated Risks

Shannon Bell, a spokeswoman for Citigroup, declined to comment on what was in the capital plan. Ally said in an e- mailed statement that the Fed’s analysis overstated some risks and didn’t account for some of the auto and home lender’s financial and management resources.

Citigroup’s projected Tier 1 common capital ratio fell to 4.9 percent, below the central bank’s minimum requirement of 5 percent, in a test estimating the effects of a severe economic slump, according to data released by the Fed. Citigroup would surpass the threshold if the bank didn’t pursue a dividend increase or share buyback, according to the Fed’s data.

Citigroup still has more than $200 billion of unwanted assets in the Citi Holdings unit, including more than $100 billion of mortgages, according to a filing.

“We continue to have the same goals that I mentioned before, which is that this will be the year that we’ll start returning capital,” Pandit told analysts on Jan. 17.

Federal Aid

Ally has benefited from $17.2 billion of federal aid, which it needed after losses swelled on subprime home mortgages made by its Residential Capital mortgage subsidiary. A statement e- mailed by Gina Proia, a spokeswoman for Ally, said the Fed’s analysis “dramatically overstates potential contingent mortgage risk, especially with respect to newer vintages of loans.”

The tests also didn’t give enough credit for “management’s track record” and commitment to addressing the mortgage risks, and doesn’t “adequately contemplate contingent capital that already exists,” according to the statement.

The U.S. Treasury holds $5.9 billion of preferred shares that must be converted into common equity no later than Dec. 30, 2016, according to the lender’s annual securities filing.

Ally has considered putting the ResCap unit into bankruptcy, people familiar with the matter have said. Once known as GMAC when it was part of General Motors Co., Ally remains one of the biggest auto lenders and has profited from a recovery in car sales. The U.S. gained a 74 percent stake in the company in return for rescuing Ally in 2008.

Raising Capital

“They’ve done a lot less capital-raising than others,” said Kirk Ludtke, an analyst at Stamford, Connecticut-based CRT Capital Group LLC. Ally’s capital plan may include additional contributions to ResCap, he said.

SunTrust’s Tier 1 common capital ratio would fall to 4.8 percent if the Atlanta-based lender carried out capital plans submitted to the Fed, according to the test results. Capital plans can include dividend payouts, stock repurchases and share sales. Ally’s ratio was estimated at 2.5 percent, regardless of any capital actions it proposed, according to Fed data.

SunTrust, ranked eighth in the U.S. by deposits, said it would have met Federal Reserve standards without the plan for capital actions that the lender submitted to the regulator. Distributing dividends and share buybacks tend to weaken performance on the tests by draining capital.

Shares in SunTrust rose 66 cents, or 2.9 percent, to $23.23 at 11:50 a.m. in New York trading after the company said first- quarter earnings will probably beat the average estimate compiled by First Call.

Housing Loans

The lender amassed losses amid a housing slump in the nation’s Southeast. After posting profits of more than $1 billion annually before 2008, the company booked a $1.56 billion loss in 2009 as write-offs surged.

About 27 percent of SunTrust’s residential construction loans and 29 percent of its residential mortgages were concentrated in Florida, which suffered some of the worst mortgage defaults during the financial crisis.

“I don’t think these stress tests are about who needs more capital,” said Michael Rose, an analyst with Raymond James & Associates Inc. “Clearly it’s about who can return capital. So maybe what they asked for might have been a little aggressive.”

Rose, who rates the shares “outperform,” said he’d been expecting SunTrust to double its 5-cent quarterly dividend. “It’s not like they failed by a wide margin,” he said, calling the test’s scenario “onerous” and “probably unrealistic.”

MetLife’s Results

MetLife’s total risk-based capital ratio would be 6 percent, compared with the minimum acceptable level of 8 percent, the Fed said as part of its review of how companies would withstand a “stress scenario.”

The insurer had requested approval for $2 billion in share repurchases and an increase of its annual dividend to $1.10 a share from 74 cents, according to a statement from the New York- based company. MetLife, which is overseen by the Fed because of its banking operations, was prevented by the regulator last year from increasing its dividend.

CEO Steven Kandarian is winding down the banking business and said he expects the firm to have as much as $7 billion of excess capital by the end of this year. Kandarian said he remains “fully committed” to returning funds to shareholders, and that MetLife is on track to stop being a bank holding company by the middle of this year.

“At the end of the day this is an insurance company,” said Edward Shields, an analyst at Sandler O’Neill & Partners LP. MetLife’s inclusion in the Fed test is “like putting a square peg into a round hole.”

Shares in MetLife fell 4.5 percent in New York. The stock gained 27 percent this year through yesterday.

Fifth Third Bancorp (FITB), the Cincinnati-based lender, said the Fed objected to increases in its 8-cent quarterly dividend and some common share buybacks. The government didn’t object to its redemption of as much as $1.4 billion in certain trust-preferred securities.

To contact the reporters on this story: Donal Griffin in New York at dgriffin10@bloomberg.net;

To contact the reporter on this story: Laura Marcinek in New York at lmarcinek3@bloomberg.net

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