Citigroup Says Debt Beats Peers in Advance of ‘Bail-In’ Rule

Citigroup Inc., the bank that took the most U.S. aid during the credit crisis, said it’s better-prepared than some rivals to withstand the impact of new anti-bailout rules that could force lenders to sell more debt.

Citigroup’s so-called bail-in plan -- a rescue that makes debt investors and stockholders absorb losses instead of taxpayers -- shows the bank already has issued more long-term debt than some of its largest rivals, Treasurer Eric Aboaf said during an April 22 investor presentation. That leaves the New York-based bank in a better position as regulators decide how much more debt lenders should add to their buffers, Aboaf said.

The U.S. is designing ways to wind down failing banks without unpopular measures such as the publicly funded $700 billion Troubled Asset Relief Program. The 2010 Dodd-Frank Act gives regulators tools to dismantle a large, distressed firm, and the Federal Reserve and Federal Deposit Insurance Corp. are considering whether banks should be told to issue long-term debt now that could be converted to equity in an emergency.

The idea, part of the so-called orderly liquidation authority or OLA, has ruffled fixed-income investors. They’re concerned that prices of existing bonds will fall and funding costs will rise if banks are forced to issue more debt, with senior bondholders used as “the new honeypot” to protect taxpayers, according to a December report by UBS AG analysts led by Robert Smalley.

Citigroup Adapts

“Based on what we know now, we believe that our capital structure positions us well to adapt to potential OLA requirements, especially relative to our peer institutions, many of whom tend to run with less long-term parent-company debt than we do,” Aboaf said. Citigroup ranks third by assets among U.S. based lenders.

Citigroup’s “bail-in components” that could be used in a potential failure included $235 billion of different kinds of debt, according to an accompanying slide show. The bank had $1.69 trillion of total liabilities at the end of March, according to a financial supplement.

The lender received $45 billion of U.S. bailout funds plus asset guarantees during the financial crisis. The money has since been repaid and Citigroup earned $7.54 billion last year.

JPMorgan Chase & Co., the biggest U.S. bank, has $373 billion of holding company debt and equity, according to a February slide show from the New York-based company. Bank of America Corp., the second-biggest U.S. bank, has yet to make a similar disclosure, Jerome Dubrowski, a spokesman for the firm, said in an e-mail. Wells Fargo & Co., the fourth-biggest, also hasn’t made such a disclosure, Mary Eshet, a spokeswoman for the company, said in an e-mail.

Debt Floor

Fed Governor Jerome “Jay” Powell said last month that the central bank and FDIC are “considering the pros and cons” of setting a floor for long-term unsecured debt to absorb losses and capitalize a bridge holding company for banks that fail.

“The idea of a minimum amount of holding company debt has legs within the regulatory community, and we’ll probably see something coming out of the Fed by the end of the year,” said Smalley, the UBS analyst, in a phone interview. “They want as many buffers as they can get.”

Bail-ins have drawn favor in the U.S. and Europe after taxpayers were forced to bear the risk of bailing out firms such as American International Group Inc. and Royal Bank of Scotland Group Plc while senior bondholders weren’t asked to take losses. Bail-ins have been used in Cyprus, Denmark and Ireland.

Irish Impact

Irish banks, which received a gross 64 billion-euro taxpayer bailout over the past four years, inflicted about 15 billion euros of losses on subordinated bondholders, even as senior creditors and depositors were made whole following western Europe’s biggest banking crisis.

Denmark is reviewing its commitment to the idea after the 2011 failure of Amagerbanken A/S, which was the first EU bank collapse to trigger senior creditor losses within a state resolution framework. The move tainted Denmark’s entire financial industry, with funding costs jumping even for Danske Bank A/S, the nation’s biggest lender.

In the U.S., Fed Governor Daniel Tarullo has said he wants a minimum long-term debt requirement to prevent further bailouts and counteract the moral hazard that they present. This method “would not seem to carry significant hurdles,” he said in December.

The biggest Wall Street firms sold fewer bonds in the wake of the financial crisis as they sought to reduce their borrowings, according to Smalley. This diminished supply has helped to increase the value of the securities, Smalley said.

Prices Rise

Bonds from JPMorgan rose an average 4.2 percent in the last 12 months, according to Bank of America Merrill Lynch’s U.S. Financial Index, while Citigroup’s bonds have gained an average 7.4 percent. The index has climbed an average 6 percent.

Bondholders are “nervous” because the value of their investments could decline if banks are forced to issue billions of dollars of new debt to comply with the rules, according to David Knutson, a credit analyst with Legal & General Investment Management America Inc.

“The debt markets are clamoring for more information around potential supply due to OLA,” said Knutson. “If the supply characteristics significantly increase, the price is going to go down.”

A bill intended to end the perception that some U.S. banks are too big to fail is scheduled to be introduced today in the Senate. Under the measure by Senators Sherrod Brown, an Ohio Democrat, and David Vitter, a Louisiana Republican, banks with more than $500 billion in assets would face higher capital standards meant to reduce risk and end any market perception that taxpayers will bail out the biggest institutions.

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