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Breaking News…Citi “National Bank??”

Posted by Larry Doyle on February 22, 2009 10:24 PM |

UPDATED from late last night . . .

I just proposed on LD’s Dollars and Sense the idea that the markets would force Citigroup into the government’s hands. I thought it would occur within a month.  In just checking the WSJ newswire it appears that executives from Citi are negotiating with the government as I write this. The fact that Citi is looking to broker a transaction currently is effectively an admisson on their part that they are technically insolvent. While the U.S.  Eyes Large Stake in Citi, the common shareholders in Citi would be seriously diluted.  How would creditors be treated? At this stage I would guess that creditors will be untouched. I would imagine that if this transaction occurs, other banking shares will trade down in sympathy.

As much as I would like to think that this might be the event that stems the tide and allows the banking system and economy to turn the corner, I am not that optimistic. I view this as merely another step towards the ultimate full blown nationalization of this institution.

Overnight, bank stocks are actually up in overseas trading on the thought that this potential government intervention along with U.K government actions will inject more capital into specific banks for increased lending. That scenario is occurring with Northern Rock, a bank in the U.K.. Additionally, it appears that Royal Bank of Scotland, another major U.K. bank with a major government stake, will split.

The question for the market, in general, and banks specifically is how do those banks with major government stakes transact so as to maintain a “fair and balanced” market? Can a market work efficiently, effectively, and equitably with a few major players nationalized? This conundrum has occurred in the insurance sector where AIG (80% held by the U.S. government) has offerred extremely competitive rates in an attempt to generate revenues and work their way out of their mess. That scenario is not exactly beneficial to other insurance companies.

It seems this situation will be a step process. I personally would have no concern if I were a depositor at Citi or any other bank as long as my holdings are below the FDIC-insured limit. If this increased government stake does in fact occur, it likely would increase the market pressure on Bank of America but my instincts tell me that is not imminent. 

I will be monitoring this situation very closely as it unfolds.      


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