UPDATE: Latest Citi Rescue Spooks Investors With New Shift
28 February 2009 - 7:42AM
Dow Jones News
The government's new blueprint for bailing out crippled banks
has investors thinking twice about sinking money into a sector once
known for its steady returns and value.
For weeks, investors expected the government to simply take a
larger stake in Citigroup Inc. (C) and dilute common shareholders.
But the decision to stop paying dividends on most of the bank's
preferred shares caught many by surprise. Suddenly, bank preferred
shares have lost their aura of safety.
Investors complain that the latest rescue of Citigroup
represents yet another shift in the government's strategy.
"We all thought we had the game plan from the government just a
couple days ago," said Anton Schutz, manager of the Burnham
Financial Services Fund. "As portfolio managers, we can't do our
job because they keep changing the rules."
Over the past year, the government has taken an ad-hoc approach
to dealing with teetering financial firms. Bear Stearns was folded
into JPMorgan Chase & Co. (JPM) with government assistance;
Lehman Brothers was allowed to simply fail; and American
International Group Inc. (AIG) is now struggling to repay the $150
billion in government loans.
Shares of financial companies plunged after the Treasury
Department announced it is willing to convert up to $25 billion of
its preferred holdings in Citigroup into riskier common stock. That
conversion is contingent upon other preferred stock investors also
converting. Citigroup said it will offer to convert nearly $27.5
billion in preferred stock sold to private investors and the
public; in total, existing shareholders' stake could be cut to 26%
of the company's stock.
Preferred shareholders like pension funds, sovereign wealth
funds, and even big individual investors like former Citi Chairman
Sanford Weill, do have a choice. Should investors choose not to
convert their preferred shares to common stock, they are left to
hope and pray that Citi will someday return to paying preferred
dividends. (One type of preferred shares, so-called trust
preferreds, will continue to pay dividends, and various classes of
TruPs were trading between 20% and 66% higher in recent Friday
trading, according to FactSet Research.)
Analysts say few investors are expected to hold on to their
preferred shares. And, that has caused shareholders - both common
and higher classes - to become much more wary about the banks that
they have holdings in.
"The cost of doing this with one bank is that it makes
shareholders at other banks nervous," said Campbell Harvey,
professor of finance at Duke University's Fuqua School of
Business.
Joseph Battipaglia, head equity strategist for the
private-client group at Stifel Nicolaus, believes investors will
shy away from investing in banks.
"Now investors fear that converting preferred securities to
common equity might be the way bank bailouts are handled in the
future," he said.
The Treasury Department's latest bid to quell fears about
Citigroup had a punishing effect on its stock, which fell to an
18-year low. Wall Street was also worried about the chances other
banks might be subject to similar federal intervention.
Shares of Bank of America Corp. (BAC) fell 15.8% to $4.48 in
midday trading. Analysts have said the bank, which has received
massive federal aid, might be another weak link in the ailing
financial system.
Wells Fargo & Co. (WFC) fell 6.9% to $13.40 and Fifth Third
Bancorp dropped (FITB) 7.4% to $2.12. Meanwhile, banks seen as not
needing government intervention - like JPMorgan, Goldman Sachs
Group Inc. (GS) and Morgan Stanley (MS) - were down less
sharply.
Frank Barkocy, director of research at Mendon Capital Advisors
Corp., believes confidence will once again grow in Citi and the
rest of the banks: "I think the shares will come back," he
said.
-By Joe Bel Bruno, Marshall Eckblad and Jessica Papini; Dow
Jones Newswires; 201-938-4047; joe.belbruno@dowjones.com