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 Posted: Mon Nov 02, 2009 1:47 pm |
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Citigroup Inc. and JPMorgan Chase & Co. are hoarding cash as if
another crisis were on the way
http://www.bloomberg.com/apps/news?pid=20601110&sid=aoegJmRxtzQA
Pandit ‘Near Death’ Hoard Signals Lower Bank Profits (Update2)
By Bradley Keoun
Nov. 2 (Bloomberg) -- Citigroup Inc. and JPMorgan Chase & Co. are
hoarding cash as if another crisis were on the way.
Citigroup has almost doubled its cash to $244.2 billion in the year
since Lehman Brothers Holdings Inc. filed for bankruptcy, the biggest
such stockpile of any U.S. bank. The lender, which last year came so
close to a funding shortfall it had to get a $45 billion government
infusion, is under pressure from the Treasury Department and
regulators to keep more money on hand for emergencies, even as markets
improve.
The caution, which may help restore confidence in the financial
system, offers little comfort to shareholders, who can expect to see
shrinking returns as banks put money into liquid investments that
yield one-twelfth the interest rates of loans.
“It’s a smart longer-term move, but it will take down the rates of
returns these companies can generate,” said Eric Hovde, chief
executive officer of Washington-based Hovde Capital Advisors LLC, a
hedge fund with $1 billion of financial-industry and real estate
investments. “If you start to see more economic stabilization, then
liquidity levels would start dropping, but they’ll never go back to
the insane level they were pre- crisis.”
Regulators say banks got too aggressive in the years leading up to
last year’s credit-market seizure, operating with too little equity
capital and putting too much money into illiquid investments such as
loans and complex, hard-to-trade securities and derivatives.
‘Core Principles’
A lack of funds “can contribute as much or more to the firm’s failure
as insufficient capital,” the Treasury Department said in a Sept. 3
statement of “core principles” on financial regulation. Lehman, the
New York-based securities firm that declared bankruptcy on Sept. 15,
2008, after losing access to its funding, had said in a statement five
days earlier that it had a “strong capital base.”
Banks should “hold a pool of unencumbered, liquid assets sufficient to
cover likely funding shortfalls in the event of an acute liquidity
stress scenario,” the Treasury said. Such a scenario might occur when
depositors rush to pull their money, companies suddenly draw down
credit lines or trading partners unexpectedly demand additional
collateral, the department said.
Worldwide, financial companies have raised $1.4 trillion of capital
since the start of the credit crisis in mid-2007, diluting
shareholders’ stakes while shoring up the buffer that insulates
depositors in the event of a failure.
Increasing Liquidity
The four largest U.S. banks by assets -- Bank of America Corp.,
JPMorgan, Citigroup and Wells Fargo & Co. -- have increased their
combined liquidity by 67 percent to $1.53 trillion as of Sept. 30 from
$914.2 billion in June 2008, before Lehman’s collapse, according to
the companies’ third-quarter reports. The amount equals 21 percent of
the banks’ total assets, up from 15 percent.
Liquidity includes cash, deposits at other banks and debt securities
that can be pledged as collateral in exchange for overnight borrowings
from the Federal Reserve or other banks.
Citigroup’s total liquidity as of Sept. 30 was $450.3 billion, or 24
percent of assets, up from 16 percent in June 2008. The shift was
reflected in the bank’s third-quarter results, when interest income
fell by $1.4 billion from a year earlier and pushed New York-based
Citigroup, headed by CEO Vikram S. Pandit, to an operating loss of
$750 million.
‘No Choice’
The $244.4 billion Citigroup holds in cash and deposits is $131.4
billion more than it had as of June 30, 2008. That’s five times as
much as the $47.1 billion cash hoard Warren Buffett’s Berkshire
Hathaway Inc. had at its peak in the third quarter of 2007. Financial
firms typically keep more liquid assets than other companies to comply
with regulatory requirements.
“In my 44 years in the business, I have never seen a company with
remotely as much cash as this,” said Richard X. Bove, an analyst at
Rochdale Securities in Lutz, Florida.
If Citigroup’s cash and deposits, which earn 0.63 percent, had been
put into loans, which fetch 7.2 percent, the bank would be getting at
least $8.65 billion more in annual interest revenue. The risk is that
some of those loans go bad, and the bank ends up losing more than the
incremental revenue.
In the third quarter, the four biggest U.S. banks posted a combined
2.1 percent decline from the previous quarter in net interest revenue
-- what they earn on loans and investments minus what they pay out on
deposits and borrowings.
“Even though it makes no sense for a bank to have $245 billion in
cash, Pandit has no choice,” said Bove, who rates Citigroup “buy.” “I
don’t think it’s something to either praise him for or criticize him
for. That’s simply the fact. You either keep that cash or you’re
dead.”
JPMorgan Cash
JPMorgan CEO Jamie Dimon said last week at a securities- industry
conference that “the chance of Armageddon is over.” The view hasn’t
stopped him from tripling JPMorgan’s pile of cash and debt securities
that can be used as collateral over the past year. The New York-based
bank’s total liquidity was $453.6 billion as of Sept. 30, including
$80.7 billion in cash and deposits at other banks. The larger figure
is 22 percent of its total assets, up from 9.5 percent before Lehman’s
bankruptcy.
“JPMorgan has talked incessantly about the concept of the fortress
balance sheet, and as long as Jamie’s running the company, they’re not
going to wind up in the position where they’re forced into a corner
because of access to funding,” said Jordan Posner, senior portfolio
manager at New York-based Matrix Asset Advisors, which owns about
793,000 JPMorgan shares.
‘Adverse Conditions’
The bank said in an Aug. 10 regulatory filing that its strategy is “to
ensure liquidity and diversity of funding sources to meet actual and
contingent liabilities through both stable and adverse conditions.”
Spokeswoman Jennifer Zuccarelli declined to comment.
Bank of America, which also got a $45 billion U.S. bailout, has
increased its holdings of cash, time deposits and debt securities to
$422.6 billion, or 19 percent of overall assets, from 17 percent in
June 2008, according to company reports. Mark Linsz, treasurer of the
Charlotte, North Carolina-based bank, didn’t return a call for
comment.
At San Francisco-based Wells Fargo, which got $25 billion of bailout
funds last year, the ratio of cash and debt securities to total assets
dropped to 16 percent as of Sept. 30 from 17 percent before Lehman’s
bankruptcy. The bank’s total liquidity is $201 billion.
Wells Fargo needs fewer liquid assets because it gets a majority of
its funding from customer deposits, which are “much more stable in
times of economic and market stress” than the short-term borrowings
rivals rely on, bank spokeswoman Mary Eshet said. The bank acquired
Wachovia Corp. last December.
“We have seen unprecedented growth in our deposit base over the last
18 months,” Eshet said.
Customer Deposits
Customer deposits, long-term debt and shareholder equity represent a
combined 92 percent of overall assets, according to Wells Fargo’s
financial statements. That compares with 75 percent at Bank of
America, 72 percent at Citigroup and 63 percent at JPMorgan.
Rochdale’s Bove predicted in an Oct. 23 report that Wells Fargo’s net
interest revenue, which accounted for 52 percent of the bank’s third-
quarter total, will fall “for the next few quarters,” partly because
of government pressure to increase the bank’s holdings of lower-
yielding liquid assets.
“The bank simply is not as liquid as its peers,” wrote Bove, who rates
Wells Fargo a “sell.”
Basel Guidelines
The Basel Committee on Banking Supervision, a 35-year-old panel that
sets international capital guidelines, plans to propose a “new minimum
global liquidity standard” by the end of this year, according to a
Sept. 15 statement from the Financial Stability Board, which is
coordinating financial regulatory reform on behalf of the Group of 20
nations.
Bondholders may benefit from an explicit threshold, said Baylor
Lancaster, an analyst at CreditSights Inc. in New York. “From a credit
perspective, it’s a positive,” she said. The market rate to insure $10
million of Citigroup bonds for five years has tumbled to $180,000 a
year, from a record $667,000 in April.
Last November, when Pandit had to seek emergency aid from the
Treasury, Federal Deposit Insurance Corp. and Federal Reserve, a run
on the bank’s then-$780.3 billion of deposits was only one of his
worries. He also faced soaring interest costs on $29 billion of short-
term commercial paper, the threat of $400.7 billion of corporate loan
commitments getting tapped and the possibility that Citigroup might
have to provide funding to more than $400 billion of off-balance-sheet
financing vehicles.
‘Near-Death Experience’
The government’s assurance of support, along with the promise of FDIC
debt guarantees and at least $1.86 trillion of federal programs set up
to ease the U.S. banking industry’s funding demands, helped stave off
Citigroup’s collapse.
“When you go through a near-death experience, it focuses the mind, and
none of these people want to ever go through it again,” said Charles
Bobrinskoy, a former Citigroup investment banker who’s now director of
research at Chicago-based Ariel Investments LLC, which oversees about
$4 billion.
Citigroup has increased its deposits by $52.3 billion and reduced its
commercial paper outstanding to $10 billion as of Sept. 30. The bank
has sold about $65 billion of FDIC-backed debt while letting its loan
portfolio decline by $95 billion to $622.2 billion.
‘Deliberately Liquid’
The bank has a “deliberately liquid and flexible balance sheet,”
Citigroup Treasurer Eric Aboaf said on an Oct. 16 investor conference
call. The bank plans to refinance only $15 billion of about $45
billion of debt coming due next year and may use some of its cash to
meet the payments, he said. Citigroup spokesman Stephen Cohen declined
to comment.
Pandit probably can’t use his cash to pay back the $20 billion
Citigroup still owes the U.S. government since that would reduce its
capital, which regulators want the bank to maintain until the
financial crisis has passed, said Chris Kotowski, an analyst at
Oppenheimer & Co. in New York who rates the shares “market perform.”
Treasury in February converted $25 billion of its bailout money into
Citigroup common shares. That conversion led to a one-time $851
million after-tax gain that gave Citigroup a net third-quarter profit
of $101 million.
Citigroup’s shares have quadrupled since falling to a record low of
$1.02 in the week after the conversion. They dropped 10 cents to $3.99
at the close of the day in New York Stock Exchange composite trading.
U.S. banks are nowhere near as liquid as they were in the mid-1940s,
when cash and securities accounted for 83 percent of total assets,
according to CreditSights, citing FDIC data.
‘Shell-Shocked’
The failure of about 9,000 banks during the Depression “shell-shocked”
the survivors, which then bolstered their reserves to “sleep better at
night,” said Richard Sylla, a financial historian and economics
professor at New York University’s Stern School of Business. In the
late 1930s the U.S. government doubled reserve requirements and in the
‘40s pressured banks to buy war bonds, he said.
The liquidity ratio stayed above 40 percent until the early 1970s, and
above 20 percent until a few years ago, according to CreditSights.
“Gradually the banks ran down their liquidity levels and got back into
the business of making loans, but it didn’t happen overnight,” Sylla
said.
To contact the reporter on this story: Bradley Keoun in New York at
bkeoun at (no spam) bloomberg.net.
Last Updated: November 2, 2009 17:29 EST |
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