In a market desperate for some good news, yesterday's revelation that the Abu Dhabi Investment Authority (ABIA) had invested US$7.5 billion in Citigroup was seen as a positive.
That was certainly the spin that Citigroup was putting on the deal. As the balance sheet of one of the world's largest banks continues to shrink, the company's stand-in CEO said:
"This investment, from one of the world's leading and most sophisticated equity investors, provides further capital to allow Citi to pursue attractive opportunities to grow its business."
But rather than being used for growth opportunities, it is likely the new funds are required to shore up the banks' balance sheet, where billions of dollars of writedowns over the past month have reduced shareholder equity.
It has also been speculated that the capital injection will allow Citigroup to maintain its dividend. While existing Citi shareholders might see this as a positive, the rationale makes little sense.
This is because ABIA's investment is in the form of convertible equity, with the conversion date somewhere between 2010 and 2015. Until conversion, ABIA receives interest payments representing 11% of their initial investment.
So the ‘cost' of the financing to Citigroup is 11% per annum, and instead of preserving precious capital, they will continue keeping up appearances by paying a dividend.
And if that's not bad enough, the credit crisis is still in its early stages, and more writedowns loom.
