Financial markets have rebounded strongly after the American government revealed its biggest bank bailout yet with a $AS500 billion plan to rescue troubled Citigroup.
The late Sunday night announcement saw Citi shares soar at the opening after rising in pre-trading.
They jumped from Friday’s weak close of $US3.77 to a high of $US6.50, before closing up 58% at $5.95.
That recovered nearly all of last week’s 60% loss and drove Wall Street up almost 5% on the Dow and close to 7% on the Standard & Poor’s 500.
The US Government will guarantee $US306 billion ($500 billion) in risky assets (mostly subprime mortgage related).
Citi will also get a $US20 billion cash infusion from the Treasury Department, taking to $US45 billion the amount the bank has received from the Government in the past month.
In return for the cash and guarantees, the government will get $US27 billion ($43 billion) of preferred shares paying an 8% dividend.
That is higher than the 5% the government charges dozens of other lenders under its $US700 billion financial industry rescue package. But its under the 9.5% and more that some earlier rescuers demanded (Such as Abu Dabi)
Wall Street rebounded, oil rose more than $US4 a barrel, gold and copper jumped, grains were higher and European markets had their best day’s trading in six weeks: London’s FTSE 100 bounced 9.8%, a record.
In Paris, the CAC 40 index jumped 10.09% and in Frankfurt the DAX advanced 10.34%.
The hope is the move will stabilise the bank and its shares which plunged 60% in value last week.
The US Treasury, Federal Reserve and Federal Deposit Insurance Corp. said in a joint statement that the move aims to bolster financial-market stability and restore economic growth.
The decision came after New York-based Citigroup’s tumbling share price sparked concern that nervous depositors might pull their money and destabilize the company, which has $US2 trillion of assets and operations in more than 100 countries.
In the joint statement, the three regulators said:
"The U.S. government is committed to supporting financial market stability, which is a prerequisite to restoring vigorous economic growth. In support of this commitment, the U.S. government on Sunday entered into an agreement with Citigroup to provide a package of guarantees, liquidity access, and capital.
"As part of the agreement, Treasury and the Federal Deposit Insurance Corporation will provide protection against the possibility of unusually large losses on an asset pool of approximately $306 billion of loans and securities backed by residential and commercial real estate and other such assets, which will remain on Citigroup’s balance sheet.
"As a fee for this arrangement, Citigroup will issue preferred shares to the Treasury and FDIC. In addition and if necessary, the Federal Reserve stands ready to backstop residual risk in the asset pool through a non-recourse loan.
"In addition, Treasury will invest $20 billion in Citigroup from the Troubled Asset Relief Program in exchange for preferred stock with an 8% dividend to the Treasury.
"Citigroup will comply with enhanced executive compensation restrictions and implement the FDIC’s mortgage modification program.
"With these transactions, the U.S. government is taking the actions necessary to strengthen the financial system and protect U.S. taxpayers and the U.S. economy.
"We will continue to use all of our resources to preserve the strength of our banking institutions and promote the process of repair and recovery and to manage risks."
The statement said the following principles guide our efforts:
- We will work to support a healthy resumption of credit flows to households and businesses.
- We will exercise prudent stewardship of taxpayer resources.
- We will carefully circumscribe the involvement of government in the financial sector.
- We will bolster the efforts of financial institutions to attract private capital.
Citigroup issued a statement last week saying the company has “a very strong capital and liquidity position and a unique global franchise.”
But there’s a price for the help keep that "unique franchise" alive.
Citigroup has agreed to absorb the first $US29 billion of losses on the $US306 billion portfolio, plus 10% of additional losses, for a maximum total exposure of $US56.7 billion.
Included in the $US306 billion of good and mostly bad assets are residential mortgages, commercial real estate and leveraged loans, collateralised debt obligations and auction rate securities.
Federal government entities will stand behind 90% of the remaining losses, which could amount to $US249 billion..
The Treasury Department could end up absorbing $US5 billion, the Federal Deposit Insurance Corp $US10 billion, and the Federal Reserve the rest, around $US235 billion..
The bank will not have to make management changes, but agreed to tighter restrictions on executive pay, and to try to modify troubled mortgages in the $US306 billion portfolio.
Citigroup has already started a mortgage modifying program to try and stave off foreclosure for an estimated 200,000 mortgage holders over the next few months.
It also cannot pay more than 1 US cent per share in common stock dividends per quarter for three years without the Treasury Department’s consent. The quarterly dividend was 16 cents.
That means the dividend will fall to 4 US cents a year from 64 cents. A year ago it was 54 cents a quarter, or $2.16 a year.
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