The GIC-Citi deal: opportunistic, (almost) completely safe
Posted on January 17th, 2008 by
Mindy Yong.
Categories:
Singapore News.
The GIC-Citi deal: opportunistic, (almost) completely safe
Investment seems a winner in every scenario - except the very worst case
By VIKRAM KHANNA
GIC’s US$6.88 billion investment in Citigroup announced on Monday is one of those hard-to-refuse deals that are available only to investors big enough and bold enough to step up to the plate when the going is really bad.
Too good to pass up: Had GIC declined the Citibank deal, another big investor would have gladly grabbed it
The deal is almost risk-free. GIC (together with the other big investors in the private placement, totalling US$12.5 billion) stands to earn a 7 per cent yield regardless of what happens to Citigroup’s share price - not at all bad for downside protection.
=> Why has it not crossed their mind that C can dou diu when even a layman can sense it?
As for the potential upside, GIC and the others can convert their preferred perpetual securities to Citigroup shares at a 20 per cent premium to a reference price (yet to be determined, but reckoned to be around the average of the next few days’ trading prices) any time they want.
This means if, some time in the future, Citigroup shares rise by over 20 per cent from the reference price (which would be close to a more than four-year low), GIC will be able to participate in some capital appreciation too.
How could anyone refuse such a deal? It is less risky than the deal the Abu Dhabi Investment Authority (ADIA) got when it pumped US$7.5 billion into Citigroup last November.
Although ADIA got a higher coupon (11 per cent), its mandatory convertible instrument obliges it to convert its securities into shares after a fixed time period (2.5 to 3 years).
That means ADIA would have to pick up the shares at a fixed conversion price of between US$31.83 and US$37.24 per share even if Citi’s share price has fallen - which would expose it to capital losses, albeit these would be at least partially offset by high coupon earnings prior to conversion.
Had GIC said no - for whatever reason - it is highly likely that another large investor would have been only too happy to take its place. And then, at the end of its capital-raising exercise, Citi might not need the funds as badly, and the window of opportunity to invest on such favourable terms in the world’s biggest banking franchise would have passed.
=> GREED! GOON!
GIC’s investment in Citigroup is, in short, shrewdly opportunistic and with a high degree of safety.
However, the deal cannot be said to be totally risk-free. First, it is obvious that Citigroup is in dire straits and needs money urgently - otherwise it would not have offered the deal that it did. In fact, it would not be inaccurate to characterise this latest capital injection as a bailout, not a regular investment.
It is also possible that Citi will need to go through more capital-raising exercises; even after all its write-offs so far, it still has exposure of about US$29 billion to collaterised debt obligations (into which sub-prime mortgage debt has been packaged). And in a deteriorating economy, its potential losses from other loans - regular mortgages, credit cards, unsecured personal loans, auto loans and corporate lending - could rise by more than it has made provisions for.
The question is: how easily will Citi be able to raise large amounts of capital again and again if its situation were to deteriorate more seriously than expected? Keep in mind that it is not the only institution going to the market to raise capital. Merrill Lynch, UBS, Morgan Stanley, Bear Stearns, and an unknown number of smaller institutions, mortgage lenders and hedge funds in the US and Europe are in a similar situation.
As the US and European economies weaken, many of these institutions might need to raise large amounts of capital, quickly and repeatedly. Can sovereign wealth funds be counted on to step in again and again? And what happens - including, perhaps, to Citi - if and when they reach the limits of their risk appetite for US and European financial institutions?
Which brings us to the most serious risk to the GIC deal: Citigroup going under. While this must be said to be a very remote possibility - with Citi perceived as being “too big to fail” - the risk cannot be said to be zero.
=> Remote possibility? HAHAHA!
Citi was, in fact, thought to be close to bankruptcy during the savings and loan crisis in the US in the early 1990s. And it’s worth recalling that the “too big to fail” thesis has not always held.
There have been several cases of big US companies and even banks going under, sometimes surprisingly - think Enron, WorldCom and Global Crossing in the 1990s; Drexel Burnham Lambert and Continental Illinois bank in the 1980s; and Lockheed and Chrysler (which were bailed out by the government) in the 1970s.
Another possibility - again remote, but not unthinkable - is a break-up of Citigroup into its component units, some of which are still doing well. How Citi’s current shareholders would fare under such a scenario is uncertain - although they would have legal recourse and there is a chance they would gain.
With all that said, it seems clear that in every scenario except the very worst case, the GIC investment in Citigroup comes out a winner. That makes it a pretty good bet, even in these bad times. If it was my money, I’d take it.
Source : Business - 17 Jan 2008
154th SPINNER, FARK U, TOO!
