Citigroup (C) is one of the world's largest banks with a presence in over 160 countries and has over 200 million customers. The company has a presence in almost all financial segments such as consumer and institutional banking, investment banking, brokerage services, wealth management etc. It is a financial supermarket offering all kinds of financial services to its customers. Citigroup, like many of the other "too big to fail" banks, came close to failure during the Lehman crisis in 2008. Its stock price crashed along with the broader financial sector as the whole financial house of cards teetered on the verge of collapse. Only a $45 billion bailout by the US government saved the bank from certain failure at that time. Citigroup appointed Vikram Pandit as the CEO following its "near death" experience. The company has underperformed the market and the broader financial sector.
What makes Citigroup a sell
Company specific issues
1. Management is a mess
Citigroup management has not inspired confidence in the last few years, with Vikram Pandit at the helm. The boardroom drama that resulted in the ouster of Vikram Pandit has led to a worsening in the confidence and indicates that the top management is not playing together as a team. It reminds one of HP (HPQ), where power politics amongst board members has contributed greatly to the deterioration in the company's performance.
2. Financials have deteriorated significantly post-Lehman
Citigroup's financial performance over the last few years has hardly been anything to write home about. The company's topline has hardly changed in the last 5-6 years (with the exception of 2008). Its profitability has deteriorated with operating margin falling to a 15-18% range compared to the 28-35% range in the pre-Lehman years. In the current economic scenario, it is almost certain that those high operating margins are not going to be seen for a long time. ROA has decreased to a ~0.5% level from a ~1.5% level while ROE has decreased to a measly 6.5% level from 15-20% during the pre-Lehman crisis.
3. Valuation is not cheap
Citigroup is trading at a P/E ((TTM)) of 16.2x and a P/B of 0.6x compared to the industry average of 16.4x and 0.8x respectively. Citigroup has been paying a quarterly dividend of a measly penny a share for the past year. Its dividend yield of 0.1% is substantially below that of the industry average at 2.3%. We think the stock is expensive as Citi is trading at the same valuation as better industry counterparts. (Source: Morningstar)
4. Crown Jewels sold at a discount to shore up its capital position
Citigroup has sold a number of prime assets in order to raise cash. The company has sold its profitable Smith Barney brokerage business to Morgan Stanley (MS) in order to shore up its capital ratio. The company also badly negotiated the sale, leading to a loss of $500 million. Citi has been forced to sell equity stakes in high quality assets in India (HDFC) and Turkey.
5. Reputation in tatters after Fed rejection of share buy back
Citigroup's tattered reputation received another setback when the US Federal Reserve rejected Citigroup's planned buyback of shares. The bank received a massive amount of Federal Funds as a part of the financial bailout. As a result, the US Fed has a veto on dividends and share buybacks by Citigroup. Failing to anticipate a possible Fed rejection was a massive blow to Citigroup's reputation. Other Citi competitors like JP Morgan Chase (JPM) have received Fed approval for a $15 billion share purchase in 2013. This shows that the Fed has very low confidence in the balance sheet and profitability of Citigroup.
a) Slower US growth as fiscal and monetary stimulus slows/ reverses
The US GDP growth is expected to slow down in 2013 as the fiscal/monetary stimulus measures slow down/reverse. The outcome of the "Fiscal Cliff" is not known but one thing for certain is that taxes are going to be higher and spending by the government will be lower. This is going to negatively impact banking stocks which are heavily leveraged to the heath of the economy.
b) More stringent regulations on the financial sector
The financial industry has become one of the most hated industries after virtually bringing the whole economy to the brink of collapse. Obscenely high compensation being paid to bankers has been one of the main causes of the protests against income inequality. The government has passed the Frank Dodd law which has raised the costs for banks and reduced their profit margins. Expect the banking sector to come under more regulatory pressure in the future.
c) Housing recovery may not sustain
The US housing sector has shown signs of recovery after a deep and prolonged downturn. This in turn has buoyed the shares of the financial sector. However, the recovery may not sustain as stimulus measures slow down in the future.
d) Litigation and settlement expenses
The big global banks have been hit with numerous lawsuits in the past few years related to wrongdoing during the mortgage crisis. Banks have already paid billions of dollars in fines to individuals as well as the government. The wave of litigation has not stopped as more cases of fraud and wrongful disclosure emerge. Deutsche Bank (DB) has seen its stock price plunge after its employees were arrested by the German police for carbon fraud. Their reputation suffered even more damage after it was found that the vice chairman complained to a top government official about his home being searched. The Libor scandal, which resulted in Barclays' CEO resignation, has the potential to seriously hurt Citi as well.
Emerging Markets - Citigroup has an impressive position in emerging markets compared to other US bank stocks. The company generates over half of its revenues from foreign markets. With stronger growth expected in these markets, Citigroup could show better performance than the other US banks.
Stock Performance and Sentiment
According to Marketwatch, out of the 33 analysts only 3 analysts have a sell rating on the stock. The positive sentiment amongst the "Sell Side" analysts has increased as the stock has rallied. There are very few analysts willing to bet on Citi downside.
Citi stock performance has been the worst amongst the big banks, showing a negative 88% return over the past 5 years. In comparison Wells Fargo (WFC) has given an 11% return while JPMorgan has shown a 2% loss. Over the past year Citigroup has given a 47% return which is second only to Bank of America's (BAC) ~102% return. It is interesting to note that the worst performers over the past 5 years have shown the best performance in 2012.
Citi has rallied by around 40% in the last 6 months which has turned the majority of the sell side community bullish. We think it might be a good time to sell the stock into the rally. (Source: Google Finance)
Citi stock has gone up with the general rally in the financial sector and the broader market. However, we don't think that the Citi stock can go up too much from here given the problems that they face. The bank has initiated restructuring by firing 11,000 workers in order to cut fat. However, we are not sure that the current management can streamline the bloated unwieldy structure of the bank. There have been indications that the management will accelerate the restructuring process in 2013. While no one can be sure what will be the ultimate result of the changes being planned, we think this uncertainty will act as a headwind for the stock.