With the financial sector recovering, I've been looking at the banks a little closer lately. Out of the "Big Four", or more specifically -- Wells Fargo (WFC), JP Morgan (JPM), Citigroup (C), and Bank of America (BAC) -- there seems to be one bank that sticks out. That bank is Citigroup, and for good reasons.
What makes Citi different?
An unique aspect of Citigroup is its gigantic global footprint and its leading international market positions. The company has roughly 200 million customers in over 160 countries and jurisdictions. Citi wants to benefit from the forces of globalization by being the leading bank globally, for both individuals and institutions. It currently operates in four regions:
- North America:
Consists of the U.S. and Canada. Citi has operated in Canada for over 50 years now.
- Europe, Middle East, and Africa:
EMEA does business in over 61 countries and banks over 90% of FTSE 100 companies. 50% of these companies cite Citi as their lead bank. EMEA possesses roughly 267 branches, 6 investment centers, and over 1,037 ATMs.Latin America:
Citi has "the broadest presence of any financial institution in the region" operating in 24 countries. It also operates 2,500 retail bank branches (including point of sales and joint ventures). Citi serves over 31 million retail customers accounts in Latin America.
- Asia Pacific:
Citi operates across 18 markets in this region, and it provides more services in more markets than any other financial institution in the region. It has 600 retail branches and over 2,500 ATMs across the Asia Pacific.
International markets: A blessing or a curse?
Source: Citi Annual Report 2012
Citigroup actually does more business overseas than in the U.S. when looking at revenues. It's also increasingly inserting itself into emerging markets. Between 2008 and 2012, 45% of the world's growth occurred in just China alone, according to Citi. The company is aggressively chasing this growth shift and is far ahead of competitors in this respect.
True to its name, the company is also focusing on cities and urban centers around the globe as well. According to the company:
"...cities are not reflected just in our name - they're in our blood. We've identified over 150 cities - which together produce 32% of global GDP - that fit our business model and represent where we think many of the coming opportunities will emerge. We already have a presence in more than 80% of them, with plans for the rest. As a company, we've often spoken of our presence in more than 100 countries - which is
vital to our success - but in the future, you'll hear us talking more about the cities."
While the growth opportunities for emerging markets and urban areas are incredibly lucrative, especially for Citi with its leading global presence, could they also backfire? For example, what if China or Brazil's economies slow or drop off significantly? Citi would feel the pain much more than say, Wells or JP Morgan.
As a shareholder, I like the international diversification Citi offers, but I also realize that an unexpected blow could potentially come from one of its many markets-- possibly even out of nowhere. There is also the occasional issue of currency headwinds. I think the diversification benefits (and more importantly growth opportunities) are well worth the risks, however.
Fundamentals and Valuations
Citigroup reported third quarter earnings on October 15. Some encouraging things were revealed by the company, such as an incredibly strong Basel III Tier 1 common ratio of 10.4%, as well as a significant reduction of Citi Holdings assets by 29% (which now represent only 6% of total Citigroup assets).
Citigroup also increased revenues by 30% year-over-year to $17.9 billion, with net income up $3.2 billion (from $468 million the previous year). The company increased its book value during the quarter as well.
|Price||Tangible Book Value||Book Value||Discount to Tan. B/V||Discount to B/V|
Data from Yahoo! Finance as of 11/21/2013
Citi is being discounted more so than the other four big U.S. banks. While its possible JP Morgan and Wells Fargo deserve to command a premium, Citi should be valued much higher than B of A, especially when considering comparable return on equity:
Looking at Citi's forward P/E of 9.53, it is also on the cheaper end of the spectrum. Bank of America, Wells Fargo, and JP Morgan trade at 11.63, 10.99, and 9.50 forward earnings, respectively.
Upcoming potential catalysts
Citi also has some other fundamental positives going forward, besides just being cheap. The company is buying back preferred shares, which raises cash and improves its financial strength. With Citi continuing to improve its financial strength, it is becoming increasingly likely that common stock buybacks and a dividend bump might be coming soon.
A dividend boost, and most likely a big one, will inject momentum into shares of Citi. Derek De Vries, a UBS analyst, told his clients that "assuming capital equal to 10% of Basel III risk weighted assets, Citicorp is generating a 17-18% return on regulatory capital. By year-end 2014 we expect Citi will have a 10.8% ratio, equaling $9.7 bn of excess capital." De Vries thinks that this could lead to a $0.25 quarterly dividend by Q2 in 2014.
Rising rates, especially in the "current to five-year area", would also benefit Citi. CFO John Gerspach said during the Q3 earnings call that "we really need the shorter tenures to begin to rise to really benefit that business." He also pointed out that "U.S. rates would definitely have a faster and certainly more impactful hit on us." A rise in rates in the U.S. would definitely help alleviate some of the challenges the firm is facing in today's current low-rate environment.
Hints from the earnings call
While it's still all speculation, a meaningful dividend and a share buyback program will signal to the market that things are finally getting back to normal at Citi. By then, however, the easy money will already be made. Citi's dividend might be insultingly low now, but that doesn't mean it always will be.
Gerspach commented on future dividends and buybacks during the call, answering an analyst question:
I think when you look at it, the corporate finance math pretty clearly points you towards a preference of buyback versus dividend as your stock trades below book. And so I think that will be the first bias. But at that point, we also understand that we, to some degree, need to be mindful, and over time continue to address the dividend issue. So we'll look at those tradeoffs as we approach, but again, I think as has been very clearly signaled by the Fed, the bar around dividend is higher than buyback, just based on the nature of what a dividend is. And so we'll have to take that into account.
Buybacks are probably smarter at this point while shares are significantly discounted, and management knows it. The idea of a dividend, however, wasn't completely scrapped either.
The bottom line
Citi is showing major progress towards making a full recovery. It shouldn't be trading below book value, and definitely shouldn't be trading below tangible book value. As it winds down Citi Holdings, which it is doing aggressively, it's also freeing itself from the drag on earnings that comes from those assets. Its global diversity and emerging market presence could also mean significant growth going forward-- all unseen risks aside of course.
Of the four big U.S. banks, Citigroup currently offers the most bang for your buck. It also leads the banks with its capital ratio, which indicates that a worthwhile dividend could come as soon as sometime next year; but a buyback is more likely to come first. Buybacks work well when a stock trades below its book value. Other factors that could boost Citi's shares are rising rates, as well as growth in the global economy. Now looks like the time to start considering shares of Citi, which offer lots of value at current levels.