On February 21, 2014, The Federal Reserve Board announced that Citigroup Inc. (NYSE: C) has been approved to exit parallel Basel III reporting for U.S. regulatory capital purposes and transition from the general risk-based capital rules (Basel I) to Basel III "advanced approaches," effective for the second quarter of 2014. One of the stipulations for this approval is that Citi will be required to increase its estimated risk-weighted assets (RWA) associated with operational risk to $288 billion from the $232 billion reported as of December 31, 2013, given the overall operating environment for the banking industry. The estimated pro forma impact of the higher operational risk RWA to Citi's estimated Basel III Tier 1 Common Capital ratio as of December 31, 2013 results in a pro forma ratio of approximately 10.1%. Read the full statement from the Citigroup website here.
Citigroup has excelled the last several years on the Basel III reports by the Federal Reserve and this is one more positive step that Citigroup will continue to be successful and profitable in the future. I see two very positive actions coming from Citigroup after the release of the Basel III results. First, I anticipate an increase in the dividend. If you read previous articles I have written, you will note the company has a strong cash holding and with over 3 billion shares, a dividend of $0.05 to $0.10 per quarter, would be a respectable start for the company. If you remember two years ago the Federal Reserve denied Citigroup from raising their dividend, and then last year Citigroup snubbed the Federal Reserve and did not request an increase, even after the Fed asked Citigroup if they wanted to request an increase. With the release from the parallel Basel III standards, Citigroup will not be able to establish dividends without permission.
The second positive is the stock price will finally climb toward $60 per share. It has bumped along a ceiling from $55.28 (52-week high) and dipping into the upper 40s (current open on February 24, is $48.26). We assess that after the Basel III reports are released, the good news will push buyers into higher territory.
Citigroup has been aggressively buying back various notes and bonds over the last year with the latest being on February 14, 2014. The offer total $230 million on 3 different notes. This is consistent with the company's liability management strategy that intends to reduce debt and become a more flexible company in the marketplace. In 2013, Citigroup redeemed U.S. $12 billion of securities reducing its overall funding costs. This article is on the Citigroup website also here.
The Federal Reserve also gave 8 banks permission to use their own model and system to calculate the amount of capital they will need for risk-weighted assets. They include: Citigroup, JPMorgan Chase (JPM), Goldman Sachs (GS), Morgan Stanley (MS), Northern Trust (NTRS), Bank of New York Mellon (BK), and U.S. Bancorp (USB). There are 10 additional banks the Fed is reviewing and may give permission as well. The biggest name missing from this list is Bank of America (BAC). This represents the assessment that the banks are on solid footing and can be allowed to monitor their own operations with less oversight, yet still meeting all the regulations. More information is to follow leading to the Basel III reports in March, 2014.
Our continued assessment is that Citigroup is best positioned as a world-wide leader in financial operations that will allow them to be the most responsive and take advantage of opportunities going forward. They have been successful in China over the last several years in winning new contracts and look for additional opportunity in the Pacific Region as a leader in innovation and banking services.
We anticipate Citigroup stock price to climb to near $60 by the end of 2014 and the company to increase their dividend. We recommend Citigroup as a 'Buy and Hold' for the extended future as we anticipate Citigroup will continue to lead the banking industry into the future.