The recent sell off in equities has made Citigroup (NYSE:C) very cheap again. Citi is trading at a substantial discount to tangible book value per share (TBV/share) of $60.61 (as of Q4 2015). The share price is currently just under $39, representing a 35% discount. We initiated a position last week and bought more this week. If the share price falls to low $30s, we will aggressively buy more.
Round 1: Financial Crisis
We first invested in Citigroup in 2009 following the bailout. Back then, Citi was in a very weak financial position and uncertainty was at its peak. Citi received TARP funding in late 2008. The US Government became a majority holder of Citigroup's common shares. Old equity investors were essentially wiped out as the share count skyrocketed.
We got the timing right. We invested close to the rock bottom price of $1 (prior to the split) and sold at just under $4 a few months later. We were lucky. The investment was made on logic surrounding the bailout and our take on how the situation of US banks in general would play out, following Lehman's collapse. Fundamentals were not at the heart of our investment thesis. However, we were convinced that following the bailout Citi would eventually stabilize. We did not expect the share price to rebound so fast.
Round 2: 2012
In 2012, Citi had made substantial progress on a number of fronts. The balance sheet was stronger (and cleaner), Management was serious about winding down Citi Holdings (the "bad" bank) and metrics such as return on equity were heading in the right direction. However, there were still headwinds regarding legacy issues and Citi Holdings, which was a drag on earnings. Since 2010, the share price was struggling to increase, as investors were concerned about the ability of Citi to return capital to shareholders, future legal bills, etc. Nonetheless, Citi's core business was progressing well and it was a matter of time for Citi to get approval to increase returns to shareholders via a dividend increase and buybacks, which would be the catalyst for the share price to move. However, as a major blow to shareholders, Citi was among the banks that failed the 2012 Fed's stress test, which restricted Citi's ability to return capital to shareholders. The share price took a hit.
Having reviewed the stress tests and Citi's progress since the financial crisis, our conviction was that there was nothing fundamentally wrong with Citi. Other banks were trading at much higher multiples. Citi would eventually get it right with respect to requirements from the Fed and regulators; it was only a matter of time. We invested again in Citi in mid-2012 when the share price was trading around $25 and sold at just under $50 in mid-2013.
Unlike our 2009 investment, we were not lucky. We had a clear investment thesis based on fundamental reasoning. Sure, there were still uncertainties. Citi was struggling with stress tests, trying to build strong regulatory capital ratios, the dividend was at a symbolic 1 cent/quarter, no share buybacks, low return on equity, Citi Holdings losing money. However, Citi was still trading way below tangible book value and there were clear signs of progress since the financial crisis. Citi in 2012 was a much better bank compared to Citi in 2009. Importantly, the US government was no longer a shareholder as Citi fully repaid the bailout funds.
Round 3: Now
The recent sell off in global equities has taken down Citi's share price. Last week, Citi was down around 30% YTD and is currently down 25% YTD, trading below $39. We believe this is a very attractive moment to start buying into Citi, which is trading at a substantial discount to tangible book value and at one of the lowest earnings multiples relative its peers.
Clearly, Citi is in a much stronger position compared to 2012. The balance sheet is stronger and of higher quality. Even though the balance sheet shrunk substantially over the past few years (due to the winding down of Citi Holdings, etc), Citi is producing strong earnings and the quality of earnings is higher compared to previous years. The share count is going down as Citi has started buybacks. The dividend has increased to 5 cents per quarter, versus 1 cent previously. The tier 1 capital ratio is among the highest.
The question is not whether Citi will be allowed to return capital to shareholders, as was the case in 2012, but how much. The return on equity is slowly approaching the 10% mark. Also, Citi Holdings is no longer a drag on earnings. We believe the recent sell-off is not company specific and Citi is a solid financial institution. If global markets keep on falling, taking down Citi's share price, we will be aggressively average down. We like what we see with Citi and the situation is much better compared to 2012. Investing today and selling close to TBV would result in a gain of around 50%.
Disclosure: I am/we are long C.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.