One Monday last month, Citigroup Inc. (C) filed a new document with the U.S. Securities and Exchange Commission. A prospectus for fixed-income investors, there are some interesting insights offered in the filing; specifically, it pertains to medium-term, non-callable, fixed to floating rate notes linked to the 3-Month LIBOR due in three years, on June 5, 2015.
Interest payments for these issues are quarterly; per annum, the interest rate payable on the notes comes to a fixed 2% for the first year. After the first year, the rate will be "reset quarterly and will be equal to 3-month LIBOR + 0.60%, subject to a maximum interest rate of 4.00% per annum, for any quarterly interest period."
The prospectus (on page PS-2) makes sure to note that:
We have designed the notes for investors who:
¡ seek current income of a fixed 2.00% per annum for the first year and are willing to accept a floating interest rate thereafter;
¡ seek an investment with a per annum interest rate that will be reset quarterly after the first year and will be equal to 3-month LIBOR plus 0.60%, subject to a maximum interest rate of 4.00% per annum, for any quarterly interest period;
¡ understand that the interest rate on the notes will never be higher than 4.00% per annum regardless of how high 3-month LIBOR rises;
¡ understand that if 3-month LIBOR plus 0.60% is less than 4.00% per annum for any quarterly interest period after the first year, the cumulative interest rate for the year will be less than 4.00% per annum; and
¡ are willing to hold the notes until maturity.
The notes are not designed for, and may not be a suitable investment for, investors who:
seek a liquid investment or are unable or unwilling to hold the notes to maturity;
expect interest rates to increase beyond the rates provided by the notes during the term of the notes;
are unwilling to accept the credit risk of Citigroup Inc.; and
prefer the certainty of investments with fixed coupons for the entire term of the investment and with comparable maturities issued by companies with comparable credit ratings.
This is a beautiful arrangement for Citigroup - they are catering to investors with very low risk appetites who may be better off going for a long-term CD rate from a local bank. Since Citigroup is capping interest rates at 4% per year, it is ensuring that no matter what happens to interest rates, it is virtually guaranteed to make some profit through 2015 off of the spread that it generates from its revenue activities and lending.
With central banks around the world cutting interest rates recently, and calls for the Federal Reserve to continue their policies of interest rate depression, the first year's 2% return on these non-callable notes may be appealing to some investors. However, central banks can only do so much to stimulate the economy in the short term. In the long run, the laws of economics dictate that monetary policy cannot generate actual productivity. Steve Forbes put it well in a recent Seeking Alpha piece: "The only way to increase prosperity is through innovation and productivity. Attempts to manipulate the value of money invariably fail. We've had numerous devaluations, and not once has it created lasting prosperity."
All of this only backs up recent arguments about the strength of Citigroup's equity shares. As a fixed-income investor, though, I'd stay away from this bond offering for the time being. Investors looking for income opportunities may find it worthwhile to check out Citigroup's peer firms in the same general industry, whose fundamental metrics may be a bit weaker but whose fixed-income offerings may consequently offer higher yields.
Companies in the above-mentioned category include JPMorgan Chase & Co. (JPM), SunTrust Banks Inc. (STI), Bank of America (BAC), Moody's (MCO), Goldman Sachs (GS), Leucadia National Corp. (LUK), Manhattan Bridge Capital (LOAN), Wells Fargo & Company (WFC), Resource America (REXI), ING Groep N.V. (ING), PNC Financial Services (PNC), Microfinancial Inc (MFI), Life Partners Holdings (LPHI), and California First National Bancorp (CFNB).
Disclosure: I am long BAC.