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Citigroup Fighting For Its Financial Life


Those focusing on the dividend picture at Citigroup are sure focusing on the wrong picture...


In a quarterly regulatory filing Monday Citigroup reported $134.8 billion in 'level 3' assets:

Level 3 assets are holdings that are so illiquid, or trade so infrequently, that they have no reliable price, so their valuations are based on management's best guess. The investment bank said its total liabilities related to level 3 assets at quarter-end were $40.36 billion, according to the Form 10-Q. Citigroup said it often hedges its level 3 positions.

Citigroup Uses These Descriptions

  • Level 1: Quoted prices for identical instruments in active markets.
    This is usually known as marked to market.

  • Level 2: Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations in which all significant inputs and significant value drivers are observable in active markets.
    This is usually known as marked to matrix.

  • Level 3: Model derived valuations in which one or more significant inputs or significant value drivers are unobservable.
    This is usually known as marked to model. MarketWatch called it "Best Guess" accounting. Another terms frequently associated with Level 3 accounting is "Marked to Fantasy".

This hierarchy requires the use of observable market data when available.

Items valued using internally generated models are classified according to the lowest level input or value driver that is most significant to the valuation. Thus, an item may be classified in Level 3 even though there may be significant inputs that are readily observable.

Read that last paragraph carefully. My interpretation is that if the most significant weighting of valuation is at say 35%, then even if 65% could be marked as level 1 or level 2, Citigroup may use level 3 accounting for valuing the asset. The same applies between level one and level 2 decisions. Rest assured there is no strong desire to use marked to market pricing for any assets that have declined in value.

Citigroup Assets By Class

Citigroup and subsidiaries cosolidated balance sheet.

Total assets $2.358 Trillion
Total liabilities $2.231 Trillion
Equity $127 billion

Citigroup Often Hedges Level 3 Positions

From the top article: "Citigroup said it often hedges its level 3 positions."


Professor Sedacca captured this interesting screen shot today.

Read all the above headlines. Some of them are pretty funny.

Let's start with point 6) "Citi CFO says market was 'simply not there' to hedge CDO book. "

Now take a look at points 10-12 in the above block. Sedacca called this "Type V" accounting: "Priced to Reasonable Stab".

Adding to future supply is 15) "Citi may liquidate CDO's 'if market prices come back', CFO says"

Assuming Citigroup has some hedges (somewhere on something) exactly who is on the other side of those hedges? It does matter.

For example consider Downward Spiral of Deep Junk and a Question of Solvency at Citigroup. Both articles raise the issue that "guarantees" made by bond insurers Ambac (ABK) and MBIA Inc (MBI) might be worthless.

Level 3 assets at Citigroup exceed shareholder equity. Now take a look at level 2 assets sitting at $939 billion dollars. A mere 10% haircut in the value of those assets would eat up 74% of working capital. A 10% haircut in Level 2 assets in conjunction with steeper losses in level 3 assets would make Citigroup insolvent.

Those focusing on the dividend picture at Citigroup (especially those who do not think that dividend will be cut) are sure focusing on the wrong picture. Citigroup is fighting for its financial life.

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No positions in stocks mentioned.
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