Chris Lau - Seeking Alpha

Wednesday, January 21, 2009


Business Week questioned the need for Citi to be nationalized. I would agree that this will happen, just as AIG, Fannie Mae, and Freddie Mac were nationalized last year.

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Reasons sited:
  • Liabilities exceed Assets by $63 billion (5.2% of assets)
  • Value of $1.2T in Assets is declining (as real estate values decline)
  • Exposure to $400 billion in consumer and real estate loans
Analysis, Additional Comments and Conclusions:
There were bad signs when Citi announced it was selling its prized assets. This smelt of a need for the company to improve its balance sheet. Second, the bank decided to split its good assets from the bad. This, too, has an S.P.E. (Special Purpose Entity) smell to it. Different accounting methodology but same feathers. That is, offloading toxic items to another balance sheet.

Conclusion: Avoid Citigroup and Bank of America. Avoid Canadian banks (guilt by association) even though Canadian banks display compelling valuation.

Citigroup may trade down to $1 if nationalized. Continue to monitor foreclosure rates, home prices, and home inventory. If these metrics continue to decline, the risk for Citigroup nationalizing will increase. Expect a short-lived market rally on the days following a Citigroup nationalization.

Risks to this Assessment: Unanticipated bank bailout announcements and additional bailout packages.

Question about the Tuesday sell-off
Q&A with Don Vialoux, CMT,


Hi Don,
Do you have any comments on the rising volumes whilst the DJIA traded downwards to current levels? Does that necessarily imply a greater likelihood of a Nov/07 re-test?

Dennis Gartman also commented this morning on rising volume yesterday on a down day. Gartman said rising volume “argues that the bearish trend is reasserting itself. This we find rather ominous: others should also”. I share Gartman’s concerns and those concerns were noted in today’s Tech Talk. Yesterday was a brutal day for investor sentiment (as opposed to the actual breaking of key support levels beyond the financial sector).

Ironically, the break below support by XLF yesterday is itself controversial. The ETF broke support, but the S&P Financial Service Index did not. The bulls will say “The Index managed to hold support”. The bears will note that selling was so intense during the last half hour of trading yesterday that XLF temporarily overshot the NAV for its tracking index. Activity in major U.S. bank stocks today is mildly encouraging, but only reduces concerns.

Let’s face it: If Citigroup or JP Morgan go bankrupt, world equity markets have a problem. Chances of an event of this nature are remote.

However, it certainly is on the radar screen. Best guess based on currently available news and the likely flow of information during the next few months (e.g. news on the good bank, bad bank concept, confirmation of Geithner as Treasury Secretary, the passing through the horrible fourth quarter earnings report period, more news on the use of the remaining TARP funds, etc.)will help to stabilize the sector for now. Equity markets will respond accordingly.

My concern is that stability will not hold beyond the next few months as U.S. home prices move lower and the banks are required to provide additional reserves to cover an increasing value of “toxic assets”. Most likely scenario is an additional recovery by North American equity markets during the next few months, but a recovery in a bear market.
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