Citigroup closes portion of debt exchange

CitigroupCitigroup Inc. on Thursday carried out a part of the debt exchange offers that, when they’re completed, will eventually give the federal government a 34 percent stake in the troubled bank.

Citigroup said it completed a $12.5 billion exchange that swapped preferred securities held by private debt holders for interim securities and warrants that will eventually be converted into common stock. The government carried out a separate exchange, swapping $12.5 billion of its preferred shares in the bank for securities and warrants as well.

A second exchange, expected to be completed Friday, is for public holders of preferred shares. The government will again exchange up to $12.5 billion in preferred shares for securities similar to the ones it received Thursday.

The exchange did little to sway Citigroup’s stock price. Shares rose 3 cents, or 1.1 percent, to $2.83 in afternoon trading.

“I think the market has lost its ability to believe in Citi,” said Aite Group bank analyst Alois Pirker. “Even though we had anticipated those steps, you wish you would see a positive impact on the share price.”

Last month, Fox-Pitt Kelton analyst David Trone wrote in a research note that Citigroup’s stock could fall after it completes the debt exchange because of forced selling by some bondholders. Trone said those bondholders are restricted from owning common stock, and therefore could be forced to sell the shares immediately.

Citigroup said in late February it wanted to offer investors the option of exchanging preferred stock into common stock as a way to boost its capital reserves. The government agreed to convert about $25 billion of its $45 billion preferred investment in the bank to common stock, which will give it a 34 percent stake in the New York-based bank.

Citigroup has been one of the most troubled banks throughout the financial crisis. It lost billions of dollars on the risky mortgage-backed securities that plunged in value, setting off the credit crisis last fall.

The exchange program will give Citigroup a better mix of capital to withstand additional loan losses and further weakening in the economy. By turning preferred shares into common stock, Citigroup also no longer has to pay out dividends on the preferred shares, thus helping improve its cash flow.

Last week, the bank surprised Wall Street by reporting a $3 billion second-quarter profit instead of the big loss analysts expected. However, most of the profit was tied to a sale of a majority stake in its Smith Barney brokerage unit to Morgan Stanley, and Citigroup, like other big commercial banks, warned that its losses from failed loans are expected to continue into the coming quarters.

In May, the government determined that Citigroup would need to raise an additional $5.5 billion as a buffer against future losses. Citigroup said it would convert an extra $5.5 billion of preferred shares into common stock to meet this capital shortfall.

The government’s $45 billion investment in the bank was made through its Troubled Asset Relief Program, or TARP, that was launched last fall at the height of the financial crisis.

Copyright 2009 The Associated Press.