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Citigroup Move to Repay TARP Could Backfire

For all the hubbub over Citigroup, Bank of America and Wells Fargo making good on their TARP loans, the companies remain under duress. Indeed, the repayments could actually hurt the banking giants.

So concludes bank analyst Chris Whalen in a new report (no public link):

We view the TARP repayments by [Bank of America, Citi and Wells] as, at best, a distraction and, at worst, a negative development for these names. Without the explicit support from the U.S. government for large U.S. banks, we fear that important foreign constituencies may accelerate their migration away from these and other U.S. counter-parties.
In other words, U.S. officials may be bullish on banking. But overseas investors, not so much -- and certainly not without the American government to share what are likely to be rising financial losses. In exiting TARP, Citi is also ending a loss-sharing agreement with the FDIC, Federal Reserve Bank of New York and Treasury Department. The government had been sheltering the company from most losses on more than $300 billion in assets.

Citi execs claim the company is prepared to ride out any banking sector turmoil. After issuing new common stock to raise money to pay TARP. the company will have total common equity of more than $141 billion and combined tangible capital and loss reserves of $150 billion.

Yet Whalen, managing director of research firm Institutional Risk Analytics, says that's not as much it seems. Not when troubled loans at Citi account for 18 percent of its total loan portfolio, or roughly $93 billion. And not when the rough water ahead may require the company to raise more capital.

What many pundits (if not investors, as Citi shares continue to swoon) are ignoring is that bank earnings have yet to feel the full force of deteriorating commercial real estate and other loans. That won't register on balance sheets at Citi, Bank of America and Wells until the first quarter of 2010. Exacerbating the problem is that big banks continue to rely on tricked up accounting rules to understate their credit problems.

Whalen also challenges Treasury Secretary Tim Geithner's contention that banks are in stronger position to boost lending. Says the analyst:

The apparent support for the TARP repayments from the Treasury and the Obama White House ensures that the U.S. banking industry will continue to shrink, decreasing the pool of available credit to support an economic recovery.
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