Will Citigroup's Global Push Drive Growth?
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In early March, Citigroup (NYSE: C) Chief Executive Officer Vikram Pandit laid out his vision for the company and its future at the Citi Financial Services Conference. Does Pandit's plan, communicated with much style and energy, actually make sense over the long run? Let’s take a look.
The presentation began with a review of Citigroup's historical role in things like the Panama Canal, and then took a closer look at the last four years. After a huge loss in 2008, the company has managed to post bottom line profits of $10.6 billion and $11.1 billion the past two years. Yet, these results came, in large measure, from reductions in the provisions for loan loss reserves. In 2009 through 2011 the provision fell by roughly half year over year, from $51.8 billion, to $26 billion, to $12.8 billion. So, I am left with the question, of how was Citigroup able to save tens of billions in provision expenses, yet only earn ten to eleven billion dollars per year in 2010 and 2011?
Looking into Citigroup's future, Pandit first cites a “deleveraging” of developed economies in North America and Western Europe. Since in 2011 Citigroup obtained 46% of revenues and 57% of profits from “emerging markets”, much of the rest of the presentation was devoted to aggrandizing future prospects for emerging market economies, and the relative demise of developed world economies.
How realistic is that scenario? What I am confident about is that the domestic economy is on a gradual upslope, and I expect growth of 2.5% to 4% annually the next two to three years. Rising incomes, excellent corporate earnings and near zero interest rates are compelling drivers of growth. The so called “deleveraging” that Citigroup criticizes is actually good for the economy over the long haul.
Europe obviously is being driven down by sovereign debt issues. Yet the world's nine healthiest banks are still on the continent, and soverign AAA credit scores still exist across Northern and Western Europe. And it is possible, or even probable, that the worst of the debt crisis is behind us. I believe the European Union will experience 3-4% annual growth in the 2013 to 2015 period.
Frankly, Citigroup management's belief that European growth will average 0.4% per year is unduly pessimistic. Furthermore, I am not sold on management's assessment that Emerging Markets, primarily in Asia and Africa, will grow at roughly 6% annually through 2016. The main drivers of that growth must by definition be India and China, as their massive populations would skew the numbers. Based upon these growth estimates, Citigroup plans to put 51% of its resources in emerging economies for the foreseeable future.
China recently lowered its growth plans for the first time in many years. Inflation is a persistent problem, and eats into much of the superficial growth. Two of China's large banks are rated as among the world's thirty safest and I see little reason why Citigroup should expect market share growth in China. India's growth rate is also slowing dramatically.
Citigroup also made much in the presentation of the fact that there exists 5 billion cell phone users, but only 2 billion bank accounts. However, to much of the world, the use of a bank account would amount to a cultural shift, in a way that owning a cell phone does not. I find it absurd to expect the growth in bank account customers to have any semblance to the worldwide growth of cell phone account holders.
Citigroup's largest banking market is still in the United States. Here, the company will benefit from the Fed's determination to hold short term interest rates near zero for another two years. In 2011, Citigroup's interest costs fell over $700 million from 2010, and further declines are likely in 2012. Citigroup has not significantly grown its loan portfolio in the past 18 months, and its overall banking revenues will continue to decline as Citi Holdings' wind down continues.
Citigroup recently failed the Federal Reserve's stress test by a narrow margin, which I take as a blessing. Citigroup is eager to raise dividends and launch share buybacks. After enormous losses last decade, I would rather see Citigroup use its earnings to shore up its capital position to well above regulatory minimums before giving billions away in capital distributions.
Citigroup will report its first quarter earnings for 2012 in mid-April. I look for earnings of a little less than the $0.98 that analysts project. Earlier this quarter the company was forced to write down some $2 billion due to previously overvaluing its stake in the Smith Barney brokerage.
There is no United States bank of similar size to Citigroup with the global exposure that Citigroup has. J.P. Morgan Chase Corp is the only competitive bank that has less than 90% of its assets in the U.S. Yet J.P. Morgan's enormous investment bank is going to be coming off a steep industry downturn and I see it contributing mightily to earnings comparisons by the second half of 2012.
Bank of America (NYSE: BAC) acquired the Merrill Lynch brokerage January 1, 2010, and the Merrill Lynch business has been one of Bank of America's leading profit producers of late. Of course, Merrill Lynch is principally a retail brokerage and advisor more than an investment bank. But the losses from Bank of America’s similarly timed purchase of Countrywide Financial have swamped the profitability of Merrill Lynch. I will be writing about both JP Morgan and Bank of America in more detail in coming days.
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