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Goldman Singles Out Citi As Brokerage Ratings Cut
Riley McDermid, MarketWatch
June 27, 2008
NEW YORK (MarketWatch) -- Goldman Sachs on Thursday lowered its view on brokerage stocks and added shares of Citigroup Inc. to its "conviction sell" list with the gloomy prediction that the financial-services giant faces about $9 billion in additional write-downs.
In addition, Goldman recommended a trade play of shorting added Citigroup (C:
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C 17.25, -0.42, -2.4%) , part of the Dow Jones Industrial Average, while going long on shares of Morgan Stanley (MS:
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MS 36.71, -0.12, -0.3%) .
Citigroup, Inc
Last: 17.25-0.42-2.38%
4:01pm 06/27/2008
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morgan stanley com new
Last: 36.71-0.12-0.33%
4:07pm 06/27/2008
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Goldman analysts led by William Tanona also cut the firm's rating on U.S. brokers to neutral from attractive, saying that while fears about another investment bank being vulnerable to failure are overblown, it is "hard pressed" to find a catalyst to move shares in the sector significantly higher over the next few months.
The news sent shares of Citi spiraling 6% lower to close at $17.67. At one point during the day's trading, the bank's stock price hit a 52-week low, falling to $17.53.
Morgan Stanley and J.P. Morgan Chase & Co. (JPM:
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JPM 35.05, -1.27, -3.5%) also saw their shares stumble.
JPMorgan Chase & Co
Last: 35.05-1.27-3.50%
4:03pm 06/27/2008
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The Goldman analysts said in a research note that fundamentals for the major brokerages continue to deteriorate, adding that any recovery will take longer than originally anticipated.
"The turnaround in business trends that we had been expecting in the second half of 2008 may not occur as quickly as we would have thought," Tanona wrote. "With client activity trends likely to slow down over the next couple of months, we felt a less aggressive stance...was warranted."
Goldman estimated write-downs at $8.9 billion for Citigroup and at $4.2 billion for Merrill Lynch (MER:
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MER 32.79, -0.26, -0.8%) in the second quarter.
Merrill Lynch & Co., Inc
Last: 32.79-0.26-0.79%
4:00pm 06/27/2008
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'Multiple headwinds'
Citigroup will continue to face problems caused by a worsening consumer-credit climate and its riskier legacy assets, analysts said.
"We see multiple headwinds for Citigroup including additional write-downs, higher consumer provisions as a result of rapidly deteriorating consumer credit trends, and the potential for additional capital raises, dividend cuts, or asset sales," Goldman said.
Accordingly, Goldman lowered its six-month price target for Citigroup to $16. It now sees the company generating a deeper second-quarter loss of 75 cents a share, compared with the 25 cents previously forecast.
Goldman stressed that if it were to cut its dividend in half, Citigroup could realize as much as $3.5 billion in additional capital annually.
"Given the firm's current level of earnings power, we do not believe the dividend is safe," Tanona wrote.
Goldman said any further move to raise additional capital would need to be in the form of common equity or dividend cuts, as well as additional asset sales.
"Citi has likely reached its limit with the regulators with respect to preferred and convertible issuance," Tanona wrote.
Losses throughout the sector will also continue, Goldman said, as several brokers are still processing the underlying basis risk related to hedging activities in their leveraged-loan and commercial mortgage-backed securities.
"We saw both Lehman and Morgan Stanley record losses on hedges during the quarter for both of these asset classes," Goldman said. "We believe Citi could be more exposed than Merrill Lynch and J.P. Morgan Chase, though, given their higher exposure to these assets."
Further write-down at the major U.S. brokers continue to worry investors concerned that banks have not yet come clean about the value of many of the riskier assets on their books.
Meanwhile, recent downgrades of the credit ratings of bond insurers Ambac Financial Group (ABK:
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ABK 1.61, -0.19, -10.6%) and MBIA Inc. (MBI:
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MBI 4.17, -0.22, -5.0%) by Standard & Poor's and Moody's Investors Service could also have a knock-on effect on brokers.
AMBAC Inc
Last: 1.61-0.19-10.56%
4:09pm 06/27/2008
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MBIA Inc
Last: 4.17-0.22-5.01%
4:07pm 06/27/2008
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Investment banks and other financial institutions that bought guarantees from MBIA and Ambac may now have to write down the value of their holdings further, as investors question whether the credit ratings of complicated securities are worthless.
Other revenue streams are also suffering: Goldman said that mergers-and-acquisition activity also continues to decrease and predicted a 19% year-over-year in financial-advisory revenue for the group.
"Contrary to announced M&A activity levels, completed volumes continued their downward trend, declining each sequential month in the quarter," Tanona said. 
Riley McDermid is a MarketWatch reporter based in New York.
www.marketwatch.com/news/story/sour-brokers-goldman-puts-citigroup/story.aspx