Third attempt in bailing out Citigroup

The government will swap the $25 billion in Citigroup’s preferred stock from its earlier bailout money into common stock. The Treasury Department said the swap is contingent on private investors making a similar swap. The deal announced Friday, Feb. 27 represents the third rescue attempt in the past five months for Citigroup, which has been struggling under the weight of losses tied to bad bets on mortgages.

This will boost the taxpayers' stake and risk in the struggling bank from 8 percent to 36 percent. The government's big stake in the common stock means taxpayers will share in future gains or losses in the company's share price. The stock conversion will make the government the largest shareholder in Citigroup

Citigroup said it has offered to swap up to $27.5 billion of its existing preferred stock held by private investors at a conversion price of $3.25 share. The Government of Singapore Investment Corp., Saudi Arabian Prince Alwaleed Bin Talal, Capital Research Global Investors and Capital World Investors are among the private investors that said they would participate in the exchange. The U.S. government will match this exchange up to a maximum of $25 billion face value of its preferred stock at the same conversion price.

The conversion of the government's Citigroup stock will give the bank more capital reserves to withstand mounting losses on its holdings of mortgages and other loans, as well as to survive further economic weakness, satisfy regulators, and eliminate the need to pay dividends. The transaction also frees Citigroup from having to buy back the preferred shares from the government. The preferred shares are similar to debt, and the banks were under pressure to essentially pay back the government in five years.

The arrangement inflames some investors' worries of bank nationalization. They think that this is another step toward creeping nationalization. Federal Reserve Chairman Ben S. Bernanke said Feb. 25 he wants to avoid nationalizing Citigroup and other large banks in a way that would wipe out shareholders and leave the U.S. in full control. Bernanke said the government might end up owning a “substantial minority” of the bank.

Investors were unhappy with the Citigroup deal, sending its shares plummeting 39 percent to a new 52-week low of $1.50 on Friday, Feb 27. The Dow Jones industrials average fell 119 points to 7,063. Sour market reaction was understandable given that the government is taking a bigger role in Citigroup and the shares of common stock are being diluted.