Capital Markets

Next Blow for Citigroup: Debt Downgrade

Moody's expects further write-downs because of Citi's bad investments in subprime-mortgage securities.
Stephen TaubDecember 14, 2007

In the latest piece of bad news for Citigroup, on Thursday evening Moody’s Investors Service downgraded the long-term ratings of the embattled financial-services giant. It also warned that if the company fails to restore its capital ratios in the medium term, there might be a further downgrade.

The downgrade reduced Citi’s senior debt rating to Aa3 from Aa2 and lowered the Bank Financial Strength Rating of Citibank NA to B from A-. Citibank’s rating for long-term deposits and senior debt was lowered to Aa1 from Aaa.

The downgrade was prompted by Moody’s view that Citigroup’s capital ratios will remain low. “This situation is likely because management will need to take sizable write-downs against its subprime RMBS and CDO portfolio,” says Moody’s analyst Sean Jones.

Jones notes that the bank is expected to make significant sustained provisions against its residential mortgage book, which is more than $200 billion. “These charges are likely to occur when Citigroup’s normal earnings power is depressed, particularly in the United States,” he says.

Moody’s report came just after Citigroup announced it will bring $49 billion worth of structured investment vehicles onto its shaky balance sheet. Although that will severely strain its capital ratios, some experts applauded the move because it shows that Vikram Pandit, who was named CEO earlier this week, is moving quickly to address the bank’s problems. It also greatly increases the company’s transparency. On the other hand, it quickly underscores Citi’s need to raise capital. And it once again calls into question whether the company will cut its hefty dividend.

During 2008, Moody’s asserts, Citigroup’s expected weak earnings probably will prohibit it from rapidly restoring capital ratios. Moody’s says Citigroup has several options for rebuilding its capital base: through additional sources of external capital, through more aggressive balance-sheet management, or through internal capital retention by means of dividend reduction. “This flexibility supports the stable outlook,” adds Moody’s.

For Citigroup’s ratings to be upgraded, the company would need to rebuild its capital ratios to levels maintained prior to 2007, according to Moody’s.