Cary Crittendon, CFO of Citigroup, Speaks
Citigroup's CFO Gary Crittendon speaks:
Citigroup Business Update Call - Seeking Alpha: Gary Crittenden:
The way I would think about that is these were super senior securities, right? So they were in theory better than investment grade securities. If you track that index, at least the numbers that I have, just as an example, the AAA ABX, just to pick one, the O-62, had very, very little deterioration during the course of the first nine months of this year. I think in total it was off about 4%, so it dropped about 0.5% a month.
If you go into the month of October, after the first seven or eight days -- I don't know exactly when it was -- you see a very significant crack and it drops from 96 down to about 88 and losses 8% of its value in a very short period of time. The other indices had been down. I am talking about the As, the BBBs, had been down during the course of the year; the big movement there was a reduction by about half during the course of October so they have had movements but again you had significant movements in those. But it’s really at the high investment grade end where the values had held up very well during the course of the year but obviously you see that movement now.
Now, when we had thought about taking these marks, we have obviously if you look at what the ABX would imply in terms of real estate price reduction, it starts to imply very, very high numbers of price reduction in real estate. I guess our view is that it’s unlikely that those very high levels of price reduction in real estate will take place. So what’s actually happening is implicitly the market is saying that the cash flows associated with those securities have become more risky and so as we have thought about valuing those cash flows, we have put different discount rates on those cash flows and that’s reflecting the range that you see in the estimate here.
We’ll see, obviously, how that actually plays out over time. With that higher discount rate, looking at those cash flows in essentially or actually exactly the same way we did in the third quarter, you come up with a much larger reduction in revenue than we saw during the course of the third quarter.
The actual real realized cash flow will work out over time. I mean it depends on how the underlying mortgages actually get paid, how that cash actually flows. As you know, as a result of the rating agency downgrades the cash flow gets redirected from the subordinate tranches to the more senior tranches in the structure. We’ll see how that all get realized over time and the valuation I suspect of the super senior tranches will go up and down and we may liquidate some of these if market prices come back. We just simply don’t know.
We wanted to give you a sense of what we thought the impact would be during the course of the fourth quarter, but it really is very dependent on how the market evolves here now over the next eight weeks or so...
When Crittendon says that "if you look at what the ABX would imply in terms of real estate price reduction, it starts to imply very, very high numbers... it’s unlikely that those... will take place" the sentence should not come to an end. There should be a comma, and after the comma the sentence should continue "therefore Citigroup is sponsoring and investing in a new hedge fund to take advantage of the undervaluation of the ABX and similar market opportunities, and we are now raising capital." If you say:
- We're taking a markdown based on the ABX.
- But we believe the ABX is underpriced.
Shouldn't the very next sentence be:
- We are moving to profit from this mispricing?
Now it is true that Citigroup cannot be patient Graham-and-Dodd capital: it is leveraged 15 to 1, for Jeebus's sake. But it can sponsor and contribute talent to vehicles that are patient Graham-and-Dodd capital, can't it?
