Friday, June 20, 2008

Paulson to Banks: Raise more Capital!

Secretary Paulson's latest speech:

For some time I have encouraged financial institutions to raise capital. Even in this difficult environment, U.S. financial institutions have begun the process by raising billions of dollars in new capital. I expect this process to continue and broaden, which is essential to the ability of these institutions to continue to support the broader economy...

Now that the 52 week low list is decorated with Investment banks, regional banks, and the money center banks, I suppose someone would ask the question: Why are banks raising capital, at these prices, at such dilution to shareholders instead of when the prices of the stocks were much higher? Well the answer is simple.

1) They now have too raise capital.
2) The banks were too busy buying back stock at the highs!

Let's go from the largest to the least:

Six weeks ago, Citibank raised $4.5 billion selling 178 million shares at 25.27. Now yesterday, they saw something in the tea leaves that was different from the end of April. More and larger writedowns. Lehman just raised capital a couple weeks ago. How long before they see more problems? Well you now have their script!

But let's look at how Citigroup spent their money buying back stock:

In Q1 of 2006, they bought back 52 million shares at 46;
in Q2 they bought back 44 million shares at 49;
in Q3 they bought back 42 million shares at 49;
in Q4 they bought back 32 million shares at 52;
and in Q1 2007 they bought back 20 million shares at 54.

So Citigroup spent $10 billion buying back 200 million shares at 50. A year later, they sell 178 million shares at 25.27. Nice trade!

Fifth Third Bancorp (FITB 10.31) just did a billion dollar convertible raise. So they are effectively selling 86 million shares with a 8.5% coupon at a price of 11.75. Did FITB do any buybacks in 2007? They sure did. During 2007, FITB purchased 27 million shares of their stock in the open market for $1.1 billion. So last year they bought back a billion plus worth of shares above 40; this year, they sell a billion worth of shares at 11. Nice trade!

If I go further down the totem pole, we see that Bank United (BKUNA 1.68) is raising $400 million in a stock sale, when their market cap of the stock is $60 million. So they'll sell 240 million shares at 600% dilution to current shareholders, another stock raise before it goes to zero. Did BKUNA do a stock buyback in 2007? They sure did! They bought back $44 million worth of shares at 20. Now they raise money selling stock under 2! Nice trade!

Now banks are raising capital because they have too, and because they've already blown thru their capital buying stock at much higher prices. And only in America, do we now have a Secretary of the Treasury, giving a speech where he now wants greater powers for the Federal Reserve, who now suggests that the banks raise more capital!

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