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Citi Bails Out Its SIVs

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The move everyone but Citi seems to have known was inevitable came to pass last night when Citi announced it would consolidate $49 billion of assets in its seven SIVs. The SIVs were facing a likely ratings downgrade, which would resulted in their immediate collapse. The debt of Citi's SIVs reportedly has ratings covenants that would have been triggered by a downgrade. A default would have required an immediate liquidation because the cost of raising new short term debt that is the lifeblood of the SIVs would have become astronomical, if it were even possible.
Although it is being described as a bold move by newly minted chief executive Vikrham Pandit, the Financial Times describes the move as "embarrassing" Citi, and indeed Citi investors have good reason to object ot the move. By keeping the SIVs off balance-sheet, Citi concealed what turns out to have been real risks from potential investors, many of whom were unaware such off balance-sheet gamesmanship was continuing after the accounting and regulatory reforms of the early years of this century. Citi had insisted it had no obligation to take on the SIVs and no intention of doing so but that seems to have been true only in a technical and legal sense. When it came down to allowing the SIVs to fail, Citi stepped up. Shouldn't they have known they would have done this all along? Are there any circumstances in which the SIVs would have been allowed to fail?
Perhaps Citi can explain the move as a response to "temporary market conditions." Citi maintains that the long-term debt held by the SIVs, 28% of which is mortgage related, is still sound despite the current conditions of the credit markets. It believes that a sale into the current market would result in steep losses, while a strategy of holding the assets until market conditions are better will keep losses, if any, to a minimum.
It's important to note that while Citi now provides the ultimate backstop to the failure of its SIVs, it is not responsible for all their losses. The first $2.5 billion of any lossses will be borne by the junior noteholders. (Thanks to Alea, who we found through Felix Salmon, for pointing this out). This, in part, is why those noteholders have insisted on ratings triggers for their debt.
So what does this mean for the Super Siv, MLEC? It is probably done for, an anachronism done in first by a market skeptical of the bailout plan and finally by the fact that this move by Citi to take the SIVs on-balance sheet obviates much of the need for an off-off-balance sheet rescue vehicle. It seems Citi finally found a rescue vehicle that would work, and it was Citi.
Last night Moody’s cut Citigroup’s long term debt rating from Aa1 to Aaa, citing concerns about its capital ratios. (The rating agency also cut Citigroup's issuer rating to Aa3 from Aa2 and lowered its overall financial strength rating to B from A.) Apparently, the bank still claims it will pay a 54 cent dividend on its shares. But be warned. There is already speculation that Pandit's next "bold move" will be to cut the dividend. Sure, the banks has said it wouldn't do that. But it also said it wasn't going to take the SIVs on-balance sheet.
Citi launches $49bn SIV rescue [Financial Times]
Fact Sheet from Citi [Citigroup]