Citigroup finally appears to be flirting with financial respectability. Chief Executive Mike Corbat now runs one of the leanest banks in the industry, helping the lender's $4.8 billion first-quarter showing beat expectations. Citi is starting to look undervalued. But overall performance needs to be more than mediocre to justify a sustained rally. That will take time.
The bank's annualized return on equity was, at 9.4 per cent, its best in years, relying almost exclusively on actual earnings rather than big asset sales, securities gains or releasing loan loss reserves as has happened in the past. At this level, Citi is virtually covering its cost of capital, which is estimated to be around 10 percent for big banks.
The stock, though, is trading at only 81 per cent of book value, which is justified only if shareholders expect returns to dip again. The price-to-tangible book multiple is better at 94 per cent but that also looks low, with tangible ROE at 11 per cent.
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All three rivals churned out better returns, though. That's because they lack two things that weigh Corbat's company down. First, Citi Holdings, which houses all its unwanted or toxic assets, still has some $122 billion on the books. Second, it has around $34 billion of capital tied up in deferred tax assets (DTAs). The more the bank earns, the more it can use these to offset taxes and free up capital.
Trouble is, there are no quick fixes for either of them. Corbat has set a target, for example of using $4 billion of DTAs a year. And to make more of the capital as it becomes available requires either finding more profitable places to invest it or persuading the Federal Reserve to let it return more money to shareholders. Citi's first quarter, though, does at least show the bank is slowly getting there.
