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Citigroup Stress Test Failure Kills Buyback and Dividend Hopes

Citigroup (C) is set up for a rough day of trading Thursday. News just broke Wednesday evening about a Citigroup stress test failure.

In the just-released Federal Reserve Comprehensive Capital Analysis and Review, the annual risk assessment of major financial companies, and Citi failed to pass muster.

That makes Citi, which is the third-largest bank in America behind JPMorganChase (JPM) and Wells Fargo (WFC), the only megabank to fail this latest stress test. 

The Citigroup stress test failure isn’t the only one, of course. Of the 30 largest financial stocks reviewed by the Fed, five failed. In addition to Citi, regional bank Zions Bancorp (ZION) also was listed under banks which the Fed harbors an “objection to capital plan,” along with the American units of foreign banks HSBC (HBC), RBS Group (RBS) and Banco Santander (SAN).

The specifics of the Fed’s failing grade for the Citigroup stress test are as follows:

“The Federal Reserve’s objection to Citigroup’s CCAR 2014 capital plan in part reflects significantly heightened supervisory expectations for the largest and most complex BHCs in all aspects of capital planning. While Citigroup has made considerable progress in improving its general risk-management and control practices over the past several years, its 2014 capital plan reflected a number of deficiencies in its capital planning practices, including in some areas that had been previously identified by supervisors as requiring attention, but for which there was not sufficient improvement.

“Practices with specific deficiencies included Citigroup’s ability to project revenue and losses under a stressful scenario for material parts of the firm’s global operations, and its ability to develop scenarios for its internal stress testing that adequately reflect and stress its full range of business activities and exposures. Taken in isolation, each of the deficiencies would not have been deemed critical enough to warrant an objection, but, when viewed together, they raise sufficient concerns regarding the overall reliability of Citigroup’s capital planning process to warrant an objection to the capital plan and require a resubmission.”

In plain English, the Fed was paying closer attention to Citi than smaller banks because of its size and scale. And despite improvements, it has some persistent problems that haven’t been fixed. Nothing is a big deal by itself but the overall picture is too risky for regulators to sign off on with a smile.

If you care about the other side, here’s the official statement from Citigroup regarding the failed stress test:

“The Federal Reserve Board (Fed) today announced that it objected to the capital plan submitted by Citi as part of the 2014 Comprehensive Capital Analysis and Review (CCAR). The capital actions requested by Citi included a $6.4 billion common stock repurchase program through the first quarter of 2015 and an increase of Citi’s quarterly common stock dividend to $0.05.

“Citi will be permitted to continue with its current capital actions through the first quarter of 2015. These include a $1.2 billion common stock repurchase program and a common stock dividend of $0.01 per share per quarter. These actions are subject to approval by Citi’s Board of Directors in the normal course.”

In other words, it wanted a big buyback and dividend increase … but isn’t getting them.

The release goes on to quote Michael Corbat, Citi’s Chief Executive Officer, as saying:

“We will continue to work closely with the Fed to better understand their concerns so that we can bring our capital planning process in line with their expectations and meet their standards on a qualitative basis as well. We have not yet made a decision as to when we will resubmit our plan.”

In other words, don’t expect them to ask again anytime soon.

This is precisely the same story that took place at Bank of America after the company failed its stress in 2011 … and as a result, it has learned to live with its meager penny-per share dividend rather than rattle the Feds with a request that gets slapped down yet again.

So how did BAC stock fare after it failed its 2011 stress test? Well, it lost 26% in the next 12 months in addition to not being able to deliver on bigger dividend hopes as planned.

You can understand why Citi is tanking.

But hey, today BofA finally got the OK on that long-awaited dividend increase, three years later. So there is hope … if you are patient.

Jeff Reeves is the editor of and the author of The Frugal Investor’s Guide to Finding Great Stocks. As of this writing, he did not hold a position in any of the aforementioned securities. Write him at or follow him on Twitter via @JeffReevesIP

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