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Citigroup can now claim worst-in-class stress test performance. For the second timein three years, the Federal Reserve rejected the bank’s capital plan. Citi proposed raising its dividend from a penny to 5 cents and repurchasing up to $6.4 billion in stock. However, the Fed rejected the plan, saying it doubted the “overall reliability of Citigroup’s capital planning process”.
Embarrassingly for Citi management, Bloomberg’s Michael Moore and Elizabeth Dexheimer write that the Fed found issues in planning areas it had previously flagged. These include the bank’s “ability to project losses in ‘material parts of its global operations’ and to reflect all business exposures in its internal stress test”. In February, Citi announced it had uncovered $400 million in loan fraud in its Mexican subsidiary, forcing it to restate its 2013 earnings.
While Citi passed the Fed’s quantitative hurdles, it failed on qualitative grounds. Matt Levine explains:
The stress test is not just a test of capital; it's a test of morality. And that's the test that Citi failed... Citi thinks that it would have enough capital in a crisis, even after raising its dividend and doing a $6.4 billion stock buyback. The Fed also thinks that. But the Fed worries that Citi's thought process to get to that result was wrong, even though the result was right, or at least right enough.
The FT says that Citi, and in particular CEO Mike Corbat, has put a lot of time and resources into not just improving that thought process, but explaining it. Corbat has focused on “cultivating close relationships with regulators in Washington”, report Reuters’ Emily Stephenson and David Henry. Nevertheless, the WSJ says Corbat was surprised by the decision and forced to hold an emergency board and management meeting.