Easy Money from the Sewer

Despite a lifetime of being a cynical bastard, it wasn't until fairly recently, that I realized that corruption is tradable. For example, on 2/24 I posted about Citigroup's proposal to convert its TARP preferred shares to common. I'd like to say that my purpose for examining Citi's proposal was to enlighten all 6.3 of my faithful readers about the corrupt nature of the process, but that would be a pleasant lie. My motives were a bit more practical as I was looking for a trade.

As of 2/27, here is what was known:

1. Citi was being allowed to convert all of its TARP preferred shares to common, at a significant premium to the market price to satisfy an alleged need for Tangible Common Equity (TCE). This need was due to Geithner's impending stress test, which emphasizes TCE.

From this we can conclude:

Citi proposed the conversion and, despite very unfavorable terms, received it from the Treasury. Thus, Citi has likely captured its TARP destiny and little further regard for taxpayers can be expected. The haircut that the taxpayers received by paying $3.25 per common share will likely be reported as income. The TCE farce is irrelevant, as it doesn't affect the bank's health one way or the other and is akin to the mass of a stone remaining unchanged by its measurement in grams or ounces.

2. As of 2/13, Citi implemented a 30 day foreclosure moratorium, meaning no charge-offs would be recorded, which will pad the balance sheet and income statement. Additionally, in some states, this will reset the mandatory foreclosure countdowns, further delaying asset reductions.

As a result, I'd assumed that would some positive guidance before Citi's earnings announcement in April. Ironically, I'd underestimated the level corruption in Citi, since I never envisioned that Pandit would personally handle the pump and dump. Thus, while I didn't like C at $2.14, at $1, I'd found my trade:

I kept thinking that C, at $1, might be the long-term trade of a lifetime, not because they've turned the corner or are actually profitable, but because they seem to have carte blanche at the Treasury. Barring a derivative induced implosion, they won't be allowed to fail. Perhaps, in 10 years, once the current cast of Valdez captains has cashed out on our dime, Citi may return to real profitability. However, I can't make much sense of their derivative positions from their annual report and I am absolutely not down with the idea that everybody but AIG was perfectly hedged, so I passed. Regardless, I'm up 72% in less than two weeks purely on corruption and chicanery, so I'll call it a win, albeit a dirty one.

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