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Why Citigroup's Epic Failure Is Particularly Disturbing

By John Maxfield – Mar 28, 2014 at 7:00AM

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On Wednesday, the Federal Reserve officially rejected Citigroup's request to raise its dividend. Here's why investors should indeed be worried about this.

There are few bank stocks I like less than Citigroup (C 0.98%), but that doesn't mean investors should sell it because the Federal Reserve rejected the New York-based bank's request to increase its quarterly dividend and share buybacks on Wednesday.

"Needless to say, we are deeply disappointed by the Fed's decision regarding the additional capital actions we requested," said CEO Michael Corbat after learning the news. "The additional capital actions represented a modest level of capital return and still allowed Citi to exceed the required threshold on a quantitative basis."

To be clear, the issue here isn't so much about the dividends and proposed buybacks per se. Indeed, Citigroup asked only to increase its quarterly distribution to $0.05 per share and repurchase a reasonable $6.4 billion in common stock.

While these figures amount to large relative improvements, as the bank currently distributes a mere $0.01 per share each quarter and is operating pursuant to a $1.2 billion repurchase program, they would hardly register on an absolute basis. At $0.20 a share, for instance, its proposed annual dividend yield would remain far south of 1%.

The issue also isn't about Citigroup's capital levels. The results of this year's stress tests, released last week, showed that Citigroup has more than enough high-quality capital to operate in even the harshest economic scenario. This is why the Fed made a point to note yesterday that Citigroup's issues were qualitative, as opposed to quantitative in nature.

So, what is the issue? The issue, at least in my opinion, is what the denial says about Citigroup's operations and the quality of its decision-making at the top. Namely, Corbat and his team were well aware of the reputational damage that would ensue if its capital plan was rejected, but they nevertheless proposed one without being completely certain of the outcome.

To make matters worse, the bank found itself in an identical situation two years ago. Many analysts and commentators even believe the 2012 denial was a precipitating factor behind former-CEO Vikram Pandit's ouster later that same year. It's hard to say for sure whether these events were in fact related, but there's certainly an air of association, to say the least.

With this in mind, one has to wonder why Corbat wouldn't have acted with greater caution and prudence. Sure, hindsight is 20/20, I get that, but Corbat himself had been urging discretion all along. And it's not like he's some random guy writing about bank stocks (i.e., me); he's the CEO of a multibillion-dollar global banking behemoth with all of the resources and brain power that one could possibly need to make a decision like this.

The only conclusion I can draw is that his team felt comfortable taking a risk. Like the long line of Corbat's predecessors, its current executives chose to gamble with the reputation and prestige of the company as opposed to playing it safe. And this, in turn, is the problem. As Citigroup should know by now, a banker's job isn't to take risks, it's to minimize them.

John Maxfield has no position in any stocks mentioned. The Motley Fool owns shares of Citigroup. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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