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Is Citigroup Better Managed Than JPMorgan Chase?

By Alex Dumortier, CFA - Apr 13, 2016 at 11:38AM

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Among the top eight U.S. banks, only Citigroup's "living will" made the grade. As a result, the market is taking a fresh look at the institution and its share valuation.

U.S. stocks are higher in late morning trading on Wednesday, with the S&P 500 (^GSPC 0.01%) and the Dow Jones Industrial Average (^DJI 0.03%)  (DJINDICES: $INDU), up 0.66% and 0.69%, respectively, at 11:30 a.m. ET. Both indexes are being given a lift by shares of JPMorgan Chase & Co. and the broader Financials sector after the bank reported unspectacular first-quarter results that nevertheless beat analysts' estimates.

However, JPMorgan -- along with nearly every one of its peers -- failed a different test yesterday. For Citigroup Inc, the only bank that "passed," the result highlights that, despite being left for dead by investors, it has been quietly raising its game under CEO Michael Corbat's leadership.

America's top banks still pose a potential threat to the financial system. That's effectively what banking regulators are asserting with their assessment of the resolution plans of eight "too big to fail" institutions, which was released this morning.

Under the Dodd-Frank Act, the top banks must annually submit a resolution plan that describes how the institution would go about winding itself down in an orderly manner in the event of bankruptcy.

Recall that Lehman Brothers' catastrophic failure in September 2008 marked a turning point in the financial crisis, throwing the global financial system into chaos and amplifying the direct economic impact of the crisis.

After review by Federal Reserve and the FDIC, the plan of only a single bank, Citigroup, was not rejected outright by both regulators (though they did cite "shortcomings"). Both regulators found JPMorgan's plan "not credible and it would not facilitate an orderly resolution" in a crisis.

Four of the eight other banks, including Bank of America Corp, also received a "double neg," while the Fed and the FDIC were split on Goldman Sachs and Morgan Stanley.

For JPMorgan, the result is embarrassing. Only last week, CEO Jamie Dimon dedicated an eight-page section in his annual letter implicitly pushing back against the notion, voiced by some regulators and politicians, that the top banks are too large, that they continue to pose a systemic risk, and that they therefore ought to be broken up.

Meanwhile, investors, who had gotten used to relegating Citigroup to the "lost cause" pile as the worst performer in its peer group, are now being presented with evidence that Citi is, in some important respects, the best bank in its peer group.

That new evidence is manifestly causing investors to rerate Citigroup's shares this morning; they're up 4.7%, outperforming those of both JPMorgan and B of A.

It's perhaps not all that surprising that Citi has gone from worst to first in this instance. After all, you might expect the bank that "exposed the federal government to the greatest potential loss during the government bailout" would subsequently be under the closest scrutiny from regulators, forcing them to improve, overtaking peers that faced less scrutiny.

As my colleague John Maxfield points out in his strong case for buying Bank of America and Citigroup, there is still work to be done at Citi, which continues to fail one all-important test: earning its cost of capital. Nevertheless, today's news is a highly visible milestone in the bank's turnaround -- one the market isn't ignoring.

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