Cash In With Citi Puts
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If you think Uncle Sam won't let Citi fail, we'll make the case for Citigroup,
naysayers be damned.
You've heard the bad news on Citigroup over and over this week: It's selling its most
attractive asset, Smith Barney. Vikram Pandit is in over his head. Fourth quarter
earnings will be atrocious. Hedge funds and mutual funds could see forced redemptions
of Citigroup after it fell below $5/share. You know what? We agree with all that and
we're still bullish on Citigroup. Well, not bearish.
If the stock price continues to slip, we are looking at writing the $3 February puts,
collecting about $0.39 per share (returning roughly 9%). Expiration is 4 weeks out,
and if the shares are put to option writers, owning Citigroup at $2.61 ($3 strike
price minus the 39 cent premium) isn't a bad deal considering its asset base
(dwindling, but still enormous) and approaching resistance levels. We're not betting
on Citi rising appreciably, but we do think it will not drop much lower than support
at its 52-week low of $3.05.
The broad-market is nearing lows not seen since December 1st. If indices break
through the December low, the next big resistance level is the 11-year low reached in
mid-November at 752 for the S&P 500. The S&P rallied more than 19% in the week after
the November bottom and over 11% following the December low.
Leading the headlines this week, Citi announced a joint venture with Morgan Stanley,
merging its Smith Barney brokerage segment for $2.7 billion in cash. Wall Street
interpreted the restructuring as a major change in direction for the financial
supermarket business model, plunging its shares from $6.75 last week to a close of
$4.53 on Wednesday.
Despite the palate of bad news, lest we forget, the U.S government is still an
enormous, looming shareholder in Citigroup. It was near these depressed prices when
the Feds swooped in and announced its $20 billion bailout (On top of the $25 billion
injected in October) of Citigroup. Following the federal backstop, Citi shares
rallied to $8.29 within a week of hitting a 52-week low.
An argument can be made that Citi's liabilities outstrip its equity holdings. But as
Charlie Gasparino of CNBC noted in a January 14th broadcast, "the government is
covering a lot of the bad stuff, they've written down a lot of the bad stuff, they
have good global brand names... and they have a huge earnings machine."
How much of the "bad stuff" is still on the books? To be sure, earnings season has
not been kind to Wall Street so far. Citigroup moved up its earnings release to
Friday; analysts are expecting as much as a $10 billion loss for the fourth quarter
in what would be its 5th straight quarterly loss. Poor results would likely send the
stock price below $4. Yet JPMorgan Chase (JPM) shares climbed on Thursday after
posting a 76% drop in Q4 profits to $702 million, or 7 cents a share, beating Wall
Street's expectations. Bank of America (BAC) reports on January 20th and Wells Fargo
(WFC) releases Q4 earnings on January 28th.
The key to stabilizing Citigroup remains isolating the hulking toxic assets that are
putrefying its balance sheet. Given Citigroup's size and scope, and the government's
significant position (Both equity based and its guarantee of $306 billion in bad debt),
the probability of Uncle Sam lending another helping hand if the situation continues
to deteriorate isn't far-fetched. While the rest of Wall Street quivers in Citigroup's
silhouette, put writers can cash in on the fear premium.
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