Citigroup, Bank Credit Swaps Rise on Subprime Concern (Update1)

By Shannon D. Harrington


Nov. 20 (Bloomberg) -- The risk that banks and brokerages from Citigroup Inc. to Bear Stearns Cos. will default on their debt is accelerating as analysts increase their estimates of losses from subprime mortgages, credit-default swaps show.

Contracts on New York-based Citigroup, the largest U.S. bank by assets, rose 12 basis points to 91 basis points yesterday, according to broker Phoenix Partners Group, setting a record for the sixth time this month. Contracts on New York-based Bear Stearns climbed 23 basis points to 173 basis points, about a six- year high. A rise signals investors are less confident in a company's creditworthiness.

The increases are the biggest in two weeks as more analysts predict that writedowns by banks and securities firms, already $50 billion worldwide, will continue to grow. Goldman Sachs Group Inc. estimates Citigroup's losses will expand to $15 billion in the next two quarters and CreditSights Inc. analysts said UBS AG, Europe's largest bank by assets, may have lost as much as $9 billion on collateralized debt obligations.

``There's still a lot more uncertainty to come,'' said Tim Backshall, chief strategist at Credit Derivatives Research LLC in Walnut Creek, California. ``We understand the risks now, but we don't know how to measure them yet.''

Credit-default swaps are used to speculate on the ability of companies to repay their debt. They pay buyers the face value of debt protected if the borrower fails to meet payments. A basis point on a credit-default swap contract protecting $10 million of debt from default for five years is equivalent to $1,000 a year.

Economic Fallout

The losses at banks and securities firms are fueling concern that rising delinquencies on home loans to people with poor credit will drag down the economy. The slump in global credit markets may force banks, brokerages and hedge funds to cut lending by $2 trillion, Goldman Sachs economists said last week.

The number of economists forecasting a U.S. recession almost doubled in the past two months, according to a survey by the National Association for Business Economics. Nine of 50 economists pegged the odds of a contraction over the next 12 months at 50 percent or higher, according to a poll taken from Oct. 22 to Nov. 6. Five of 46 held a similar view in September.

Writedowns the past two months have failed to satisfy investors' concerns that prices of subprime mortgage securities and CDOs may fall further. CDOs package debt into new securities with various ratings and coupons.

``Third-quarter results were supposed to settle the markets as banks came clean about their risk exposures, but the opposite was true, as the markets fretted that writedowns were not sufficient,'' CreditSights analysts led by Simon Adamson in London wrote in the report dated Nov. 18.

Citigroup Swaps

Credit-default swaps tied to the debt of Citigroup, which this month said it would reduce the value of its CDO and subprime holdings by as much as $11 billion on top of a previous $5.6 billion, are at the widest levels since at least September 2002, Credit Suisse Group data show.

``Citigroup will likely face an increasingly challenging operating environment which is likely to pressure results in many of their businesses,'' Goldman analyst William F. Tanona wrote to investors yesterday. He downgraded his recommendation on the company's shares to ``sell'' from ``neutral.''

Citigroup declined the most in two weeks, tumbling $2, or 5.9 percent, to $32 in New York Stock Exchange composite trading. The stock is down 43 percent this year.

`Sell' Rating

Deutsche Bank AG analyst Michael Mayo wrote in a report yesterday that Citigroup shares may fall to $29. He reiterated his ``sell'' rating and said the company may be prevented by regulators from making acquisitions because ``recent risk management mishaps seem to violate'' terms of an earlier agreement.

``It looks to us that recent problems with CDOs and their lack of disclosure reflect a serious risk management breakdown,'' Mayo said. At $29, Citigroup would trade at eight times estimated earnings for 2008, he said.

Bear Stearns, the fifth-largest U.S. securities firm by market value, said last week it would write down the value of its subprime assets by $1.2 billion, leading to its first quarterly loss since becoming a public company in 1985.

Bonds of banks, brokerages and insurance companies yield 1.52 percentage points more than U.S. Treasuries, the most since at least 1996, according to indexes compiled by New York-based Merrill Lynch & Co. Citigroup paid the widest spread ever to sell 10-year debt last week, data compiled by Bloomberg show.

Merrill Debt

The CDX North America Investment Grade Index of credit- default swaps climbed 4.5 basis points to 80.75 basis points yesterday, according to Deutsche Bank in New York. The CDX index has soared 34 basis points since Oct. 15 to about the highest since being created four years ago.

Europe's iTraxx Financial Index of credit-default swaps on 25 financial companies, including UBS and London-based Barclays Plc, rose about 3 basis points yesterday to 56 basis points, according to CMA Datavision. The index has more than doubled in the past month.

Contracts tied to the debt of Merrill, the third-largest U.S. securities firm, rose 8 basis points to 140 basis points.

``I don't see any good reason why, especially the brokers, would come any tighter for a while,'' Backshall said. ``There's a lot more news to come out, a lot more writedowns to come as we get through the next six months to a year of mortgage delinquencies.''