Citigroup will buy back more than $7 billion in auction-rate securities and pay $100 million in fines as part of settlements with federal and state regulators, who said the bank marketed the investments as safe despite liquidity risks.
Citigroup will buy back the securities from tens of thousands of investors nationwide under separate accords announced Thursday with the Securities and Exchange Commission, New York Attorney General Andrew Cuomo and other state regulators. The buybacks from nearly 40,000 individual investors, small businesses and charities are not expected to cause significant losses for Citigroup; they must be completed by November.
Similar steps to buy back auction rate securities from customers are expected to be taken by other financial institutions. Bank of America revealed that it has received subpoenas and requests for information about its sale of the investments.
Merrill Lynch said it will offer tobuy back an estimated $12 billion in auction rate securities, though the company has already been actively reducing that amount.
Citi , the nation's largest financial institution, said it also will pay $50 million each in civil penaltiesto New York state and the North American Securities Administrators Association, which represents securities regulators in the 50 states and the District of Columbia.
The SEC also will consider levying a fine on Citigroup, the agency's enforcement director Linda Thomsen, said at a news conference.
New York-based Citigroup agreed to reimburse investors who sold their auction-rate securities at a loss after the market for them collapsed in mid-February. Also under the SEC accord, Citigroup agreed to make its best efforts to liquidate by the end of next year all of the roughly $12 billion of auction-rate securities it sold to retirement plans and other institutional investors. Cuomo said his office will monitor that effort for three months and then decide on a timeframe. (Watch the accompanying video to learn more about Merrill's decision to buy back auction-rate securities...)
The $330 billion auction-rate securities market involved investors buying and selling instruments that resembled regular corporate debt, except the interest rates were reset at regular auctions—some as frequently as once a week. A number of companies invested in the securities because, thanks to the regular auctions, they could treat their holdings as liquid, almost like cash.
Major issuers included companies that financed student loans and municipal agencies like the Port Authority of New York and New Jersey. In February, when banks such as Citigroup ceased backstopping the auctions with supporting bids because of concerns about credit exposure, the bustling market collapsed. That left some issuers paying double-digit interest rates because of the terms under which they issued the securities.
"These were conservative investors; that's why they bought these securities," Cuomo said in a telephone interview. "These were not high-risk investors."
The settlements with Citigroup make the investors whole and may point the way to a solution of such cases involving auction-rate securities, he said.
Federal and state regulators have been investigating marketing of the securities by a number of big banks. Another case surfaced this week: the Massachusetts attorney general's office reached a settlement with investment firm Morgan Stanley for allegedly selling the risky auction-rate securities to cities and towns, but presenting the investments as safe.
As part of the settlement filed Wednesday, Morgan Stanley agreed to repurchase $1.5 million in the securities it sold to a pair of local municipalities, and fully reimburse any city or town that invested in auction-rate securities. The New York-based company said it was pleased to settle the case without financial penalty.
Texas: Several States Investigating Jointly
Multi-State Probe Ongoing, Texas Says
Meanwhile, a multi-state task force is probing a total of 12 Wall Street firms, over how they handled clients' investments in auction rate paper, the Texas state securities commissioner said on Thursday.
To speed the investigations, each of the 12 states in the task force is taking the lead on one to two Wall Street firms, the Texas commissioner, Denise Voigt Crawford, said.
"I anticipate that some will settle very soon, it may be perhaps in the next couple of weeks," she said, declining to reveal any of the other companies' names.
UBS, Wachovia Investigated
Cuomo's office sued the Swiss bank UBS last month over billions of dollars in sales in auction-rate securities, and other states have filed similar complaints. Massachusetts last week accused Merrill Lynch of fraud in promoting the sale of auction-rate securities. In May, Wachovia disclosed that it has received requests from the SEC for information regarding sales of auction-rate securities.
In Citigroup's case, the regulators said the bank marketed the auction-rate securities to many of its customers as desirable and highly liquid investments, while it failed to provide supporting bids for the auctions it managed when demand flagged.
The SEC agreement, which must be formally approved by the agency's commissioners, "provides real relief to investors," Thomsen said. "In a short period of time, about 38,000 individual, small business and charitable organization(s) ... will receive nearly $7.5 billion in liquidity."
Citigroup neither admitted nor denied wrongdoing under the settlements. Its shares fell $1.23, or 6.2 percent, to $18.47 Thursday.
Cuomo said Thursday that litigation over fraud charges "is always an option," but the sort of amicable settlement reached with Citigroup is preferable because it gets money back to injured investors quickly -- as opposed to lengthy court proceedings.
Citigroup said more than 50 percent of its retail clients' holdings in auction-rate securities "have been redeemed or auctioned at par (value) since the crisis began. We remain committed to continuing our work on initiatives that will secure the best and fastest route to providing liquidity to our clients."
Analysts questioned the regulators' action.
"They keep finding ways to attack the industry and that will drive innovation out of New York City and to London, Tokyo and elsewhere," said Richard Bove, an analyst with Ladenburg Thalmann.
Bove said investors should have researched what securities they were buying, and that authorities should have pursued individual traders that were misleading clients.
There are other signs the auction-rate securities market is rebounding, which will prevent Citigroup from taking a heavy loss as a result of the buybacks. Citigroup holds some $5.6 billion of those securities on its books, and said its Smith Barney unit recorded a $198 million pretax gain from the investments during the second quarter "as some liquidity returned to the market with a number of auctions being completed."
- Reuters contributed to this report.