"Banks are now primarily engaged in the simple functions that are the lifeblood of our economic system: safeguarding assets, providing access to deposited cash on demand, lending money, processing payments and accessing capital markets on behalf of clients.''
While bank stocks have rebounded sharply in the past five years as memories of the financial crisis fade, not all companies have kept up. Citigroup, the fourth-biggest U.S. bank by assets, has lagged the shares of J.P. Morgan Chase and Bank of America.
Citi CEO Michael Corbat has led turnaround efforts, including exiting overseas markets and shedding $800 billion in assets, but that work has been underappreciated, ValueAct said.
"We have been having constructive conversations with ValueAct and welcome them as investors,'' Mark Costiglio, a spokesman for New York-based Citigroup, said in a statement sent to CNBC.
The bank should take more actions, including replacing Chairman Michael O'Neill and selling its Mexican operations by year-end, Mike Mayo, a bank analyst at Wells Fargo, said Tuesday on CNBC's "Halftime Report." Those types of changes will help the firm boost its market value, which trades below the estimated value of the businesses within the firm, Mayo said.
"People are frustrated, aggravated, this is a stock that's still well below its pre-crisis heights,'' Mayo said. "You now have an activist in Citigroup stock. They said it wasn't possible; it's been done.''
ValueAct said its thesis on financial stocks was developed when it was evaluating a $1.1 billion investment in Morgan Stanley, which it disclosed in August 2016.
That investment reaped returns for ValueAct as investors began to recognize the moves that CEO James Gorman had made to focus on wealth management and improve fixed income trading operations. Since August 2016, Morgan Stanley shares have more than doubled. ValueAct currently owns 1 percent, according to FactSet.
ValueAct's stakes in financials, including a holding in credit card services company Alliance Data, now total more than a third of its $13 billion in assets.
It took on a stake in KKR in July 2017, and the shares have risen 18 percent since then. ValueAct currently has a 10.2 percent stake, according to FactSet. It also has a 10.6 percent stake in Alliance Data, which it began acquiring in April 2016. Shares of that company are down 6 percent since then.
While previous eras were defined by acquiring competitors to become financial supermarkets or wagering capital in trading markets, the industry is now in a different period, ValueAct said.
Banks are now in an era where the winners will invest heavily in technology to deepen relationships with customers, focus on core activities in leading businesses and focus on the well-telegraphed return of capital to investors, the firm said. That favors the biggest institutions that have the scale needed to spend billions of dollars on technology.
That was part of its rationale for investing in Citigroup, which ValueAct says has leading positions in low-risk businesses that serve global corporations like cash management, payments and receivables processing, and payroll.
"While seemingly mundane, these are attractive markets demonstrating consistent and sustainable growth,'' ValueAct said. "They are scale businesses that rely on complex internal technology as a core part of operations, and deliver their product to customers primarily via digital platforms.''
Citigroup can return $50 billion in capital to investors in the form of dividends and share repurchases over the next two years and double its earnings per share by 2020, ValueAct said.