Around 3 a.m. EST, familiar “ding, ding, ding” of a breaking news alert was being played. The news read, “Citigroup Announces 10 for 1 Split,” and many traders went to sleep with sweet dreams of buying bucket-loads of C for around 50 cents per share. These dreams were quickly dashed after learning, upon sunrise, that it was a “reverse split,” meaning Citigroup will give shareholders 1 new share for every 10 shares owned. At the time, this translated into the $5 shares jumping to $50 shares. A huge difference to the initial belief from the breaking news headline! While the move is being demonized by the high-frequency trading crew as Citigroup was their favorite stock, what exactly does this reverse split mean for active traders and investors? Let’s take a closer look at the company.
Despite being a major part of the portfolio of one of the wealthiest men on earth, Prince Allaweed, Citigroup has been a very troubled bank. The Federal Reserve saved the institution on November 23, 2008, with a $20 billion cash injection and $300 billion worth of guarantees. Not surprisingly, the bailout occurred just two months after the collapse of Lehman Brothers. At the time the Federal Reserve was extremely nervous of a complete economic collapse. The once mighty company continued to drop in value even after the cash infusion. The stock price dropped to an astounding 95 cents per share by March 2 2009. In retrospect, this was to be expected as it often takes some time for the effects of government aid to be truly felt. Price proceeded to climb back in a see-saw manner to nearly $5 per share prior to dropping back down to about $3.50 per share in August 2010. Another step-by-step uptrend was triggered off of these lows pushing price to a high of $5.10 prior to drifting back to the current trading level of $4.53 per share. Recently, the company announced first quarter profits of 10 cents per share. This number beat most analysts’ expectations, but the number was smoke and mirrors as it was supported by a $3.3 billion reserve release. The revenue of $19.7 billion missed analysts’ forecasts making the road even rockier for the stressed bank.
The reverse split, scheduled to take place on May 6, will reduce the number of outstanding shares from 29 billion to less than 3 billion. In addition to the split, Citigroup will reinstate its dividend program at a penny per share. A penny per share?! Well, the bailed-out banks are under Federal requirements as to how much of a dividend they can pay. This penny per share is more symbolism of the bank’s willingness to give back to investors than the actual reality of the dividend. There are both positive and negative effects possible with the reverse split. First, the negative: A study by NYU Stern School of Business and Emory’s Business School clearly indicated that companies undergoing reverse splits under-performed the market by approximately 50%, on average, in the three years after the split. Next, the higher stock price will reduce the trading volume of the shares since high frequency and other active traders will have to look elsewhere for the next low-priced, strong-volume stock. The positive affect of the split is that it should attract more institutional interest. Many institutions have stock price limits in their charters preventing the purchase of low-priced shares. The post split price will enable these once barred institutions to own Citigroup.
What the long-term effects will be is anyone’s guess. One thing is for certain, Citigroup isn’t out of the woods yet.
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