AIG Now Fed's Vehicle for Buying Toxic Assets 16 comments
Michael Steinberg
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The Washington Post (from Bloomberg News) "With Fed's Help, AIG Unloads $16 Billion in Credit Default Swaps" reports that American International Group (AIG) retired another $16B face value of credit default swaps for $6.7B by purchasing the underlying securities and canceling the contracts. The insured (counterparties) were able to keep the more than $9B in collateral that AIG posted. The counterparties were taken out at par. So far, the Fed’s Maiden Lane III special purchase fund has purchased $62.1B face value of CDOs from AIG’s counterparties. The Fed has committed to purchase up to $70B face value of CDOs from AIG’s counterparties at roughly 50% of par. Each time the Fed is allowing the counterparties to keep all collateral.
Why has the Fed completely removed the risk of AIG as a counterparty in CDS transactions? Perhaps the Fed views moral hazard as a forward-looking constraint and AIG is just trying to unwind past regrettable activities. More likely the Fed is viewing AIG as a conduit to funnel capital into favored financial institutions. By forcing counterparties to sell the underlying CDO securities in order to receive full recovery, the Fed is liquidating toxic assets and preventing pure speculators from participating. But by paying close to par, when posted collateral is included, the benefit of price discovery is missing.
AIG told shareholders that the Fed would negotiate the CDO purchases on AIG’s behalf and AIG’s participation in any price appreciation would be limited. The implication was that the Fed would use its strength to be an advocate for AIG. Quite the opposite turned out to be true. Instead the Fed used its strength to force a weakened AIG to make whole its stronger counter parties.
Let’s compare AIG’s “loss mitigation” on credit insurance with the monolines. Ambac (ABK) and MBIA (MBI) and others have commuted some of the worst CDS and continue to negotiate the remainder. The transactions were always under par and the counterparties always retained the underlying CDOs. Collateral posted was always included as part of the price. The monolines still retained the right to recover their losses from the mortgage originators. The key difference is that negotiations led by New York Insurance Superintendent Eric R. Dinallo always held out the monolines’ solvency and the possibility of rehabilitation (receivership) as a risk. Counterparties had to consider that some payment was better than no payment.
The New York Insurance Superintendent clearly strengthened Ambac and MBIA in the negotiations to commute CDO policies, while the Fed’s efforts on AIG’s behalf are questionable. If the Fed had AIG’s best interest at heart, they would have simply reinsured AIG for a fee. Instead, the Fed is contriving one way after another to profit from and execute policy objectives through AIG. AIG has become the Fed’s Fannie Mae (FNM) and Freddie Mac (FRE). The Fed keeps pushing AIG to the brink. If they go too far, the Fed will lose its 79.9% investment, and might not even get paid back.
As pure speculation, I think that the government’s relationship with AIG will change under President Obama. The Fed and Treasury created a multitude of opaque programs which on the surface appear to follow the free market mantra of President Bush. In January, true agendas will no longer have to be hidden and strengthening AIG, Fannie and Freddie as independent companies and large employers could be objectives. All three need to be viable, publicly traded stocks as an incentive to keep their best employees. While Paulson and Bernanke spoke of public mission superseding shareholder benefits, I believe that Obama understands that is not a viable path forward.
Disclosure: Author is long AIG, ABK, MBI, FNM and FRE.
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You make a very subtle point in observing that ABK and MBIA's counterparties were forced to take a significant markdown because solvency was a question for the monolines; the notion that the very fact of the Fed involvement in AIG makes their negotiating position paradoxically worse-- well that's a great point, not obvious, but once understood, very important.
Neither Ambac nor MBIA is in any danger of insolvency and their commutations have been arm's length negotiations. Commutations involving SCA were done under threat of insolvency with Dinallo as a factor.
The AIG transactions have made the insured parties whole, which is the intention of insurance. The difficulty is that the Maiden Lane III facility, where the CDOs are to be held to maturity, pays 5/6s of the recoveries to the Federal Reserve. The result is that AIG gets almost no benefit from the expected reversion of mark to market losses - most of that goes to the Fed.
Forget trying to steal a little here, a little there, let's steal all of it, all at one time. How do we know this isn't some grand Ponzi scheme cooked up by the big boys, grander then even Madoff's mad scheme?
Trillions of dollars stolen from the taxpayers right out from under the watchful eye (wink-wink) of our federal government agencies (like the SEC was watching Madoff).
They weren't all asleep at the wheel, they are actually PART of the master scheme. They are going to make sure America NEVER recovers from this, they WANT our country to collapse. You can bet the FBI and most other federal law enforcement agencies are in on it, too, otherwise, how do you explain these monkeys not hearing or seeing or speaking, except after the crimes having been committed? They've been sworn to uphold the law? They'r on the take, is why. What a joke, I have absolutely no respect for our corrupt federal law enforcement agencies, more worried about keeping their jobs, rather than upholding the law. How can these people stand to look their families in the face when they get home?
On Dec 26 02:53 PM sheople wrote:
> Fed/Government/AIG/Fan... Might as well be sleeping together. There's
> certainly no free market anymore. Take from the taxpayers, give to
> the big financial institutions. Manipulate the markets, ignore the
> Constitution, ignore the free market, keep the CEO's multimillions
> coming in. Sounds good to me. Transparancy be damned, it's not there.
> Nothing like that to keep the free market going. Come on, sheople,
> pay your taxes!
If we the taxpayers knew the toxicity of these assets today, the markets would say, "No thanks!" and crash. But devalue the dollar through these billions of dollars of transactions, and when we finally know what's been going on in a few months or years, we may just shrug.
All the government's answers to fix these massive toxicity problems resemble eating the cost tomorrow and not today. We'll pay for these AIG deals with inflation tomorrow. We'll pay for these massive Wachovia-etc. mergers with lost tax revenue as the parent companies retain profit while the subsidiary holding companies go bankrupt, thanks to an obscure IRS ruling conveniently made in September. (The Washington Post had a good series on that issue a couple months ago ... sorry, no link here.)
Just wait about 2-5 years, and 20-year bonds might be going at 19%. (30-year? Forget it, the government won't be selling them.) And the credit default risk on US sovereign debt? Now about 7%, in the next 5 years, who knows where it will be ...
:(
There is little doubt that AIG counterparties will be the major banks, Citi, JP Morgan, Morgan Stanley and Goldman Sachs.
The lawsuit is on the docket as 08-CV-9595 in the Southern District of New York circuit.
On Dec 27 03:56 PM countrybanker wrote:
> Great article. Whats status of Bloomberg lawsuit?
But unlike the author, I don't own AIG stock, and here-in lies the rub; I think the Fed is "bang on" too. (Please read-on before voting me down!)
I use to cover insurance companies for the institutional buy-side. AIG was simply the ONE stock that EVERY investment/fund manager HAD TO OWN. As recently as a year ago, 900 funds owned AIG stock.
Today that number is STILL (amazingly) 473. I looked at all the other big insurance companies in Investor's Business Daily's database, and even more amazingly, it IS STILL the widest held insurance company by my count (nudging out Met by 10). And FYI, looking back at Dec '07, no other insurance company came even close to AIG's 900 funds (HIG had 519 fund owners).
The author seems critical of the FED's manuvering within AIG, but the Fed didn't run AIG into the ground. Regrettably, I can't answer who did, but while "Hank" Greenberg is complaining about AIG's current management, he was at the helm when the ship was turned toward land (ergo, before "running aground").
Why did AIG veer toward land? It was where many of the other "must own insurance stocks" lived, such as MGIC, Ambac, MBIA, etc. All the mortgage insurers and municipal bond insurers "printed money" when I was a buy-side analyst, so investment firms also had to own them (if they could; collectively the market caps were often too small). Municipals essentially "never" defaulted (ok, "Woops"?) and mortgage insurers rarely lost money when borrowers were still required to put down 5% and home prices "never declined".
I don't think that AIG invented CDOs, but they became the Titanic ship sunk by them. Perhaps AIG would simply have been better off buying MBIA, Ambac, etc.?
So I've been worried that the Fed said the purpose of the TARP was to buy distressed assets. Then the Fed seemed to say there was no way to place a value on those distressed assets so it was going to "invest" the money directly in the troubled banks. Meanwhile, the government's investment in/loan to AIG reached levels that are essentially one-quarter of the TARP.
I was outraged, thinking that the Fed was bailing out this single company while letting Lehman fail and "wasting" the TARP money on banks that weren't lending the money (except that they are lending it back to the Fed by buying bonds or, worse, buying other troubled banks so that they become "even too bigger to fail").
Thus I want to thank the author for pointing out to me that the Fed is using TARP funds in the originally stated manner, albiet it is cloaked in the veil of AIG. The Fed IS BUYING distressed assets, just not directly.
Perhaps it could have done a better job, as the author notes about Ambac and MBIA, but I think the real problem is the Fed didn't feel it had the luxury of time because, apparently, AIG really is too big to fail (and perhaps this is a "Lehman lesson"). And valuing these extremely complex (CDO) assets really would take a lot of time.
When the author says "... the Fed may lose it's 79.9% investment", it sounds disingenuous, more like the author is worried about losing his investment in AIG. From my perspecitve, AIG is dead and gone, and it is a shame (and was a sham!). AIG WAS a "must own" stock in my day, but now, in my humble opinion, it is a "must avoid" stock.
As for THIS Fed, it didn't cause the problem (it was Greenspan's Fed that let the credit bubble get out of hand). From this article, I now surmise that THIS Fed is doing a better job than I figured, which is ironic: I've essentially moved to all cash and for the first time ever, I've been considering buying gold. This article actually reassures me a (small) bit.
Now if the Fed would just say it... "We ARE buying distressed assets, it's just we're using AIG to do it."
Gents, There is a great release in liquor and poetic levity.
You rogues, you rascals, you Wall Street Dancers
2005 was alive with jive
and 2006 was all high kicks
2007 was feeling just great
turned out it was bait
for what came in 08
So we voted for the line
that leads to 09
So what say in 010
don’t refinance again
Because in 2011
It has to be heaven
As much as I’ve delved
Nothing else rhymes with 2012
To sum up 2008, let a banker write a bad poem and no one cares. Let a poet write a bad check, big difference. Or maybe Richard Armour described it better, “That money talks I’ll not deny. I heard it once it said goodbye.” Eighteen months at most, probably less, and gents, Wall Street will be financing the purchase of what they just bankrupted and the Dow will be climbing to 14,000. The free market relies on victors not victims. Government relies on victims and distorted policies create opportunities for speculation. Freddie Mac and Ginnie Mae were distortions which melted down because it attracted speculators who did a 1035 rather than pay capital gains tax till there was no 1035 escape left. Meltdown, fiscal fission. Eliminate capital gains tax and profit would have been taken ages ago rather than a 1035 escape to nowhere. Wall Street got involved for the reasons I cover in Wall Street Dancers. The free market works when it is fairly regulated, not rigged as it just was. Ever heard of Glass Steagall? It was Repealed 1999 and written in 1933. It was a firewall that worked for 70 years in preventing what just happened. Wonder why it was repealed? And no one knows the difference between capitalism and a centrally controlled and distorted economy better than the Poles. Abandoned to Stalin at the beginning of the cold war they cynically summed it up the best, “Under capitalism man exploits man. Under Socialism the reverse is true.”-author unknown. The Poles got Stalin, we picked a new president. We got the lesser of the two distortions.
I’ll take it. For the time being, rebalance your portfolio (or what is left of it if you didn’t get out of the way of this meltdown) to reflect the present and please, try to find something that rhymes with 2012.
Trent Tucker
author Wall Street Dancers