AIG Watch: The Taxpayer Is Being Fleeced Twice

Mar.17.09 | About: American International (AIG)

The level of outrage in America yesterday over AIG's (NYSE:AIG) $450 Million in bonus payments is palpable. You can't go to a cocktail party without someone bringing it up. This may be a water-shed issue for the Obama Administration. The line in the sand may just have been crossed. The rapidly growing realization is that the only way to stop this insanity is to stop the money from flowing. The anti-bailout movement has become a mainstream issue these days.

As insulting as the bonuses are, it just gets worse for AIG vs the Taxpayer. This from a Greensboro NC paper:

AIG United Guaranty posted an operating loss of $485 million in the fourth quarter of 2008. For all of 2008, losses at the Greensboro-based private mortgage insurer totaled $2.48 billion.

This division of AIG fleeced the taxpayers for $2.5 Billion last year. Five times the amount of those bonuses that the press is screaming about this evening. That this happened in 2008 is troubling. That it is continuing to happen in March of 2009 is just shameful. An explanation:

Fannie Mae (FNM) and Freddie Mac (FRE) have always had terms for a Conforming mortgage. A Conforming mortgage requires 20% equity from the buyer. There has always been an exception to this rule. If a Fannie/Freddie 'approved’ insurance company was willing to take a first loss (“PMI”) on the loan portion that was in excess of 80%, then the Agencies could still buy the mortgages. This simple abuse of good credit policy allowed millions of homes to be sold to borrowers who had no down payment and little chance at maintaining a monthly mortgage. At the heart of America's real estate collapse is the fact that those high prices could not be sustained without 100% financing being available.

Fannie Mae and Freddie Mac bought as much of this 'enhanced' paper as they could. The yields were great and how could they lose if the likes of AIG were going to guarantee the first loss? In 2006, FNM/FRE were trying to build market share in high risk mortgages. They kept the party going.

This has ended very badly. AIG's results are reported above. Fannie and Freddie have very big losses on their enhanced book of business as well. The losses on the enhanced mortgages far exceeded the portion that was insured. The only ones who have made out were the regional banks that originated and sold the risky loans to the Agencies.

FNM recently reported that its default rate on enhanced loans was 5 times larger than on loans that had the traditional 20% down. 22% of Fannie's 2008 business was enhanced. AIG was one of the biggest providers of the PMI coverage.

These questionable standards are business as usual today at Fannie and Freddie. They continue to buy pools of mortgages where the required equity of a borrower has been replaced with an insurance company guarantee. The incredible part is that one of those 'approved’ insurers continues to be AIG.

AIG continues to write first loss insurance on high risk mortgages. With this questionable promise to pay attached, the loans can be sold to another ward of the state, FNM. The taxpayer is being fleeced. Twice. And the numbers are very large.