Fed Cashes Out Of Maiden Lane And Some AIG Scenarios

| About: American International (AIG)

This has been under-reported out there. People are focusing on the fact that the Fed made $2.8B on the deal (if they have noticed it at all). That is great, but what is more important is that AIG just got $1.3B in cash added to their coffers. The fact that these sales are not depressing the market means the chances for Maiden Lane III to be liquidated this year has gone up exponentially. When that happens, assuming pricing consistent pricing with this deal, AIG pockets in excess of another $5B.

Then the company can get serious about returning some cash to shareholders. My hope would be a preference to buying back stock anywhere under the $50 level. Since book value is $55+, any share repurchases under that level are immediately accretive to shareholders. Tangible book value right now is $55 so the company’s current $1B share repurchase is going to buyback near $1.6B in value with prices floating $27-$29 (each share they buy for $28 has a value of $55 in net assets on it).

Now, we also have to throw into the mix the $7-$8B they’ll get when they IPO IFLC later this year. While these amounts may not seem like huge numbers individually given the scope of what we see out there today, when we consider AIG is now only a $54B company (down from near $200B at its peak), ~$13B in cash coming in all of a sudden starts to look like a very large number.

Now we start getting into some interesting scenarios. A dividend? I doubt it, not yet, it would not be a wise use of funds. The most likely outcome is perhaps AIG simply buying a large chunk of the government stake back from them. It it would be cheaper and far less dramatic than another “IPO” of the shares (this assumes shares are over the government break even of $29.33). 72% of $54B is $39B. AIG could take between a quarter and a third of that from the government and off the market at the same time. This would be tremendous for shareholders. Of course all of this depends on prices between now and when any action is contemplated. I simply propose it to illustrate the options and the scope of what they can do.

Now, lets assume AIG gets some rational pricing and trades to BV of $55 by the time ML III is sold and IFLC is IPO’d. Buying back the stake from the government then may not make the most sense. I would assume at that point Treasury will have already liquidated a decent chunk of its holdings as it will be well into the profit area they have set as the prerequisite for action. What to do then? If that is the case then perhaps buying more of AIA.HK is in the cards. AIA is a tremendous company that is perfectly situated for the China demographic and the needs for that culture as it modernizes. Owning it has tremendous upside. It would also go along way to normalizing AIG’s reported earnings. Right now AIG has to account for P&L of the investment based on the closing price of the last day of the Q. Every $1 move means $500M +/- for AIG’s earnings. It clouds the picture.

Bottom line is there are quite a few catalysts coming up to realize the value in AIG shares

The Federal Reserve Bank of New York on Tuesday sold the last distressed mortgage bonds from an entity that aided the bailout of American International Group Inc., reaping a $2.8 billion gain for U.S. taxpayers on the sales over the past year and closing a controversial chapter in the central bank’s response to the financial crisis.

Tuesday’s deal represented the third and final bulk sale from a portfolio of securities known as Maiden Lane II, which originally acquired roughly $40 billion in mortgage bonds from an AIG business known as securities lending in 2008. The New York Fed still has other troubled securities from the AIG bailout on its balance sheet.

The gain meant the New York Fed made more money from selling Maiden Lane II piecemeal over time, versus what AIG offered to pay for all the bonds a year ago. The insurer’s bid, which the regional Fed bank rejected, had promised a $1.5 billion profit for taxpayers, excluding accrued interest of $580 million which was included in the Fed’s profit calculation.

The last bonds were bought by Credit Suisse Group AG, which beat out four other Wall Street dealers in an auction for residential mortgage-backed securities with an unpaid principal balance of $6 billion. The Swiss bank likely paid more than 50 cents on the dollar for the bonds, given the gains reported by the New York Fed.

The sale will also send roughly $1.3 billion in proceeds to AIG, which in 2008 provided $1 billion to support Maiden Lane II. Earlier this month, a bulk sale of bonds to Goldman Sachs Group Inc. ensured that the New York Fed would be fully repaid on its $19.5 billion loan to the vehicle during the crisis.

Investor interest in once-toxic bonds backed by pools of home loans has been strong this year. In an earlier sale in January, Credit Suisse paid about $3.1 billion, or about 44 cents on the dollar, for Maiden Lane II securities with a face value of $7 billion.

Goldman then paid over $3.4 billion, or about 55 cents on the dollar, for $6.2 billion in bonds from the vehicle. The dealers sold most of the securities to investment firms.