benjamin_bear

The Case for AIG - Patience Required

Interesting post but logically flawed. Main question is where AIG stock is headed. Probably up, eventually, given how negative the sentiment is. More importantly, insurance is a pretty good industry. AIG is protected by regulation that serves as a barrier to new competitors. Plus, they have plenty of scale to drive earnings out of every incremental dollar of revenue. The long-term prospects are decent.

However, banking on "write-ups" does not make sense. The point about write-downs being reversed is not well-presented here. Derivatives based on residential loans face a permanent valuation hit. It might come back a little but with the highest default and foreclosure rates in years coupled with severe housing price declines most of the value is gone.

If it is gone, where did the value go? First, loan payments stop or decrease when a loan goes into default/foreclosure or gets renegotiated. The riskier loans (alt-A, subprime, etc.) with the higher interest rates are the ones that take the hit first. I don't know if these were the most profitable but they definitely paid a higher interest rate than the prime loans. Some will argue that there are still many performing loans and that the ones in default are a relatively small percentage. This is true, but if you then add 10:1 leverage and even minor increases in default will completely and permanently wipe out the value of those fun-loving CDO's.

Thoughts?

Is there value still there? Sort of. There's still a house standing and someone still owns it. Unfortunately that's of dubious benefit to AIG's derivative portfolio.