AIG still faces credit losses

By Henny Sender in New York Published: March 4 2009 02:00 Last updated: March 4 2009 02:00 AIG, the insurer controlled by the US government, still faces billions of dollars in potential losses on credit guarantees it provided for complex subprime mortgage securities, in spite of its $62bn fourth-quarter loss and regulatory efforts to unwind its holdings, company filings show. The difficulties the authorities face in dealing with AIG spilled into the open yesterday as Ben Bernanke, Federal Reserve chairman, expressed anger with the company in an appearance before the Senate budget committee. "If there is a single episode in this entire 18 months that has made me more angry, I can't think of one other than AIG," he said. "AIG exploited a huge gap in the regulatory system. There was no oversight of the financial products division. This was a hedge fund basically that was attached to a large and stable insurance company." The crisis at AIG stemmed from its activities in the market for credit default swaps - derivatives that function as debt insurance. AIG was particularly active in providing guarantees for securities known as collateralised debt obligations, bonds backed by debts such as subprime mortgages. AIG ran into trouble when its credit rating was downgraded and the value of the CDOs it insured fell, which forced it to post tens of billions of dollars in additional collateral with its counterparties. This process exhausted its resources and prompted the government rescue of the company in September. In November, the Federal Reserve Bank of New York set up a limited liability company called Maiden Lane III - backed by $5bn from AIG and borrowings of up to $30bn from the Fed - to resolve the situation. The idea was that Maiden Lane III would buy CDOs from AIG's counterparties and then tear up the credit insurance issued by AIG. AIG filings this week show that the company retains $12bn in exposure to credit insurance on positions mostly involving subprime mortgages. As of February 18, AIG could have to pay counterparties up to $8bn on these positions, the filing showed. In the days after the creation of Maiden Lane III, AIG and the Fed approached about 20 counterparties with an offer to buy CDOs. By the end of the year, Maiden Lane III had paid nearly $30bn for CDOs with a face value of $62bn, AIG said. AIG paid $32.5bn to terminate the credit insurance on the CDOs, recognising a 2008 loss of $21bn. Counterparties received 100 cents on the dollar for the CDOs, but the prices paid by Maiden Lane III suggested that the CDOs were worth 47 cents on the dollar, said a person familiar with the matter. On Monday, AIG reported a $61.7bn loss and confirmed that it would give the US government a stake in its two biggest divisions as part of a fresh $30bn rescue. Additional reporting by Alan Beattie in Washington www.ft.com/crisis