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Paulson and Fed Chairman Benjamin Bernanke laid out a plan to loan AIG $85 billion in exchange for 79.9 percent ownership of the company.
New York-based American International Group (AIG) was one of a number of companies, along with Bear Stearns and Lehman Brothers, hit by the subprime mortgage crisis of September 2008. Founded in 1919 as American Asiatic Underwriters, AIG had grown into a multinational corporation doing business in 130 countries in such diverse businesses as aircraft leasing and life insurance, along with its principal business of mortgage insurance. In early 2007, AIG reported assets of $1 trillion, with $110 billion in income. It did business in 130 countries, with 116,000 employees servicing 74 million customers. Its stock was one of the 10 most widely held stocks in 401(k) portfolios.
However, since 1987, AIG, through its AIG Financial Products division, had been involved in credit default swaps (insurance contracts covering securities against losses incurred by defaulting on payments), which by 2008 had reached an estimated total of $450 billion. Also, it had contracted its securities management to companies such as ICP Asset Management and Moore Capital, which sought to make money for AIG through lending stocks and bonds owned by its life insurance subsidiaries to banks and hedge funds. The money generated from lending these securities was mostly invested in residential-mortgage-backed securities. When the value of such securities plummeted in 2008, AIG was hit hard, with credit default swaps creating a $14.7 billion share of its overall reported loss in the second quarter of $26.2 billion and another $16.5 billion in collateral on its credit default swap portfolio.
The staggering losses prompted Moody's to threaten to lower AIG's credit ratings if it could not raise sufficient capital to meet the capital reserve requirements for the "AAA" rating AIG had held to that point. AIG's chief executive officer, Robert B. Willumstad, met with senior executives and bankers from the Blackstone Group, Citigroup and JPMorgan Chase, planning to raise capital and sell assets to meet Moody's requirements.
Unfortunately, the collapse of Lehman Brothers torpedoed those plans, forcing AIG to appeal to New York State insurance regulators for permission to borrow $20 billion from its subsidiaries. Although approval was granted, that amount was soon determined to be insufficient. When AIG contacted officials of the Federal Reserve Board to notify them of its situation, the necessary amount had become $30 billion. However, by the time Treasury Secretary Henry Paulson Jr. met with AIG executives on September 13, a subsequent audit of AIG's books raised the necessary amount to $40 billion, an amount raised after yet another audit by JPMorgan Chase to $65 billion.
With the threat of a government takeover looming, prospective investors backed out. A Monday morning attempt by the Fed on September 15 to line up $75 billion in bank loans failed, at which point both Moody's and Standard and Poor's lowered AIG's credit rating to ?A,? raising the amount of collateral AIG would need to produce to cover its credit default swap contracts to nearly $100 billion.
Paulson notified President George W. Bush about the situation, while aides contacted congressional leaders to arrange a briefing with leaders of both parties in both houses. Paulson and Fed Chairman Benjamin Bernanke laid out a plan to loan AIG $85 billion in exchange for 79.9 percent ownership of the company. The actual loan would be through the Federal Reserve Bank of New York, then headed by Timothy Geithner, Paulson's eventual successor as treasury secretary. Several weeks later, on October 7, the Fed pledged another $37.8 billion in loans after AIG paid $18.7 billion on its credit default swaps.
On November 10, after disclosing that it had posted $37.3 billion on the swaps, AIG received a reduced interest rate and three years to pay back its loan from the government, which had become part of a $150 billion rescue package consisting of a $60 billion loan, $50 billion to buy mortgage-linked assets, and another $40 billion in capital investments.
The bailout permitted AIG to continue to operate, but not as it had before. Its American Life Insurance Company (ALICO) and Delaware American Life Insurance Company (DelAm) subsidiaries were sold to MetLife in 2010, taking AIG out of the international life insurance business. (The ALICO sale earned AIG $16.8 billion.) A deal to sell its American International Assurance Group (AIA) to Prudential Financial that year for $35.5 billion fell through because Prudential shareholders would not underwrite the price. Instead, AIG took AIA public on the Hong Kong Stock Exchange in October of that year, generating another $20 billion. However, AIG did sell its Star Life Insurance and Edison Life Insurance to Prudential in February 2011 for $4.8 billion, after selling Nan Shan Life the previous month to Ruen Chen of Taiwan for $2.16 billion.
Sales of these subsidiaries enabled AIG to post earnings for the fourth quarter of 2010 of $11.2 billion, offsetting its losses in the first three quarters, and providing a sharp contrast to the $8.87 billion loss of the fourth quarter of the previous year. Overall earnings for 2010 were $7.8 billion, in contrast to the overall $10.9 billion loss in 2009.
In April 2011, AIG announced plans to sue ICP Asset Management and Moore Capital for losses suffered insuring ICP's mortgage securities. The suit asks for $350 million in damages from ICP, as well as the profits made by Moore. AIG also plans to sue banks such as Bank of America and Goldman Sachs that created the over $40 million in mortgage bonds it had purchased from them.
International Herald Tribune; May 23, 2008
American Banker; January 24, 2008
Business Insurance; December 1, 2008
Business Insurance; May 12, 2008
Business Insurance; June 16, 2008
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