Falling Shares Raise Questions About CapitalAs the endgame plays out for Lehman Brothers Holdings Inc., pressure is rising on two other financial behemoths to take action to convince investors to stick with them.
On Friday, credit-ratings firm Standard & Poor's threatened to downgrade American International Group Inc., citing the significant decline in the company's share price and the increase in credit spreads on the company's debt. Meanwhile, AIG will likely hold an analyst call Monday morning and could announce a series of steps aimed at reassuring investors, including possible asset sales, a person familiar with the matter said.
AIG has hired J.P. Morgan Chase to raise money and is working with BlackRock, the asset management firm, on how to value its assets. One potential buyer could be private equity firm Blackstone Group, according to a person familiar with the situation. The firm didn't comment.
A rapid plunge during the week in the price of AIG shares -- the stock fell more than 30% on Friday alone -- coupled with equally worrisome signs for the insurance giant in the debt markets, appeared to increase the heat on management to act.
News of AIG's plan marked a turnaround in tone for the company, which just Thursday had maintained it was sticking with its schedule to unveil by late September the strategy of new chief executive Robert Willumstad. The company's stock has fallen steadily in recent weeks and is now down 79% this year.
Meanwhile, shares of securities firm Merrill Lynch & Co. fell 38% in the four trading days since concerns emerged about Lehman's viability as an independent company when talks to sell a stake to a Korean bank ended.
While both Merrill and AIG were roiled as Lehman-generated concerns rippled through the market, each has distinct sets of problems. The concerns about Merrill center on its holdings of the same kinds of assets, commercial real estate and residential mortgages, that required write-downs by Lehman. Those write-downs fueled the need for Lehman's own restructuring plan, announced on Wednesday.
Investors also are concerned that Merrill, despite having purged itself of most of its exposure to toxic mortgage assets, could have the weakest balance sheet of the three major independent securities firms that would remain after the demise of Bear Stearns in March and a sale of Lehman. The other independents are Goldman Sachs Group Inc. and Morgan Stanley.
Some Wall Street analysts estimate that if Merrill took markdowns comparable to Lehman's, it could face an additional $3.5 billion beyond the $5.7 billion hit announced on July 28 that accompanied Merrill's sale of mortgage assets to Lone Star Funds. That, some analyst say, could require Merrill to raise even more capital, further diluting investors, after the firm raised more than $23 billion in several different steps since last December to shore up its balance sheet.
New Lehman-like write-downs for Merrill could mean "they have another capital raise" in store, said David Trone, an analyst at Fox-Pitt, Kelton.
Others maintain the two investment banks' portfolios and business lines differ. Analysts say Merrill's $17.6 billion in commercial real-estate assets are higher-quality than Lehman's, which were written down by $1.7 billion to $32.6 billion. Lehman has holdings in apartment owner Archstone-Smith and California land developer SunCal Cos., whose value has weakened sharply.
Merrill also has $5.4 billion of commercial mortgage-backed securities and $5.9 billion of Alt-A mortgages, made to borrowers who don't fully document their income. Lehman wrote down its At-A mortgages by 38% during the third quarter. Merrill also has $33.7 billion in high-quality home loans to its brokerage customers.
Glenn Schorr of UBS AG said Merrill has "a bigger, more diversified franchise" than Lehman, particularly with its league-leading army of brokers serving individual investors, plenty of cash and an extra capital cushion in its 49% stake in money manager BlackRock Inc. However, he adds, Lehman's fate shows "the fragile nature" of investor confidence.
As for AIG, which has posted $18 billion in losses over the last three quarters, it's in a chicken-egg game. As it's stock and debt woes brew, it could face a ratings downgrade that would force it to raise capital. But the lower its stock price, the harder it becomes to raise capital. On the plus side, as an insurer, AIG has advantages that some other financial institutions don't.
It isn't vulnerable to a run on the bank for its standard insurance policies -- those typically are promises to pay future claims, not accounts subject to withdrawal. And AIG has a number of strong businesses it could sell to raise capital -- businesses that aren't as directly impacted by market conditions as those of investment banks. These include life insurance and property/casualty insurance operations in the U.S. and abroad, in addition to a consumer lending unit, a mortgage insurance unit and an aircraft leasing unit.
Still, investors and analysts weren't assuaged. Prices of some junior AIG debt fell Friday to distress levels of as little as 35 cents on the dollar, down from 65 Thursday morning. The current price represents a yield of 16%, said Tom Atteberry, a partner at First Pacific Advisors, LLC. AIG's most recently issued bond, a $3 billion 10-year note issued just a month ago, traded Friday at about 79 cents on the dollar, down from 93 Thursday.
By: Randall Smith, Liz Rappaport and Liam Pleven
Wall Street Journal; September 13, 2008
