AIG to U.S.: Keep the Change

The Wall Street Journal

Insurer Sees Taxpayer Profit in Pending Repayment Deal; Greenberg Weighs In

 

The board of American International Group Inc. and the company's federal overseers were locked in discussions Wednesday night to finalize a plan that would boost the government's stake in the giant insurer to about 92%, and eventually allow the giant insurer to extricate from U.S. ownership.

AIG Chairman Robert "Steve" Miller, at a conference in New York on Wednesday morning, said that U.S. government could end up earning a profit on its investment in AIG. More than $120 billion in taxpayer aid committed to the bailout of the insurer currently remains outstanding.

AIG officials are hoping that providing clarity on the plan will enable the company to raise money from the financial markets on its own again in six to 12 months, Mr. Miller said.

The exit plan principally addresses the government's $49 billion investment in AIG from Treasury's Troubled Asset Relief Program, which was set up two years ago to provide capital infusions to institutions during the financial crisis. Treasury plans to convert all the preferred shares it holds into AIG common shares, which would raise the government's stake in AIG to around 92% from 79.8% currently, according to people familiar with the matter. Treasury would then sell the shares over time to exit the investment.

The Federal Reserve Bank of New York is separately trying to recoup $19.7 billion in secured debt from AIG and $26 billion from sales of the company's two largest overseas life insurance businesses.

Determining the price at which to exchange its preferred shares for AIG common shares has been a sticking point in strategy discussions, people familiar with the matter say.

Converting at a discounted price could position taxpayers to reap a profit, but it also could put pressure on the stock price, making it harder for the government to sell its shares. Converting at a higher price—such as one above the current market price for AIG shares—would result in the government taking a smaller stake in AIG and would potentially generate profits for private shareholders at the expense of U.S. taxpayers.

Treasury officials, including chief restructuring officer James Millstein, have told company officials they don't want to set a price that would present a bonanza for hedge funds or other private investors including former chief executive Maurice R. "Hank" Greenberg, according to people familiar with the matter.

"I think that's disgraceful to say they don't want me or shareholders to make money," said Mr. Greenberg, AIG's longtime leader who left in 2005 amid an accounting probe.

Mr. Greenberg remains one of the company's private shareholders and most-vocal critics of AIG's government bailout.

He also challenged the view, held by some federal officials, that it will take around a year and a half for the U.S. government to completely dispose of its stake.

"I think it's going to take years, maybe a decade or more, for [the government] to sell down over 90% of the company," Mr. Greenberg said in an interview.

"As soon as they try to sell the stock it will go down," making further sales more difficult, he predicted on Wednesday.

Analysts acknowledged Treasury's dilemma.

"They don't want to damage the stock yet again, as that could hurt the company's value and introduce additional uncertainty, but they also cannot look like they are protecting private shareholders," says Angelo Graci, an analyst at Chapdelaine Credit Partners in New York. He says that many steps that AIG and the government have taken in the past two years have been aimed at improving AIG's value in the eyes of investors, to facilitate future sales of the government's shares.

On Wednesday, AIG shares closed up 13 cents to $37.45 a share.

Behind AIG and government officials' optimism is what they see as an improving outlook for the insurance businesses that will form the core of the company after it completes sales of its major overseas life-insurance units and non-core assets in the coming months.

AIG and Prudential Financial Inc. are expected to announce as soon as Thursday a sale to Prudential of two Japanese life-insurance units for a combined $4.8 billion, according to a person familiar with the deal.

AIG is holding on to a global property- and casualty-insurance business and a U.S. life-insurance and retirement-services business, both of which were hit hard by customer and employee defections in the wake of the bailout two years ago, but have since stabilized in some part.

The government's ability to sell its AIG shares will depend on how a large number of outside investors view AIG's value as a smaller insurance company, and their willingness to invest in an entity that will be majority owned and controlled by the government for some time.

The company has a relatively small shareholder base which holds $5 billion worth of shares, and few equity analysts have been covering AIG since its 2008 government bailout. AIG and its representatives also need to convince major credit-rating firms that the company can achieve a strong rating on its own without government support.

AIG Fiasco Is Getting Worse

Fortune

The AIG bailout isn't going away, much as Treasury Secretary Tim Geithner might like it to.

The $180 billion fiasco was back in the news Thursday, after Bloomberg reported that the Federal Reserve Bank of New York prodded the troubled insurer at the end of 2008 to withhold some gory details of its bailout deal from the public.

The instructions came at a time when Geithner, who is now the Treasury secretary, led the New York Fed. Along with Fed chief Ben Bernanke and former Treasury Secretary Henry Paulson, Geithner was one of the key architects of the federal response to the economic meltdown of 2008.

The New York Fed says the final decision on disclosures always rested with AIG (AIG, Fortune 500), which since September 2008 has been propped up by multiple infusions of taxpayer funds. But the claim rings hollow, given all the bailout-information jockeying of the past year.

Around the time the New York Fed was striking details from an AIG securities filing, former Bank of America (BAC, Fortune 500) chief Ken Lewis was deciding not to let investors in on what a disaster the bank's purchase of brokerage firm Merrill Lynch was shaping up to be.

Lewis claimed Paulson and Bernanke pressured him not to disclose growing losses at Merrill to shareholders -- a claim the policymakers rejected and that many observers pooh-poohed.

Just a few months later, the Washington Post revealed that regulators at the Federal Housing Finance Authority had pressured executives at troubled mortgage financing company Freddie Mac (FRE, Fortune 500) not to disclose the cost of carrying out its expanded federal housing-market support duties.

In that case, Freddie Mac made the disclosure, though only after negotiating with regulators over its wording.

The common theme seems to be that government officials "don't want to do anything to spook the public or investors," said Peter Cohan, a management consultant in Marlborough, Mass. "Of course, then you end up with a lot of other fallout later, as we can see now."

Emails disclosed Thursday showed that the New York Fed instructed AIG to withhold from a securities filing information on the counterparties that received taxpayer money in AIG's bailout, including the fact that the counterparties got 100% of their investment back.

That information remained secret for months, until Congress pressured the Federal Reserve to give it up in March, over the Fed's insistence that doing so would damage market confidence.

A week after Fed Vice Chairman Donald Kohn was lambasted by senators for the failure to disclose the recipients, AIG published the list, which was topped by France's Societe Generale and Goldman Sachs (GS, Fortune 500).

"The whole line that there would be a panic if they disclosed the counterparties, that was total BS," Cohan said. "It was just a backdoor bailout of the banks on the other side of those trades."

Nine months later, the issue remains a headache for the never-popular Geithner. Bernanke, who played no role in the emails released Thursday but has yet to be confirmed for a new term by the full Senate, could face a tougher grilling later this month as bailout rage builds in Congress.

However they fare politically, officials may find it tough to live down the images formed by their apparent efforts to thwart bailout disclosure, Cohan said.

"It makes you think they were panicked and terrified, and you just don't know the whole picture," he said.

N.Y. Fed Told AIG To Shield Payments

The Wall Street Journal

The Federal Reserve Bank of New York told American International Group Inc. not to disclose key details of their agreements to make big payouts to banks in the insurer's regulatory filings in late 2008, according to a set of email exchanges released Thursday.

AIG later amended its regulatory filings several times over the following months and provided the information after the Securities and Exchange Commission requested more disclosure. Congress also pressured the insurer to release the names of banks that were paid off in full on $62 billion in bets on soured mortgage securities. The biggest payouts went to French bank Société Générale and to Wall Street firm Goldman Sachs Group Inc., AIG finally said publicly in mid-March 2009.

The government's handling of the AIG bailout continues to draw scrutiny and has created political difficulty for Treasury Secretary Timothy Geithner, who was president of the New York Fed when it first bailed out AIG in September 2008. He played a key role in the regional Fed bank's controversial November 2008 decision to make U.S. and European banks whole on their mortgage gambles with AIG, according to a government audit last year.

Treasury spokeswoman Meg Reilly said what has been overshadowed is the fact that the government expects to be repaid in full, with interest, on the money it provided to buy the AIG-linked securities.

 

But a Treasury spokeswoman said Mr. Geithner wasn't involved in AIG's disclosure decisions, even though discussions about them took place in late November 2008, when he was selected as treasury secretary by President Obama. Mr. Geithner "played no role in these decisions and indeed, by Nov. 24, he was recused from working on issues involving specific companies, including AIG," the spokeswoman said.

"There was no effort to mislead the public," said Thomas Baxter, general counsel of the New York Fed, on Thursday. He said it was "appropriate" for the institution to comment on AIG's disclosures on transactions involving the New York Fed, "with the understanding that the final decision rested with AIG and its external securities counsel."

"Our focus was on ensuring accuracy and protecting the taxpayers' interests during a time of severe economic distress," Mr. Baxter said. Amid the financial crisis in late 2008, the Fed was reluctant to have AIG's trading partners identified because it feared such information would discourage other firms from doing business with the insurer and spark worries about the banks themselves.

An AIG spokesman declined to comment on the issue.

Copies of email exchanges from late November 2008 to March 2009 between lawyers representing AIG and the New York Fed were released by Rep. Darrell Issa (R., Calif.), ranking minority member of the House Committee on Oversight and Government Reform.

The emails show lawyers discussing what to disclose in AIG's December SEC filings about agreements the New York Fed and AIG's financial-products division struck to make banks whole on credit-default swap contracts they had purchased from AIG.

In a Nov. 25 email, Peter Bazos, an attorney at law firm Davis Polk & Wardwell, which represents the New York Fed, wrote that certain agreements "do not need to be filed." One agreement contained the names of banks that received payouts from AIG. A Davis Polk spokesman declined to comment.

In response, an AIG in-house lawyer, Kathleen Shannon, said the company and its law firm Sullivan & Cromwell "believe that the better practice and better disclosure in this complex area is to file the agreements." She also wrote that staff at the SEC "would not be particularly happy with a decision to withhold the documents at this time."

Subsequent email exchanges in December 2008 showed extensive editing that lawyers for the New York Fed made to an AIG draft filing and press release. When AIG released its 8-K filing on Dec 24, it made mention of a list of its derivative transactions, but a schedule supposed to contain them was left blank.

Six days later, on Dec 30, the SEC sent a letter to Edward Liddy, AIG's CEO at the time, requesting revisions to the filing and more information about the agreement, including the list of derivative transactions. In mid- January 2009, AIG amended its filing and submitted the list of deals to the SEC, but its public filings didn't include the list, saying that "confidential treatment has been requested for the omitted portions."

In early March, Federal Reserve vice chairman Donald Kohn told a congressional hearing he couldn't reveal the names of AIG's counterparties or how much was paid to each of them, saying that information "would undermine the stability of the company and could have serious knock-on effects to the rest of the financial markets and the government's efforts to stabilize them."

Days after the hearing, AIG released the names of its counterparties, listing 16 banks that had received a total of $62.1 billion in payments as part of agreements to tear up their derivative contracts with the insurer.

Mr. Geithner has become a convenient target for lawmakers angered by how top officials went about bailing out the financial system. At a series of increasingly contentious hearings on Capitol Hill, Mr. Geithner was taken to task for events and actions that occurred both during and after his time at the New York Fed, from issues such as bonuses paid to AIG executives and the failure to negotiate aggressively with the insurer's counterparties.

Treasury spokeswoman Meg Reilly said what has been overshadowed is the fact that the government expects to be repaid in full, with interest, on the money it provided to buy the AIG-linked securities.

"Somehow that fact that the government's loan is 'above water' gets lost in all the consternation," Ms. Reilly said. The outstanding loan balance stood at $18.6 billion at the end of December, while the fair market value of the securities portfolio was $22.6 billion, according to Treasury figures.

Fed Advice To AIG Scrutinized

NY Times

New revelations that the government stopped the American International Group from revealing information about its bailout had securities lawyers and policy makers buzzing on Thursday about whether the information had to be disclosed under federal securities law, and if so, what to do about the lack of compliance.

Joel Seligman, a historian of the Securities and Exchange Commission, said the disclosure rules were supposed to apply to all public companies, with only a few narrow exceptions for things like trade secrets and national security. There was no exception for “too big to fail” companies on federal life support, he said. Companies are supposed to disclose all information that could be material, though that term is not clearly defined.

“When an organization is troubled, it actually makes disclosures of this kind more important,” Mr. Seligman said.

Others disagreed, saying that bank and insurance regulators normally keep their discussions with struggling financial institutions private, to keep from inciting runs. There has always been tension, one securities lawyer said, between banking regulators, who want to resolve problems behind closed doors, and the federal securities laws, which compel disclosure.

The latest concerns that the government was suppressing important information about A.I.G. arose on Thursday after Representative Darrell Issa, a Republican of California, obtained e-mail messages between the insurer and the Federal Reserve Bank of New York, in which a Fed lawyer told A.I.G. “there should be no discussion” of certain details of the bailout in a regulatory filing.

The e-mail messages dealt with one of the most controversial aspects of A.I.G.’s bailout: that the Fed was paying the insurer’s trading partners 100 cents on the dollar for their soured investments. A.I.G. cited this fact, but the lawyer crossed the reference out.

The Fed also struck a paragraph about other investments that could not be unwound.

The New York Fed said on Thursday that it was offering advice, not orders, and that the second reference was irrelevant and did not apply to the transaction that A.I.G. was describing in its regulatory filing.

Securities requirements aside, Mr. Issa said this secretiveness flew in the face of good public policy and said he wanted to bring the Treasury secretary, Timothy F. Geithner, to Capitol Hill “to get every side of the story and understand what the motive and intent was of these actions.”

Mr. Geithner was president of the New York Fed at the time of the e-mail exchange. As part of its bailout, the government took a 79.9 percent stake in A.I.G., and Mr. Issa said he thought taxpayers had the right to know the details of the company’s finances.

The contents of the messages were first reported by Bloomberg News.

The messages showed that in December 2008, A.I.G. was preparing a filing to explain how it had eliminated a portfolio of derivatives, known as credit-default swaps, through an entity created with the Fed called Maiden Lane III.

The swaps served as insurance on debt securities held by financial institutions around the world. Maiden Lane III bought up the debts, making the financial institutions whole and allowing A.I.G. to tear up the swaps.

One troublesome set of swaps, worth about $10 billion, could not be torn up, because they did not insure debts that could be bought by Maiden Lane III — they insured amorphous bundles of derivatives. A.I.G. has never found a way to cancel them, and they are still in force.

The existence of these particular swaps has been controversial, because they suggest that A.I.G. and its trading partners were dealing not just in newfangled insurance, but in highly speculative bets on the real estate markets.

The Fed’s lawyer, Ethan T. James, of Davis Polk & Wardwell, deleted all references to the $10 billion in swaps that could not be torn up. He wrote in the margin: “There should be no discussion or suggestion that A.I.G. and the N.Y. Fed are working to structure anything else at this point.”

After receiving his instructions, A.I.G. deleted the reference to the $10 billion derivatives problem from its regulatory filing.

An official of the New York Fed said its reasons for telling A.I.G. not to mention the $10 billion of special swaps were innocuous. The New York Fed issued a statement by its general counsel, Thomas C. Baxter, saying it was “appropriate” to have given A.I.G. guidance on what to say in the S.E.C. filing, because the New York Fed had helped create Maiden Lane III.

“Our focus was on ensuring accuracy and protecting the taxpayers’ interests, during a time of severe economic distress,” Mr. Baxter said. “All information was in fact disclosed that was required to be disclosed by the company, showing that the counterparties received par value. There was no effort to mislead the public.”

Mr. Baxter, the general counsel, also said that while the New York Fed had offered its opinions about the filing, “the final decision rested with A.I.G. and its external securities counsel.”

Mark Herr, a spokesman for A.I.G., said that the company would not comment on the matter.

Mr. Issa, the senior Republican on the House oversight committee, said he was writing to the committee chairman, Edolphus Towns of Maryland, about including the questions of disclosure in the committee’s inquiry into the bailout.

Thursday’s controversy follows other disputes over whether the Federal Reserve was suppressing information about A.I.G. that the public had a right to know. Early in the bailout, the company and the Fed refused to name the financial institutions that were counterparties to the company’s derivatives.

The Federal Reserve’s vice chairman, Donald L. Kohn, told angry senators in a hearing that the Fed thought A.I.G. would lose customers if such information were made public, and any loss of customers would only hurt the taxpayers.

But the senators warned that unless the names were revealed, no more bailout money would be forthcoming, and not long after that, the names were made public.

The inspector general for the bailout, Neil Barofsky, said in an audit of A.I.G. that the arguments against transparency simply did not withstand scrutiny. “Notwithstanding the Federal Reserve’s warnings, the sky did not fall,” he wrote in November.

More recently, attempts by the New York Fed and A.I.G. executives to soften pay restrictions included references to the company’s condition that some thought should have been disclosed to shareholders.

The officials argued that the executives would resign if they were paid in company stock, citing projections showing that the stock might be worthless — something the taxpayers, as shareholders, might like to know — according to people with knowledge of the analysis.

Those discussions were disclosed on Sunday in an article in The New York Times Magazine.

A.I.G. did not comment. Others said that its regulatory filings stated that the company expected to be viable for more than 12 months only if the government continued its support, and that well captured the level of investor risk.

AIG Can't Afford to Be Too Coy on Capital

American International Group bought itself some time Monday, and not a moment too soon.

The insurer received a $20 billion liquidity cushion when New York state said it could access funds tied up in regulated subsidiaries. AIG is also looking to secure a lending facility of as much as $75 billion arranged by J.P. Morgan Chase and Goldman Sachs.

Both steps became vital when both Standard & Poor's and Moody's Investors Service late Monday downgraded AIG's debt, potentially triggering the need for the company to come up with as much as $20 billion in additional collateral and payments for certain products. The access to additional liquidity should mean the firm won't have a problem doing so.

But even if AIG has momentarily escaped the worst ravages of the downgrades, it doesn't change the fact that the firm needs to raise more capital. Until it sorts out that longer-term problem, and comes up with a restructuring plan that streamlines its businesses and sells off assets, its stock will continue to suffer.

The added danger is new liquidity facilities could tempt AIG to continue to drag its heels. AIG is in its predicament partly because it incorrectly surmised that it had time to work out a grand strategic plan. Indeed, since the start of the credit crunch, AIG has failed to get out in front of its problems.

Now, AIG needs to take what it can get. That applies to accepting lower-than-expected prices for businesses it needs to sell or the level of dilution required to place equity with new investors.

That will be painful for both the company and shareholders. But it is better than the alternative: Just ask investors in Lehman Brothers.

Granted, AIG's silence Monday beat presenting a half-baked plan that only talked about the firm's intentions without presenting actual transactions. But it should be careful taking too hard a line with potential investors, as it reportedly did when it shooed away private-equity firms this weekend because it felt they were aiming for too sweet a deal. Playing hard to get only works when there are plenty of suitors circling.

That isn't the case with AIG. The markets know it needs capital and the firm shouldn't pretend otherwise.

With stock and debt markets taking a beating in the wake of Lehman's bankruptcy filing, AIG's losses may grow wider in the third quarter. Some analysts believe a $10 billion third-quarter loss isn't out of the question.

This looming loss in part explains the downgrade as S&P said it expects greater losses in both AIG's portfolio of residential mortgage-backed securities as well as in insurance products protecting against loss in complex instruments backed by mortgages. Such losses also would cut deeper into the firm's already weakened capital base. AIG may have a tough time selling assets at prices that bolster capital, given its status as a distressed seller trying to flog assets in the worst of markets. So access to liquidity could make it seem a little less desperate in negotiations.

But AIG can't try to drive too hard a bargain. Underscoring that point, S&P noted that if AIG fails to successfully raise capital, either through investments or the sale of assets, and mortgage losses continue to mount, the firm could face further downgrades.

In other words, AIG needs to jump quickly on any serious options that present themselves.

By: David Reilly
Wall Street Journal; September 16, 2008

Lehman Woes Pressure AIG, Merrill Lynch

Falling Shares Raise Questions About Capital

As 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