Friday, February 25, 2011

AIG's Exposure to Munis and Spectre of QE3 Getting Real

Zero Hedge's Tyler Durden is reading 10-Ks, and in the 10-K of AIG he's found the insurer stuck with the toxic waste again, this time with state and municipal bonds that are rapidly losing value.

Will Ben come to the rescue, like he did in 2008? (Will he have a choice?) (No.)

From Zero Hedge (2/25/2011) [emphasis is original]:

Will AIG Implosion 2.0 Lead To QE 3.0?

There was a time when everyone thought CDOs are perfectly safe. That ended up being a tad incorrect. It resulted in AIG blowing up, recording hundreds of billions in losses and almost taking the rest of the financial world with it, leading ultimately to the first iteration of quantitative easing. A few years thereafter, several blogs and fringe elements suggested that munis are the next major cataclysm and will likely require Fed bail outs (some time before Meredith Whitney came on the public scene with her apocalyptic call). It would be only fitting that the same AIG that blew up the world the first time around, end up being the same company that does so in 2011, and with an instrument that just like back then only an occasional voice warned is a weapon of mass destruction: municipal bonds. AIG dropped over 6% today following some very unpleasasnt disclosures about its muni outlook, and corporate liquidity implications arising therefrom: "American International Group Inc., the bailed-out insurer, said it faces increased risk of losses on its $46.6 billion municipal bond portfolio and that defaults could pressure the company’s liquidity." So how long before we discover that Goldman has been lifting every AIG CDS for the past quarter? And how much longer after that until someone leaks a document that the company's muni strategy was orchestrated by one Joe Cassano?

From the Risk Factors section in the company's just issued 10-K:

The value of our investment portfolio is exposed to the creditworthiness of state and municipal governments. We hold a large portfolio of state and municipal bonds ($46.6 billion at December 31, 2010), primarily in Chartis, and, because of the budget deficits that most states and many municipalities are continuing to incur in the current economic environment, the risks associated with this portfolio have increased. Negative publicity surrounding certain states and municipal issues has negatively affected the value of our portfolio and reduced the liquidity in the state and municipal bond market. Defaults, or the prospect of imminent defaults, by the issuers of state and municipal bonds could cause our portfolio to decline in value and significantly reduce the portfolio’s liquidity, which could also adversely affect AIG Parent’s liquidity if AIG Parent then needed, or was required by its capital maintenance agreements, to provide additional capital support to the insurance subsidiaries holding the affected state and municipal bonds. As with our fixed income security portfolio generally, rising interest rates would also negatively affect the value of our portfolio of state and municipal bonds and could make those instruments more difficult to sell. A decline in the liquidity or market value of these instruments, which are carried at fair value for statutory purposes, could also result in a decline in the Chartis entities’ capital ratios and, in turn, require AIG Parent to provide additional capital to those entities.

Some more gasoline in the fire from Bloomberg:

AIG said that “several” issuers of bonds it holds have been downgraded, amid budget pressures. As of Dec. 31, the company had more than $700 million of state general-obligation bonds from California, which has the lowest Standard & Poor’s credit rating of any U.S. state. It also held more than $200 million in the bonds from Illinois.

Chartis’s portfolio has been reduced to about $36.3 billion, and 99 percent of the municipal holdings are rated A or better, AIG Chief Financial Officer David Herzog said in a conference call today with analysts.

$46.6 billion to $36.3 billion - that's 22% haircut already.

The article continues, and it has a transcript of the earnings call.

For more on this AIG's property and casualty insurance division, Chartis, read the Wiki entry. I have a feeling that AIG's idea of Chartis IPO may be shelved. It's been recently downgraded from A+ to A by Fitch, and the New Zealand earthquake may prove costly to the division, too.

But why would one division of AIG threaten the entire company? It would, when Chartis' investment assets ($89 billion) make up almost one-third of AIG's total investment assets; and Chartis' revenue at almost one-third of AIG's revenue, with $30.7 billion (2009) Net Written Premiums. (See the company's 10-K, wiki.)

I also have a feeling that Congress (House TARP oversight subcommittee, chairman Patrick McHenry, R-NC - a Gen-Xer who started a political career under Karl Rove and George the Lesser) would not want to subpoena Meredith Whitney after all...

Timmy had better dump the AIG shares while there's some profit to take. It looks like he may have a decent chance of buying them back again at a much lower price...


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