Monday, March 2, 2009

Atlas Insurance Group

Charlottesvillian over at TigerHawk finally distills the AIG "problem" to its essential terms:
As I understand it, the losses at AIG, the parent, are a result of various credit default swaps made with outside counterparties. At one point these contracts were so out of the money that they probably required tiny premiums to AIG to take the risks (wrapping AAA rated MBS, CDOs etc). The risk of collapse of mortgage markets in particular but also probably other market sectors were perceived as being virtually non-existent. These were contracts where they would pay only in extreme, long-tail events, and the revenues off this book of business were probably pretty small on a per contract basis. Hence, a lot of contracts had to be written to make the business worthwhile, and since the risks were seen as virtually non-existent, this was a management decision in an unregulated entity. Now, we are in the long tail that AIG financial engineers did not foresee, and the contracts have sucked all the capital out of AIG, plus everything the government has given them. 

So let’s walk through this. The government pays money to AIG so AIG can continue to honor its contracts. It is making payments under these contracts, to the counterparties on these contracts. The amount of capital given to AIG by the government, most of which AIG has presumably paid out, has reached $180 Billion. That is a lot of money, and is on top of however much capital AIG had before the crisis, which was also sucked out under swap agreements and paid to counter parties. 

Isn’t it curious that for all the talk on all the channels all day, all the Paulson speeches, all the hearings with bankers paraded before House panels, no one has mentioned where the huge amounts of money flowing out of AIG are going? They must be going to a number of big institutions. Probably their CEOs stood before Congress only three weeks ago. Some of them are getting AIG money, but they remain silent. The government must know who is getting the money, and they remain silent too. Yet somehow it apparently feels compelled to provide AIG a ceaseless stream of capital to pay to these outside institutions. Will these institutions fail if the AIG contracts stop paying? This must be concern, noting else makes sense other than outright looting. 
AIG has been the enigma among all of the bailouts. AIG began to fail immediately after Lehman Bros. tumbled into bankruptcy. I remember seeing the Wall Street Journal headline announcing the near simultaneous crash of Lehman, Merrill, and AIG. AIG! There had barely been a whisper of trouble for AIG before that fateful week. 

I may not agree with the bank bailouts, but I at least understand why the Federal Reserve would be lending to banks, and the federal gov't would be backing them up. The same goes for Fannie, Freddie, and the Big 3. History and the law provide the feds with a role in bailing out these entities, even if I disagree. 

But AIG has gotten more money than any of these. That's a pretty good trick, especially when you consider that the Fed has no statutory authority to lend to an insurance company. Same goes for the federal government. And yet they are desperately working to make sure AIG keeps making those damn CDS and CDO payments. Why?

What's incredible is the veil of secrecy that has been drawn over all this. Oh sure, we all "know" that AIG has been bailed out, but no one quite knows why or how. Most explanations are given in highly precise technical language that tax the ordinary person's comprehension. No matter how many times you hear it, it just doesn't make sense that some credit default swaps sold by AIG's hotshot London office would cause a giant insurer like AIG to suddenly require an "emergency" infusion of $150 billion (some emergency!). We hear that "collateral calls" were made, but we never know who made these and whether these calls proved profitable. 

Look at what has happened this week. AIG announced a $60 billion loss for the last quarter. $60. Billion. No company can do that and live. And, yet it was announced almost indirectly, via rumor and then press release. No one from AIG, that I know of, stood up at high noon on Monday and announced that it had taken such a staggering loss (a loss that occurred after our $150 billion bailout). After the loss was not announced, it was announced that the government would be providing an additional $30 billion to AIG. Again, this was done by indirection and implication. It appeared on Yahoo's main page on Sunday night, and then the Monday papers. No one - not Ben Bernanke, or Nancy Pelosi, or Sheila Bair, or President Obama, or the Indispensable Man, or Elliot Spitzer - stood up and said "this is what happened. this is what we're doing. this is how it ends." 

Look at this article in the NY Times, which purports to describe the "new" bailout. You want to know what's strange about it? Not one human being involved in these deliberations is identified by name! (Edward M Liddy is mentioned in passing in describing AIG's recent history). This from the newspaper that fearlessly spoke truth to power by publishing national security secrets, along with the names of the relevant government agents and officials, during the NSA spy wars of a couple years ago. The same media organizations that are ready to fill an hour's coverage with tales of expensive waste baskets, and corporate jets, have been strangely passive about the incredible expenditure of funds that have disappeared into AIG's maw. Why?

AIG has gotten nearly $200 billion is bailout money, and yet it is a dead institution. $200 billion to one company in a little less than 5 months. It's dumbfounding. It's incomprehensible. And C.villian is right; there has never been a time when someone from the federal government has stood up and explained what is going on. I mean, we have "progressive" congressmen who would knock their grandmother to the ground to denounce the Pentagon's latest $600 toilet seat. We have Senators who think we should amend the Constitution to ban flag burning. Right now, there are people agitating to let gays serve in the military, but wondering if they "move too soon" it might hurt President Obama. Doesn't anyone wonder what the virtually silent expenditure of $200 billion for the benefit of a single company might do to his popularity? 

The multi-billion dollar question is: who is getting all this money? I strongly suspect that, if the American people ever found out, there would be hell to pay. Tigerhawk's commenters seem to think it's an unholy combination of big-league US and European banks. The Market Ticker thinks it's mostly going to the Chinese. Most would probably say all of the above and more. 

No matter where the money's going, it appears from the outside that AIG is the linchpin for the crisis in the financial world. AIG was insuring against the loss of value in real estate. That loss was considered so remote that AIG did not seriously believe it would ever have to make good on these contracts. Now, the banks, SIV's and other institutions that endured their own losses from the real estate crash are hanging on to their AIG contract payments with all their might. And the federal government is abetting this with an incalculable transfer of US tax money. 

I'm beginning to think it's in some sort of crazed feedback loop with money simply going around the world and back because no one wants to know what will happen if the machine is turned off. But, if the truth is ever found out, the American people - even those shiny happy people in Grant Park last November - will shut it off. 

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