The Black Hole Gets Bigger: AIG Back for Yet Another Bailout

AIG’s executives were on Friday night locked in negotiations with the authorities over a plan that could involve a debt-for-equity swap and the government’s purchase of troubled mortgage-backed securities from the insurer.

Ahem, are they trying to help the government by coming up with a fig leaf? Are they assuming that everyone forgot the terms of the original loan? From the Fed's press release:

The interests of taxpayers are protected by key terms of the loan. The loan is collateralized by all the assets of AIG, and of its primary non-regulated subsidiaries. These assets include the stock of substantially all of the regulated subsidiaries. The loan is expected to be repaid from the proceeds of the sale of the firm’s assets. The U.S. government will receive a 79.9 percent equity interest in AIG and has the right to veto the payment of dividends to common and preferred shareholders.

The "interests of taxpayers are protected bit" now looks like a complete joke. The original loan was ALREADY secured by ALL of AIG's assets. Everything that could be hocked WAS ALREADY hocked. And the government has a 79.9% equity interest. So what is this talk of a debt for equity swap? The government doesn't want to go over 79.9%, then it has to consolidate the operations on its balance sheet. And it has the right of first refusal on everything else (the fact that it has all the assets as security means they cannot be sold unless the proceeds are remitted to the Fed. The mechanics ought to be that AIG gets some sort of waiver in order to complete a sale, but I am certain somewhere the lawyers have a procedure in mind, since it was understood from the get-go that AIG would repay the loan via asset sales).

The idea of selling dodgy MBS to the Fed is also ludicrous, but that does not mean the Fed will not go ahead with it. Again, the Fed now has ALL of AIG's assets as security. So it is going to increase what it lends to AIG, since AIG really has the upper hand, and AIG is offering the ruse of pledging the MBS because other banks have used MBS as collateral for loans, and version 1.0 of the TARP was to have banks sell crappy MBS to Treasury. So AIG presumably hopes that the Fed will gamble that the generally inattentive public at large will think this latest move resembles other bank rescue activities and therefore will not make angry calls to Congressmen. But this is all a ruse.

This is the essence of AIG's latest proposal:

Man walks into pawn broker. He says to the person behind the counter, "You know that watch I brought in two weeks ago? I know you lent me $85, but now I need another $50. And I will tell you why you will give it to me. I have a gun with me. I will blow my brains out here, right now. With your nice carpet, I guarantee it will cost you more than $50 to clean up your store. And that's before we get into the cost of keeping your store closed while you clean my grey matter off your walls and what my suicide might do to your store's reputation."

Oh, and we forgot to mention that the man in the story above pulled the same trick last week and it worked like a charm.

The other bit that is offensive is (separately) that AIG is unhappy that it is paying more its bailout than banks did for theirs. The arrogance is breathtaking. Banks and securities firms are regulated by Federal agencies. The fact that they came close to going under says the oversight was defective, and one can argue that the government was required to prevent a disaster that happened on its watch.

The federal government has NO oversight over AIG. Its mess was SOLELY AIG's own doing, and they should consider themselves incredibly lucky that they were so big that the Fed felt it has to intercede.

Now they think they are entitled to demand an improvement of terms? They should be told to take a long walk off a short pier (the management, that is). If we are merely going to salvage random about-to-fail-that-might-hurt-the-financial-markets players, I'd much rather rescue GM. They at least have a better attitude (and Obama made noises that he would demand better fuel efficiency as a quid pro quo). And I have far more sympathy for blue collar workers than AIG executives.

And if the interest really is too much for AIG on a current basis, no reduction in rate or debt-for-equity optics. Just lower the proportion that has to be paid in cash, and add the deferred interest to the principal. No free lunches here.

But then again, the Fed does not want brains and skull fragments all over its board room....

From the Financial Times:

AIG is asking the US government for a new bail-out less than two months after the Federal Reserve came to the rescue of the stricken insurer with an $85bn loan...

People close to the talks said the discussions were on-going and might still collapse, but added that AIG was pressing for a decision before it reports third-quarter results on Monday...

The moves come amid growing fears AIG might soon use up the $85bn cash infusion it received from the Fed in September, as well as an additional $37.5bn loan aimed at stemming a cash drain from the insurer’s securities lending unit.

AIG has drawn down more than $81bn of the combined $122.5bn facility. The company’s efforts to begin repaying it before the 2010 deadline have been hampered by its difficulties in selling assets amid the global financial turmoil.

AIG executives have complained to government officials that the interest rate on the initial loan – 8.5 per cent over the London Interbank Borrowing Rate – is crippling the company.

They compared the loan’s terms with the 5 per cent interest rate paid by the banks that recently sold preferred shares to the government.

One of AIG’s proposals to the Fed is to swap the loan, which gave the authorities an 80 per cent stake in the company, for preferred shares or a mixture of debt and equity.

Such a structure would reduce the interest rate to be paid by AIG and possibly the overall amount it has to repay. An extension in the term of the loan from the current two years to five years is also possible, according to people close to the situation.

The renegotiation of the loan could be accompanied by the government’s purchase of billions of dollars in mortgage-backed securities whose steep fall in value has been draining AIG cash reserves.

AIG is also proposing the government buy the bonds underlying its troubled portfolio of credit default swaps in exchange for the roughly $30bn in collateral the company holds against the assets.