The Back Alley Archives

Sept. 16 (Bloomberg) -- American International Group Inc., the biggest U.S. insurer by assets, has been offered an $85 billion U.S. loan in return for an 80 percent stake in the company, according to a person familiar with the situation.

The Federal Reserve was persuaded to offer the loan because of the risk that an AIG failure would threaten the stability of world financial markets, according to the person, who declined to be identified because negotiations were confidential. Efforts to find a private-sector solution failed because the company is too big and a long-term fix was needed, the person said.

The proposal would keep New York-based AIG in business, averting a collapse that could have threatened more financial companies and cost them $180 billion in losses, according to RBC Capital Markets. AIG needed the rescue to stave off a collapse after its credit ratings were cut and shares plunged 79 percent since Sept. 11.

``There's a systemic risk if AIG isn't saved,'' Benoit de Broissia, an equity analyst at Richelieu Finance in Paris, said in a Bloomberg Television interview. Richelieu has about $6.2 billion under management.

Fed spokeswoman Michelle Smith declined to comment. Peter Tulupman, a spokesman for AIG, also declined to comment. Terms of the plan were reported earlier by the New York Times.

AIG's fight to stay afloat was the latest tremor to shake the global financial industry, a day after Lehman Brothers Holdings Inc. filed for Chapter 11 bankruptcy protection and Merrill Lynch & Co. sold itself to Bank of America Corp.

``To the extent that a bridge loan or some type of liquidity provision allows AIG time to sell some assets on its balance sheet and time to maintain its investment-grade rating at A or higher, I think it's a good move,'' Bill Gross, co-chief investment officer of Newport Beach, California-based Pacific Investment Management Co., said in a Bloomberg TV interview before the announcement.

Potential Loss

Gross, the manager of the world's largest bond fund, may lose money if AIG defaults on its debts. His Pimco Total Return Fund guaranteed $760 million of debt issued by AIG as of June 30, according to a regulatory filing.

While debt holders and financial markets may be helped by the U.S. plan, AIG shareholders will lose most of their stake in the company.

Former CEO Maurice ``Hank'' Greenberg, who remains one of the company's biggest stakeholders, said the company needed a bridge loan instead of a plan that put the company under government control.

``Why would you want to wipe out shareholders when you just need a bridge loan?'' Greenberg said in an interview before the announcement. ``It doesn't make any sense.''

Greenberg, 83, is leading investors considering a proxy fight or buyout to take control of AIG. The group is also considering acquiring subsidiaries or making loans to AIG, the investors said today in a regulatory filing.

Overwhelmed

The insurer faced being overwhelmed by protection it sold investors on $441 billion of fixed-income investments, including $57.8 billion in securities tied to subprime mortgages. So- called credit-default swaps already forced $25 billion in writedowns over nine months, and cuts in AIG's credit ratings could have triggered more than $13 billion in collateral calls from debt investors who bought the coverage, according to an Aug. 6 filing from AIG, intensifying pressure on CEO Robert Willumstad to raise cash.

The swaps provided profits when the housing market prospered ``for what has now turned out to be a much greater amount of risk than anybody anticipated,'' Willumstad, 63, said during an Aug. 7 conference call.

AIG piled up net losses totaling $18.5 billion in the past three quarters on writedowns tied to the collapse of the U.S. subprime mortgage market. The insurer has units that originate, guarantee and invest in home loans.

``AIG poses a systemic risk because it's a large counterparty in the financial system,'' said Prasad Patkar, who helps manage the equivalent of $1.8 billion at Platypus Asset Management in Sydney. ``It's too big to be allowed to fail.''

“I fear the government has passed the point of no return,” said Ron Chernow, a leading American financial historian. “We have the irony of a free-market administration doing things that the most liberal Democratic administration would never have been doing in its wildest dreams.”