Jesse Eisinger: A.I.G sunk itself
Jesse Eisinger pulls out the truth sticks and whacks some of the more assinine myths circulating Washington DC and long and wrong trading desks:
"For several years, A.I.G. dove headfirst into an insurance-like product called credit default swaps. It wrote hundreds of billions worth of protection mostly on the top slice of mortgage-backed structured financial products. Short-sellers and accounting rules didn’t cause A.I.G. to enter the C.D.S. protection business.
Supposedly A.I.G. had an expertise in insurance, being the largest of its kind in the world. Insurance is hard to price correctly. When the hurricane hits, were you getting enough money from homeowners all those years? It’s a difficult question. But when it was initially writing all that C.D.S. protection, A.I.G. thought it wasn’t possible to take a penny of losses because its contracts were backstopping such highly rated, highly protected slices, according to an ex-A.I.G. Financial Products employee I spoke with this week. (That makes perfect sense since this was the same mistake made by the bond insurers M.B.I.A. and Ambac.) …
Back when A.I.G. started writing these contracts, the credit-ratings agencies rated the insurer Triple A. Accounting rules didn’t prevent the ratings agencies from re-assessing the rating before the crisis. And while it may be hard to believe, short-sellers did not stick their voodoo dolls with their "Maintain the Triple A Rating Until It’s Too Late" pins.
A.I.G.’s counterparties didn’t require that the insurance company put up any collateral—called initial margin— because its rating was so high. This wasn’t an accounting rule. This was a general agreement among the players in the C.D.S. market.
Then the underlying mortgage-holders started to default, leading to the value of the super-senior tranches to decline and the spreads on the C.D.S. to widen. Counterparties wanted some collateral to reflect the changes in the market. The credit-ratings agencies downgraded A.I.G., leading to even more demands for collateral.
Does anyone seriously think that the counterparties said to A.I.G., "Hey man, we don’t want you to put up any cash. We know it’s stupid, but our hands are tied by those damn accounting rules!" Hardly. They wanted their cash now. If these positions were marked-to-model rather than marked-to-market, does anyone think that the counterparties wouldn’t have written any collateral triggers into the contracts?
And here let’s pause to dispense with a ridiculous assertion from Karabell, which makes one seriously question the credibility of his argument that the market is somehow overreacting ridiculously. He writes in his WSJ op-ed today that the value of the mortgages only has dropped about 10 percent or 20 percent, so how could the value of the securities been wiped out? "There’s something wrong with that picture: Down 20 percent doesn’t equal down 100 percent," he says.
But of course it can. That’s what "leverage" means. When you have a C.D.O. made up of mezzanine tranches of subprime M.B.S., down 20 percent in the underlying can mean exactly that."
Good stuff, as always . . .
Source:
Vintage Whine
Accounting rules and short-sellers didn’t sink A.I.G.– A.I.G sunk itself.
Jesse Eisinger
Portfolio, Sep 18 2008
http://www.portfolio.com/news-markets/top-5/2008/09/18/What-Went-Wrong-at-AIG
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September 18th, 2008 at 4:41 pm
Thanks, that helped!
September 18th, 2008 at 4:54 pm
“A report that Treasury Secretary Henry Paulson is considering the formation of an entity like the Resolution Trust Corp. that was set up during the savings and loan crisis of the late 1980s and early 1990s left investors ebullient. Investors hoped a huge federal intervention could help financial institutions jettison bad mortgage debt and stop the drain on capital that has already taken down companies including Bear Stearns Cos. and Lehman Brothers….”
http://biz.yahoo.com/ap/080918/wall_street.html
Comrade and Tovarich, USSARs peoples most greatful to Commissar Paulson for his Great work in saving party members from nasty capitalist running dog system!
nastrovia.
September 18th, 2008 at 5:02 pm
http://clusty.com/search?input-form=clusty-simple&v%3Asources=webplus&query=10+planks+of+the+communist+manifesto
I always did wonder we never saw the Soviet anti-US propaganda films, here in the US, after ’89
September 18th, 2008 at 5:03 pm
big closing rally as investors turn all religious and throw themselves into the Fed’s arms. “Bail me out. I’ve been screwed by events beyond my model.”
September 18th, 2008 at 5:09 pm
Sank itself. Sank itself. It didn’t sunk itself, it SANK itself.
September 18th, 2008 at 5:18 pm
So, the same gov that screwed this up by not regulating anyone is going to buy up all thye mortgages, run AIG, etc. I sure hope those Bible thumpers from Liberty U. that have been stuffed into gov jobs studied finance instead of abortion 101 and abstenince 201.
September 18th, 2008 at 5:23 pm
Inre the $1 trillion bailout “Bazooka” Hank is preparing for his Wall Street buddies (on top of the $800 billion he and “Helicopter” Ben have already pumped into the system), I think Johnny Mac said it best: “You cannot be serious!”
September 18th, 2008 at 5:24 pm
Thank you BR for this article. I hope all the fools out there can hear it.
I am totally dumfounded how supposedly smart people can be so shallow. Almost everyone, it seems, is taking about about what the Govt HAD to do. To them the question is will the US make its money back on AIG, etc.
Totally lacking in these individuals is any concept about high school civics, what our government is about. Do we really want a centralized state controlling markets to this extent?
What about letting a bear market run its course? These free market idiot talking heads don’t want the stock market to go down anymore. That is their priority, not what is RIGHT.
What about personal responsibility, as the article above makes clear? I gotta stop. I’m going apoleptic. BR, Roubini, and some others are the only sane people on the planet. I just can’t believe it. sorry for going on so long.
September 18th, 2008 at 5:29 pm
btw, has anyone noticed that when Pimco speaks, Hank listens?
September 18th, 2008 at 5:33 pm
To what extent was Hank Greenberg involved in CDS insurance?
Just curious.
(H.G. has been going around saying that the demise of the company was the fault of his successors).
September 18th, 2008 at 5:36 pm
I actually can’t wait for the market to keep irrationally popping up to this RTC news. Hate to say it, but it’s not going to be a panacea for what ails this market. Short term it might bring back some irrational (some would say dumb) buyers. That will give me a golden opportunity to dump many of my long positions in the coming weeks and slowly build my SRS and GDX positions!
Bring on the bull market!!
September 18th, 2008 at 5:37 pm
cloudy, “personal responsibility” is for “the little people”. Executives and incumbent politicians are most definitely excepted! Their bonuses are “non-recourse”. And, when the trade works against them, they walk away.
September 18th, 2008 at 5:38 pm
On another note, I think our friend Cramer is melting down himself….
http://www.thestreet.com/story/10438230/1/cramer-feels-like-financial-terrorism.html?puc=newshome
September 18th, 2008 at 5:45 pm
Barry, I hope you post Bloomberg interview with Jim Grant and Jim Chanos going on now.Thursday 5:45 NYT, I guess Excellent. Grant began with the most articulate, eloquent, reasoned, succinct statement on what is going on that I have heard in all this mess. God that was good what he said. Let the markets work for gosh sakes.
September 18th, 2008 at 5:48 pm
Kudos to Eisinger for calling Karabell on that ridiculous article today.
According to Karabell, we can blame AIG on accounting, or short sellers, or over-regulation, or anything other than just bad risk management.
What I don’t get about these virginal free market types like Karabell (note to the financial world–there isn’t a free market now and hasn’t been since the development of markets several millenia ago–all markets have rules, some more than others) is that they always set up a scenario to show why bad rules make for prices they don’t like, as Karabell does in describing the fire sale prices when a company has to raise cash. He uses the example of selling a house in Galveston just before the storm–it might be worth only pennies on the dollar to its “real price”.
Apparently for Karabell, “real” prices and “free market” prices (the price a willing buyer would pay for the house at that juncture in time) aren’t necessarily coincidental. What good, then, is a free market? And who gets to decide whether a price is “real” or “free market”? Karabell? Accountants? Maybe we should just ask the company that insured it against the hurricane, who knows…maybe AIG.
Regulation does not drive prices away from their “real” level, information, or lack thereof, does. Regulation can impact supply and demand curves, and thereby prices, but regulations do not turn a market price into something that isn’t real.
September 18th, 2008 at 5:48 pm
Good point made in this article. I didn’t know much about AIG’s operation until reading more of the details this week.
FT had a good deal of coverage on AIG’s move into derivatives and swaps yesterday, here are the links for those who’d like to read the articles.
http://www.ft.com/cms/s/0/456335c6-8425-11dd-bf00-000077b07658.html
http://www.ft.com/cms/s/0/4c612a58-8426-11dd-bf00-000077b07658.html
September 18th, 2008 at 5:50 pm
“He writes in his WSJ op-ed today…”
Is it any wonder the US is in decline? Not really, when you have an influential financial journal like the WSJ opening its columns to such brain-challenged dimwits as Karabell and Mardsen?
A REAL financial journal would have been the one writing a piece like Jesse Eisinger wrote.
Alas, whenever we want quality news, we have to rely on foreign publications like Financial Times and others.
Guess we’ve outsourced the truth too. After all, it is so inconvenient.
September 18th, 2008 at 5:53 pm
Leverage certainly can turn a 20% loss into a 100% loss, Citi and UBS and Merrill proved it…. But the thing is: it takes extreme assumptions (implying bankruptcy for many US banks, maybe not all, but who knows) to generate the loss of 25 bn already written off with the 110 CDOs insured by AIG given what is known of their composition and the levels of ‘attachment’ for AIG to take a loss. And after that 25 bn (and several billion on the direct subprime, Alt-a etc holdings) there was still in excess of 70 bn in equity. Mind you: AIG stopped insuring CDOs with subprime in 2005…. UBS and Citi and Merrill nearly died on the ‘super senior’ CDOs positions they decided to keep from 2006 and 2007 (i.e. those AIG refused, those with the extreme losses eating into the AAA tranches used to built the prime CDO’s). So they clearly made mistakes, but they were quite early in seeing the CDO and subprime danger… (and should have started selling / unwinding…). Before I forget: the levels of protection built into the corporate and mortgage deals (the other 350 odd bn)… implied the failure of most European banks (and then some) before AIG would be forced to take a loss (but who know what colletaral ‘marking to market’ would have forced them to come up with well before those losses ever proved out of the question). Last but not least: AIG was not saved… certain counterparties were…
September 18th, 2008 at 6:00 pm
Jesse does his usual sterling job. Thanks. So your simple explanation needs to be amended. They didn’t stumble into the biowar lab they picked the lock, raided the secure storage refrig and gleefully danced back outside to show the their fraternity brothers what they got. Shades of War Games.
On the other hand, for the record and in the record, Bush and his admin proposed a major overhaul of Frannie on 911 ’03 and got short-stopped by Dimowhackic leadership under lobbying pressure from Raines – he of the not quite criminal indictments. BtW the top four recipients of contributions ? Dodd, Obama, Clinton as I recall. This is all verifiable if we’re being data driven instead of ad hominem.
September 18th, 2008 at 6:07 pm
EXCELLENT!!!!!
what is related here – couldn’t be clearer
I heard a congressman say, today
“Once we understand what’s happening, we’ll begin to deal with it”
September 18th, 2008 at 6:36 pm
I believe what many of these pundits are disabled with is not simple denial of the Kulbler-Ross hue, but something darker and more crippling: Narcissistic Personality Disorder.
To the narcissist, to admit wrong is to allow shame – not healthy guilt but a deep, abiding shame – and that cannot be tolerated. Ergo, it is impossible to be their fault. Impossible.
Hence, short sellers, devious home buyers, too much regulation….anything to avoid the truth, and thus the shame.
September 18th, 2008 at 6:49 pm
dblwyo – what the hell are you talking about? who had almost (I am being charitable) absolute power in 2003? You guys don’t know what taking responsibility and ownership means.
After having had almost absolute power for 6 of the last 7.5 years republicans are nothing but incompetent. It’s always someone else’s fault. When they are in power they don’t know how to change things and find others to blame. Republicans don’t deliver and don’t know how to deliver, they have proven to all of us this much.
September 18th, 2008 at 6:50 pm
I found some of those AIG commercials. Funny to watch now, with hindsight as an ally. LMAO.
September 18th, 2008 at 7:12 pm
All of them have sank themselves and in the end will probably take all of us down with them. Thanks for the news flash.
September 18th, 2008 at 7:19 pm
So, the same gov that screwed this up by not regulating anyone is going to buy up all thye mortgages, run AIG, etc. I sure hope those Bible thumpers from Liberty U. that have been stuffed into gov jobs studied finance instead of abortion 101 and abstenince 201.
I’ve take some pleasure the last few days in the notion that these Liberty U flacks hired in to take up space and waste air now have to scurry around in a panic and at least pretend to do something. They’ll suck at it, sure, but at least they get to sweat a little at a job they were assured was zero effort. Because you know, by definition, the government does nothing, so how in the world could a job in government actually involve work?
My new rule is that if you are a “true conservative” and you have a position in government, you better provide some serious arse proof that you actually do a job and your role isn’t the equivalent of welfare queen with a title.
September 18th, 2008 at 7:42 pm
A strident but balanced evaluation of present and future prospects.
http://martin.progressiveradionetwork.org/
September 18th, 2008 at 7:42 pm
Short selling has been banned???? What the fuck?
September 18th, 2008 at 7:43 pm
OK…so it appears they are going to temporarily ban short selling. Apparently what they want to do is have one last rally before the collapse. And banning short selling will actually make the collapse worse, as nobody will be there to buy on the way down. This move could only be concocted by a Bush administration…it fit his thought process to a tee.
September 18th, 2008 at 7:46 pm
Anyone hear the SEC is going to ban short selling–in talks right now????
September 18th, 2008 at 8:08 pm
well, as I was listening to NPR on the way home (they always have the latest on the news out of Namibia, so I realize there can only be three other people listening) there was an overseas economist speculating that if this trust resolution corporation goes through, our debt could become as valuable as any other third world debt…! because of massive overspending…
The moderators also commented that people elected in this fall’s elections would have to moderate their desires to spend money on new programs since there would not be any money, and that tax cuts wouldn’t be possible…
Now I realize that that was NPR, home of news no one except Barbara Streisand listens to, but did anyone else hear this besides me? Specualtion that our debt would become worthless?
My excuse is that there is a station near there that plays old Zepplin about the time I drive home, and I mispunched…
September 18th, 2008 at 9:08 pm
Bruce,
of course it’s possible..pull up long-term chart of the long-end of the USTreas complex, it’ll be the last bubble to blow(-up)..
when, if, that happens, stay still & quiet, like when your huntin’ Wabbits, you’ll hear, from a far ways off: “I love it when a plan comes together”
we’ll learn, one way, or the other, you can’t build an Economy on Debt–and, the currency in your pocket is nothing more than an evidence of debt.
if you’d care for more, punch Blackwater & local police into your fave search engine..
September 18th, 2008 at 10:28 pm
Ok, I find some of these comments truly very interesting. And the issue of where to point the blame [or not to] is all on point. But there still remains the bigger question: What now? Each time the Govt has acted it has said to do nothing would result in a worldwide meltdown. What really would have happened if the Gov’t had done nothing for AIG?
September 19th, 2008 at 1:17 am
Depending how you estimate the sums, this RTC added on top of our other recent national purchases, might bring our national debt well over $11 trillion. That’s a doubling of our national debt from $5.5 trillion in 2000. A true accomplishment! …Am I being reasonable in this estimate?…I would like to be wrong but don’t think I am…