The Wall Street Journal reports in a story frustratingly sketchy on key details that AIG has sprung another leak, or more accurately, had an ongoing leak that has just now come to light. The amount at issue, $10 billion, seems small compared to the $150 billion the insurer has already managed to extortsecure from the government.
But now it gets interesting. First, the $10 billion is outside the $150 billion in various facilities on offer, begging the question of how AIG will come up with the dough. Second, the losses resulted from “speculative trades,’ not customer business gone bad, which is what the insurer previously said caused its losses. And these trades took place within the now-notorious credit-default-swaps-writing financial products group.
The risk controls on the financial products team were apparently non-existent. The size of the profits it was reporting should have lead to heavy scrutiny. That sort of result is generally the result of considerable risk-taking, either market risk or reputation risk (i.e., you are fleecing your customers and they might wake up and come after you, as they did with Bankers’ Trust, putting the bank on a terminal slide).
From the Wall Street Journal:
American International Group Inc. owes Wall Street’s biggest firms about $10 billion for speculative trades that have soured…The details of the trades go beyond what AIG has explained to investors…AIG has said that its trades involved helping financial institutions and counterparties insure their securities holdings. The speculative trades, engineered by the insurer’s financial-products unit, represent the first sign that AIG may have been gambling with its own capital….
AIG’s financial-products unit, operating more like a Wall Street trading firm than a conservative insurer selling protection against defaults on seemingly low-risk securities, put billions of dollars of the company’s money at risk through speculative bets on the direction of pools of mortgage assets and corporate debt…
The fresh $10 billion bill is particularly challenging because the terms of the current $150 billion rescue package for AIG don’t cover those debts. The structure of the soured deals raises questions about how the insurer will raise the funds to pay the debts. The Federal Reserve, which lent AIG billions of dollars to stay afloat, has no immediate plans to help AIG pay off the speculative trades…
AIG’s problem: The rescue plan calls for a company funded largely by the Federal Reserve to buy about $65 billion in troubled CDO securities underlying the credit-default swaps that AIG had written, so as to free AIG from its obligations under those contracts. But there are no actual securities backing the speculative positions that the insurer is losing money on. Instead, these bets were made on the performance of pools of mortgage assets and corporate debt, and AIG now finds itself in a position of having to raise funds to pay off its partners because those assets have fallen significantly in value…
Some of AIG’s speculative bets were tied to a group of collateralized debt obligations named “Abacus,” created by Goldman Sachs.
The Abacus deals were investment portfolios designed to track the values of derivatives linked to billions of dollars in residential mortgage debt. In what amounted to a side bet on the value of these holdings, AIG agreed to pay Goldman if the mortgage debt declined in value and would receive money if it rose
Funny how so many roads lead to Goldman.
Stuart 
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Perhaps another case in which nationalization was the second best alternative to a Chapter 11. Maybe we should learn a lesson from this before we rush into a Detroit bailout with half-baked measures. Let the courts not the politicians sort it out.