Guest Post: AIG CDS Unwind Goes From Waterfall To A Trickle

Submitted By Tyler Durden of Zero Hedge

As we initially reported nearly two months ago, the main reason why the banks’ fixed income trading desks generated phenomenal profitability in January and February had nothing to do with actual trading of fixed income and everything to do with AIG’s hamheaded (and loss-generating) unwind of its CDS book, which by implication generated one-time, massive profits for counterparties to the trade (read: the banks, which are now doing all they can to issue shares in the open market day in and day out on the coattails of the phenomenal short squeeze that this unwind generated).

AIG CEO Ed Liddy provided some more fire for this hypothesis today during his testimony before the House Financial Services Subcommittee. In a very odd twist, Liddy, who in March had disclosed that AIG-FP had unwound over $1.1 trillion in CDS notional (from $2.7 trillion to $1.6 trillion – a ridiculously large amount), today noted that the financial black hole had succeeded in only unwinding an additional $0.1 trillion in the last 2 months, from $1.6 trillion to $1.5 trillion.

The obvious question that arises here is why did AIG slow down its CDS unwind process so much?

Some potential answers: i) the banks do not need any taxpayers gifts now as much as they did in January and February; ii) the financial blogosphere (and to a much smaller extent, the mainstream media) is now fully aware of the taxpayer thuggery that AIG committed when it unwound the $1.1 trillion in no time, and iii) Andrew Cuomo is monitoring every CDS transaction at AIG-FP under a microscope now, so wholesale dumping could be a “tad” more problematic.

The logical implication is that if banks need to break the taxpayer piggybank again, it will be next to impossible to abuse the taxpayer funded rainy day fund. Therefore banks better all raise equity stat or else the pain in Spain will soon be unbearable: ergo a wholesale, orchestrated short squeeze rally.

I provide the full transcripts from March and May for compare and contrast purposes.

Update: some interesting thoughts from Denninger. Good read.

Full May transcript below.

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  1. skippy

    Dead men tell no tales, so its said, but looks like ghosts can, Ben, Larry and Tim beware the specter of the past dead for their ghosts fear not the light of day, but are of it.


  2. Hugh

    It took me a while to find this but this is something a wrote about AIGFP’s derivative book back on March 19:

    AIG 10-K

    On page 263, it shows that AIGFP as of December 31, 2008 had $1.515 trillion in derivatives with $305 billion in CDSs outstanding. 2/3 of them were for 2 or more years. 57% were in the 2-5 year range.

    Of the ~$305 billion in CDSs as you point out $234 billion is in the form of regulatory relief CDSs written primarily for European banks. These allowed the banks to make more and riskier investments. They could dip more deeply into their reserves than the regulations normally allowed and AIG guaranteed to make up whatever they needed to bring their reserves to what they needed to be according to the European regulators.

    Given all the losses that European banks have experienced I would think that there could be significant losses in these.

    About those potential losses it has this to say on page 268:

    “Given the level of uncertainty in estimating both the number of counterparties who may elect to exercise their right to terminate and the payment that may be triggered in connection with any such exercise, AIG is unable to reasonably estimate the aggregate amount that it would be required to pay under the super senior credit default swaps in the event of any credit rating downgrade below AIG’s current ratings.

    Due to long-term maturities of the CDS in the arbitrage portfolio, AIG is unable to make reasonable estimates of the periods during which any payments would be made. However, the net notional amount represents the maximum exposure to loss on the super senior credit default swap portfolio.”

    It says much the same about collateral calls, i.e. it doesn’t know.

    As for the rest of it, $883 billion are in interest rate swaps. There are also $194 billion in currency swaps and $132 billion in various options. But the 10-K says that AIG has both sides of all these, so it’s covered at least in theory on these.

    So very short version. AIG has $305 billion in CDSs. 2/3 of these are for 2 or more years and 3/4 of them could experience real losses.

    I am flummoxed I guess that Liddy couldn’t get someone at a company the size of AIG to come up with a 2 minute presentation on this. 5 minutes if he described the AIGFP operation and who the counterparties were. Aside from being buried in a big report, this stuff isn’t that hard to grasp.

    Two months later, it appears like Liddy still can’t come up with a simple outline of AIGFP’s book. As I have been saying for quite some time now, I only wish Liddy was being paid $1 although at that rate I think he is vastly overpaid. As far as I can see, Liddy is totally and absolutely worthless at AIG. The only reason he was chosen was to oversee Goldman’s interests there. As these have largely been terminated to Goldman’s advantage, maybe Liddy will soon decide he would like to spend more time with his family or something.

  3. Hugh


    Actually the reason Liddy is still at AIG is that he gets equity in the company if he stays a certain length of time. When that date comes, I think it will be exactly as you describe it.

  4. bob

    I watched the testimony earlier this year. Liddy couldn’t even remember the name of the “trustee” that was supposed to be representing the the USG.

    In a normal world he should be under the desk of the person paying for that firm to continue.

  5. nowhereman

    Damn, I was never offered a job like that, oh well, what can you expect with an arts degree.

  6. Juan

    Did anyone have an opportunity to watch the ‘trustees’ testimony today? Almost made Liddy look good.

  7. attempter

    So much for how world-historically important it was to pay out “retention bonuses” to keep these luminaries plugging away at this critical unwind operation.

    So just like with the hedge fund post from a day or two ago, we see how all the hype about “talent” and necessary exorbinant “compensation” was a flat-out lie.

  8. bob


    Did you see how that was called an opinion piece? Its his opinion, and the author was GM management, the real source of the problem.

    David N. Reilly
    Group Vice President and President, GMAP
    General Motors Corporation
    Detroit , MI
    Sector: CONSUMER GOODS / Auto Manufacturers – Major
    Officer since August 2001

    59 Years Old
    David N. Reilly has been associated with General Motors since 1975. Mr. Reilly served as Vice President, GME for Sales, Marketing, and Aftersales beginning in August 2001. He was appointed Group Vice President and President, GMAP in July 2006 and had previously been President and Chief Executive Officer of GM Daewoo after leading our transition team in the formation of GM Daewoo beginning in January 2002

  9. depresso

    bob, it’s an “opinion piece”, so what? That is supposed to be an argument against what he is saying?
    This blog is full of “opinion pieces” of socialist leaning. Now what?

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