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Posts Tagged ‘fed

Federal Reserve Bank step in to help insurance firm AIG

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The world must welcome the news that the Federal Reserve Bank has stepped in to offer AIG, the American insurance giant with a bridging loan of $85bn. Although many pundits urged the fed not to intervene, there were just as many that were in support of such a move. The reality is, the Fed had little choice, given the ramifications of a failure of AIG could not be measured, but would have undoubtedly been far more significant than the failure of Lehman Brothers.

“It’s not just the failure of one company,” said Julie Grandstaff, vice president and managing director of StanCorp Investment Advisers. “It’s the ripple effect of the disappearance of counterparties” that was spurring urgent efforts to bolster AIG.

AIG’s difficulties have been exacerbated by a fall in its share price of some 60% and a downgrade of its financial standing by three levels to A- by Standard & Poor, making it more difficult and expensive to raise funds. Too many downgrades could trigger events requiring AIG to post billions in collateral to its credit default swap counter-parties. These ‘swaps’ are essentially insurance coverage to protect investors against defaulting bonds or debt. These products, often linked to the US real estate market, are at the heart of the current banking crisis and have led to massive write-downs of assets around the world.

AIG’s problems actually started earlier in the year after their auditors, Price Waterhouse claimed that AIG had material weakness in its internal controls over financial reporting and oversight. This type of qualification for any business is quite serious, but for the business such as AIG, it was bound to lead to some fall out, indeed, its shares fell some 10% on a single day in February following this news.

With one trillion dollars in assets and tentacles in many markets the failure of AIG would have affected many, many more companies, given it is not just an insurer, but a major player in the Credit Default Swap market. In the end the Fed could not stand by and do nothing.

Once the financial markets settle down, there is a good case for looking at how such major companies became engaged in such a risky strategy and who benefited, in what appears to smack of short-termism. There may even be a case to answered by the directors of some of the companies that have been affected, either way, there is certainly a case for more regulation and given American tax payers are expected to take up the risk, it is only right that they should seek assurances in terms of the way these types of companies trade in the future.