Nearly 30 months ago, in March 2010, we used this space to suggest that the stricken insurer AIG might return all its taxpayer aid. With the announcement of a huge, $18 billion sale of AIG stock owned by Treasury, that might be happening.
AIG’s management will chalk up the achievement to its management. But really the success can be attributed to three huge forces: the decades-long growth in AIG’s core insurance business; rapid economic growth in Asia; and the successful reflation of the credit markets.
Of all of the efforts, the AIG rescue was the most inexplicable, the most stunning, the most infuriating, and the most damaging—not just for what it said about the company but for what it said about the financial system. How could a gigantic institution effectively escape banking regulation, and sell insurance on hundreds of billions of dollars’ worth of mortgage products and other securities—without ever setting aside money to cover claims should they arise? And how could the government shovel out a seemingly limitless amount of cash to make sure AIG’s counterparties, giant banks, like Goldman, Sachs, were paid at one hundred cents on the dollar? How could top employees and management, shortly after receiving a bailout that would rise to $182 billion, even consider paying out huge bonuses? And, lastly, how would the taxpayers ever get their money back?
When the Federal Reserve and the Treasury Department stepped into AIG, it was obvious they were wading into a swamp. AIG was subject to a panic. Many of the assets it held and insured were plummeting in value, and there were no ready buyers for many of them. The decline of the mortgage market and the seizing up of the credit markets swamped the real value inherent in its real, functioning businesses—life and property insurance units in the U.S., Europe, and Asia. But the government wound up buying an option on the bounce-back of the financial system and continuing growth in Asia. And those were pretty smart bets to make in the fall of 2008 and the spring of 2009.
It would take a dissertation to detail all the help the government gave AIG. The Federal Reserve created two vehicles, Maiden Lane II and Maiden Lane III, and lent more than $50 billion to them, so they could purchase toxic assets and mortgage-backed securities from the company—for pennies on the dollar. It further made tens of billions of dollars of credit available to AIG, for which the company turned over interests in two of its crown jewels: Asian insurer AIA and U.S. life insurance subsidiary ALICO. The Treasury Department committed nearly $70 billion to AIG, and in turn took common shares that gave the government a 92 percent stake in the (barely) surviving company. It was a moral hazard salad.
But a funny thing happened. AIG sold ALICO, a very solid business in a large market, to MetLife for $15.5 billion. It staged an initial public offering of AIA, a very solid business in a rapidly growing market, which raised about $20 billion. It used those funds to pay down the loans it took from the Fed. Then, as the credit markets recovered in 2009 and 2010, the bonds and other securities held by Maiden Lane II and Maiden Lane III rose in value and threw off interest. Over time, the two Maiden Lane entities used the cash raised from interest payments and asset sales to pay down the debt. In February and June 2012, respectively, Maiden Lane II and Maiden Lane III retired their debt to the Federal Reserve—with interest and several billion dollars left over in profits.
Extricating the Treasury Department from its massive, dominant stake was going to be the hardest portion of the exit. The market would have to absorb a huge flow of AIG shares, and the stock would have to stay above $29 for the taxpayers to break even. But over the past two years, like other companies with access to cash at a low cost, AIG has performed quite well. It has rebuilt its balance sheet through earnings, and through continued sale of assets—an insurer in Taiwan, shares it owned in MetLife and in AIA. And so starting in 2011, it began to return cash to Treasury by buying back shares. Meanwhile, a rising stock market has enabled Treasury to sell off big chunks. In May 2011, Treasury sold 200 million shares for $5.8 billion; in March 2012, 207 million shares for $6 billion; in May another 188.5 million shares worth $5.75 billion; and another $5.75 billion raised in August. That still left Treasury with a 53 percent stake—some 871 million shares—and about $24.2 billion that had yet to be returned.
With the announcement of this huge sale, Treasury is taking a giant step toward finally closing the books on AIG. Treasury announced it would sell $18 billion worth of stock in AIG. The company itself would buy $5 billion of the shares, and the rest of the shares would be sold to the public. If demand is sufficient, underwriters could sell another $2.7 billion worth. The sale, if successful, would still leave Treasury with a stake in the company of about 15 to 20 percent, and put it very close to breaking even. All it will take is another small sale in a few months.
When that happens, Treasury officials and AIG executives will justifiably take a victory lap. But as they congratulate one another over their steadfastness and foresight, they should acknowledge the higher powers—the Fed’s continuing rescue efforts and Asia’s rampant growth—that have brought about this miracle.