Oddities of the Blackrock-AIG report

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So far it appears the most noteworthy document of the 250,000 pages obtained by the House Committee on Government Oversight and Reform, which is holding a hearing on Wednesday on AIG’s government bailout, is a 44-page powerpoint presentation put together by bond firm Blackrock analyzing the insurer’s ability to negotiate haircuts on its largest CDS contracts. Blackrock made the presentation on November 5, 2008, to either AIG or the Federal Reserve Bank of New York, or more likely, since the bailout was in full swing by then, both. It was later decided that AIG should pay all of the counterparties 100 cents on the dollar, which since the government was making the payments ended up being essentially a backdoor bailout to Goldman Sachs and a number of European banks.

Many have drawn the conclusion that the Blackrock report suggests that AIG had to pay 100 cents on the dollar. Not sure I agree. Nonetheless, that conclusion has led a number of people to wonder what else AIG, the Federal Reserve, and Tim Geithner might be hiding. So I have spent the morning going through the confidential Blackrock-AIG report and here are some oddities it includes. You can decide if hiding this stuff was worth the lengths the Fed went to try to keep it hidden:

  1. Merrill Lynch was the only one of AIG’s largest CDS counterparties that Blackrock thought the insurer had  no chance of negotiating with. It’s not clear if the other five would have taken a haircut. But Blackrock said there was at least a chance they would take less than 100 cents on the dollar. Of course, once they found out that AIG was going to pay Merrill in full they may have called off their deals or sued.
  2. Goldman had insured more junky bonds with AIG than the rest of the counterparties. A quarter of Goldman’s CDS contracts with AIG were insuring bonds that had a BBB or worse rating. The average counterparty CDS portfolio had just 18% of similarly rated junky bonds. (My editor points out that’s probably why Goldman was willing to deal.)
  3. Goldman was the only counterparty not in possession of the bonds it was insuring against. All the other banks that bought protection from AIG seem to have done so to hedge against the risk of bonds they held, or controled, going bad. Not the case for Goldman. They didn’t own the bonds they were insuring against. That means one of two things: A) Goldman had sold bond protection to someone else, and was buying protection from AIG against the risk that the protection it sold would go bad. or B) (and this is the much simpler explanation) Goldman was speculating the US housing bubble was going bust.
  4. 92% of the CDS insurance that Deutsche Bank bought was on Commercial Mortgage Backed Securities. That’s much higher than the rest of the group. As a whole, only 18% of the insurance AIG sold to all the counterparties was on CMBS. It’s strange that Deutsche didn’t have more insurance against residential mortgages considering one of its mortgage bond traders Greg Lippman was one of Wall Street’s most vocal housing bear. It’s possible Lippman and Deutsche was early on commercial mortgage backeds as well.
  5. Merrill Lynch was under no pressure to unload its CDS contracts or the junky bonds they protected against. That means at least by November 5, which was about a month or a half after Bank of America, the worse of Merrill’s credit crunch was over, or at least that’s what superiors at BofA thought at the time.
  6. Nearly half of Merrill’s CDS protection it bought from AIG was against residential subprime mortgages. That compares to 36% for the rest of the group.
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