Maiden Lane III Buys CDOs From AIG Counterparties

A new financing entity is starting to help American International Group Inc. cope with the liquidity problems associated with credit default swaps and similar types of derivatives.

Maiden Lane III L.L.C., New York, a Delaware limited liability company controlled by the Federal Reserve Bank of New York, has started to buy “multi-sector collateralized debt obligations” that AIG’s AIG Financial Products Corp unit guaranteed with CDS arrangements back when the economy was stronger, according to AIG, New York.

The New York Fed and AIG announced the creation of the $35 billion Maiden Lane III CDS program shutdown entity in November, in connection with New York Fed efforts to replace a 2-year, $85 billion New York Fed credit facility.

The New York Fed also is creating a second financing entity, Maiden Lane II L.L.C., that will use $1 billion from AIG and up to $22.5 billion from the New York to help AIG shut down its securities lending operations.

A third New York Fed entity with a similar name, Maiden Lane L.L.C., has no connection with the efforts to help AIG and is being used to unwind some operations of Bear Stearns & Company Inc., New York.

AIG is using some of the cash from a recently announced sale of preferred shares to the U.S. Treasury Department to buy $5 billion in Maiden Lane III stock.

The New York Fed, the sole managing member of Maiden Lane III, has lent $15.1 billion to the entity and could lend up to a total of $30 billion, AIG says.

AIG can ask for additional drawdowns, up to the $30 billion limit, by giving the New York Fed 3 days’ notice, according to a senior loans funding provision in the Maiden Lane III master investment and credit agreement.

Maiden Lane III is supposed to pay back the New York Fed over 6 years using cash flowing from CDOs that are still performing. The interest rate will be equal to the 1-month London Interbank Offered Rate for dollars plus 1 percentage point.

Once the entity repays the New York Fed, the New York Fed will get 67% of any remaining amounts, and AIG will get 33%, AIG says.

Maiden Lane III already has agreed to buy CDOs with a total principal amount of about $53 billion, AIG says.

Those deals have led to the termination of $46 billion in CDS arrangements and should lead to the termination of $74 billion in CDS arrangements, AIG says.

The International Swaps and Derivatives Association, New York, estimates the total notional amount of all CDS arrangements outstanding is about $55 trillion.

One provision of the Maiden Lane III master investment and credit agreement states that Maiden Lane III is not an “employer” for purposes of the Employee Retirement Income Security Act, will not be required to file as an investment company, and does not own the capital stock of any corporate person.

But the New York Fed and Bank of New York Mellon Corp., New York, which serves as the administrator, collateral agent, escrow agent and securities intermediary for Maiden Lane III, have agreed that Maiden Lane III is subject to the USA PATRIOT Act, meaning that the bank must get the name, physical address and tax identification number of Maiden Lane III and any holders of Maiden Lane III’s secured obligations, to help verify that those parties are not on the official list of entities engaged in terrorism, drug trafficking or money laundering.

In most cases, the parties can send any required notices by electronic mail as well as through certified mail, a courier service or a facsimile transmission.

The agreement is governed by the laws of New York state.