The New York Department of Financial Services (DFS) has reopened a probe into the risk management practices that led to American International Group’s (AIG) emergency takeover by the Federal Reserve Board in 2008.
In the DFS probe, disclosed in a June letter written by DFS superintendent Benjamin Lawsky, DFS examiners allege that AIG may have failed to properly measure and manage risk, misled supervisors and investors and lacked appropriate checks to limit outsized risk-taking.
The fact that the New York DFS is taking a fresh look at AIG’s troubled and controversial financial products (FP) subsidiary is ironically coming to light as the Obama administration observes the fifth anniversary of the financial crisis.
It is also “off-script.” That is, federal legislators and state regulatory authorities have consistently alleged that the AIGFP was overseen by the now-defunct Office of Thrift Supervision (OTS). However, states that always had full authority to regulate AIGFP and OTS merely regulated AIG’s small thrift, based in Wilmington, Del. and Wilton, Conn. It has since been downgraded. In fact, as attorney general of New York, Eliot Spitzer cited mispricing of CDS as part of his probe of AIG in 2006. That led to AIG paying a major fine to the SEC and shareholders through action by the Securities and Exchange Commission in 2008.
Obama’s comments followed Sunday’s release of a National Economic Council report that catalogs Obama administration and Federal Reserve actions that the council’s director, Obama Economic Advisor Gene Sperling, said “have performed better than virtually anyone at the time predicted.”
“They range from the unpopular Troubled Asset Relief Program, or TARP, that shored up the financial industry and bailed out auto giants, General Motors and Chrysler, to an $800 billion stimulus bill to sweeping new bank regulations,” the report said.
As for AIG, a title of the report notes that, “After intervening to stabilize AIG during the financial crisis to prevent a greater shock through the global economy, the administration took immediate steps to restructure AIG and accelerate the timeline for AIG’s repayment of the government’s support.”
While focusing on Lehman’s collapse on the 15th, the government’s involvement in AIG’s resurrection was more intense.
It was the evening of Sept. 16, 2008 that Federal Reserve general counsel Scott Alvarez announced that AIG’s board had agreed to sell 79.9 percent of the company to the Fed in exchange for $85 billion in cash.
Amongst the fallout from its near-collapse, AIG was officially designated by the Financial Stability Oversight Council as a systemically important financial institution (SIFI) in July. That will subject AIG to oversight by the Fed as well as state regulators, which will bring much higher capital requirements and additional oversight on everything from consumer protection to market conduct, according to industry officials.
In recent comments, Robert Benmosche, president and CEO of AIG, explained that, at the end of 2014 or early 2015, “AIG will be under that same capital review as the banks are.
“And that’s not only what our capital ratio numbers are, but it’s the quality of the systems that produce the numbers. So it’s a very different game we’re going play in 2014 and beyond once we’re a part of the Comprehensive Capital Analysis and Review (CCAR) test, so then the Federal Reserve will have a lot to say about what we ultimately do and their satisfaction with what the numbers are. So being under CCAR and being a SIFI will be a different level of regulation then what we are today.”
If the New York DFS now finds AIG’s risk-management activities insufficient, and that may subject the company to heightened state supervision as well. Analysts fear it may curb investing and limit earnings if DFS decides to rein in certain business lines or activities.
Ron Klug, a spokesman for the DFS, declined comment.
Jon Diat, a spokesman for AIG, noted that the company said in 2011 that it had completed its active wind-down of the Financial Products unit’s legacy positions.
“AIG completed the active wind down of the AIGFP portfolios long ago and has eliminated 93 percent of the unit’s legacy positions from approximately $1.8 trillion in net notional exposure at December 31, 2008 to $122 billion in net notional exposure at March 31, 2013,” Diat said in providing the AIG statement.
He said the remaining legacy positions “are largely low risk and are being wound down thoughtfully, according to rigorous risk management processes and controls, and in the best interests of all stakeholders, including shareholders.
“We are highly committed to sound risk management practices and working closely with our regulators, including the Federal Reserve, to ensure all of our business practices meet and exceed the expectations of our stakeholders,” the statement said.
AIG has been intensely criticized for the activities of AIGFP. Critics argue that the subsidiary took on huge risks that ultimately brought the company to the brink of insolvency even though the unit generated only 6 percent of AIG’s total revenues.