Wednesday, March 4, 2009

Bank Regulation Helped Destroy American International Group (AIG)

I was wondering that at this moment should I invest in the U.S. share market? How about invest in one of the giant insurance company in the world? American International Group. At the price of USD 0.45 cents, I was wondering whether to invest in AIG or KNM Group Berhad (RM 0.35)? Or we might be looking for Genting International P.L.C (SGD 0.43)? Which one will move faster when the share market recover?

Previously AIG share prices was about USD 40.00 to USD 60.00 level before the financial crisis strike but now at USD 0.45 per share, it is way too cheap to ignore. Basically I will wait further before any decision can be make.

On March 2, 2009, AIG reported a fourth quarter loss of USD 61.7 billion (£43bn) for the final three months of 2008. This was the largest quarterly loss in all corporate history. The news of the loss came the day after the U.S. Tresury Department had confirmed that AIG was to get an additional USD 30 billion of aid, on top of the USD 150 billion it has already received.

The Treasury Department suggested that the potential losses to the US and global economy would be 'extremely high' if it were to collapse and has suggested that if in future there is no improvement, it will invest more money into the company, as it is unwilling to allow it to fail.

The firm's position as not just a domestic insurer, but also one for small businesses and many listed firms, has prompted US officials to suggest its demise could be 'disastrous' and the Federal Reserve said that AIG posed a 'system risk' to the global economy. The fourth quarter result meant the company made a USD 99.29 billion loss for the whole of 2008, with five consecutive quarters of losses costing the company well over USD 100 billion.

How Bank Regulation Helped Destroy AIG

What ever changes we make to our financial regulations, hopefully we'll ensure that we can never have another AIG putting the entire global financial system at risk. Unfortunately, our track record of building regulations is terrible. In fact, in many ways the last round of regulatory reform helped cause the disaster in AIG.

How could AIG's destruction have been caused by banking regulation? Most people wil probably be surprised by the very idea. After all, they've been told that what really happened to AIG involved unregulated credit default swaps, insurance contracts on bonds that AIG sold across the world. They suspect AIG might have been caused by too little regulation.

In fact, much of AIG's problem was caused by credit default swaps and regulation. After Hank Greenberg was ousted from AIG, the company began to get heavily involved in the credit default swap market. That market was growing in large part because of banking regulation. How the regulations created a demand for CDS. Banks around the world operate under rules that determine how much capital they must hold in reserve.

The rules say that a riskier the assets held by a bank, the larger the reserve they have to maintain. One way to reduce the riskiness of your assets was to buy insurance on them. This created a huge demand for credit default swaps as a kind of regulatory arbitrage, banks trying to comply with regulations while maximizing their own profits. Let's use an example. Say you are running a bank in Europe.

You have a bunch of deposits you want to invest, and you want to invest those in assets that will give you the highest return with the lowest risk. If you buy a bunch of high-yield loans, that is counter-productive. Even if you earn more for each dollar you invest, the reserve requirements will tell you that you can't invest as much.

Now if you throw a credit default swap on, which you can buy cheaply from AIG, you can invest more of your depositors money in highly rated securities. In effect, you get extra-credit for the swap when calculating your reserve requirements. But isn't it insane for banks to keep buying insurance policies from a company that obviously couldn't pay them back? After all, AIG sold USD 527 billion of these.

There's no way it could make good on even a tiny fraction of them. But bankers didn't see it that way. They didn't expect to ever collect on the insurance policies. The main reason they bought them was because the regulations rewarded them for buying them, allowing them to hold less money in reserve and invest more.

In a sense, the credit default swaps were more like 'regulatory compliance policies' than 'insurance policies.' This wasn't some nefarious secret. AIG sold hundreds of billions of credit default swaps to European banks for precisely this regulatory reason. And it wasn't shy about it. It revealed in its annual statement that about USD 379 billion of the USD 527 billion in AIG's default swap portfolio "represents derivatives written for financial institutions, principally in Europe, for the purpose of providing them with regulatory capital relief rather than risk mitigation."

This story, about how banking regulations helped create the demand for a financial product that now has crippled the world's largest insurance company, is another reason to be cautious about building a new regulatory framework. You never quite know what monsters you could be creating.

Article from BusinessInsider.com

5 comments:

Anonymous said...

AIG股票命懸1美元警戒線 面臨被紐交所撤牌風險
2009-02-10

http://lateline.muzi.net/news/ll/fanti/1547264.shtml?cc=46531

AIG(美國國際集團)這家百年金融老店從未像現在這樣擔憂過自己的股票价格,此刻,它的投資者們正因其股价在1美元“警戒線”躥上跳下、面臨撤牌風險而心惊膽戰。

紐約時間2月8日,AIG以每股1.01美元幵盤,其間曾惊險摸底每股0.90美元,最終以每股1.04美元的价格收盤。

与上一周相比,AIG在本周所顯現的危局似乎有過之而無不及。AIG的股价在5日的交易中一度跌破每股1美元──每股0.99美元。市場由此惊呼:“AIG股票可能遭紐約交易所撤牌。”根据紐交所規定,如果在該交易所上市的股票連續30日內的平均价格低于1美元,交易所將有權對該股啟動撤牌程序。這意味著,若AIG股价短期內不出現反轉,撤牌在所難免。

AIG是遭受金融危机打擊最嚴重的美國金融企業之一,它曾經是美國最大的保險商,也是全球市值最大的保險商。早在1919年,AIG創始人就在上海創立了集團的前身──美亞保險公司。目前,AIG在中國分別設有獨資的財產保險公司和人壽保險公司。

AIG目前處于跌宕中的股价透露的信息顯示,市場仍然在擔心其危險期遠未過去。而這种揮之不去的擔心在其“難兄難弟”房利美和房地美(兩房)身上曾經上演過。去年9月8日,“兩房”股票一路狂瀉,雙雙跌破1美元,鑑于其股价已跌破紐交所設定的1美元“警戒線”,兩家公司的股票從此進入了交易所監管部門的重點關注名單。

AIG最新股价較去

Anonymous said...

ARe the banking laws and regulations in malaysia sufficient to prevent banking crisis in malaysia - similar to what happened in the US recently. What are the additional reforms in Malaysian banking laws & regulations that would further protect our banking system? Appreciate if as many ppl as possible cooment on this

Jackie Lee said...

Today what really happen in the U.S, it is something they never think that it will happen.

In Malaysia the banking system is doing very well because we have an experience in 1997 Asian Financial Crisis. We have gone through the crisis and our banking is getting stronger and stronger but we can't say that there won't be a crisis in Malaysia.

Lately some of the rumours spreding around mentioning that CIMB would face some problem. This is just a rumours. How true the rumours are,no one will know but I think Najib will sure help the bank if anything happen.

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