As previously reported by StructuredFinanceNews.com (see related story via this link), last week the American International Group (AIG) in a letter to the Federal Reserve Bank of New York (New York Fed) offered to repurchase all of the RMBS held by Maiden Lane II LLC (ML II) for $15.7 billion in cash.
According to a Moody's Investors Service report, this deal would be near term credit negative for AIG and its core insurance operations, considering that most of the portfolio comprises subprime and Alt-A RMBS with considerable loss potential. This risk would be lessened by the low purchase price and the incremental investment income resulting from these securities such that the group’s ratings would not be affected.
The rating agency said that among the negative aspects of the deal is that the ML II assets would be an illiquid investment concentration. This makes AIG an outlier in its exposure to non-agency RMBS relative to its peers, the rating agency said. The firm would also be exposed to adverse media and market attention if there are further portfolio value drops, which could be caused by another U.S. housing market or broader economy downturn.
However, the proposed purchase price amounts to roughly 50% of par value. This means that the ultimate proceeds from the RMBS could go over the purchase price, specifically if the U.S. economy continues to gradually recover, Moody's said. Additionally, the portfolio's favorable performance would enhance AIG’s investment returns and profitability over the next few years, Moody's said.
ML II is a special purpose vehicle established by the New York Fed in December 2008 to buy RMBS from AIG’s SunAmerica Financial Group with an estimated $20.5 billion fair value and a $39.3 billion par value. The RMBS used to be held in SunAmerica’s securities-lending collateral pool, funded by short-term securities-lending arrangements.
The initial ML II deal was designed to alleviate liquidity pressures at SunAmerica caused by counterparties wanting to return the securities borrowed from SunAmerica in exchange for their cash collateral. The initial funding for ML II comprised a $19.5 billion senior loan from the New York Fed and a $1 billion subordinated loan (deferred purchase price) from SunAmerica. For several quarters before and including the RMBS sale to ML II, SunAmerica recorded losses on this portfolio that reached around 50% of par value. SunAmerica’s capital base was replenished via capital infusions from AIG, which were generally funded through government facilities.
The ML II asset portfolio has amortized down to an estimated fair value of $15.9 billion (still about 50% of par value) as of March 9, while the New York Fed's senior loan to ML II has amortized down to less than $13 billion, Moody's reported.
AIG is uniquely positioned to acquire this portfolio since it is already exposed to ML II, Moody's said, and its exposure is skewed to the downside. AIG is in a first-loss position to the full extent of its subordinated loan whereas it would receive only one-sixth of the upside value should the ultimate RMBS proceeds go over the amounts needed to retire the senior and subordinated loans. The proposed deal would increase AIG’s downside exposure, which is no longer capped at the subordinated loan amount, but would also give the company the full benefit of any upside value, the rating agency said.
If AIG repurchases this portfolio, the rating agency expects that it will be held predominantly by SunAmerica and Chartis, matched against insurance liabilities with similar maturities. AIG expects that over 98% of the portfolio will be classified as 'NAIC 17' by insurance regulators, such that there will be little impact on regulatory capital ratios. The favorable classification incorporates the benefits of purchasing the securities at about 50% of par.