American International Group, Inc. (NYSE: AIG) is trying to correct or refute the article that appeared today in The Wall Street Journal saying it still has some $10 billion in undisclosed counterparty obligations.  The problems here go above and beyond fuzzy verbiage.

The WSJ story relates to AIG Financial Products’ multi-sector creditdefault swap portfolio. Included within that $71.6 billion portfolio,which it called a notional amount as of September 30, is approximately$9.8 billion of swaps that were sold as credit protection on“synthetic” securities. The swaps on these synthetic securities arealso referred to as “cash settlement” or “Pay As You Go” swapsbecause they are settled in cash as and when losses are taken.

AIG is further noting that the majority of the multi-sector CDS swapswere written as “physical settlement” swaps, where AIG is required tophysically buy the underlying collateralized debt obligation (CDO) bondin the event of a CDO credit event.

It further states that this $9.8 billion notional amount does notrepresent a loss to AIG or a debt it owes to counterparties. It is the notional value of the maximum potential cash settlementportion of the multi-sector portfolio.

AIG and the Federal Reserve have funded the Maiden Lane III facility,which has negotiated agreements to settle $53.5 billion of AIG’s $71.6billion CDS portfolio.

If you read the full release, you might see why there has been no sharpmove in the shares of AIG.  It is not easy to follow, and even thoughit sounds like AIG is not on the hook you still might scratch yourhead.  Shares are still down almost 10% at $1.74.

Jon C. Ogg
December 10, 2008

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