AIG Has a Swap-Related Weakness: PwC

The insurer says in a filing that its Financial Products and Trading units overvalued CDOs. Investors are spooked.
Stephen TaubFebruary 11, 2008

American International Group Inc. said that PricewaterhouseCoopers LLC has concluded that the insurance giant had a material weakness at year-end, related to how it values the super senior credit default swap portfolio of two AIG units’ multi-sector collateralized debt obligations (CDOs).

The two units identified by AIG are AIG Financial Products Corp. and AIG Trading Group Inc. In all, AIG overstated the value of the contracts — which are designed to protect fixed-income investors against losses — by $4.88 billion in October and November, an amount that was four times greater than previously forecast, Bloomberg News pointed out. PwC is AIG’s independent auditor.

The news spooked investors, who traded AIG’s shares down by a double-digit percentage rate, initially pulling down the broader market.

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It also raised questions about whether AIG will suffer through another accounting scandal and whether other companies will also find themselves in the same situation. It is also a warning that AIG may in fact be adversely impacted by the global credit crisis, a contention it had disputed in the past.

The insurer said in a regulatory filing that it has not yet determined the amount of the increase in the cumulative decline in fair value of the default swap portfolio to be included in its year-end financial statements. “AIG is still accumulating market data in order to update its valuation of the AIGFP super senior credit default swap portfolio,” it added.

The company said that because of current difficult market conditions it cannot reliably quantify the differential between spreads implied from cash CDO prices and credit spreads implied from the pricing of credit default swaps on the CDOs. Thus, it will not include any adjustment reflecting the spread differential in determining the fair value of AIGFP’s super senior credit default swap portfolio at year-end.