Editor's comment: Political AIG caught in a crossfire

Editor's comment: Political AIG caught in a crossfire

Sifi status is political, opaque, arbitrary, and American International Group (AIG) is the case in point. Only one month into 2016, the year has not been kind to AIG. The management of the US insurer could be forgiven for feeling they have been caught in a crossfire of incoming flak from several sources.

Rating agencies are just the latest to have the company in their sights: Moody’s, AM Best, and Standard & Poor’s (S&P) have all taken aim in the final days of January. 

AIG had its outlook changed to negative by S&P; Moody’s downgraded the ratings of the insurer’s North American property and casualty (P&C) business; while AM Best put AIG’s ratings under negative review, pending more details of the company’s strategic plans.

The rating agencies’ fire was a response to several developments. AIG announced late in January it would be making a $3.6bn strengthening of its reserves – certainly a big enough indicator of problems to warrant raters’ concerns. 

Some $1.2bn has been added to the reserves of its excess casualty business, reflecting deterioration on prior accident years in AIG’s longer-tailed lines of business. AM Best noted an alarming turnaround for the 2011, 2012 and 2013 accident years, to which 41% of the strengthening has been allocated, and “for which either favourable or modestly adverse development had been previously reported”.

On January 26, AIG’s board had announced a striking blueprint to shrink the firm down to profitability. AIG’s plan included selling off United Guaranty Corporation, the mortgage insurance firm that contributes about a tenth of the income from its commercial insurance arm, starting off the spin off with a 19.9% share sell off in mid-2016. The firm also said it will sell its AIG Advisor Group to Lightyear Capital and PSP Investments.

Chief executive Peter Hancock (pictured) pledged to return $25bn to shareholders in the next two years. As part of the plan he announced a “legacy” portfolio of about $22bn in “non-strategic” assets, to be sold or wound down. Expense reductions of $1.6bn are also planned over two years, plus a target of improving its accident year loss ratio across commercial P&C by six percentage points. The group is aiming for a 9% target return on equity to shareholders by 2017.

Pleasing shareholders – particularly the irksome, disruptive sort – has been an acute concern for Hancock. Activist investor Carl Icahn’s accusation that AIG is “too big to succeed” – calling for its breakup and threatening a shareholder putsch to depose Hancock if the CEO refused – helped trigger its new blueprint, going much further than earlier announced management cuts and regional business selloffs. 

Hedge fund manager John Paulson added his words to those of Icahn. To raise its stock, they say they want AIG to shrink so much it might shed its unwanted status as a non-bank systemically important financial institution (Sifi for short), which comes with up to 10% higher regulatory capital costs and tougher scrutiny from the Federal Reserve.

However, AIG’s activist investors are either not entirely honest, or they are deluding themselves. AIG’s Sifi status is politically motivated. No company can accept an $85bn taxpayer bailout and expect to be let off as safe or normalised for a generation. 

It doesn’t matter that it is several years since September 2008, or that AIG is unlikely to revisit its toxic turn selling credit default swaps on collateralised debt obligations. Nor does it matter that AIG’s current business model, although big, is little more of a systemic risk than any other insurer. It’s a matter of politics, and time. AIG could announce a business plan of death by a thousand cuts, and regulators would likely drag their feet until the eight-hundredth.

MetLife knows this. In 2012 the US life and health insurer sold its banking business to GE Capital and its mortgage arm to JP Morgan Chase, vying to shed the Sifi label by sticking to insurance. It didn’t work. The firm has also pursued a lawsuit to argue the matter in court. That doesn’t seem to have worked either, as the firm has also announced plans to split itself up as a last alternative.

MetLife’s plan is to separate much of its US retail segment, considering a public offering of shares for a new independent company or a private sale. “Even though we are appealing our Sifi designation in court and do not believe any part of MetLife is systemic, this risk of increased capital requirements contributed to our decision to pursue the separation of the business,” MetLife said in a statement.

Sifi designation seems as arbitrary as it is opaque. For example, since Ace acquired Chubb, why is the new expanded Chubb not a Sifi? And in the context of MetLife’s exertions, why did Aegon join, and Generali exit, the updated list of Sifis which was internationally agreed by the Financial Stability Board (including the Fed) late last year?

AIG’s slimming blueprint might turn around its performance, cut costs, up its profits and streamline its sprawling global structure. That might in turn mollify AIG’s shareholder activism, which would give Hancock a break. But when it comes to Sifi designation, the Fed is politically unlikely to respond by giving AIG the all-clear as a systemic risk any time soon. 

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