Begin forwarded message:
From: Alamaine <fratl...@gra.midco.net>
Date: March 7, 2009 6:22:51 AM PST
To: CTRL <c...@yahoogroups.com>
Subject: [ctrl] Hedge fund hotel yields up secrets |
Reply-To: c...@yahoogroups.com
Hedge fund hotel yields up secrets
http://www.guardian.co.uk/business/2009/mar/07/aig-insurance-us-economy
• Wheeler-dealing in UK led to US insurer's record loss
• 'Acts of Satan' ripped black hole in financial system
Andrew Clark
The Guardian, Saturday 7 March 2009
Article history
It is Mayfair's house of financial horrors. Owned by the Abu Dhabi royal
family, One Curzon Street is among London's flashiest office blocks. But
behind the elegant curves, polished white stone, sweeping windows and
panoramic atrium lie billions of dollars in losses that have threatened
the global financial system.
Popular with financial enterprises, the building is known as a hedge
fund
hotel. Its tenants include GLG Partners, one of the City's star funds,
which has fallen on hard times, and the struggling Swiss bank UBS, but
on
the fifth floor can be found the most notorious of the property's
troubled
tenants - a formerly obscure financial products division of the
sprawling
American International Group (AIG).
It was in this London office of AIG that big-brained financial whiz-kids
created a casino offshoot of the once-mighty insurer that spectacularly
wrecked the company, racking up billions of dollars in losses on arcane
derivatives, swaps and contracts. Fatally undermined by the unit's
wheeler-dealing culture, AIG crashed to the US's biggest corporate
loss of
$61.7bn (£43bn) for the final quarter of 2008 and is limping along the
brink of oblivion, saved from bankruptcy by an eye-watering $150bn of
emergency aid from US taxpayers.
The Federal Reserve chairman, Ben Bernanke, wasted few words in
condemning
the division's antics, telling Congress this week: "This was a hedge
fund,
basically, that was attached to a large and stable insurance company."
The Serious Fraud Office is examining exactly what type of business took
place on the fifth floor of One Curzon Street, where a team of some 225
staff were managed by a policeman's son from New York, Joseph Cassano,
who
boasted a degree in politics from Brooklyn College and lived in a
company
flat behind Harrods. He was scorned by one California congressman,
Jackie
Speier, as "the golden boy of the casino in London".
The division dates back to 1987, when a small group of former traders
from
the junk bond firm Drexel Burnham Lambert persuaded AIG's then chairman,
Hank Greenberg, that there was a highly lucrative opportunity in
offering
insurance that would protect banks against default on debt or against
fluctuations in the value of derivatives.
AIG had a sought-after selling point: a triple-A credit rating. For a
fee,
it would stand behind lesser institutions' credit obligations. By
lending
its gilt-edged rating, it could give clients' investments a higher value
and make them easier to trade. Headquartered in Connecticut but largely
run from London, the division transacted billions in credit default
swaps
(CDS) - instruments trading financial risk - which have been dubbed
"acts
of Satan" by a leading US credit analyst, Christopher Whalen.
"These people were deluded," says Whalen, who views the CDS as a
phenomenon dreamt up by those whose obsession with the free market has
caused them to lose their grip on reality. "In a world where people
believe in market efficiency, in total market completion, things like
CDSs
make sense. It goes back to Milton Friedman."
Whalen views London's light-touch regulatory regime as enabling such
ill-conceived shenanigans to run out of control: "A lot of this kind of
structured product came out of London."
CDSs are priced on historical models. Lulled by rising property prices
and
relatively predictable economic cycles, the AIG bankers were convinced
they had hit on a gold mine. Tom Savage, the financial products
division's
former president, told the Washington Post recently: "The models
suggested
that the risk was so remote that the fees were almost free money."
They were wrong. A collapse in the US property market, which began in
2007, left AIG's clients with portfolios of toxic mortgage-related
securities, and calls on the insurer's guarantees against default
rocketed. AIG lost its triple-A credit rating, triggering contractual
requirements forcing it to provide billions of dollars in extra
collateral
it simply did not have. The unit exploded in a mass of red ink,
recrimination and buck-passing.
So how did they misjudge the market so badly? Insiders say AIG has
always
pushed its people to the limit, some seeing Greenberg's legacy as part
of
the problem. Ron Shelp, a former AIG executive whose book, Fallen Giant,
chronicles the insurer's rise and fall, describes AIG as an intense
environment where staff were expected to devote much of their lives to
business.
"Success bred phenomenal rewards," he says. "In general, it was a
freewheeling environment - they'd look for different regulatory regimes
and push it right to the edge, looking for something different."
Favoured employees were rewarded with trips to a Connecticut rural bolt
hole, Morefar, and with shares held in Star International Co, an
offshore
company, which were often released only to those who stayed to 65. The
head of every profit centre was expected to produce a 15% annual rise in
profits and net worth or their position would be under threat.
Just how much AIG's senior executives knew, or understood, about the
London office's activities is a moot point. "It's a damned good
question,"
says Mark Keenan, an insurance analyst at Anderson Kill & Olick in New
York. "Whatever risk controls were in place, if there even were any, the
fact is that someone was not watching what was going on."
If AIG collapses, the US government fears that scores of banks on both
sides of the Atlantic could be pushed over the brink. But propping up
the
company is proving enormously costly. Donn Vickrey, founder of the US
research firm Gradient Analytics, reckons the cost to US taxpayers will
reach $250bn.
"They thought they were smarter than everybody else - that they knew how
to price risk and nobody else did," says Vickrey. "That's hubris.
Instinct
should have kicked in - the simple logic that there's no such thing as a
free lunch."
AIG's new chief executive, Ed Liddy, faces a race against time to raise
money by selling unaffected operations before they are fatally
infected by
association with Cassano's casino in London. Meanwhile, the blame game
is
running at full tilt. Greenberg, who was pushed out in a 2005 accounting
scandal, is suing his successors for wiping out $2bn of value in his
personal shareholding. His targets include the Essex-born Martin
Sullivan,
who began his career as an insurance clerk in London and ended up
running
AIG between 2005 and 2008.
Greenberg maintains that until his own departure, risk controls were
robust. "It wasn't a freewheeling culture," he told CNBC television. "It
was competitive, aggressive, but very, very controlled."
Sceptics point out that Greenberg himself left as a result of an
accounting controversy that led to AIG restating five years' financial
results - and that his regime established the financial products
division
and recruited its key staff.
Within AIG, the mood is said to be one of gloom and shell shock. Many
have
lost decades of wealth built up in AIG shares.
"The old-timers are really distressed," says Shelp, "not just about the
money they've lost. One of them said to me the other day, 'I bought into
the AIG dream.'"
Thanks to an outbreak of financial "innovation" that turned fatally
sour,
the dream has turned into a nightmare.
AIG: And It's Gone ...
2005 Hank Greenberg ousted as chairman after an accounting scandal.
2006 AIG agrees to pay $1.6bn (£920m) over alleged accounting
impropriety.
2007 AIG loses $78m in mortgages. Joseph Cassano says: "It is hard for
us,
without being flippant, to even see a scenario within any kind of
realm of
reason that would see us losing $1."
Shares fall over losses in credit crunch.
2008 Auditor warns of "weak" controls. Cassano quits but hired as
consultant on $1m a month. Loss of $7.8bn forces $12.5bn cash call.
Government provides $85bn bailout as liquidity crisis looms.
2009 FBI and UK police start inquiries. AIG records biggest corporate
loss
in US history of $61.7bn for final quarter.
--
... . . . . . . . . . . . .
Alamaine, IVe
"The irrationality of a thing is no argument against its
existence, rather a condition of it."
Friedrich Nietzsche
... . . . . . . . . . . . . .
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