All the Devils Are Here [125]
Immediately after Greenberg’s departure, the rating agencies dropped AIG’s rating to double-A. Over the next few months, the intensity level inside the company was almost unbearable, as every subsidiary was turned inside out by swarms of accountants. “It was like a war zone,” says a former executive. In July AIG announced its restatement: the company would reduce its earnings by $4 billion covering the previous five years. In those five years, AIG had reported around $40 billion in profits; the new numbers lowered AIG’s profits by 10 percent. In other words, AIG didn’t really have to play games—$36 billion in profits would still have earned it plenty of respect. It’s just that Greenberg would have been seen as a mere mortal, instead of the great god of insurance.
Alain Karaoglan, a Wall Street analyst who had followed AIG for years, wrote several searing reports in the wake of Greenberg’s resignation. One in particular stands out. After taking a close look at the Foreign Life unit—the same subsidiary that was always said to be one of the crown jewels—he concluded that there were significant gaps “. . . between statutory earnings reported in the 10-K and our summation of statutory account principle (SAP) earnings for the operating entities.” In other words, try as he might, he could not make the earnings that AIG had reported for Foreign Life add up.
He also pointed out something that nobody had bothered to pay much attention to before. The rating agencies had consistently said that none of AIG’s operating subsidiaries would have merited triple-A ratings if they had been stand-alone companies. Only the guarantee from the parent company made them triple-A credits. Yet, he noted, “AIG, the parent, is just a holding company and its strength and only source of cash flow to bondholders and shareholders comes from its subsidiaries.” AIG’s vaunted triple-A, in other words, was a product of circular logic that broke down upon close inspection. As Karaoglan continued his analysis, he openly wondered whether the operating units deserved even a double-A rating.
Then he wrote this: “[W]e were all to some degree complacent, and looked to some degree at the financials in a silo fashion and took comfort in the overall AIG whenever the silo could not stand on its own. In our view, we were all over-relying on Mr. Greenberg to sustain the company’s tremendous track record and ensure it was real. Now, with significant financial improprieties revealed by the company, we can no longer do that.”
Not long before Hank Greenberg was ousted, an FP executive named Gene Park got a call from an old high school friend who was trying to buy his first house. The price of the house was $250,000. The friend didn’t make a lot of money. Yet two mortgage originators had lined up to give him loans—one for the first mortgage, and the second for a loan to cover the down payment. The friend wanted to know if Park would lend him $5,000 to cover the closing costs, which he also didn’t have. Though a little startled by what he’d heard, Park loaned him the money.
Shortly before the closing, the man lost his job. He called Park again, worried that the deal would fall through. But it didn’t; when the friend told his mortgage broker that he was now out of work, the broker simply told him not to mention it. Sure enough, he closed on the house. Now Park was really startled.
A few months later, Park read an article in the Wall Street Journal touting the high dividend being paid by a hot mortgage company, New Century. He decided to take a closer look at the stock—and realized that New Century was a subprime lender that specialized in no-doc loans. He quickly dropped the idea of investing in it. Then a third data point popped up on his radar screen: in a trade publication somewhere, he read that multisector CDOs had very large concentrations of subprime mortgages.
By the spring of 2005, Al Frost was marketing a veritable assembly line of multisector CDO deals—FP had ten or fifteen in the pipeline