The Raw Story | Hedge funds could reap billions from AIG

The Raw Story | Hedge funds could reap billions from AIG | John Byrne | Published: Wednesday March 18, 2009
...
"In essence, while the U.S. government is busy trying to prop up the housing market -- by trying to limit foreclosures, among other things -- it is simultaneously putting up cash that could be used to pay off investors who bet housing prices would tumble and many mortgage holders would default," Ng added.

Just how much AIG is on the hook for is unclear. Congress has committed $173 billion to bailing out AIG thus far, but its unknown how much of this could be enjoyed by hedge fund investors. AIG's housing market bets have cost taxpayers $52 billion to date.

"The transactions worked like this: Investment banks such as Goldman Sachs Group Inc. and Deutsche Bank sold financial instruments to hedge funds letting them bet that mortgage defaults would rise," Ng wrote. "These instruments were credit default swaps, a form of insurance that pays out in the event of a debt default.

"Many of the assets AIG insured were tied to subprime mortgages. The deterioration of those high-risk mortgages, along with AIG's own financial woes, forced the insurer to put up billions of dollars in collateral, mostly to the banks that were its trading partners," Ng added. "AIG sold protection on securities backed by physical assets, as well as on positions almost entirely backed by other financial bets." ...