AIG 2009 Annual Report Download - page 140

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American International Group, Inc., and Subsidiaries
General Contractual Terms
AIGFP entered into CDS transactions in the ordinary course of its business. In the majority of AIGFP’s credit
derivative transactions, AIGFP sold credit protection on a designated portfolio of loans or debt securities. Generally,
AIGFP provides such credit protection on a ‘‘second loss’’ basis, meaning that AIGFP will incur credit losses only
after a shortfall of principal and/or interest, or other credit events, in respect of the protected loans and debt
securities, exceeds a specified threshold amount or level of ‘‘first loss.’’
Typically, the credit risk associated with a designated portfolio of loans or debt securities has been tranched into
different layers of risk, which are then analyzed and rated by the credit rating agencies. At origination, there is usually
an equity layer covering the first credit losses in respect of the portfolio up to a specified percentage of the total
portfolio, and then successive layers ranging generally from a BBB-rated layer to one or more AAA-rated layers. A
significant majority of transactions that are rated by rating agencies have risk layers or tranches that were rated AAA
at origination and are immediately junior to the threshold level at which AIGFP’s payment obligation would generally
arise. In transactions that were not rated, AIGFP applied equivalent risk criteria for setting the threshold level for its
payment obligations. Therefore, the risk layer assumed by AIGFP with respect to the designated portfolio of loans or
debt securities in these transactions is often called the ‘‘super senior’’ risk layer, defined as a layer of credit risk senior
to one or more risk layers that have been rated AAA by the credit rating agencies, or if the transaction is not rated,
structured to the equivalent thereto.
The following graphic represents a typical structure of a transaction including the super senior risk layer:
Underlying Asset
Types
SPE or Bank CDS Trade
Regulatory Capital
Gross
Transaction
Notional
Net
Notional
Subordination
AIGFP
Attachment
Point
“Super
Senior”
Risk
Layer or
Reference
Obligation
AIG
FP
AAA
AA
A
BBB
Equity
Multi-sector CDOs
Corporate Arbitrage
Prime Residental
Mortgages
Corporate Loans
RMBS Security
CMBS Security
CDO Security
Other Security
Corporate Debt
CLOs
Regulatory Capital Portfolio
During 2009, $62.9 billion in net notional amount was terminated or matured at no cost to AIGFP. Through
February 17, 2010, AIGFP had also received a formal termination notice with respect to an additional $25.6 billion in
net notional amount with an effective termination date in 2010. AIGFP continues to reassess the expected maturity of
this portfolio. As of December 31, 2009, AIGFP estimated that the weighted average expected maturity of the
portfolio was 1.35 years. AIGFP has not been required to make any payments as part of terminations initiated by
counterparties. The regulatory benefit of these transactions for AIGFP’s financial institution counterparties is
generally derived from the terms of Basel I that existed through the end of 2007 and which is in the process of being
replaced by Basel II. It was expected that financial institution counterparties would have transitioned from Basel I to
Basel II by the end of the two-year adoption period on December 31, 2009, after which they would have received little
or no additional regulatory benefit from these CDS transactions, except in a small number of specific instances.
AIG 2009 Form 10-K 132