AIG 2009 Annual Report Download - page 195

American International Group, Inc., and Subsidiaries
These provisions provide that, in the case of an early termination of a transaction, AIGFP can set off its receivables
from a counterparty against its payables to the same counterparty arising out of all covered transactions. As a result,
where a legally enforceable netting agreement exists, the fair value of the transaction with the counterparty represents
the net sum of estimated fair values. The fair value of AIGFP’s interest rate, currency, commodity and equity swaps,
options, swaptions, and forward commitments, futures, and forward contracts reported in unrealized gains on swaps,
options and forward transactions approximated $7.6 billion at December 31, 2009 and $16.0 billion at December 31,
2008. Where applicable, these amounts have been determined in accordance with the respective master netting
agreements.
AIGFP evaluates the counterparty credit quality by reference to ratings from rating agencies or, where such ratings
are not available, by internal analysis consistent with the risk rating policies of the CRC. In addition, AIGFP’s credit
approval process involves pre-set counterparty and country credit exposure limits subject to approval by the CRC and,
for particularly credit-intensive transactions, requires approval from the CRC. AIG estimates that the average credit
rating of Capital Markets derivatives counterparties, measured by reference to the fair value of its derivative portfolio
as a whole, is equivalent to the AA rating category.
The following table presents the fair value of Capital Markets derivatives portfolios by counterparty credit rating:
At December 31,
(in millions) 2009 2008
Rating:
AAA $ 896 $ 3,278
AA 1,286 4,963
A3,682 5,815
BBB 1,535 1,694
Below investment grade 213 251
Total $ 7,612 $ 16,001
See Critical Accounting Estimates and Note 11 for additional discussion related to derivative transactions.
Capital Markets Trading VaR
AIGFP attempts to minimize risk in benchmark interest rates, equities, commodities and foreign exchange. Market
exposures in option-implied volatilities, correlations and basis risks are also minimized over time.
AIGFP’s minimal reliance on market risk-driven revenue is reflected in its VaR. AIGFP’s VaR calculation is based
on the interest rate, equity, commodity and foreign exchange risk arising from its portfolio. Credit-related factors,
such as credit spreads or credit default, are not included in AIGFP’s VaR calculation. Because the market risk with
respect to securities available for sale, at market, is substantially hedged, segregation of the financial instruments into
trading and other than trading was not considered necessary. AIGFP operates under established market risk limits
based upon this VaR calculation. In addition, AIGFP back-tests its VaR.
In the calculation of VaR for AIGFP, AIG uses the historical simulation methodology based on estimated changes
to the value of all transactions under explicit changes in market rates and prices within a specific historical time
period. AIGFP attempts to secure reliable and independent current market prices, such as published exchange prices,
external subscription services, such as Bloomberg or Reuters, or third-party or broker quotes. When such prices are
not available, AIGFP uses an internal methodology that includes extrapolation from observable and verifiable prices
nearest to the dates of the transactions. Historically, actual results have not deviated from these models in any
material respect.
AIGFP reports its VaR level using a 95 percent confidence level and a one-day holding period, facilitating risk
comparison with AIGFP’s trading peers and reflecting the fact that market risks can be actively assumed and offset in
AIGFP’s trading portfolio.
187 AIG 2009 Form 10-K