MD Congressman to TARP: Did AIG Credit Default Swaps Crater Chrysler?

Discussion in 'Wall St. News' started by ByLoSellHi, May 5, 2009.

  1. *Granted, it's Elijah Cummings, but there are some good points raised IMO.

    MD Congressman to TARP: Did AIG Credit Default Swaps Crater Chrysler?

    By Robert Farago
    May 5, 2009

    May 5, 2009
    The Honorable Neil M. Barofsky
    Office of the Special Inspector General for the Troubled Assets Relief Program
    1500 Pennsylvania Avenue, NW, Suite 1064
    Washington, DC 20220

    Dear Inspector General Barofsky:

    Thank you for your work investigating the American International Group, Inc. (AIG) counterparty payments. I appreciate the update you provided me on this audit on April 28.

    As we discussed, I am also concerned by the circumstances surrounding the current efforts to resuscitate the American automobile industry. The Department of the Treasury and the Federal Reserve have provided billions of dollars in working capital for General Motors (GM) and Chrysler LLC (Chrysler) while the two firms pursue financial restructuring solutions. While the assistance to Chrysler terminated at the end of April, GM has approximately three weeks left to complete its restructuring before the working capital ends.

    The Chrysler situation was particularly troubling. The company had some $10 billion in outstanding debt that was due to the United Auto Workers Retiree Health Plan. Chrysler and the union were able to negotiate an agreement that modified worker contracts and gave the union an equity position in the restructured auto company.

    However, in addition to the contributions owed to the union health plan, Chrysler also carried additional debt in the amount of $6.9 billion. Creditors included JPMorgan Chase & Co., The Goldman Sachs Group Inc., Citigroup Inc., Morgan Stanley, and several smaller banks and hedge funds. Perella Weinberg Partners, Oppenheimer and Stairway Capital Management have been identified thus far as hedge fund creditors.

    As you are well aware, Chrysler recently filed for Chapter 11 bankruptcy protection, though a deal is ostensibly in place to merge Chrysler with the Italian automaker Fiat SpA, pending court approval. Until the filing occurred, eleventh hour hopes persisted that Chrysler could reach an agreement with the creditors that provided the $6.9 billion. While differing accounts exist as to how the actual negotiations played out, the fact remains that Chrysler was not able to reach an agreement with its creditors to the $6.9 billion.

    As an issuer of credit default swaps, it is plausible that AIG had issued swaps on the debt of the American auto companies. We know that the collateral calls and threat of payouts triggered by an AIG bankruptcy forced the federal government to commit up to $182.5 billion to the insurance giant. We also know that many holders of AIG credit default swaps were apparently compensated at 100 percent of par value in order to retire the swaps they held and enable the purchase of the underlying securities (the counterparty payments). Finally, the recipients of the counterparty payments in some cases were the same firms that held auto industry debt. The Wall Street Journal ran a story on April 30, 2009 detailing the objections identified by some creditors:

    Bank-debt holders, many of them hedge funds or distressed debt funds, voted against the latest deal for various reasons, ranging from financial interests to philosophical ones. Some said their funds had bigger positions in Ford Motor Co. or General Motors Corp. and could benefit by a Chrysler bankruptcy and the production capacity that may eliminate. Some funds may also have credit-default swaps on Chrysler bank debt that pay out in the event of a bankruptcy[1].

    These circumstances could create tremendous potential for abuse of government assistance to AIG. Knowing that AIG swap counterparties have previously been paid with government funds without being compelled to take any discount or “haircut”, if auto creditors had purchased swaps on their debt, they may have had a perverse incentive to allow Chrysler to fail. By not negotiating down the claims or accepting a debt-for-equity arrangement, the auto creditors could collect any credit default swap payments triggered by a Chrysler bankruptcy. Essentially, these creditors could stand to potentially benefit more from a Chrysler bankruptcy than from a restructuring out of court.

    While the issues were described in the context of the Chrysler bankruptcy, I believe that potential conflicts could have existed regarding the debt of each Chrysler and GM. Accordingly, I respectfully request that you address the following questions:

    1. Did AIG issue credit default swaps on debt securities of automobile companies?
    2. Did creditors to GM or Chrysler hold credit default swaps on the debt? If so, were these AIG-issued swaps?
    3. How many creditors to the auto companies also received payments as AIG counterparties?
    4. What obligations are owed by the swap issuers to the holders of auto debt in the event of a bankruptcy or other default event?
    5. What was the extent of the potential for abuse of taxpayer funds based on the scenario laid out above?

    Thank you for your continued advocacy on behalf of the American taxpayers and for your examination of these issues. Please contact Martin Levine in my office…with any questions.


    Elijah E. Cummings
    Member of Congress