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Fatal Risk: A Cautionary Tale of AIG's Corporate Suicide Hardcover – April 5, 2011
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Fatal Risk: A Cautionary Tale of AIG's Corporate Suicide by Roddy Boyd has been longlisted for The FT & Goldman Sachs Business Book Of The Year Award 2011
Members of the seven strong judging panel will decide on a shortlist of up to six finalists in the middle of September.
‘If there is a theme that links most of the 14 titles on the longlist..it is their authors’ quest to work out how and why companies, governments and their leaders fail – and how not to go wrong in the future’
"A vivid portrait of the giant insurer at the center of the 2008 financial crisis."
(The Wall Street Journal)
"The best book of the crisis is Fatal Risk. This is a fabulous book - but it deals with complex subjects without shying away from their complexity and it assumes you have enough knowledge and intelligence to cope. . . This is the best book yet written about any specific episode of the crisis. Buy multiple copies. Give them to your friends. They will be grateful too."
"A sober work that appears to have been researched extremely thoroughly. . . more convincing on the mechanics of AIG's Suicide than it is on any of the deeper motivations."
(The Financial Times)
"Through superb reporting, Boyd has written one of the financial crisis genre's most important works."
"As Roddy Boyd demonstrates in his well-written study of AIG's fall, it was the very solidity of the company's credit rating that led it astray. Painstakingly built over the course of 40 years by an army veteran, Hank Greenberg, AIG was the ideal counterparty for Wall Street. . . For some, the demise of AIG was not the suicide described in the book's title, but an act of murder by Goldman. Mr Boyd argues that the investment bank was acting only as any prudent counterparty would. But the author's analysis is unlikely to dent the conviction of conspiracy theorists that AIG was rescued by Hank Paulson, the former Goldman chief executive turned treasury secretary, to prop up Goldman." (The Economist)
"Engaging and balanced account . . . Many books on the financial meltdown that began in 2007 treat AIG as a plot point in a wider drama. Yet valuable lessons can be gleaned from the narrower account that Boyd lays out here -- lessons about the responsibilities of leaders and regulators as well as the hazards of financial engineering. . . The story of AIG's demise has many moving pieces, large and small, which Boyd meshes into a smooth narrative. . . Boyd is good with dialogue and knows how to keep the story going. His reporting is thorough and fair, even when it comes to Timothy F. Geithner's risible assertions that it wasn't the Federal Reserve's job to pop bubbles."
The best book on the financial crisis, and . . . favorite piece of non-fiction work since Michael Lewis' The Big Short. . . The reporting here is incredible."
(Distressed Debt Investing)
"A 10 best finance book.
Does the ongoing financial turmoil leave you scratching your head? Worry not, here's our pick of the finest - and most readable - books about Big Money..."
'Fatal Risk is must reading for market insiders, investors, business leaders, and anyone who's wondered what really happened in 2008.’ (Hereisthecity.com, April 2011).
'researched extremely thoroughly’ (Financial Times, April 2011).
‘…a vivid portrait of the giant insurer at the center of the 2008 financial crisis.’ (Wall Street Journal Europe, April 2011).
‘A cautionary tale of corporate hubris.’ (Ethical Corporation Magazine, May 2011).
‘…Boyd is good with dialogue and knows how to keep the story going’. (Bloomberg.com, June 2011).
From the Inside Flap
"As author of Fatal Risk . . . I would have found my job much easier if Goldman truly were the real culprit in this saga."
[from "AIG and Goldman Sachs: The Deceptive Blame Game," appearing on TheFinancialInvestigator.com, July 2010]
There certainly has been no dearth of reporting on the causes of the 2008 financial meltdown. Thousands of gallons of ink have been spilled decrying the gross incompetence, if not downright criminality, of mortgage lenders, the wildly excessive risk-taking of Wall Street banks, the cravenness and collusion of the ratings agencies, and the willful ignorance of regulators. Yet absent from the orgy of righteous finger-pointing has been any substantive coverage of AIG, the looming giant in the eye of the tempest—the one company about which it can truly be said that, if it had been allowed to collapse, it would have dragged the entire world financial system down with it.
Fatal Risk is the riveting inside account of how Maurice "Hank" Greenberg, the storied combat veteran and driven entrepreneur, took a motley collection of insurance companies and built them into the world's most innovative and daring financial conglomerate. Made rich and powerful through Greenberg's iron will and vision, AIG was unprepared for his dramatic ouster in 2005. As the company recovered from a bruising regulatory battle, its management did not understand what risks were being taken onto its once mighty balance sheet in the name of a quick buck. As the CDO and real estate markets imploded, AIG's role as the indispensable giant at the corner of Main Street and Wall Street nearly brought down the world financial system.
Perhaps most controversially, investigative reporter Roddy Boyd argues that, contrary to conventional wisdom, Goldman Sachs, and the billions in collateral calls it made on AIG's Financial Products unit, was not the sole cause of the company's downfall. Drawing upon a host of sources—from Hank Greenberg to senior Goldman executives; current and former AIG leaders and board members; to legendary short-seller Jim Chanos and Federal Reserve officials—Boyd makes a compelling case that AIG's collapse was an inside job. It took several generations of tireless work and measured risk-taking to build AIG into a AAA-rated juggernaut, but it took only a few years of profit and bonus chasing from a handful of previously unknown executives to bring the world's most important company to its knees.
A cautionary tale of corporate hubris and the enthralling, never-before-told story of how an insurance company became a central player in the global financial meltdown, Fatal Risk is must reading for market insiders, investors, business leaders, and anyone who's wondered what really happened in 2008.
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Of course, any book about AIG has to tell the story of the remarkable Maurice "Hank" Greenberg, who was CEO of AIG from 1968 through 2005. Starting with a "far-flung and not terribly profitable" business, Greenberg built AIG into the largest and most respected insurance company in the world. We learn the story of how Greenberg served in World War 2 (landing on Omaha Beach on D-Day and participating in the liberation of the Dachau concentration camp) and in the Korean War, and how three days after his discharge he talked his way into an entry-level insurance job in New York, rose quickly through the ranks, and ended up at AIG a few years later. The book also tells the story of how the capital markets subsidiary AIG Financial Products (AIG-FP) was established in 1987, as a joint venture with the "absurdly intelligent" Howard Sosin, formerly of Drexel. While AIG-FP under Sosin was hugely successful, Greenberg forced Sosin out in 1993 because he was uncomfortable with the risks of some of AIG-FP's transactions. This is the first piece of a great deal of persuasive evidence from Boyd that AIG-FP's CDO losses in 2007-2008 would not have happened if Greenberg had still been the CEO of AIG.
So why was Greenberg not still the CEO in 2007? Boyd explains how this is largely because of the cynical and disgusting behavior of Eliot Spitzer, who at the time was the New York State Attorney General. Spitzer wanted to be elected Governor and his strategy was to prosecute the rich and the powerful, which he believed would be highly popular in the wake of the Enron scandal. Boyd explains how Spitzer's pretext was some questionable AIG transactions in 2000 and 2001. No matter that nobody was ever able to prove that Greenberg had any knowledge of these transactions (which amounted to a minuscule fraction of AIG's earnings), Spitzer was determined to remove Greenberg and threatened AIG with a corporate indictment if they did not fire him. Unfortunately, the AIG board was craven enough to cave in to Spitzer's demand. Spitzer's later conduct caused "utter disbelief" for Greenberg and his legal team. In a "freeform riff" on TV with George Stephanopoulos, Spitzer pronounced Greenberg guilty of fraud; as Boyd puts it, "the most powerful Attorney General in America was simply cutting out the annoying and tedious business of mustering evidence and filing suit, and pronounced Greenberg guilty". Every Spitzer episode leaves a nasty taste in your mouth, from the time Spitzer planned to have Greenberg arrested, to the threat to expand his investigation to the Starr (charitable) Foundation, based upon a summer intern in Spitzer's office misunderstanding some documents. (All of the criminal charges against Greenberg were dropped, and Spitzer has a "stunning record of losses and reversals" in his other high-profile prosecutions).
Spitzer is by far the least sympathetic character in this whole sorry saga. The dogged pursuit of Greenberg by this ambitious politician (who it later transpired was simultaneously prosecuting and patronizing prostitution rings) resulted in Greenberg being replaced by the affable but incompetent Martin Sullivan. Moreover, Spitzer forced AIG to abandon their plan for Greenberg to work with Sullivan during a transition period. So the highly risk-averse Greenberg was abruptly gone; the man who insisted on "detailed contingency plans for AIG's survival in the event of a nuclear attack on New York", and who personally grilled AIG-FP's Tokyo trader about the $10 million loss resulting from the collapse of Barings Bank (due to the unauthorized trading of Nick Leeson) was gone, replaced by Sullivan who apparently had no interest whatsoever in risk management.
Meanwhile at FP, Sosin was succeeded by the avuncular and widely respected Tom Savage, who had a well-known aversion to mortgage-related transactions, due to their "unanalyzable credit and unquantifiable risk". Savage had a much better relationship with Greenberg than Sosin had, and made sure to keep him very well informed of the details and risks of all of the transactions at FP. Given Greenberg's gimlet-eyed approach to risk management, and Savage's discomfort with mortgage risk, it is inconceivable that FP would have transacted the swaps that proved to be fatal if either man had remained in place. However, Greenberg was gone because of Spitzer's political ambition, and in 2001 Savage and his family wanted to move to a warmer climate and Savage was succeeded by Joe Cassano, who was much more comfortable taking mortgage risk than Savage had been. Boyd explains how FP's mortgage swap business ballooned under the Sullivan-Cassano regime; they "plugged a handful of variables into a 7-year old computer model; somehow the model always said 'yes' ". In 2005 a couple of AIG-FP traders were prescient enough to realize the growing risks of the subprime mortgage market, and because of this AIG-FP stopped executing these transactions in 2006. (Given that AIG-FP was aware of, and uncomfortable with, the subprime mortgage risk, it is inexplicable that while they stopped doing new transactions, they did not attempt to unwind or hedge the transactions that they had already closed). While AIG was kept informed of these transactions, it is incredible that there was "not a single instance of a New York-based senior manager sending so much as an inquisitive email about a swaps portfolio that amounted to 75 percent of AIG's equity base". It is very safe to say that this would not have been the case had Greenberg still been the CEO.
While most readers will already be familiar with the story of AIG-FP and its subprime swap portfolio, Boyd also describes another shocking reason for AIG's collapse that has received much less publicity. This is the story of the AIG Global Securities Lending program, which was run by AIG's Chief Investment Officer, Win Neuger. Neuger was responsible for investing the policyholder cash coming in from AIG's life insurance subsidiaries. When Greenberg was CEO he ensured that the fund was essentially riskless (Boyd describes one incident of Greenberg being absolutely livid when the fund made a small loss). However, as soon as Greenberg was gone Neuger pounced, quickly removing language from the prospectus that referred to "safety of funds" and "limitations on investment in derivatives", and loading up on subprime mortgage securities in a quest for what he referred to as "Ten Cubed", which was the goal of raising his unit's annual income to $1 billion. When the value of these assets crashed, there was no immediate problem because any redemptions could be funded by new cash that was coming into the program. This may remind you of Bernie Madoff, and for good reason; Boyd points out that Neuger was effectively running a giant Ponzi scheme. Instead of being disgraced and going to prison for life, however, Neuger's "corporate star remained ascendant and he earned $8.78 million for his work". And this all took place in AIG's New York offices under the not-so-watchful eyes of Martin Sullivan and his risk management executives. It is utterly inconceivable that anything like this would have happened under Greenberg.
"Fatal Risk" is a riveting read for anyone who wants to know the story of AIG and AIG Financial Products, the disgusting and undeserved hounding of Hank Greenberg by Eliot Spitzer, and the establishment and horrible consequences of Joe Cassano's swap book and Win Neuger's Ponzi scheme. On the negative side, I hate to nitpick but the book has a somewhat slapdash feel to it due to several spelling and grammatical errors ("This was even aggressive even for Hank", "AIG had just true constituent at that moment", and even the dreaded "seperate"). There are also some small factual errors; it's "Kelley Kirklin", not "Kelly Kirkland", and "Robert Hirst", not "Michael Hurst"; the aquarium in AIG-FP's Westport office was installed for Howard Sosin; and 10 basis points on $1 million is $1000, not $100,000. I noticed only one major error, and that is in the epilogue which states that AIG is "sporting, as of this writing [in January 2011], a stock price north of $54". While strictly speaking this is true, a very important caveat is omitted. Earlier in the book Boyd mentions that the September 2002 stock price was in the low $50s which may lead the reader to believe that in 2011 AIG's stock had risen back to its September 2002 level. However, in 2009 there was a 1-for-20 reverse stock split which means that the January 2011 stock price was effectively 95% below its September 2002 level. AIG has recovered to some degree but not to the extent that Boyd implies.
Also on a negative note, this book also reads more like a draft for editorial review than an final document ready to be published. Too many typos and unreadable sentences hamper to readability of the book.
However, on a positive note, this is easily the best account of what went wrong at the AIG. There are new insights here about the AIG that are not present in any other text. Here are my takeaways, in order of importance.
1. Lack of focus on risk.
Boyd wisely focuses on the basic problem in FP's decision to sell the AAA financial rating of AIG's balance sheet for a small sum (11 basis points) with almost no critical evaluation of the risk of a individual deal exploding and a flawed assumption regarding almost zero risk of a systemic loss to the total FP CDS portfolio, i.e. that the probability of no loss was 99.5% and that it would require a recurrence of the Great Depression and the 1929 Crash to a correlated loss. He also argues that the AIG leadership under Martin Sullivan had no idea that these CDS agreements included a "collateral call" provision (called a CSA) and that no one inside AIG understood the risk these calls presented. According to Boyd, the CDS deals required the AIG to post collateral if there was more than a 4% deviation from par value in the mark-to market valuations of the contracts. If there is one fatal error that AIG committed, that would be the failure to understand the CSA risk. Goldman Sachs reportedly viewed these provisions as critical and were the first to demand a call from AIG. beginning with $1.8 billion. Yet another form of collateral call appears to have been required only if AIG lost its AAA credit rating. In one article on this issue several years ago, Joe Nocera reported in his NYT article that these provisions were not needed, that they were the main source of AIG's problems, and that the CDS contracts could have been written without them. He also claimed that FP got only a few extra basis points in fees for what they thought was the impossible scenario of AIG being down-graded. Some clarity on these differing collateral call provisions would be a great idea for further research, with a sample (redacted) contract included so we can better understand what these agreements stated.
2. Not just an FP problem
Boyd notes that the Securities Lending practices of AIG's capital management team in NYC (beginning after MRG's departure) contributed significantly to the financial problems of the company, and were essentially a Ponzi scheme (with an interesting comparison posed to Madoff). So FP does not fully account for all of the empire's woes. This is new. That this happened in 70 Pine Street in the shadow of the CEO and CFO also shows the extent of management change in the years following Hank's departure. Boyd is spot on in saying that this would not have happened with MRG at the helm. No way.
3. NAIC was not oblivious
Boyd also notes that the Texas Insurance Department was quick to recognize the changes in the Securities Lending group and, together with the NYC DOI, was about to seize control of certain AIG insurers immediately prior to the September 2008 meltdown. Generally, there is a perception that the NAIC was asleep at the switch, but this is clearly wrong.
4. PWC deserves a lot of credit not buying smoke and mirrors
In addition, Boys also gives the AIG auditor, PwC credit for getting the Board to oust Sullivan and to pay attention to what the FP operation. A lot of people wonder where the CPA auditors were in exerting their proper role during the crisis, but here is an example of a CPA firm that - at least as much as Spitzer - got AIG to understand that it was in trouble and in need of management changes.
5. FP operations was not entirely in London - regulators in USA had jurisdiction
Boyd also shows that, contrary to popular thinking, the questionable CDS underwriting did not occur entirely in London. In fact the senior fellow at the London shop was quite early to question the risks being assumed. Although the actual CDS contracts may have been in London, the key decision makers were in Wilton, CT. So this debunks the theory that US regulators simply were not able to exert any jurisdiction over what was going on (see Theresa Vaughan of NAIC testimony report to Congress).
6. OTS audits failed to catch CSA risk
Although he does not sink to the ultimate cop-out of claiming the AIG's malaise was a "perfect storm," Boyd does try too hard at times to rationalize the shortcomings that could have stopped the madness. For example, he mentions two audits that were conducted by the OTS of the FP agreements, and gives the OTS some credit in finding some problems in the second audit. However, he explains away the challenge of discovering the cancerous CSA provisions embedded within the CDS contracts as being "prohibitive" in terms of the time and effort required to dig into all of FP's contracts. On this point I strongly disagree: A random sample of just a few files could have exposed the presence of these deadly collateral call provisions, and the fact that FP was assuming that there was almost no change of a widespread need for these calls to exercised. The CDS contract files including details of the collateral call provisions could have been shipped in boxes from London, or scanned for electronic review by anyone, anywhere.
6. Excellent but undeveloped ideas in closing chapters
Although underdeveloped, the narrative argues that the repeal of Glass Steagle by GLB in 1999 was a critical event that fueled the development of CDOs and CDS products as the five investment banks in creased their leverage in an effort to competed with the major bank holding companies. This in turn accelerated the need for these investment bankers to secure their credit risk exposures through the purchase of guarantees from AIG or other insurers (such as AMBAC or MBIA). The final chapter develops this theme, but I would the discussion less than complete. In closing this book, Boyd raised some prescient questions or points that beg further discussion, like why were so many insurers and investment banks given the right to cheap new funding by being allowed to become bank holding companies when this right was not granted to AIG, and also - on a macro level - why it is rational for a country with over 9% unemployment to have a DOW that is around 12,000? Although more could have been said, he leaves the reader with much to consider going beyond the boundaries of the AIG.
To go from good to great, in addition to some editing, this book needs a comprehensive summary chapter tying together all the disparate good ideas and "lessons learned" that are strewn throughout the its 300 plus pages. If it goes to a second edition, Boyd could achieve this goal with a new Introduction or a revised Epilogue.
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Whilst the background to the crisis and role played by AIGFP and other units was enlightening, I felt the author was a little...Read more