AIG: An Investment for All Seasons
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American International Group (NYSE: AIG), commonly referred to as AIG, has become a poster child for federal bailouts, excessive risk, and a system of golden parachutes after its meltdown in the fall of 2008. While the stock fell to pennies in the months surrounding the crash, investors are returning and the government is selling its stake in the company which leaves the question: Is it time to buy AIG?
The AIG Story
When the federal government was forced to bailout AIG they demanded preferred stock yielding ten percent and a nearly eighty percent equity stake in the firm. In the following months, the interest rate on the preferred shares was reduced but the massive equity stake of the government remained. AIG was just happy to remain solvent.
Massive selling drove the shares into penny stock range and the New York Stock Exchange had, and still has, strict rules regarding penny stocks. In February, AIG shares fell below the one dollar threshold and became eligible for delisting from the NYSE. The shares, however, were able to recover and AIG then ran a one-for-twenty reverse stock split in July of 2009 to attract institutional buyers. According to Bloomberg, AIG investors had a brief scare on July 1 when the NYSE accidentally posted a delisting and suspension notice on the NYSE website, which the NYSE later corrected.
After AIG began to find solid ground again, the preferred stake owned by the government was converted into common shares resulting in a 92 percent total share. AIG issued warrants to purchase additional shares to private holders of the stock before the government offering began.
As the gigantic institution that they are, AIG offers numerous ways for investors to invest in them. Each encompasses different amounts of risk and reward but all have recovered to some extent (except the warrants which did not yet exist) from the darkest days of the bailouts and uncertainty.
AIG Subordinated Debentures (NYSE: AFF) and (NYSE: AVF)
AIG issued AFF in 2006 and AVF in 2007, shortly before the company was forced to seek a federal lifeline. Both types of debentures pay a fairly high interest rate (AVF 7.70%, AFF 6.45%) and have a liquidation value of $25.00 per debenture. AFF can be called by AIG at any point now since the call date has past but AVF cannot be called until December 2012.
Both of the series are now trading at or above liquidation, making the yield of the debentures slightly less than the original rate at the time of offering. However it does not seem likely that AIG would plan on calling these debentures in the near future. The company is currently focusing on growth after the sales of many of its units were completed to fulfill bailout requirements. In addition, the company is intent on buying back much of its common stock and plans to buy about $3 billion of shares during the government's next public offering.
General risk: Medium-low
AIG has recovered greatly and is again recording profits. Their credit rating has improved and the market is signaling its reaction by lifting these debentures from single digits to above liquidation. Though there is always the chance AIG could be hiding a bombshell left over from the crash, those chances lessen by the day helping to justify further upgrades in the company's credit rating. These securities will obviously have less to gain from a full AIG recovery but have decent yields, both above 6 percent.
AIG Common Stock
AIG has long been a publicly traded insurance company but the company expanded into other segments as well. The company has subsidiaries of subsidiaries of subsidiaries encompassing insurance from New York to China. AIG even has an aircraft leasing unit that CEO Benmosche said on a recent conference call AIG is looking to sell for the right price (contact him if you're interested).
Unfortunately for shareholders, AIG's practice of insuring sub-prime mortgages blew up in their face resulting in a share price drop of 95 percent and sent AIG running to Washington for money. The reverse split put the actual share price back to a respectable level but leaves recovery for pre-recession shareholders even more difficult. On top of that, existing shareholders were extremely diluted with both the government's stake and the warrant issue to private holders.
But now AIG is profitable again and is trying to grow. The company is divesting or trying to divest what it calls non-core assets to raise cash for share buybacks and growth in the insurance industry. However, according to the Wall Street Journal, AIG is almost certain to remain majority owned by the federal government, even after the government's next planned sale of shares.
This presents a major hurdle for AIG and its shareholders. The government wants out as quick as it can do so and still make a profit or break even. Both Obama and Romney will want to say that under their presidency AIG was returned to the private sector, which further hastens the pressure to sell the government's remaining AIG shares. Continued selling by such a major stakeholder could depress the share price as long as the sale continues. To add to that, the strike price of the warrants is $45.00 per share which could hamper gains beyond the $45.00 level.
Some see AIG as a value play, reasoning that there is significant upside to the shares, which are trading at about 0.5X book value based on the current share price. Aggressive share repurchasing is helping to reduce the effects of the share dilution from the crash. The company is currently able to buyback shares at about half of book value making the practice beneficial to shareholders overall.
General risk: Medium-high
While the share price has recovered, AIG is no blue chip stock. It still faces the challenge of dealing with the majority stake owned by the government, continuing to grow profits after a massive collapse, as well as the general challenges of the insurance industry. That being said, I see significant upside for AIG long term based on its low price to book ratio, its continuing share buybacks, and the company's ability to turn a profit during a time of slow economic growth.
AIG Warrants (AIG.WS)
Unlike the previously mentioned securities, these warrants were not in existence prior to the recession. Their volume is far less than that of the common stock and they are currently out of the money, however they do have a long time to reach their strike price.
The warrants issued by financial institutions such as Wells Fargo, JPMorgan Chase, Bank of America, and Citigroup were issued to the government as part of their bailout packages. The government has since sold the warrants to cover part of the bailout costs. However, AIG's warrants were issued by AIG to their private shareholders prior to the government's first sale of AIG common stock. This was meant to compensate for the dilution resulting from the government's conversion of its preferred stake into common shares.
The warrants allow holders to purchase one share of AIG common for $45.00 and are good until January 19, 2021. The warrants even contain an anti-dilution provision and compensation for dividends paid to common shareholders.
The strike price is well below AIG's stated book value, but many question whether the company will reach that price by 2021 due to continuing economic problems, the competitive insurance industry, and the government's continuing sale of shares.
General risk: High
These warrants are currently out of the money and would require a share price increase of nearly 35 percent to be worth anything at the time of expiration. But AIG's book value could support such a valuation if other uncertainties are cleared up, and growth from this company could drive the securities to much higher levels. Investors in these warrants have two things on their side: time and risk tolerance. After all, sometimes it takes risk to take profits.
The Three AIGs
This article has covered the three main NYSE groups of AIG investments: debentures, common stock, and warrants. There are certainly many other ways to invest in AIG, including bonds and options, each carrying their own risks and benefits. But in a way we are all investors in AIG right now, whether we like it or not.
TulipSpeculator1 has no positions in the stocks mentioned above. The Motley Fool owns shares of Bank of America, Citigroup Inc , JPMorgan Chase & Co., and Wells Fargo & Company and has the following options: short OCT 2012 $33.00 puts on Wells Fargo & Company and short OCT 2012 $36.00 calls on Wells Fargo & Company. Motley Fool newsletter services recommend American International Group and Wells Fargo & Company. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.
