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Aig Case Summary

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AIG or American Insurance Group is a large insurance company that played a big role in the 2008 financial crisis in which the US government need to bail it out to survive for around $200 billion. It is through its subsidiary AIG financial products that they maintained an accumulated indirect exposures in real-estate-backed debt securities in terms of OTC credit protection on obligations with collateralized debt. Since AIG is at a credit rating of AAA, they are not actually required to post collateral at the time contracts were made. CSA and AIG agreed that it is when their credit rating will be downgraded; they will comply to post collateral then. So as September 2008 went through, they have a credit rating down by 3 levels. So since the insurance…show more content…
their series of transactions will enter in a CCP for OTC markets. There is an uncertain risk that the buyer will default on such transaction. There is also a big risk that the seller of a derivative is not selling in good faith as underlying assets came from complex structures that could clash losses against each other. For these cases, it is better to have a CCP framework in place to strengthen the gaps and circumstances that each parties can take opportunities out of technical aspects such as collaterals, rates and margins. Since CCP intends to regulate such OTC markets by giving enough criteria for trades to take place; collateral management and margining are now surfacing into the picture. These items will set boundaries and reduce counterparty risk, placing trades into an exchange, reducing margins during the process, and simplify the approach for trades. The results of regulation will further define specific rules like types of collaterals to be accepted, risk models, and certain policies on cash collateral, etc. Margins will also play part of regulating the actual initial and variation margins, which affects the movement of mark-to-markets that will improve control on sudden hike of trades at once. So now overall, CCP can help manage and control counterparty risks, prevent derivatives especially OTCs to have over or under collateralization and with a sense of marginal controls to prevent suspicious and abusive transactions to take place on security markets that are not so much regulated by
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