American International Group, the insurer that was rescued by the U.S. government in 2008 after soured bets on mortgage securities, is building a unit to buy individual home loans amid a rebound in the housing market.
AIG plans to buy loans backed by its United Guaranty Corp. unit, the largest seller of traditional private mortgage insurance last year, according to Donna DeMaio, 54, the unit's chief executive officer. The debt will be held as long-term investments by AIG insurance companies.
"You're cutting the middle man out of the securitization process," DeMaio said, referring to bonds that package home loans. The yield on an individual mortgage "is better than if you just bought the paper backed by the whole loan."
AIG CEO Robert Benmosche, 68, said in October the New York- based firm has to find ways to boost returns as the Federal Reserve keeps interest rates near record lows, reducing bond yields. He's also positioning the firm to benefit as the U.S. cuts its role as the largest financier of new loans for American home buyers. Edward J. DeMarco, the Federal Housing Finance Agency's acting director, said this week that he wants to expand the private market for mortgages by shrinking government-owned Fannie Mae and Freddie Mac.
AIG's program is "dovetailing very nicely with what's going on in the market," DeMaio said yesterday in a telephone interview.
The new unit, Connective Mortgage Advisory Co., will evaluate loans made by other lenders for purchase by AIG, said DeMaio, who joined the insurer last year and previously ran MetLife Inc.'s bank. Connective, part of Greensboro, North Carolina-based United Guaranty will use data compiled by the mortgage insurer to help AIG determine which loans to buy. It won't originate loans or bundle them into securities.
"Let's use the expertise within United Guaranty to look at the loans we're already insuring to see if purchasing some of those loans makes sense for the AIG portfolio," DeMaio said.
AIG has boosted investment in U.S. property markets less than five years after real-estate wagers forced the government to rescue the insurer, once the world's largest. The Fed had to step in after AIG sold derivatives to banks protecting them against losses on housing debt, with the U.S. bailout reaching $182.3 billion.
Benmosche's firm last year bought $7.1 billion of mortgage- related securities from Maiden Lane III, a vehicle created by the Federal Reserve Bank of New York to help save AIG. The company has advanced 26 percent in the past year as the insurer sold units and repurchased stock to help end the bailout.
Benmosche has said AIG needs to cut reliance on Wall Street and increase control over the risks the company takes with its investments as part of a strategy to generate better returns. The CEO said at an industry conference in October that AIG may pursue direct investing in real estate.
"We're going to have to figure out how to manufacture our own yields," Benmosche said at the conference. "It's making sure that we are taking control of the risks we're going to put on our books, and we can't rely on the public markets."
AIG invests cash it receives from selling insurance policies in assets such as stocks and bonds. The $376 billion portfolio included $36.1 billion of residential mortgage-backed securities and $12.4 billion of commercial mortgage-backed bonds as of Dec. 31. The firm also has $13.8 billion of direct commercial mortgages and $3.2 billion of investment real estate.
AIG purchased its first residential whole loan last month under the new initiative and Connective is initially hiring about 15 people, according to DeMaio. The insurer will purchase conforming loans and may eventually buy jumbos, or those too big for government programs, she said.
The growing role in mortgage finance comes after AIG scaled back consumer lending amid the financial crisis. The company sold American General Finance Inc. to Fortress Investment Group LLC in 2010 as Benmosche narrowed the focus of his company and reduced debt.
AIG is also considering closing its bank to prepare for increased government regulation such as the Volcker rule, which limits proprietary trading and investing in private equity or hedge funds. MetLife, the largest U.S. life insurer, divested residential mortgage businesses and deposits to give up its bank status, and Hartford Financial Services Group Inc. and Allstate Corp. have also retreated from banking.
United Guaranty was the largest seller of traditional private mortgage coverage last year, according to data from Inside Mortgage Finance. The unit accounted for $9 million of AIG's $6.6 billion in operating profit in 2012. Mortgage guarantors cover losses when homeowners default and foreclosures fail to recoup costs.
Mortgage insurers, such as United Guaranty, MGIC Investment Corp. and Radian Group Inc. are benefiting this year as the U.S. government seeks to encourage more private capital into the market. MGIC has doubled this year and said yesterday it's begun an offering for 135 million common shares and $350 million in convertible senior notes due in 2020. The stock offering would raise about $721 million at yesterday's closing price of $5.34. Radian raised $689 million last week selling stock and notes and has rallied 72 percent since December.
"There is a significant amount of capital interested in our industry," MGIC Chief Financial Officer Michael Lauer said on a conference call with analysts after the Radian offering.
The government is in an "uncomfortable position" because it backs about 90 percent of new mortgages, FHFA's DeMarco said in a speech this week. Fannie Mae and Freddie Mac were seized by the government in 2008 after investments in subprime securities pushed them into insolvency.
"With an uncertain future and a general desire for private capital to re-enter the market, the enterprises' market presence should be reduced gradually over time," DeMarco said.
Restrictive loan standards in a recovering real estate market are also making non-securitized mortgages appealing to yield-hungry investors. The median U.S. home price rose 12 percent in January from a year earlier, the biggest gain since 2005, and an improving labor market has lowered the risk of defaults.
The average credit score for borrowers rose to 749 out of a possible 850 in January, up from 741 in August 2011, according to Ellie Mae Inc., a mortgage software firm in Pleasanton, California.
Banks including Wells Fargo & Co. have been earning record profits from home loans as mortgage rates hover near November's all-time low of 3.3 percent, fueling demand. Redwood Trust Inc., which packages jumbo mortgages into bonds, has returned 94 percent in the past year, including reinvested dividends.
"The companies that are doing lending today, they are doing extremely well, because they're not just willing to give anyone a loan," said David Marcus, CEO of Evermore Global Advisors LLC, which owns AIG shares. "There are great opportunities for companies with the scale of AIG."