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THE CDO MACHINE
in commercial paper straight onto the bank’s balance sheet, requiring it to come up
with billion in cash as well as more capital to satisfy bank regulators.
The liquidity puts were approved by Citigroup’s Capital Markets Approval Com-
mittee, which was charged with reviewing all new financial products. Deeming
them to be low risk, the company based its opinions on the credit risk of the underly-
ing collateral, but failed to consider the liquidity risk posed by a general market
disruption. The OCC, the supervisor of Citigroup’s largest commercial bank sub -
sidiary, was aware that the bank had issued the liquidity puts. However, the terms of
the OCC’s post-Enron enforcement action focused only on whether Citibank had a
process in place to review the product, and not on the risks of the puts to Citibank’s
balance sheet.
Besides Citigroup, only a few large financial institutions, such as AIG Financial
Products, BNP, WestLB of Germany, and Société Générale of France, wrote signifi-
cant amounts of liquidity puts on commercial paper issued by CDOs. Bank of
America, the biggest commercial bank in the United States, wrote small deals
through but did billion worth in , just before the market crashed.
When asked why other market participants were not writing liquidity puts,
Dominguez stated that Société Générale and BNP were big players in that market.
“You needed to be a bank with a strong balance sheet, access to collateral, and exist-
ing relationships with collateral managers,” he said.
The CDO desk stopped writing liquidity puts in early , when it reached its
internal limits. Citibank’s treasury function had set a billion cap on liquidity
puts; it granted one final exception, bringing the total to billion. Risk manage-
ment had also set a billion risk limit on top-rated asset-backed securities, which
included the liquidity puts. Later, in an October memo, Citigroup’s Financial
Control Group criticized the firm’s pricing of the puts, which failed to consider the
risk that investors would not buy the commercial paper protected by the liquidity
puts when it came due, thereby creating a billion cash demand on Citibank. An
undated and unattributed internal document (believed to have been drafted in )
also questioned one of the practices of Citigroup’s investment bank, which paid
traders on its CDO desk for generating the deals without regard to later losses:
“There is a potential conflict of interest in pricing the liquidity put cheep [sic] so that
more CDO equities can be sold and more structuring fee to be generated.” The re-
sult would be losses so severe that they would help bring the huge financial conglom-
erate to the brink of failure, as we will see.
AIG: “GOLDEN GOOSE FOR THE ENTIRE STREET”
In , American International Group was the largest insurance company in the
world as measured by stock market value: a massive conglomerate with billion
in assets, , employees in countries, and subsidiaries.
But to Wall Street, AIG’s most valuable asset was its credit rating: that it was
awarded the highest possible rating—Aaa by Moody’s since , AAA by S&P since
