Government purchases $40bn of preferred stock, lowers the interest rate on the loans, and buys mortgage-backed securities and CDOs

The US Federal Reserve has announced the restructuring of the government's financial support to American International Group (AIG).

The Fed said the new measures would help support the company, resolve liquidity issues, facilitate the asset sale plan, promote market stability, and protect the interests of the US government and taxpayers.

Equity purchase

The US Treasury announced that it would purchase $40bn of newly issued AIG preferred shares under the Troubled Asset Relief Program. This purchase will allow the Federal Reserve to reduce the original $85bn bailout loan to $60bn.

Credit facility

The interest rate on the facility will be reduced to three-month Libor plus 300 basis points from the current rate of three-month Libor plus 850 basis points, and the fee on undrawn funds will be reduced to 75 basis points from the current rate of 850 basis points.

The length of the facility will be extended from two years to five years. The facility will continue to be secured by a lien on many of the assets of AIG and of its subsidiaries.

Additional lending facilities

The Fed established two facilities to buy mortgage-backed securities from AIG and collateralized debt obligations on which AIG had written credit default swaps.

Using one facility the Fed said it would purchase up to $22.5bn of residential mortgage-backed securities from AIG.

The $37.8bn securities lending facility established by the New York Fed on October 8, 2008, will be repaid and terminated.

Using another facility, the Fed said it would purchase up to $30bn of multi-sector collateralized debt obligations (CDOs) on which AIG Financial Products has written credit default swap (CDS) contracts.

In connection with the purchase of the CDOs, the CDS counterparties will unwind the related CDS transactions.