Josh gets to the key question we should be asking these days regarding AIG in today's article of the day - is AIG really too big to fail?

However, to illustrate the scope of the potential problem, he unknowingly perpetrates a misunderstanding.

Josh states that "AIGFP's potential derivative exposure stands at $1.6 trillion", as if this number is a ready equivalent of the size of the problem still to be tackled at AIGFP.  This figure apparently derives from Lucian Bebchuk's article in the Wall Street Journal.  Bebchuk, in turn, is getting it from AIG's own statements that $1.6 trillion represents its "notional derivative exposure".

I will assume,  because Josh does, that here AIG's exposure is simply AIGFP's exposure, so that we are talking about the current risks of AIGFP's business and not the shenanigans of any other division. 

$1.6 trillion is a scary number - but is it even timely?  Moreover, we need to make sure we are parsing "notional derivative exposure" accurately. What does this verbiage actually mean? Is "notional derivative exposure" simply the sum of the worst-case outcome of all the firm's current derivative positions, including the value of all collateral that might need to be provided to support those positions?  It could be.  But it would only be scary if one, it's accurate and timely, and two, it takes into account the extent to which AIGFP's current risk businesses are hedged.

Gerry Pasciucco, the current chief operating officer of AIGFP, doesn't seem to think he's presiding over a $1.6 trillion potential nightmare.  Actually, he's talking like there's not much to worry about any more.  Since he worked at Morgan Stanley for 24 years in capital markets and risk assessment before coming in to close AIG-FP down, I suspect he may know what he's talking about.

 As I've already blogged - but it bears repeating -Pasciucco stated to the  Washington Post  that the mortgage CDS's have been almost completely expunged:

In actuality, he said, nearly all the troublesome sectors of the business -- namely, the risky credit derivatives written on mortgage-backed securities -- are now out of the equation, as are the people who worked on them. That leaves a small number of employees to untangle the remaining trades in four main areas: commodities, interest rates, currency and equities -- most of which were fully hedged and have caused little problem.

Here is the guy currently running AIGFP saying that the worst is behind us, that the most toxic waste is gone, and that whatever risks remain are properly covered (something AIG was actually good at before CDS's got out of control).

So my question to Josh and Bebchuk is - why go on using AIG's $1.6 trillion scare-math as a benchmark to quantify the scope of the problem?