TAKING STOCK

In a word, 'buy'

by Malcolm Berko

Dear Mr. Berko: What is your opinion of American International Group now that it too has been besmirched by the subprime mess? Logic tells me to stay away but somehow I feel that the stock may be a bargain at this low price because it dropped 25 points in the last six months. I'm thinking that every once in a while there's a silver lining in a dark cloud. Should I follow my cold, pure logic and forget about this stock or should I listen to my gut and buy 50 shares of this great insurance company?

R.E.

Waterloo, Iowa

Dear R.E.: A logical man would never marry, write poetry or fall in love. And a very wise man (my dad) used to say that: "if you allow logic to govern your life you will have a very boring life." So listen to your gut. It has a way of processing information at lightening speed more efficiently and often more accurately than the myriad hypothetical perambulations required to reach a logical conclusion.

I think American International Group Inc. (AIG-$43.73) is a forthright, downright, outright, flaming "buy." The subprime mortgage mess figuratively and literally decimated this classy insurance conglomerate as well as the market values of the other financial service companies that trade on the Big Board and international exchanges. In mid-October AIG was doodling happily along at $70 a share when - whammo! - the stock began to fall like a coconut from a sky-tall palm tree, all the way to less than $44 a share. Some of AIG's largest shareholders (Fidelity, Dodge & Cox, Vanguard, Growth Fund of America, Davis New York Ventures, State Street, AXA, Barclays, Bank of New York, FMR, etc.) nearly had laundry problems when AIG tripped below the psychological $50 price barrier.

This 30-point crash shook $60 billion from AIG's market cap in three months and generated record trading volume for the stock. The trigger point was AIG's outside limp-wristed accountants. So like many doctors who order myriad tests to avoid any possibility of suit, the popeyed, nerdy accountants said AIG overexposed itself to $63 billion of collateralized debt obligations backed by subprime mortgages. To remedy the problem those pansies insisted on a fourth-quarter write-off of $5.2 billion from earnings.

However this $5.2 billion "mark-to-market" does not affect AIG profitability or it's book value. In fact, as new light shines on AIG's balance sheet, it's easy to see that those nervous nerds grossly overreacted and that most (if not every penny) of that fourth-quarter charge will be reversed and flow back to earnings in the next two years. That huge charge revolves around some cryptic, abstruse accounting issues that effete uptight bureaucrats love to fantasize about but have almost zero effect upon AIG's portfolio performance.

So despite the brutal carnage, two analysts whom I respect believe that AIG will earn at least $5.60 a share for 2007 and $6.70 a share for this year. At the current $43.73 price AIG is trading at an absurdly low 7 percent premium to book value and an extremely attractive 6.5 times expected 2008 earnings. Those numbers are quite attractive compared to industry numbers. In fact AIG's gross margins, its operating margins and net profit margins are well above the industry's averages and are significantly better than its closest competitors. All those numbers suggest that AIG's current price is very attractive for those who will be long-term buyers.

With 20 consecutive years of premium growth, with earnings increasing during 18 of those 20 years and dividends increasing in 19 of those 20 years, AIG lays claim to some very impressive numbers. I'm impressed enough with this insurer that I've recently recommended this issue for many retirement accounts.

Please address your financial questions to Malcolm Berko, P.O. Box 1416, Boca Raton, FL 33429 or e-mail him at malber@comcast.net.
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