CORRECTED: AIG hopes to cover all derivatives with plan

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(Corrects 1st paragraph to make clear AIG is trying to unwind the contracts)

By Lilla Zuill

NEW YORK (Reuters) - American International Group Inc , the giant insurer bailed out by the U.S. government, is trying to figure out how it can unwind contracts that cover $9.7 billion in trades, without asking taxpayers for more money.

The problem underscores the minefield that AIG has to navigate in trying to stop the heavy financial bleeding it has sustained from bets on mortgage debt before the U.S. housing market collapsed. The company's shares dropped 17 cents, or 8.8 percent, to $1.76 in Wednesday morning trade.

AIG spokesman Nicholas Ashooh said unwinding the $9.7 billion in derivatives trades in question is not as straightforward as unwinding others.

AIG, using derivatives, agreed to protect debt for banks and other parties, in deals that forced the insurer to post large amounts of collateral and ultimately seek government help.

Under the government rescue package that swelled to more than $150 billion last month, many of those derivatives transactions can be ended, because a government fund is buying the debt that AIG had guaranteed for banks and other parties.

But for the $9.7 portfolio in question, the parties that bought credit protection do not own the actual debt obligations, making the deals harder to unwind than other transactions.

"It does need a different approach, but we are still addressing all of our financial issues with the package from the Federal Reserve, and we still have capacity under the federal loan," said Ashooh.

As of last month, the U.S. fund had contracted to buy $53.5 billion in toxic mortgage debt from parties that traded with AIG.

The insurer, once the world's biggest by market value, has posted losses of $42.5 billion over the past four quarters, largely because of collateral it had to post for its CDS portfolio.

Ashooh said the $9.7 billion worth of contracts may be addressed through the government-backed fund, called Maiden Lane III. The contracts are not expected to be a cash drain for AIG in the same way that others linked to mortgage debt have been, he said. Two-thirds of the contracts do not carry collateral requirements.

He added that these contracts are a slice of AIG's multi-sector $71.6 billion CDS portfolio, and that no new losses have been incurred. Details were disclosed in a quarterly filing with the U.S. Securities and Exchange Commission last month

"They have always been part of the portfolio," he said.

Through Tuesday's close, AIG shares had fallen 97 percent this year. The government rescue of the insurer left taxpayers holding about 80 percent of the company's shares.

(Reporting by Lilla Zuill; editing by John Wallace)

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