NEW YORK (Bloomberg) — American International Group Inc., the biggest US insurer by assets, may raise $20 billion in a worst-case scenario to reduce future write-downs tied to sub-prime mortgages, said Sanford Bernstein analyst Todd Bault.

The capital may be needed if chief executive officer Robert Willumstad decides to deal with New York-based AIG's holdings "in one go" by selling sub-prime-related investments at a loss and buying the securities tied to credit-default swaps the firm sold to investors, Bault said yesterday in a research note.

AIG has posted losses in three straight quarters as it wrote down the value of swaps by about $25 billion. The contracts, which protect investors from losses on fixed-income holdings, guaranteed $441 billion of assets at the end of June including $57.8 billion in securities tied to sub-prime mortgages.

The $20 billion estimate "seems to be the maximum additional cost investors would have to pay to allow AIG to continue riding out the current market with a greatly increased probability of success", Bault said.

AIG declined 80 cents, or 3.5 percent, to $22.05 in New York Stock Exchange composite trading yesterday. The insurer on August 7 fell the most since going public in 1969 after writing down more than $11 billion of holdings and saying it won't rule out raising more money. AIG has plunged 62 percent this year.

"Fear of another capital raise of some unknown magnitude was the principal fear investors seem to have," Bault said.

The insurer raised $20.3 billion in May by selling debt and equity, diluting the holdings of long-time investors.

Yesterday, AIG sold $3.25 billion of 10-year notes with an 8.25-percent yield.

The notes priced to yield 432.8 basis points more than US Treasuries of similar maturity, according to data compiled by Bloomberg. That compares with a 180 basis-point spread on 10-year notes AIG issued in December. A basis point is 0.01 percentage point.

AIG may buy about $56 billion worth of the collateralised debt obligations that the swaps protect and write them down to 25 cents on the dollar, Bault said. Such a markdown, combined with selling half of $68 billion in sub-prime-related investments, would result in a charge of about $18 billion, Bault said.

Other options would result in a smaller charge and reduced need for capital, he said.