American International Group, one of the biggest U.S. mortgage lenders, warned on Thursday that mortgage defaults are spreading.

While saying most of its mortgage insurance and residential loans were safe, AIG made a presentation to analysts and investors that showed delinquencies are becoming more common among borrowers in the category just above subprime.

Although acknowledging the significant declines in subprime securities, Chief Executive Martin Sullivan said AIG's tight underwriting standards had minimized losses and he was poised to take advantage of opportunities in the mortgage market.

But it was clear the overall market was getting worse.

We are experiencing stress in the Midwest markets where jobs have been lost and we are now seeing it in Florida and California, said William Nutt Jr., chief executive of AIG's mortgage insurance arm.

AIG shares were at $65.60, down 88 cents, or 1.32 percent, in afternoon trading on the New York Stock Exchange. The Standard & Poor's insurance index was down 2 percent.

'PANIC MODE'

The market's in a panic mode because the subprime crisis is spreading into other areas of the economy, said Bill Hackney, a managing partner of Atlanta Capital Management.

But Hackney said he was keeping AIG as one of his largest holdings because it had the size and diversity to weather it.

On Wednesday, AIG reported second quarter earnings that included a pretax operating loss of $78 million in its mortgage insurance unit and a decline in earnings at its consumer finance division, which originates and invests in real estate loans.

But higher premiums in life and property insurance offset the drop, and net earnings rose by more than a third to $4.28 billion, or $1.64 a share.

AIG said delinquency rates for first mortgages had risen to 3.98 percent in June from 3.56 percent in April and a low of 3.08 percent in July 2005. First mortgages represent 90 percent of AIG's domestic mortgage business.

You never have credit problems isolated to just one area, said Paul Newsome, an analyst with A.G. Edwards.

The loss ratio for first mortgages, which represents claims and expenses as a percentage of premiums, more than tripled in the second quarter to 84 percent from 26 percent a year ago. The total loss ratio -- including second mortgages -- nearly quadrupled to 130 percent.

'WHISTLING IN THE DARK'

AIG divided its mortgage portfolio into three categories: subprime, for borrowers with credit scores below 620; nonprime, for borrowers with credit scores between 620 and 659, and prime, for borrowers with credit ratings above 660.

As of June 30, AIG's consumer finance arm had delinquencies of 3.68 percent in subprime, 2.13 percent in nonprime, and 0.81 percent in prime.

AIG, the world's largest insurer, said total delinquencies in its $25.9 billion mortgage insurance portfolio were 2.5 percent, but it did not give year-ago figures.

It said 10.8 percent of subprime mortgages and 4.6 percent in the category with credit scores just above subprime were 60 days overdue.

Problems in July have gone beyond the subprime market, said Bill Bergman, an analyst with Morningstar. Maybe not AIG, but some of these lenders have been whistling in the dark.

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