Capital Plan Isn't Getting Monkey Off Ambac

Updated from Thursday, Mar. 5, 3:53 p.m. EST

A $1.5 billion offering of capital announced Wednesday is sure to boost shares of beleaguered bond insurer Ambac(ABK Quote), right?

Wrong!

Shares of the New York-based debt insurance outfit nosedived, shedding more than 19% of its value in afternoon trading after the announcement of its huge planned share offering. Ambac has been scrambling to shore up its capital reserve over the past several weeks.

Wall Street has been awaiting an Ambac announcement that would detail plans to allow the company, which guarantees debt instruments ranging from municipal bonds to structured securities, to retain its triple-A rating. Ratings agencies have pressured it and other financial guarantors to shore up capital in the face of the increasing risk of defaults in the debt it insures. But judging by the market's reaction to Ambac's move, the perception of the initiative is largely negative.

Ambac's so-called bailout plan includes an offering of about $1 billion in common stock and $500 million of so-called equity units, according to public filings.

"This capital raise, along with our recent strategic actions, our increased emphasis on risk-adjusted returns over the course of an economic cycle and a six-month suspension of the structured finance business, will strengthen our capital base," said CEO Michael Callen in a written statement. "In this offering, we are targeting our core investor base, the long-term holders of our stock, who have been loyal to Ambac."

Rumors of a consortium of banks being orchestrated in part by New York State Insurance Superintendent Eric Dinallo to help out the cash-strapped bond insurer have been circulating for weeks.

An early version of Ambac's talks indicated that it might have to split its structured business from its municipal business in order to retain its pristine triple-A rating. The Financial Times on Tuesday reported that Ambac had decided against a split.

But investors don't appear to be particularly heartened by the plan that finally emerged from all the rescue chatter. The stock more recently was trading down 15.7% to $9.04.

Rating agency Fitch Ratings also appeared unimpressed by Ambac's capital raising efforts. After the bond insurer's announcement, Fitch said it would keep Ambac at double-A, a step below perfect, and keep the rating on negative watch. A pristine credit rating is critical for guarantors to attract new business.

"Fitch does not believe it will be possible for Ambac to regain its AAA rating until its subprime risk can be effectively contained," a note from the rating agency read.

Callen was more optimistic. He said Ambac expects "to be better-positioned to take advantage of the current favorable market environment for credit enhancement." But the outlook for bond insurance is likely to be quite choppy.

"As a result of the rating agency actions ... as well as significant disruption in the capital markets and investor concern with respect to our financial position, we have been able to write only a limited amount of new financial guarantee business since November 2007, and we have written virtually no new business thus far in 2008," according to a note included in Ambac's offering prospectus submitted with the Securities and Exchange Commission.

The comment echoes earlier statements by larger rival MBIA(MBI Quote) and is a telling sign of what lies ahead for guarantors as they face stiff competition from Assured Guaranty(AGO Quote), a smaller guarantor now backed by billionaire investor Wilbur Ross, and a new municipal bond insurer launched by the Sage of Omaha, Warren Buffett.

An investor relations official for Ambac declined to comment.

Bankers at Credit Suisse (CS Quote) and Citigroup(C Quote), which are helping to lead the offering, were in the middle of a teleconference with Ambac's management about the planned deal and could not be reached for comment.