Cramer: Bond Insurers Still Worth Nada
A bank-sponsored bailout of the troubled bond insurance sector seems more like wishful thinking than market savior. Rumors leaked Wednesday of a massive rescue plan led by New York Insurance Superintendent Eric Dinallo drove the tattered shares of financial guarantors MBIA ( MBI) and Ambac Financial ( ABK) through the roof, but the cold, harsh reality of the complexities of such a move is now starting to smack the stocks again. Ambac shares were down 17% after seeing a 72% rally Wednesday and MBIA shares were trading down about 11% after soaring 33% the day before.
"Clearly it is important to resolve issues related to the bond insurers as soon as possible," Dinallo wrote in an emailed statement. "However, it must be understood that these are complicated issues involving a number of parties and any effective plan will take some time to finalize." Dinallo declined to comment further through a spokesman. "Complicated," however, is perhaps understating the fact that some of this insurance provided by these once obscure firms, now at the eye of the credit storm gripping Wall Street, is meant to backstop losses on now-shaky debt structured -- in some cases literally -- by rocket scientist cum bankers. "Ultimately, nothing may come of it, but at least he is actively engaged," Thomas Abruzzo, managing director at Fitch Ratings tells TheStreet.com. "
Dinallo doesn't have broad powers per se, but he is in a position to get some people talking and I think that that's a starting point," he adds. Scuttlebutt on the Street yesterday implied that the subprime-battered wonder twins Citigroup ( C) and Merrill Lynch ( MER), among others, might pony up billions to help out the guarantors, also known as monoline insurers. Citi and Merrill and a host of financial institutions should indeed have an incentive to try and prop up the troubled firms, considering that they act as counterparties, providing additional protection for investors in the form of derivative securities known as credit default swaps that could amount to big losses for them should the guarantors go under. But involving firms already swooning from their own misadventures in finance would be a laughable notion, given that both Citi and Merrill have racked up tens of billions in losses tied to mortgage-tainted securities, forcing them to turn to foreign and domestic investors to raise cash to shore up their own balance sheets. Given the enormity of the subprime crisis for Wall Street, Whitney Tilson of T2 Partners says Dinallo's potential move isn't surprising, but adds, "it's far from clear that he will be successful and, if he is, it will likely be on terms that would be onerous at best and disastrous at worst for shareholders," in an emailed note. At stake for monolines is some $2.4 trillion to $2.6 trillion of municipal bonds and structured debt, such as collateralized debt obligations or CDOs, that have plummeted in value as credit markets have dried up. By many accounts, there could be a ripple effect for the financial markets if monolines suffer further downgrades to their credit ratings, as such debt would become riskier to own. Fitch Ratings on Thursday slashed the triple-A rating of Security Capital Assurance ( SCA) subsidiary XL Capital Assurance to single-A from triple-A, after it abandoned plans to raise some $2 billion in cash. Fitch also downgraded SCA itself from double-A to triple-B. Last Friday, Fitch also downgraded Ambac from triple-A to double-A. The ratings agency has appeared to be the most aggressive of the big three ratings firms in its scrutiny. Moody's Investors Service and Standard & Poor's have not yet responded with their own downgrades of monolines, but Moody's has threatened to cut MBIA's triple-A rating.
As a group, the rating agencies have been accused of being late to the game in properly assessing the risk inherent in underwriting insurance linked to opaque debt. The rising concern about the monoline insurers from the agencies is that these firms do not have sufficient funds to cover claims, should defaults in the mortgage market result in defaults and losses in mortgage-linked securities. All the ratings cuts have thus far made it all but impossible for these financial guarantors -- who use their own high credit rating to backstop losses on debt from municipals to funkier debt securities -- to attract any new business. And not just merely because their precious ratings have been slashed. "It's too little too late," Sean Egan, managing director at independent rating agency Egan-Jones tells TheStreet.com. The Philadelphia-based rating firm rates Ambac double-B minus and MBIA single-B plus -- ratings that imply those guarantors are well below the junk rating threshold of triple-B. "A triple-A rating implies that an insurer can pay its obligations come hell or high water. And from our perspective, the monolines don't come any near the triple-A standard," Egan adds. Still, monolines have engaged in a mad dash of capital-raising in an attempt to shore up their coveted ratings. MBIA has already raised about a $1 billion via a cash injection by private equity firm Warburg Pincus, which also agreed to backstop a preferred share offering that has, since it was first offered, fallen in value to about 70 cents on the dollar in the secondary market. And Moody's still is trying to determine if MBIA needs more. Bill Ackman of Pershing Square Capital, a man who is
betting a fortune that some monoline's might fail, estimates that MBIA may need to raise as much as $10 billion to shore up its balance sheet. Dinallo says the bailout plan effort might take "some time," but time appears to be what many of the monolines don't have as their precious market share has been considerably eroded. Even should a Dinallo-led bailout get off the ground, the larger, more pressing issue for these firms is the damage that has been wrought on their reputations. What happens over the next few weeks and months is anyone's guess. And money isn't the only problem. To be sure, the sage of Omaha Warren Buffett's Berkshire Hathaway ( BRKA) has launched his own initiative in attempt to underwrite municipal debt -- a move that would put further pressure on financial guarantors. Already existing competitors of MBIA and Ambac, which have managed to escape the bad underwriting of its rivals, are benefiting in a big way. According to industry newsletter Bond Buyer, financial guarantor Financial Security Assurance Holdings has captured a 52% market share in the monoline space. FSA is owned by Brussels-based bank Dexia. Another firm, Bermuda-based Assured Guaranty is also grabbing share as its peers flounder. Genuine solutions for their troubled peers meanwhile are wide ranging. Observers have suggested that creating a massive consolidation of the most troubled monolines might serve to stave off competition and prevent future failures. In the past, larger monoline insurers have purchased smaller ones. But how such a move would work is unclear in this environment. Some have also suggested that an attempt might be made to separate the bad insurance policies that guarantors have struck on mortgage paper from the more conservative, less troubling insurance underwritten on municipal debt. But that move would have to be approved by the insurance officials in the states where that debt has been underwritten, notes Peter Cohan, consultant at Peter Cohan & Associates.
In any event, many of these notions seem eerily similar to U.S. Treasury Secretary Henry Paulson's failed plan to bailout structured investment vehicles, or SIVs. Egan notes that a government bailout, while farfetched at this point, might be the only viable solution left for the troubled guarantors.