MBIA/Bank of America Settlement Odds Increase: Analysts

NEW YORK ( TheStreet) -- MBIA ( MBI) and Bank of America ( BAC) are increasingly likely to settle their long-running and complex legal dispute over troubled mortgages following MBIA's recent success in amending certain of its bond obligations, according to a report Thursday from bond research firm Creditsights that follows a discussion with MBIA CFO Chuck Chaplin.

MBIA on Monday announced it had convinced bondholders to change the terms of bond obligations to prevent a "cross default," in which a default by struggling securitization subsidiary MBIA Insurance would accelerate payments on other debt, imperiling MBIA's relatively healthy municipal debt insurance business.

Bank of America had tried to block MBIA's maneuver in order to force the insurer into a less favorable negotiating position. MBIA wants Bank of America to assume responsibility for some $6 billion in mortgage bonds MBIA insured because it contends some of the mortgages, sold by Bank of America subsidiary Countrywide Financial, were defective.

MBIA's successful amendment of its bonds "has materially reduced Bank of America's leverage in any settlement negotiations," according to the Creditsights report by analyst Rob Haines, which adds, "we see a greater likelihood of a settlement by year-end 2012 or early 2013."

Analyst estimates of a settlement have ranged from $2 billion to $3.5 billion. Creditsights, which does not include its estimate of the size of a prospective settlement in its report, argues a comprehensive settlement would make it "very likely that MBIA Insurance Corp. will be able to survive without a regulatory seizure."

Further weakening Bank of America's negotiating position is that Creditsights believes the bank has insured its $6 billion in mortgage bonds via the purchase of credit default swaps (CDS). According to Creditsights' report, CDS are technically not viewed as insurance by regulators. As a result, if MBIA Insurance were to be seized by regulators due to its financial distress, Bank of America would likely have to stand in line behind other creditors of the company before it could collect any of its $6 billion.

The CDS market views MBIA Insurance bonds--which would likely have to be paid in full before Bank of America recouped any of its $6 billion, as likely to recover just 40 cents on the dollar. In other words, Bank of America would likely receive none of the $6 billion in protection it bought. However, Creditsights believes Bank of America could conceivably argue its CDS are insurance because of an agreement between MBIA's parent company and LaCrosse Financial Products, the unit that wrote the contracts.

"It could be argued that because a traditional financial guarantee policy exists between MBIA Corp. and LaCrosse, the CDS issued out of LaCrosse carry the same status as insurance contracts. Politics will inevitably play a role in any decision made by New York state insurance regulators and the issue is likely to be extensively litigated," Creditsights argues in its report.

The likelihood of a settlement between Bank of America and MBIA has been central to the thesis of analysts Mark Palmer of BTIG Securities and Harry Fong of MKM Partners, both of whom expect MBIA shares to roughly double over the next 12 months. Creditsights, which primarily focuses on bonds, makes no recommendation on MBIA's stock in its report, though a report Haines wrote in August valued the equity at $15.50. MBIA shares were up 0.57% to $8.89in early trading Thursday.

-- Written by Dan Freed in New York.

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