Can Bond Insurers Recover?
The big news for bond insurers today was that Ambac Financial reported a big jump in net income for the second quarter.
New York-based Ambac, which has seen its shares spike in the past week, said net income jumped to $823.1 million, or $2.80 a share, from $173 million, or $1.67 a share, in the year-earlier second quarter, reflecting mark-to-market gains on credit derivatives.
So does this means things are turning around for the struggling insurer and for the embattled industry in general. Not quite, the jump in net income was due to accounting changes which let’s them offset some of the losses from writedowns it took in previous quarters and does nothing to cure the problems they are currently having with their business model.
Writedowns occur when firms have to report market devaluation of their assets. A new accounting rule now allows these firms to report devaluations to their liabilities as well, which would then show up as a gain for them.
The problem for Ambac and MBIA, their largest competitor, is that with their credit ratings in shambles, they are not booking any new business. This time last year, the two companies combined had over 40% of the market share for new municipal bond issues.
Ambac plans to start up a subsidiary concentrated solely on the municipal side, which is a smart move on their part. The new division would start afresh with a top credit rating and let Ambac distance themselves from their disastrous foray into the residential mortgage market.
It might not be that easy though, a number of insurers face pending litigation from municipalities that have had to deal with skyrocketing interest payments when the bonds they insured had their ratings cut. There just may not be a market for their services in the long run, at least in the municipal bond front.
There has been a large backlash from this entire mess and depending on how credit agencies treat municipal ratings from here on out will go a long way in determining if bond insurers have a viable future. Although, even if municipalities do get held to the same credit standards as their corporate brethren, not all of them will receive AAA ratings and some will still benefit from purchasing bond insurance.
The industry will probably have to operate on a smaller scale and the insurers who have had the least exposure to Mortgage Backed Securities(MBS) and other Collateralized Debt Obligations(CDOs) will have a leg up on the competition. Maybe when the housing market recovers one day, insuring MBS and CDOs could be a profitable line of business for insurers.
