Insurance Quotes & Advice

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.

Jefferson County, Alabama reached an agreement for an extension with it’s creditors late Friday to avoid default.  It has nearly $3.2 billion in outstanding debt for it’s sewer system and had stopped making payments when their interest rates more than doubled back in March.

The county — threatened by the biggest municipal bankruptcy in U.S. history — avoided missing an Aug. 1 deadline to pay $100 million in interest on the debt thanks to the extension, according to county commission President Bettye Fine Collins.

“The extension of the deadline gives Jefferson County a chance to fine-tune a plan that will keep us out of bankruptcy and court,” Collins told the meeting.

Bond markets have been in turmoil ever since a number of insurers lost their top credit ratings which sent prices tumbling and yields soaring for all the debt they guaranteed.  Jefferson is just one of the many municipalities who are struggling with their debt issues as financial markets have gone haywire in the wake of the subprime collapse.

The county refused to pay the higher costs were associated with interest rates that kicked in when investors shunned the auction rate bond market and investment banks who act as brokers refused to buy up the securities to keep the auctions from failing.  In normal times auction rate bonds became popular because it offered communities essentially short term money market rates for long term debt but when auctions failed, interest rates shot up to over 20% in many cases.

Investment banks and bond insurers are facing numerous lawsuits stemming from ratings downgrades due to their risky involvement with residential mortgage securities and other Collateralized Debt Obligations.  Although the new extension gives Jefferson County until Nov. 17, it is seriously considering declaring for bankruptcy protection as it has very few options to meet it’s overwhelming sewer debt.

One can’t help but have sympathy for Jefferson and other communities who are now faced with paying hundreds of millions in higher interest payments through no fault of their own.

Many clients of the bond insurance industry had interest payments skyrocket earlier this year when the auction rate securities market failed.  When many of the bigger names in the industry like Ambac and MBIA lost their top credit ratings, their clients paid the price when demand for bonds that lost their AAA status evaporated.

For years municipalities have been forced to purchase bond insurance due to the dual credit rating system between them and corporate entities.  Despite municipal bonds having a stellar history of low default rates, very few communities earned AAA status so it was just cheaper to purchase bond insurance and get lower borrowing costs.

Most communities were for the most part content with this arrangement until insurers started insuring high risk residential mortgages bundled into Collateralized Debt Obligations(CDOs) and put AAA rated municipal bonds in jeopardy as well.  State and local governments had to pay hundreds of millions in higher interest costs and now many of them are filing lawsuits against the insurers as well as the investment banks that normally purchase bond issues if an auction is in danger of failing.

Lately there has been a strong push from many different sides to abolish the dual rating system and things seem to be moving in that direction.  Ratings agencies are also facing their own intense scrutiny for rating these high risk CDOs as investment grade in the first place.

Let’s face it a lot of companies are going to get sued over this whole fiasco.  When your interest rates shoot over 20% through no fault of your own, you’re taking somebody to court.