Bloomberg reports that hedge fund Pershing Square’s chief Bill Ackman has increased pressure on bond insurers and regulators by circulating a new analysis of potential losses to MBIA and Ambac, the two biggest bond insurers, that concludes the damage to each could reach $11.6 billion.
This calculation is arguably more accurate than Ackman’s previous estiimates, since it uses a model provided by an investment bank (they typically get the assistance of the firms the report on in developing their models) and list of CDOs and other securities guaranteed by MBIA and Ambac. Ackman posted the list on the Internet so others can make their own computation; this is the first time the list has been made available (some but not all of the instruments were known to be guaranteed).
Note that the publication of this information likely complicates the insurer rescue effort by instilling some nasty reality. Note that Ackman’s figures are merely the estimated losses; the bond insurers need to raise more than that to maintain their AAAs, which is the real purpose of this exercise. A downgrade to AA or even A is consistent with the insurers still being likely to be able to pay all their claims, yet would inflict considerable losses on the Street.
As we’ve reported in the last couple of days, some of the banks considering participating had been bandying about lower financial requirements than the $15 billion sought by Eric Dinallo; the bottom of the range was a reported $3 billion. They are now going to have to consider bigger numbers than some of them might have been prepared to accept.
Further pressure comes from the fact that Fitch announced that it has downgraded FGIC, the number four bond insurer, to AA, a reduction of two ratings grades. If I were a benevolent dictator, I’d have Fed worrying about the bond insurers and the adequacy of capital in the banking industry, rather than relying on and indirect and inefficient (and prone to side effects) remedy of monetary stimulus).
Update 1/30, 6:50 PM: My wording above may have been a bit oblique. The purpose of the bailout exercise is to preserve MBIA and Ambac’s AAA ratings from Moody’s and S&P (the other insurers, while included in the rescue efforts, are not where the main risk to the financial system lied). An AAA rating implies unquestionable financial capacity. Thus, any fundraising would not merely have to cover losses, but provide a large financial cushion beyond that. Egan Jones has put the total funding need at three times estimated losses, which some have argued is to high. But even if you assume only two times projected losses and you accept Ackman’s $23.2 billion loss estimate, that means Dinallo’s rescue effort is not seeking remotely enough capital.
Update 1/30, 10:00 PM: A reader sent me a copy of Ackman’s letter. I have only looked at it quickly, but a couple of things are noteworthy. First, the model considers only losses on RMBS and ABS CODs. Ackman’s earlier analysis also anticipated that there would be losses on MBIA’s commercial real estate and below investment grade guarantees, so this model may underestimate the downside for MBIA. Second, the Bloomberg story did not mention that Ackman provided two loss estimates for MBIA, the $11.63 billion publicized, and $12.6 billion “of one reincorporated certain 2007 CDOs of ABS that have been reinusred.” I haven’t read the full document yet, but I presume this relates to the possibility of non-performance of MBIA’s captive reinsurer, Channel Re.
First from the Bloomberg story on Ackman’s moves; later an excerpt on the Fitch downgrade:
MBIA Inc. and Ambac Financial Group Inc., the two largest bond insurers, may each lose $11.6 billion on guarantees of residential mortgage securities and some collateralized debt obligations, according to hedge fund manager William Ackman.
Ackman calculated the losses using a model supplied by an unnamed investment bank and sent the findings in a letter to the Securities and Exchange Commission and New York Insurance Superintendent Eric Dinallo. Ackman is a managing partner of Pershing Square Capital Management LP, which is trying to profit from declines in the stocks and bonds of MBIA and Ambac.
Ackman, 41, stepped up his attack by posting on the Internet a list of asset-backed CDOs and other securities guaranteed by Armonk, New York-based MBIA and New York-based Ambac that allows others to craft their own loss predictions. Ackman didn’t say how he got details on the securities, many of which haven’t been disclosed by the companies.
“Up until this point in time, the market and the regulators have had to rely on the bond insurers and the rating agencies to calculate their own losses in what we deem a self-graded exam,” Ackman said in a statement preceding release of the letter. “Now the market will have the opportunity to do its own analysis.”
MBIA fell $3.12, or 20 percent, to $12.86 at 3:42 p.m. in New York Stock Exchange composite trading. Ambac dropped $2.13, or 16 percent, to $10.80. Both companies have lost more than 80 percent of their market value in the past year….
Ambac said Jan. 22 it expects to pay claims on CDOs of $1.1 billion. MBIA said Jan. 9 it will likely report a $737 million expense for the fourth quarter to cover losses related to deteriorating subprime-mortgage securities it guarantees. MBIA is scheduled today to report its fourth-quarter results after the close of regular U.S. equity trading….
In a Jan. 18 letter addressed to the top executives of each ratings company, Ackman said they are underestimating potential losses at MBIA and Ambac by relying on after-tax results, failing to update ratings on reinsurers of bond insurance and ignoring the slide in the commercial mortgage-backed securities market.
In addition to MBIA, Ambac and Security Capital, the other AAA bond insurers are those owned or operated by Assured Guaranty Ltd., CIFG Assurance North America, FGIC Corp. and Financial Security Assurance Inc.
From the Bloomberg story on the FGIC downgrade:
Financial Guaranty Insurance Co., the world’s fourth-largest bond insurer, lost its AAA credit rating at Fitch Ratings after missing a deadline to raise capital.
Financial Guaranty, a unit of New York-based FGIC Corp., was cut two levels to AA, New York-based Fitch said today in a statement. The company had been AAA since at least 1991. Moody’s Investors Service and Standard & Poor’s are also reevaluating their ratings.
The loss of the AAA stamp jeopardizes ratings on bonds Financial Guaranty insured and limits the company’s ability to generate new business……
“This announcement is based on FGIC’s not yet raising new capital, or having executed other risk mitigation measures, to meet Fitch’s AAA capital guidelines within a timeframe consistent with Fitch’s expectations,” the ratings company said today.
FGIC is controlled by Walnut Creek, California-based PMI Group Inc., Blackstone Group LP, and Cypress Group. PMI dropped 27 cents, or 2.9 percent, to $9.16 in New York Stock Exchange composite trading. Blackstone fell 43 cents to $18.56…
About 71 percent of FGIC’s guarantees are on municipal bonds, 23 percent are structured finance and 6 percent are international transactions, according to the company’s Web site. FGIC guaranteed $21 billion of home-equity securities, $8.8 billion of subprime mortgage debt, and $10.3 billion of CDOs backed by subprime mortgages and other loans, the Web site shows….
Blackstone, based in New York, bought Financial Guaranty with PMI Group and Cypress Group from General Electric Co. for $1.9 billion in 2003.