Ambac Tells Nasty Fitch to Go Away As Shorts Vindicated

Well, Ambac seems to be resorting to a strategy popular among those in denial:rather than admit you need to lose weight to stave off a heart attack, throw away the scale instead.

Ambac has decided to fire Fitch as one of its rating agencies. And why is that? Well, Fitch had the bad taste to bite the hand that feeds it (remember, fees are paid by the companies) by issuing ratings that are somewhat more candid than Standard & Poor’s and Moody’s. Fitch was the first to downgrade Ambac to AA (although the newly-established Moody’s indicative rating scale, which shows the rating implicit in credit default swap spreads, shows both MBIA and Ambac to be junk credits).

Appallingly, the Wall Street Journal, rather than flagging that this action calls the integrity of the ratings process into question, instead takes the tack that companies will start fighting newly emboldened (more accurately, no longer asleep at the switch) ratings agencies:

The move raises new questions about whether companies, particularly financial firms, will become more aggressive in criticizing how the credit raters do their job and the validity some give those grades and how they are handed out.

Hopefully, Fitch will get more out of this in profile than it loses in fees. It had indicated that it will continue to rate MBIA as long as it feels it can do so accurately. No announcement has yet been made relative to Ambac, but one assumes Fitch will take the same stance.

Illustrating how greater world views the monolines, Bloomberg says the struggle is over, despite the bond guarantors trying to fight a rearguard action in “Bill Ackman Was Right: MBIA, Ambac on `Ratings Cliff’“:

Bill Ackman was right: the world’s largest bond insurers aren’t worthy of a AAA credit rating and may be headed for the bottom of the scale….

That once-unthinkable scenario would trigger clauses in $400 billion of derivative contracts written to insure collateralized debt obligations and other securities, allowing policyholders to demand immediate payment for market losses, which have reached $20 billion, according to company filings. Downgrades of the insurers would cause a drop in rankings for the $2 trillion of debt that the companies guarantee, wiping out the value of the CDO insurance held by Wall Street firms, analysts at Oppenheimer & Co. said.

“Given the volume of credit-default swap contracts the industry has written, there is a real element of a ratings cliff across the bond insurance sector,” said Fitch managing director Thomas Abruzzo, the first analyst to strip MBIA and Ambac of their top ratings….

Ackman said CIFG “provides a road map for what happens to a bond insurer when its capital is depleted.” …

CIFG, XL Capital Assurance, and FGIC’s insurance unit may all fall short of regulatory capital requirements by June 30, according to Robert Haines, an analyst with CreditSights Inc. in New York.

Downgrades may cause Citigroup Inc., Merrill Lynch & Co. and UBS AG to write down the value of insured-debt holdings by at least $10 billion, according to Meredith Whitney, an analyst at Oppenheimer in New York. Banks and insurance companies would also be required by regulators to hold more capital to protect against losses on lower-rated debt, according to analysts at Charlotte, North Carolina-based Wachovia Corp.

CIFG is working on a plan to bolster capital, spokesman Michael Ballinger said. Because MBIA has a surplus of $3.9 billion, insolvency is “both highly theoretical and extremely unlikely,” Kevin Brown, a spokesman for MBIA said in an e-mailed statement…

Instead of writing standard insurance policies for the CDOs, the companies provided guarantees in the form of credit-default swap contracts, financial instruments that allow one party to assume the risk of a security defaulting in exchange for a fee from another….

Unlike insurance, the swaps include so-called termination clauses that can be triggered if a company becomes insolvent, Mackin said. The feature requires insurers to compensate CDO holders for any drop in value, or mark-to-market loss, on the securities….

The credit ratings of some CDOs have tumbled so far that the insurers have recorded combined unrealized losses of at least $20 billion.

Some companies’ termination payments would eat up all their claims-paying resources, according to filings and rating company reports….

In a June 8 report, CreditSights’ Haines wrote that “statutory surplus levels at some of the monoline financial guarantors are extremely alarming.”…

Even in an insolvency, regulators may step in to halt the payments or banks may decide not to demand compensation, Abruzzo said. ACA Financial Guaranty Corp. has reached five agreements with banks since December, allowing it to avoid posting collateral on CDOs it guaranteed using swaps. ACA has been cut to CCC by S&P…..

MBIA and Ambac may need to raise capital to avoid becoming insolvent if loss reserves continue at the recent pace, Haines said. The companies were both cut to AA from AAA by Fitch and S&P. Moody’s said on June 4 that it probably will also reduce its ratings…

In the past two quarters, MBIA’s insurance unit set aside reserves of $2 billion to cover losses on $51 billion of guarantees on home-equity securities and CDOs backed by subprime mortgages.

Ambac booked about $2 billion of loss reserves, leaving it with a statutory surplus of $3.6 billion. It guaranteed around $47 billion of CDOs and home-equity debt.

While both companies are above the regulatory capital requirements, S&P said in a February report that in a “stress case scenario,” MBIA may be forced to pay a total $7.9 billion in claims on a present-value basis and Ambac may be forced to pay $6.2 billion.

“That’s what puts these companies into the nightmare scenario,” CreditSights’ Haines said.

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  1. Anonymous

    Here is a clue as to how this may work, or not:

    The noteholders, via a written resolution, have removed Fitch as a rating agency from the governing documents of the transaction. As a result of this resolution, Fitch will no longer receive ongoing portfolio information on the transaction.

  2. Anonymous

    What is the law here in regard to dropping rating agencies? Anyone know? There must be conditions and restrictions to how the articles of incorporation allow this to happen — versus just telling rating agencies to piss off?

    Re: ligible Account: Any of (i) an account or accounts maintained with a federal or state chartered depository institution or trust company the short-term unsecured debt obligations of which (or, in the case of a depository institution or trust company that is the principal subsidiary of a holding company, the debt obligations of such holding company) have the highest short-term ratings of each Rating Agency at the time any amounts are held on deposit therein, provided, however, that, within 30 days of a downgrade, the Securities Administrator, as Paying Agent, shall, at its own cost, transfer all funds held in such account to another account having the highest short-term ratings of each Rating Agency at the time any amounts are held on deposit therein, or (ii) so long as S&P is not rating the transaction, a segregated trust account or accounts in a depository institution or trust company in which such accounts are insured by the FDIC or the SAIF (to the limits established by the FDIC or the SAIF) and the uninsured deposits in which accounts are otherwise secured such that, as evidenced by an Opinion of Counsel delivered to the Trustee, the Securities Administrator and to each Rating Agency, the Certificateholders have a claim with respect to the funds in such account or a perfected first priority security interest against any collateral (which shall be limited to Permitted Investments) securing such funds that is superior to claims of any other depositors or creditors of the depository institution or trust company in which such account is maintained, or (iii) a trust account or accounts maintained with the trust department of a federal or state chartered depository institution or trust company that is subject to regulations regarding fiduciary funds on deposit similar to Title 12 of the U.S. Code of Federal Regulation Section 9.10(b), which, in either case, has corporate trust powers and is, acting in its fiduciary capacity, or (iv) any other account acceptable to each Rating Agency, as evidenced by a signed writing delivered by each Rating Agency. Eligible Accounts may bear interest, and may include, if otherwise qualified under this definition, accounts maintained with the Trustee, the Paying Agent, the Securities Administrator or the Master Servicer.

  3. Anonymous

    Eventually it is the cash flow from CDOs determines the fate of ABK and MBI. ABK and MBI used rate from rating agencies to insure CDOs ( it is the issuers of CDO pay rating agencies not the insurers)at the begining. Don’t you agree that rating agencies should share a much greater blame in this mess? ABK and MBI are victims of incompetence of S&P, Moody and Fitch.

  4. Tom Lindmark

    To anonymous said,

    Don’t you think it might be time to just admit that no one did enough fundamental analysis and relied on 3rd parties far too much to justify their investment decisions. Everyone screwed up.

  5. Ginger Yellow

    “ABK and MBI used rate from rating agencies to insure CDOs ( it is the issuers of CDO pay rating agencies not the insurers)at the begining”

    Monolines pay the agencies for their own ratings, however. And If anyone was in a position to do the analysis on CDOs on their own without any help from the agencies, it was the monolines. Their whole marketing pitch is based around how much due diligence they do on their investments. Now there’s an argument to be made that the rating agencies pushed the monolines to diversify into CDOs, but given the profits they made in the good times, I doubt they needed much pushing. As Tom says, everyone screwed up.

  6. Richard Kline

    Ambac and MBIA have been totally dead since January 08. That we have to even continue to discuss their twitchings and gaseous eruptions is soo surreal as to blunt any analysis. . . . I’m reminded of Byzantine grand functionaries and Sung mandarins continuing to argue and publish policy regarding provinces long lost to barbarians, except that the comparison is unfavorable to the zombie-line insurers as the former still had peasants, money, armies, and fortifications whereas the latter have check-kiting equity placements and press flacks.

    Kevin Brown for Jay Brown: “As long as I’m breathing, I can keep drawing salary, and if I’m dead I don’t care, so the following is for attribution . . . .”

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