This post first appeared on June 19, 2008
Let’s start with some admissions: Gretchen Morgenson, one of two authors (the other is Vikas Bajaj) of a takedown piece on MBIA yesterday, has some detractors in the blogsphere because, frankly, her understanding of credit instruments leaves something to be desired. Her critics overlook her solid work on executive comp and corporate malfeasance. When she has access to court documents and SEC filings. she is specific and accurate.
Based on watching months of the slugfest between MBIA and Bill Ackman, where MBIA would make vitriolic charges against Ackman which (aside from the obvious fact that he was short) often deliberately misconsrued what he had written (written, mind you, so it was possible to track things back), I’d take Morgenson over MBIA in general, and in particular, since the first two items (the most important ones by far) in its salvo against the piece are a bald-faced lie followed by an attempt at obfuscation that actually confirms the NYT’s position.
The MBIA retort is on its website, with the high-minded title “MBIA Clarifications and Corrections of Media Misperceptions and Errors,” but it devolves quickly from there.
If you read the story, it made two charges:
1. MBIA had reneged on a promise to remit $900 million of its recent $1.1 billion capital raise to its insurance subsidiaries
2. New York insurance superintendent Eric Dinallo can’t use the threat of putting the insurer into runoff mode to force it to downstream the $900 million because terms of MBIA’s credit default contracts, which would reportedly accelerate upon a regulatory seizure and thus give them priority over muni bond guarantees
What is completely amazing is the start of the attack. If you begin with a brazen lie, why should anyone trust anything that follows? This is the first substantive paragraph:
#1 The story leads with the speculative question of “whether regulators will let MBIA…renege on a promise to shore up a crucial unit with $900 million in capital.” That phrasing is erroneous, primarily because no such “promise” has ever been made. The $900 million referenced is part of the net proceeds from the $1.1 billion equity offering that closed in February, which was issued as part of MBIA’s overall capital strengthening plan. The prospectus for the offering stated in the Use of Proceeds section: “We estimate that the net proceeds from this offering and the backstop commitment will be approximately $959 million, after deducting estimated expenses relating to this offering and the backstop commitment. The net proceeds of this offering and the backstop commitment shall be used to support our business plan and operations.” No promise was made to put the capital in MBIA Insurance Corporation.
First, the idea that the parent company has a plan separate from the subs is specious. The parent exists to serve the subs, not vice versa. This is from the former general counsel of a bond insurer:
As for the comment about MBIA’s business plan being that of the holding company rather than the insurer, the business plan of the holding company is to hold the insurer. If any evidence is needed, the “Summary” section of the February pro supp should suffice (http://sec.gov/Archives/edgar/data/814585/000119312508025162/d424b5.htm).
Second, MBIA in fact made public statements that it would remit $900 million to the subs, then recanted. Amusingly, the MBIA site references some press releases and statements and argues why it now doesn’t make sense to remit cash to the sub. That does not refute the point that it promised earlier to do so, which is flat out denies in the paragraph above (or are we going to get into Clinton-esque parsings of what “promise” means?)
This appeared in a May 12 Bloomberg story:
MBIA Inc., the ailing bond insurer, rose in New York Stock Exchange trading after saying it will pump $900 million into its insurance unit and reporting a first-quarter loss that was narrower than some analysts’ estimates.
This piece ran June 11 (note the section below is from the original version of the article, but the substance is unchanged):
MBIA Inc., downgraded from AAA by Standard & Poor’s last week, hasn’t given $900 million to its insurance unit as planned and said it is now re-evaluating its business strategy and capital deployment plans.
“Our landscape has changed,” MBIA Chief Financial Officer C. Edward Chaplin said today in a statement distributed by Business Wire.
FT Alphaville, in its post on this contretemps, notes there had been a reversal, and that the change elicited a hailstorm of criticism and selective support.
Let’s move to the second main bone of contention. the issue of whether a regulatory takeover would give the CDS holders the right to accelerate (demand payment immediately). Again from MBIA:
#2 In the second paragraph the story asserts that, “Most of these [credit default] contracts stipulate that if MBIA…is taken over by state regulators…buyers can demand payment immediately” and references “the threat that similar swaps pose to MBIA.” This analysis is misleading. Typically in MBIA’s policies insuring CDS contracts, there are no provisions that allow a counterparty to terminate the insured CDS contract and make a claim under the policy, absent MBIA’s bankruptcy or insolvency or an MBIA payment default on the policy insuring the CDS contract. Each insured CDS contract that MBIA Corp. enters into is governed by an International Swaps and Derivatives Association, Inc. (ISDA) Master Agreement and Confirmation. MBIA’s CDS contracts typically conform to the Monoline Supplement Agreement, where a bankruptcy of the credit support provider, including the initiation of a receivership proceeding by the NYSID, would give the counterparty the option to terminate the swap and receive a termination payment; it would not be an automatic termination event. As MBIA’s financial condition and statutory capital are very strong and its claim paying resources are in excess of $16 billion, even mention of such a bankruptcy or insolvency proceeding is highly theoretical and extremely remote.
This is obfuscation (and I have e-mailed the former monoline general counsel for further comment, so you may want to check this post later for updates). If the NYSID initiates receivership proceedings (initiates, mind you, it doesn’t even have to have taken control), the counterparty can terminate the swap. Pray tell, which counterparty that had an operating brain cell wouldn’t avail itself of that opportunity? You’d want to be at the head of the payment queue in a wind-down scenario. The only question is whether there are any limitations on the NYSID’s ability to initiate receivership proceedings (i.e. perhaps it cannot do so in the absence of default of a bankruptcy filing, but one would assume that would have been stated, if true, since it would represent a powerful argument in MBIA’s defense).
So despite all the huffing and puffing from MBIA, as the its paragraph above stands, MBIA is arguing that the NYT is wrong because they said “demand immediately” and the ISDA standard form agreements (which they conform with) say the swap counterparty has the option to terminate? I fail to understand how MBIA can pretend there is any substantive difference here.
Now MBIA does catch some bona fide errors, such as saying the swaps are against companies as opposed to structured credits. They also disputed the NYT claim that MBIA had $230 billion of “mortgages and related securities”. MBIA says it has only $69 billion of “mortgage and residential real estate-related exposure.” MBIA referenced an operating supplement issued in conjunction with its 10-Q. I searched under “operating supplement” and looked for releases around the time of its 10-Q (and also looked at the 10-Q itself). I can’t verify MBIA’s statement and am left wondering if a definitional difference could make both statements accurate (the Times no doubt included commercial real estate expsosures and may have folded in MBIA’s captive reinsurer, Channel Re, but without further detail, the gap does look awfully large)/
Finally, MBIA also gets into a “he said, she said” regarding Dinallo, starting with “While it is inappropriate for us to speak on behalf of the NYSID..” and then arguing “our highly creditworthy balance sheet and liquidity with over $16 billion in claims-paying resources make talk of a regulatory takeover misleading and irrelevant. ” Um, we’ll turn to the NYT:
Mr. Dinallo confirmed last week that the swaps written by MBIA and other financial guarantors were a big factor in his dealings with the weakened bond insurers.
“It is a concern that possibly if one of the companies filed for rehabilitation or if we move to rehabilitate, the holders of the credit default swaps could move to get preferential treatment,” he said.
Mr. Dinallo said he could refuse to honor acceleration demands if he took over a bond insurance firm, but such a move would almost certainly prompt investors who hold the credit default swaps to press their cases in court.
Let’s get real here. Dinallo was worried enough about the future of the bond insurers to try to organize a rescue in the amount of $15 billion total for MBIA and Ambac, and their subsequent fundraisings fell vastly short of that number. The fact that he has looked into the swaps issue in this level of detail says he still sees risks. If MBIA has not been able to persuade either its regulator or its rating agencies who presumably see more detail than the monoline presents in its public filings, that all is well, why should the greater public believe their assertions?