Friday, December 28, 2007

Buffett Signs Death Warrant For Ambac & MBIA

MBIA (MBI) hit a new 52 week low today and Amback (ABK) is giving back much of its recent gains as Buffett Starts Up Bond Insurer business.
MBIA Inc. and Ambac Financial Group Inc., the two largest bond insurers, fell in New York Stock Exchange trading after billionaire investor Warren Buffett said he plans to start a rival company to guarantee municipal debt.
My Comment: OK suppose you want your debt guaranteed. Are you going to go to capital impaired companies or Warren Buffett?
MBIA, based in Armonk, New York, fell as much as 17 percent and Ambac dropped 15 percent, the most in two months. Buffett, chairman of Omaha, Nebraska-based Berkshire Hathaway Inc., told the Wall Street Journal his bond insurer opens for business today in New York. New York State Insurance Department Superintendent Eric Dinallo said the agency expedited Buffett's license request.

Berkshire, which gets half its profit from insurance, is challenging the bond insurers as they struggle to retain the AAA credit ratings that allow them to guarantee about $1.2 trillion of municipal bonds. The rankings of MBIA, Ambac and other guarantors are under scrutiny amid concern they don't have enough capital set aside to cover potential losses on bonds they insure that are linked to subprime mortgages.
My Comment: Insurance from MBIA and Ambac is Worthless. Neither Ambac nor MBIA come remotely close to deserving AAA ratings. Everyone knows it, but Moody's, Fitch, and the S&P all pretend otherwise.
"Investors might feel more comfortable investing in bonds insured by Buffett than those backed by an insurer with the legacy of the credit crisis hanging over them," said Matthew Maxwell, a London-based credit analyst at Calyon, the investment banking unit of Credit Agricole SA. Bond insurers "are hurting, so now is a good time for Buffett to be getting into the market."
My Comment: Might feel more comfortable with Buffett? Is there any doubt here?
Buffett, 77, told the newspaper that Berkshire Hathaway Assurance Corp. will also seek permission to operate in California, Puerto Rico, Texas, Illinois and Florida. David Neustadt, a spokesman for New York's insurance department, said Berkshire will get a license by Dec. 31.

Credit-default swaps on MBIA, which rise as perceptions of credit quality drop, rose 30 basis points to 610 basis points, the highest ever, according to CMA Datavision in London. Ambac increased 10 basis points to 620, the widest in three weeks.

MBIA, as well as Ambac and FGIC Corp. of New York, are trying to convince Moody's, Fitch and S&P that they deserve to keep their top ratings.
My Comment: While the shameless pretending By Moody's, Fitch, and S&P continues, the real question is not about being rated AAA but how far into junk those ratings should be.
Fitch has given MBIA and Ambac less than six weeks to raise $1 billion each or face losing their AAA ratings. Moody's and S&P earlier month placed MBIA's ranking on negative outlook. MBIA on Dec. 10 said it will get $1 billion from private-equity firm Warburg Pincus LLC to bolster its capital and Ambac took out reinsurance on $29 billion of securities it guarantees.

"MBIA and Ambac are probably going to be able to get through this and raise the capital needed to retain their AAA ratings," said Rob Haines, an analyst at CreditSights Inc. in New York. "But it hurts them."
My Comment: As of the November 11 2007 10-Q MBIA had $6.96 billion in working capital. They have guaranteed $30.6 billion in CDOs and have other questionable exposure as well. Who would want that exposure and why?

Buffett smells an opportunity here and he is likely correct. Furthermore he is not going to make the mistake that both Ambac and MBIA made in insuring CDOs, subprime mortgages, and other toxic waste. It was pure greed that will end up sinking Ambac and MBIA.

The realization that guarantees from Ambac and MBIA are worthless is finally dawning on state and local investors as the following Bloomberg headline shows: Muni Insurance Worthless as Borrowers Shun Ambac.

Three Choices For Municipalities
  • Have Buffett guarantee the debt
  • Forego insurance
  • Go to the well with Ambac and MBIA
No matter how you look at it, the only possible way MBIA and Ambac can compete in that model is by undercutting Buffett in price while hoping municipalities do not select option 2. This will obviously pressure margins at the very time MBIA and Ambac need to increase margins. Furthermore, given the huge question about the value in Ambac's and MBIA's guarantee, price competition alone is unlikely to be the factor that generates business.

This looks like a smart long term move for Berkshire Hathaway (BRK-A) if Buffett is careful about what he insures (and I am betting he will be). On the other hand it is likely the death warrant for Ambac and MBIA unless they can find a white night that wants to compete against Buffett and take on CDO and subprime exposure on top of it.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
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