Clock ticking for troubled monolines

Rob Davies
17 Jan 2008

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Financial guarantor Ambac faces increasing pressure to avoid a downgrading of its triple-A status by rating agencies, following its announcement of an expected $5.4 billion pre-tax writedown for the fourth quarter. The news resulted in the immediate departure of Ambac chief executive Robert Genader.

Simultaneously, Ambac announced plans for a $1 billion capital injection through the sale of equity and equity-linked notes, and slashed its dividends by 67%. However, this was not enough to prevent Moody’s Investors Service placing Ambac on review for downgrade – a measure already taken by Fitch Ratings and Standard & Poor’s.

Ambac’s stock price plummeted 39% on Wednesday, while five-year credit default swaps for the insurer widened 85 basis points to 533bp.

A research report by London-based Royal Bank of Scotland analyst Michael Cox cast doubt on Ambac’s ability to raise the required capital.

“We now see significant execution risk with its capital plan,” wrote Cox. “The market has deteriorated since MBIA sold its surplus notes, with those notes seeing considerable weakness in the secondary market. New credit losses at Ambac will hurt investor confidence in the insured portfolio.”

MBIA last week completed a 25-year subordinated offering, with an option to call the notes after five years. The move was enough for Fitch to affirm MBIA’s triple-A ratings yesterday with a stable outlook. However, deteriorating investor confidence in the monolines has seen spreads for the notes widen from a 14% launch coupon to 17% in secondary trading.

With the exception of FSA and Assured Guaranty, which have only limited exposure to US subprime mortgage debt, the immediate outlook for monolines looks set to worsen. Decreases in US house prices are expected to be larger than previously thought, prompting S&P to further review monoline exposures to the subprime sector. S&P will now assume losses on 2006 portfolios of 19% rather than 14%, increasing significantly the prospect of downgrades. Results from the review are expected next week.

Downgrades already seem unavoidable for two other monolines, FGIC and SCA, both on ratings watch negative by all three agencies. To avert downgrades, FGIC needs to raise $1 billion – 39% of its statutory capital – while SCA’s position is even more precarious. SCA’s capital shortfall is $2 billion, greater than its $1.7 billion statutory capital base.

“Their new capital requirements are greater than those of MBIA and Ambac relative to their size and we simply cannot see where they can raise the capital from,” said Cox.