FSA suffers ratings blow as Ambac regroups

Standard & Poor's has announced a negative outlook for the AAA rating of Financial Security Assurance (FSA), the New York-based monoline insurance company that is part of the Dexia Group.

The monoline yesterday announced its financial results, a net loss of $330.5 million for the second quarter this year, and announced its exit from the structured finance business. That business involves writing protection of senior tranches of collateralised debt obligations of asset-backed securities (ABS) and direct ABS exposure through residential mortgage-backed securities (RMBS).

Standard & Poor's took the action despite the fact that Dexia has injected $300 million into the business and taken responsibility for the liquidity and credit risk of FSA's structured finance portfolio. FSA had been one of the only monolines to emerge unscathed from the credit crisis that hit the market in August 2007.

The monoline has stopped writing protection for asset-backed securities following a strategic review conducted in the second quarter.

"Comparing the significant volatility observed in the ABS/RMBS markets against the broad and deep opportunities in the lower risk public finance markets, we have concluded that we can create greater value for issuers, investors and our shareholder by focusing solely on public finance activities," said Robert Cochran, chief executive officer of FSA, in a statement yesterday.

The company will now focus on its public and project finance business, which accounts for 54% of parent company Dexia Group's income.

"The negative outlook reflects the possibility that the FSA franchise has been damaged by the newly announced losses, and that acceptance in the municipal market may diminish," said Standard & Poor's in a rating announcement yesterday.

At the same time, Ambac Financial Group announced net income of $823.1 million in its results for the second quarter yesterday, a massive jump from $173 million in the same quarter last year. The rise is due to mark-to-market gains on tightening credit derivatives spreads, increased premium gains and loss reserve reductions on the RMBS portfolio. Net premiums earned from contracts were $325.5 million for the second quarter, up 47% from the same quarter in 2007.

A large part of those reductions came from $260 million of remediation charges related to ineligible loans underlying RMBS transactions. These take the form of representation and warranty breach recoveries, for example where a bus driver was allowed to take out a $460,000 loan on a house against the eligibility criteria for the deal. This involves a massive effort in terms of loan-by-loan analysis, said Ambac.

The company, however, was downgraded from Aaa to Aa3 on June 19 by Moody's, and retains a negative outlook. Ambac's chief executive officer, Michael Callen, reiterated the firm's intention to set up a completely independent entity called Connie Lee that would focus on the municipal bond business.

"There has been an enormous effort put into this, and the work we have done with the rating agencies as well as the fact we have put our underwriters on display shows our commitment," said Callen in a conference call yesterday.

See also: Ambac clears deck of $1.4 billion CDO squared
Monoline market doubts