The bond insurer brouhaha hasn’t yet run its course, with Moody’s Investors Service late Monday cutting Ambac Financial Group’s (ABK) Ambac Assurance bond insurance unit to junk territory over concerns about rising RMBS losses. The ratings agency cut financial strength ratings of Ambac Assurance and the company’s UK-based arm by a whopping five notches to “Ba3” from “Baa1.” The rating is three notches into what is considered ‘junk’ territory. Moody’s also cut senior debt ratings of the corporate parent, Ambac Financial, ever further — six notches to “Caa1” from “Ba1.” “The downgrade of Ambac’s ratings primarily reflects weakened risk adjusted capitalization, as Moody’s loss estimates on RMBS securities have increased significantly (particularly with respect to Alt-A transactions),” analysts James Eck and Jack Dorer said in a press statement. “These higher loss estimates increase the estimated capital required to support Ambac’s sizable direct RMBS portfolio (including securities owned as well as securities guaranteed) and also the insurer’s large portfolio of ABS CDO risks.” Many bond insurers like Ambac provided the top-rated portions of private-party RMBS and related CDO deals with a guarantee that essentially was designed to serve as a proxy for the government guarantee that exists on Fannie/Freddie/Ginnie mortgage bond issues. But the strength of that guarantee is only as good as the rating of the firm that provides it — which means that increasing MBS losses have tanked insurers’ ratings, and escalated the expected amount of claim losses tied to deals they insured. Ambac recorded a statutory net loss of $4.0 billion for 2008, ending the year with $1.6 billion in policyholders’ surplus only after giving effect to $2.0 billion of new capital raised during the year. Qualified statutory capital, comprised of policyholders’ surplus and contingency reserves, stood at approximately $3.5 billion at year-end 2008, Moody’s noted. At year-end 2008, the market value of Ambac’s consolidated invested assets was approximately $2.5 billion below amortized cost, with much of the difference attributable to RMBS assets. While Moody’s said it believes that “large liquidity premiums contribute to this differential,” the analysts also said that at least some of the market price declines were likely to reflect a more traditional credit premium — meaning, in plain English, that market price declines in invested assets don’t merely reflect investor fear, something that has been discussed at length in a recent column by colleague Linda Lowell. For its part, Ambac officials downplayed the effect of the downgrade, noting that the latest downgrade marks Moody’s tenth such opinion change since January 2008. Saying it is “confident in the strength of the financial guarantee business model,” the company said the downgrade would do little to affect its business strategy. Ambac recently said it will look to launch Everspan Financial Guarantee Corp., a separate insurance unit, in a bid to carve out the municipal bond insurance business from the more toxic mortgage-bond insurance business that has largely dragged Ambac (and other monoline bond insurers like it) into the financial morass. Write to Paul Jackson at email@example.com. Disclosure: The author held no relevant investment positions when this story was published. Indirect holdings may exist via mutual fund investments.
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