April 23, 2008
Ambac Does It Again
by Reggie Middleton
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I apologize if I seem defensive or full of myself, but often when I strike
out with a contrarian opinion, I get a lot of negative feedback. It often causes
me to view things defensively. Case in point - Ambac. When I first
released my analysis on this company, quoting:
Ambac is Effectively Insolvent & Will See More than $8 Billion of
Losses with Just a $2.26 Billion equity base
I came to this conclusion after a detailed analysis of Ambac's portfolio
(at least what Ambac has made public, which was sufficient) covering exposure
in the Structured Finance, Sub-prime RMBS and the Consumer Finance business.
Ambac's management was forthcoming enough to publish a portion of their insured
portfolio which allowed me to review each structure.
I am short Ambac and MBIA (for whom I have also released
research), so be aware of my position as I present this opinion. I
profit not necessarily from whether ABK can continue as an ongoing concern
(which is in doubt and wouldn't hurt my shorts to say the least), nor from
an infusion of capital (whether it be debt or equity, either of which would
be a poor investment from my perspective) but from the significant decline
in value of the existing shares in which I have taken a bearish position.
To determine my short position, I calculated relative nominal book valuations,
actual economic book valuations and produced standard financial forecasts.
Of interest is the loss tail analysis wherein I have estimated the present
value of the future losses.
Stating this company would suffer $8 billion of losses and was effectively
insolvent was met with derision, skepticism and other adjectives which I won't
mention. Even the reader rating system showed a poor reception (I am aware
that my writing style irks some, but hey - that's who I am ).
I recieved a lot of requests for substantiation of my assumptions, hence I
released more info (remember, this is not a paid service and I am not
an analyst - I am a private investor). I first took a bearish position on Ambac
and MBIA in the $60 to $80 range. I published the research while they were
in the mid $20 to $40 dollar range. Well, they are $5 and $11 respectively,
and I expect them to fall further and eventually go out of business. It appears
to me that Ambac is still effectively insolvent after their latest press release
which shows a very big loss on operating earnings as well as the massive loss
in net earnings which includes the mark to market controversial writedowns.
If you read through the insurance
section of the blog, you will see that I have written extensively on this
top and these companies. Thier entire business model is moot. They are trying
to underprice the market on risk, and no arbitrage trade works consistently
forever since even if there was an inconsistency in pricing that these companies
found, it would be compensated for over time by the market. Basically, there
is no free lunch.
Interestingly enough, the Bear
Stearns analysis recieved some derision in the other places it was published
as well. I wonder... I believe that there are several other well known financial
services companies that are effectively insolvent and will meet an ignominious
end. Many of the negative comments I recieved stemmed from two major camps:
- The first was the "Our business is to complex and complicated for you,
and outsider, to understand".
- The other camp was the "Look at all of these big, smart name brand investors
who invested contrary to your opinion. You have no idea what you are talking
about because we've never even heard of you"
Well, my responses to these were:
- If the business model is too complex for the average financial guy to understand,
its probably too complex period. In addition, I did understand it - it was
just a bad business model.
- I actually dedicated an entire post to the name brand thing. Big hedge
funds, billionaire investors, and well known private equity funds have all
contributed to my trading profits thanks to their buying into the companies
that I have shorted, driving the price way above what it should be and allowing
me to profitably short some more. See the post for those who are hooked on name
brand investors.
I can go on, after all the folly of this company being rated AAA by 2 of the
3 major ratings agenies is a joke (see
my cartoons), then their is the systemic CDS risk they pose to the rest
of the financial system. These guys are going to cause a CDS domino effect
that nobody is going to want to see. Even those short the CDS will not get
paid when the other side of the deal can't pay up. How do we know who can pay
up and who can't? We don't know because of the non-existent credit risk management
that is in place. I urge you to revisit who's
holding the $119 billion bag? Then there is the issue of nobody wanting
to do business with these companies in the first place, forcing this "AAA" rated
company into runoff. Honestly, read through this earnings announcement and
consider that Moody's and S&P just reaffirmed its AAA status!
Well, let's see how Ambac has done this past quarter:
From Bloomberg:
Ambac Financial
Group Inc., the bond insurer that lost 93 percent of its stock market
value in the past year, posted a wider loss than analysts estimated after
$3.1 billion in charges for subprime-mortgage securities.
The first-quarter net
loss was $1.66 billion, or $11.69 a share, New York-based Ambac said
today in a statement. The company's operating loss of $6.93 a share was
more than three times the $1.82 estimated by six analysts surveyed by Bloomberg.
Ambac fell as much as 22 percent in early New York Stock Exchange trading as
new business slumped 87 percent after states and municipalities shunned its
insurance and the market for mortgage securities dried up. Ambac, the second-largest
bond insurer, increased by more than half its estimate of the claims it will
need to pay on home-loan debt by $2 billion.
This "could send a negative ripple effect through the market," said Wayne
Schmidt, senior portfolio manager at AXA Investment Management in Minneapolis,
which has about $14 billion in assets under management. "It sends a message
that we're not out of the woods yet."
Ambac fell to as low as $4.70 in early trading after closing at $6.03 yesterday.
Armonk, New York-based MBIA
Inc., the world's largest bond insurer, was down about 10 percent.
"The housing market crisis continues to disrupt the global credit markets
and our credit derivatives and direct mortgage portfolios were severely impacted
once again," Ambac interim Chief Executive Officer Michael
Callen said in the statement.
Damaged Franchise
Ambac staved off the loss of its AAA rating at Moody's Investors Service
and Standard & Poor's by raising $1.5 billion in a March stock sale.
Ambac last year placed its AAA stamp on $524 billion of securities it insurers,
its main business.
Fitch Ratings cut Ambac Assurance Corp. to AA in January. All three companies
have negative outlooks on the ratings.
"Ambac's franchise has been damaged by recent ratings pressure and negative
publicity," Barclay's Capital analyst Seth Glasser wrote in a research report
this week.
The $1.5 billion sale of stock and convertible units nearly tripled Ambac's
outstanding common shares to 285 million. The company this week said it's
seeking shareholder approval
to increase authorized shares to 650 million from 350 million.
"While we realize that these are disappointing credit results, we continue
to believe that the capital raise and strategic business actions taken during
the quarter will enable us to get beyond this credit market," Callen said
today.
Market Slump, Writedowns
The company posted net income of $213.3 million, or $2.04 a share, in the
first quarter of 2007, just before the subprime-
mortgage market began its collapse.
The housing and
credit market slump that ensued since has pushed Ambac to three straight
net losses after more than a decade of quarterly profits. The bond insurer
posted a record loss in the fourth quarter of $3.3 billion, or $31.85 a share,
largely on writedowns of $5.2 billion related to collateralized debt obligation
guarantees.
Credit-default swaps that protect against the risk Ambac won't be able to
make good on its guarantees rose the most in two weeks. The contracts, which
rise as investor confidence deteriorates, climbed 58 basis points to 761
basis points, according to CMA Datavision. They've more than doubled this
year.
Municipal Backlash
Ambac, which pioneered municipal bond insurance in 1971, was hobbled by
its expansion into CDOs, which package pools of debt, including mortgage-backed
securities, and slice them into pieces with varying ratings.
As defaults on subprime mortgages climbed, the credit ratings of CDOs collapsed,
requiring Ambac and other guarantors to hold more capital against their guarantees
on the securities.
Ambac insured just 1 percent of municipal bonds sold during the first quarter
while its smaller competitor Financial
Security Assurance Inc., a unit of Dexia
SA of Brussels and Paris, took 65 percent of the market, according to
Thomson Financial data. FSA has a stable outlook on its AAA ratings from
all three major credit rating companies.
City and state officials also have begun to question the value of bond insurance.
California Treasurer Bill Lockyer is circulating a petition to require credit
rating companies to change how they assess municipalities. The current rating
system exaggerates the risk cities and states will default, creating artificial
demand for bond insurance, Lockyer said.
At hearings in Washington earlier this year, U.S. Representative Barney
Frank, a Massachusetts Democrat, told Moody's it had a month to change the
way it rates municipal bonds or face legislative intervention.
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Reggie
Middleton
Reggie Middleton, LLC
Perpetual Interests, LLCTM
http://boombustblog.com/
 Who am I?
Well, I fancy myself the personification of the free thinking
maverick, the ultimate non-conformist as it applies to investment and analysis.
I am definitively outside the box - not your typical or stereotypical Wall
Street investor. I work out of my home, not a Manhattan office. I build my
own technology and perform my own research - in lieu of buying it or following
the crowd. I create and follow my own macro strategies and am by definition,
a contrarian to the nth degree.
Since I use my research as a tool for my own investing
to actually put food on my table, I can stand behind it as doing what it is
supposed too - educate, illustrate and elucidate. I do not sell advice, I am
not a reporter hence do not sell stories, and I do not sell research. I am
an entrepreneur who exists just outside of mainstream corporate America and
Wall Street. This allows me freedom to do things that many can not. For instance,
I pride myself on developing some of the highest quality research available,
regardless of price. No conflicts of interest, no corporate politics, no special
favors. Just the hard truth as I have found it - and believe me, my team and
I do find it! I welcome any and all to peruse my blog, use my custom hacked
collaborative social tools, read the articles, download the files, and make
a critical comparison of the opinion referencing the situation at hand and
the time stamp on the blog post to the reality both at the time of the post
and the present. Hopefully, you will be as impressed with the Boom Bust as
I am and our constituency.
I pay for significant information and data, and am well
aware of the value of quality research. I find most currently available research
lacking, in both quality and quantity. The reason why I had to create my own
research staff was due to my dissatisfaction with what was currently available
- to both individuals and institutions.
So here I am, creating my own research for my own investment
activity. What really sets my actions apart is that I offer much of what I
produce to the public without charge - free to distribute and redistribute,
as long as it is left unaltered and full attribution is given to the author
and owner. Why would I do such a thing when others easily charge 5 and 6 digits
annually for what some may consider a lesser product? It is akin to open
source analysis! My ideas and implementations are actually improved and
fine tuned when bounced off of the collective intellect of the many, in lieu
of that of the few - no matter how smart those few may believe themselves to
be.
Very recently, I have started charging for the forensics
portion of my work, which has freed up the resources to develop the site to
deliver even more research for free, particularly on the global macro and opinion
front. This move has allowed me to serve an more diverse constituency, which
now includes the institutional consumer (ie., investment turned consumer banks,
hedge funds, pensions, etc,) as well as the newbie individual investor who
is just getting started - basically the two polar opposites of the investing
spectrum. I am proud to announce major banks as paying clients, and brand new
investors who take my book recommendations and opinions on true wealth and
success to heart.
So, this is how I use my background and knowledge in new
media, distributed computing, risk management, insurance, financial engineering,
real estate, corporate valuation and financial analysis to pursue, analyze
and capitalize on global macroeconomic opportunities. I have included a more
in depth bio at the bottom of the page for those who really, really need to
know more about me.
Visit his blog Boom
Bust Blog.
Copyright © 2007-2008 Reggie Middleton
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