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Reuters is reporting credit
default swaps on Ambac, MBIA trading as deep junk
Credit derivative traders are valuing bond insurers Ambac Financial Group
(ABK) and MBIA Inc (MBI) as deep junk credits, belying the companies' strong "Aa1" ratings,
according to data by the credit strategy group at Moody's Investors Service.
Credit default swaps on Ambac are trading at around 620 basis points, or
$620,000 per year for five years to insure $10 million in debt, according
to data provided by CMA DataVision.
At Thursday's close, Ambac's swaps implied a rating of "Caa1," seven levels
below investment grade and 14 notches below its actual rating.
MBIA Inc's default swap spreads, meanwhile, are trading as though they carry
a rating of "B2," five levels below investment grade, and 12 notches below
the company's "Aa2" rating, according to Moody's data.
Homebuilders Cut To Junk
In other news, S&P
downgrades five US home builders
Standard & Poor's on Friday cut its ratings on five U.S. homebuilders,
three of them to junk status, citing weak earnings and challenging conditions
in the housing market.
Ratings of D.R. Horton Inc (DHI), Pulte Homes Inc (PHM) and Lennar Corp.
(LEN) were cut into junk territory. The downgrades reflect the vulnerability
of the home builders to the deteriorating housing market and macroeconomic
conditions, S&P said in a statement.
D.R. Horton and Pulte were cut one notch to "BB-plus," one level below investment
grade, from "BBB-minus." Lennar Corp was cut by two notches to "BB-plus" from "BBB." The
outlook for all three companies is negative, indicating an additional cut
is likely over the next two years.
S&P also cut Centex Corp's (CTX) debt rating by one notch to "BBB-minus," one
step above junk status, from "BBB," with a negative outlook. It downgraded
Standard Pacific Corp (SPF) by one notch to "BB-minus," three levels below
investment grade, from "BB," with a negative outlook. And it changed the
outlook on Ryland Group (RYL) to negative from stable. Ryland is rated "BBB-minus."
Downward Spiral of Junk
Homebuilders are just as sideshow. Homebuilder debt ratings affect a mere
$15 billion in debt. Ambac (ABK) and MBIA (MBI) are the "real deal". Let's
look further.
Bloomberg is reporting Merrill,
Citigroup Debt Risk at 5-Year High on Subprime Concern
The risk of Merrill Lynch & Co. and Citigroup Inc. defaulting on their
debt rose to the highest in at least five years on speculation that losses
on mortgage-related securities will worsen, trading in credit-default swaps
shows.
Credit-default swaps on Merrill Lynch, the third-largest U.S. securities
firm, rose after a Deutsche Bank AG analyst said the firm may write down
$10 billion more in assets linked to mortgage debt.
Credit-default swaps are used to speculate on a company's ability to repay
its debt or hedge against losses. A basis point on a contract protecting
$10 million of debt from default for five years is equivalent to $1,000 a
year.
Merrill Lynch, which last week reported an almost $8 billion writedown on
securities tied to subprime mortgages, may mark down more for losses on collateralized
debt obligations, Deutsche Bank analysts said today. Regulators also may
be investigating whether New York-based Merrill Lynch violated accounting
rules to delay reporting of the losses, the Wall Street Journal reported
today.
"We have increasingly lost confidence in the financials of Merrill," Deutsche
Bank equity analyst Mike Mayo in New York wrote in a note to clients today. "Our
concern is relying on a company's statements that has no CEO and is facing
a potential SEC investigation and may have engaged in questionable private
transactions."
Credit-default swaps tied to MBIA Inc., the world's biggest bond insurer,
rose 60 basis points to 480 basis points, the widest in at least three years,
according to CMA Datavision in New York.
Ambac Financial Group Inc., the second-biggest bond insurer, climbed 63
basis points to 689 basis points, CMA prices show.
The last two sentences in the above snips hold the key to a cascade of defaults.
Let's continue with that thought to see why.
Bloomberg is reporting a potential Industry
Wide Downward Spiral in Bond Insurance.
Ambac Financial Group Inc. and MBIA Inc. shares fell, along with other bond
insurers, as Morgan Stanley said the industry may face a "downward spiral" and
Goldman Sachs removed its "buy" rating on the two companies.
The bond insurance industry has guaranteed more than $1 trillion of bonds
issued by U.S. cities and states as well as bonds backed by mortgages, credit
cards and other assets, and the guarantee allows borrowers to use the insurers'
AAA rating. A loss of confidence by investors in the insurers' credit quality
threatens the survival of the industry and the price of the thousands of
bonds it guarantees.
Ambac, the world's second-largest bond insurer, fell $6.06, or 20 percent,
to $23.51 today in New York Stock Exchange Composite trading. On Friday,
Oct. 5, the shares closed at $70.11. MBIA, the biggest bond insurer, slid
$2.55, or 6.7 percent, to $35.51. Four weeks ago they closed at $67.78.
"As the credit market continues to weaken, our confidence that guarantors
will survive the credit meltdown is waning, prompting us to take a more conservative
view of the financial guarantors," said Ken Zerbe, an analyst with Morgan
Stanley in New York.
Zerbe said a worsening of defaults on mortgage, home equity loans and credit
card balances "could prove to be the proverbial straw that starts the downward
spiral in the viability of the guarantors' business model."
For more on Zerbe and Ambac please see Stock
Buybacks: A Good Thing Or Slipped DISCs?
What Zerbe is missing this time is that the guarantors' business model was
never viable. It was all sleight of hand and wishful thinking. Here is the
key paragraph.
The bond insurance industry has guaranteed more than $1 trillion of bonds
issued by U.S. cities and states as well as bonds backed by mortgages, credit
cards and other assets, and the guarantee allows borrowers to use the insurers'
AAA rating. A loss of confidence by investors in the insurers' credit quality
threatens the survival of the industry and the price of the thousands of
bonds it guarantees.
Because of the "guarantee", god only knows what kind of garbage got rated
as AAA. In return for the "guarantee" , companies like Ambac collect a fee.
When times are good they keep collecting fees. When the proverbial * hits the
fan, the guarantee is worthless. Is this a viable business model?
What we do not know is how much of that "AAA" paper banks are holding is really
deserving of "AAA" status as opposed to being rated "AAA" because someone "guaranteed" it.
Ambac (ABK) Daily Chart
MBIA (MBI) Daily Chart
At Thursday's close, Ambac's swaps implied a rating of "Caa1," seven levels
below investment grade and 14 notches below its actual rating.
MBIA Inc's default swap spreads, meanwhile, are trading as though they carry
a rating of "B2," five levels below investment grade, and 12 notches below
the company's "Aa2" rating, according to Moody's data.
Ambac was down another 20% on Friday. MBIA was down another 6.7%. Clearly
the market is beginning to wonder just how much those "guarantees" are worth.
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