Feb 10 2008
Monoline Insurers and Government Bailouts: Will They Work?
“How could Ambac, through the magic of its triple-A rating, with equity capital of less than $5bn, insure the debt of the state of California, the world’s sixth-largest economy? How could an investor in California’s municipal bonds be comforted by a company that during a potential liquidity crisis might find the capital markets closed to it, versus the nation’s largest state with its obvious ongoing taxing authority?”
That’s from a Financial Times opinion piece written by Bill Gross. (Read it while you can for free at Yahoo; the links never last all that long…) Gross makes a good point about the myth that had been the monoline insurers — Ambac, MBIA, and a few others — who provided their ratings to the bonds they guaranteed.
You’d have to live under a rock these days (at least if you’ve been paying attention) to not have heard about how they’ve all been hit by guaranteeing mortgaged backed securities and CDOs squared, etc., and that they’ve simply not got the capital that’ll be required to cover the losses. Moreover, as we’ve reported for weeks, MBIA has been raising capital at junk bond rates, making their own AAA ratings from S&P and Moody’s a joke. (The same can be said for Ambac. At least ACA was dropped appropriately to the junk level it is.) MBIA this past week printed up another 82 million shares of stock for those willing to throw the company $1 billion as they scramble to keep their AAA rating. MBIA’s stock has plummeted by 80% since last October, and were down 10% alone on the news that shares would be diluted.
All said, word is a government bailout is in the works to help support the monolines, with the reasoning that if they actually have their ratings drop, it’ll result in a cascade of problems as the ratings they’ve lent to municipalities equally plummet. Mind you, many portfolio managers — pension and insurance companies especially — are required by law to maintain AAA rated bonds, in some case exclusively. Imagine the carnage if MBIA lost its rating and forced sales flooded the market? But ratings drops are only part of the problem: with credit cards and revolving credit, not to mention commercial and retail real estate still in the lurches looking to further cause problems, actual insolvency of these insurers should be a consideration.
But in the end, we’re all learning the adage, you don’t know who’s swimming naked until the tide goes out. The tide is sweeping out rapidly and the market is actually being served by learning how severely distorted business decisions had become. Only then can poorly allocated limited resources be properly reallocated to more prudent purposes. But that’s only going to be hampered with bailouts that preserve the current perverted allocations have caused so much turmoil. Indeed, propping them up will help keep us from seeing whose naked… But the reality does not change: their activities were never self supporting absent subsidy of easy credit and money supply.
Recall last decade when the United States sternly told Asian countries to accept they’d made mistakes, and to let them clear rather than attempt to bail them out? Seems like we don’t like to eat from the same menu from which that perfectly legitimate wisdom came. We should be questioning why what was good for the goose is somehow not good for the gander.
