Bond insurers positioned to manage impact of COVID-19
Assured Guaranty and Build America Mutual, the two active bond insurers, released statements Monday directed at policyholders and investors assuring them that the insurers are prepared and able to manage impacts of COVID-19.
“Assured Guaranty is operating well remotely, as contemplated in the business continuity plan that we test regularly, and we are providing the services and communications we normally would,” Assured’s statement said. “While the current new issue market is relatively inactive, we continue our underwriting activities in both primary and secondary markets.”
As investors consider how to deploy their funds in this volatile environment, BAM-insured municipal bonds can be an important component of fixed-income portfolios, the insurer said. All BAM-insured bonds are rated AA with a stable outlook by S&P Global Ratings.
“BAM guarantees timely payment of interest and principal, backed by more than $900 million of claimspaying resources,” the mutual-owned bond insurer said in a statement. “BAM’s promise is unconditional and irrevocable, even if an issuer’s regular operations are disrupted by work-from-home or shelter-in-place orders. BAM-insured bonds can also be used by investors to limit the risk of ratings volatility for specific issuers, increase liquidity of their position, and manage the risk concentrations within a portfolio.”
Assured said it is well positioned and prepared to manage both the short- and long-term impacts of the current situation.
“Our business model, supported by significant excess capital and our highly liquid investment portfolio, is designed to withstand global economic disruptions,” Assured said. “If an issuer defaults, we are only obligated to pay any shortfall in principal and interest on scheduled payment dates; our policy forbids acceleration of payments on bonds we insure without our consent.”
Assured Guaranty said it maintains a strong capital position, with claims-paying resources exceeding $11 billion and its investment portfolio is predominantly in highly rated fixed income securities, with over 60% rated AA or higher. These investments provide a high level of liquidity and have, in the last five years, generated an average of $400 million of investment income per year, according to Assured.
"Our portfolio of insured credits is granular and well diversified geographically and by sector. The insured portfolio is 96% investment grade, and our insured leverage (the ratio of exposure to claims-paying resources) has been reduced significantly and now stands at less than half the insured leverage we had in 2009.”
U.S. municipalities represent 74% of Assured’s insured exposures, and they have a strong record of performance during economic downturns. As an asset class, municipal bonds are well structured to protect bondholders, with most of transactions containing covenants that require issuers to increase tax rates, fees or charges to ensure there are adequate funds to meet debt service requirements, while many also require the maintenance of a debt service reserve fund with up to a year’s worth of debt service coverage, it said.
Assured Guaranty saw almost no municipal defaults in its insured portfolio during the Great Recession. Similarly, its international infrastructure business has performed well. Only 5% of the insured portfolio consists of structured finance exposures, and these are widely diversified and structured with strong protections, Assured said.
From its beginning in 2012, BAM noted that it has focused on enhancing market access for issuers who provide essential public services, and today, more than 80% of BAM’s portfolio is from school districts, cities and counties, or water utilities, which have historically seen limited volatility in their revenue streams.
BAM’s underwriting policies were written specifically to incorporate lessons learned during the global financial crisis and Great Recession, and they anticipate and protect against the types of economic and fiscal disruptions posed by the COVID-19 outbreak. For instance, BAM does not insure swaps or derivatives, or floating-rate bonds that could be subject to acceleration provisions, according to the company.
“In addition, when reviewing transactions for insurance, BAM often requires provisions and covenants that can provide crucial support during periods of economic disruption, similar to what is likely to be faced by U.S. local governments, municipalities, and municipal utilities that are impacted by public-health directives and the closure of many facilities,” BAM said. “Many BAM-insured transactions have debt service reserve funds, in which the issuer has set aside cash to pay for up to a year of debt service in the event regular sources of repayment or other operations are disrupted. In addition, many BAM transactions are protected with legal covenants that require the issuer to adjust tax rates or fees to insure that budgeted revenues are well in excess of the minimum necessary to pay debt service.”
Choosing to insure sectors with stable revenue streams and strong structural protections for investors is important, but equally significant is BAM’s policy to avoid insuring bonds from issuers whose revenues have historically been volatile during periods of economic recession or other stress. BAM said it has no exposure to: Nonprofit Hospitals, Private Colleges and Universities, Charter Schools, US Territories, including Puerto Rico and the Virgin Islands.
“BAM’s underwriters continue to work with investment bankers, municipal advisors and issuers to assess the credit quality of new issues and BAM’s Municipal Credit Committee meets daily to vote on transactions,” BAM said. “Despite the slowdown in new issuance, BAM continues to see a strong flow of new issues presented by transaction teams who are poised to enter the markets when yields stabilize.”
The insurer also noted that for the week of March 9th, BAM’s MCC approval activity was above its year-to-date weekly average.
“We have not made changes to our underwriting criteria, but are paying particular attention to the structural protections for bondholder in the issues we review, particularly for issuers that are in regions with a high number of COVID-19 cases, and for those that are reliant on tourism-related revenues.”
BAM monitors upcoming payments due on all of its insured transactions to ensure it will have adequate liquidity to meet all of its needs.
“All of the assets in BAM’s and our reinsurers investment portfolios are invested in securities that are commonly traded in established secondary markets. In addition, BAM has access to contingent liquidity from the Federal Home Loan Bank of New York that can be drawn on at any time.”