The bond insurance industry continued to contract in 2011.
Whereas insurers backed 57% of the market in 2005, they only guaranteed 6.2% in 2010 and 5.2% in 2011.
Before the recent economic downturn, there were several active municipal bond insurers. The recession has left just one active insurer, Assured Guaranty Ltd.
While there was a 32% decline in long-term municipal issuance in par value from 2010 to 2011, there was a 43.2% decline in the par value of such bonds insured in the same period. A total of $15.3 billion was insured in 2011, according to Thomson Reuters.
When asked about this decline, an Assured Guaranty representative noted two things. According to Robert Tucker, managing director of investor relations and communications, Assured’s professionals have “always remained focused on credit quality, pricing and enterprise-risk management and … maintaining a specific market share is not what drives their underwriting decisions.”
Tucker also noted the effect of Standard & Poor’s proposed downgrade of Assured. On Jan. 24, 2011, the agency released a request for comment relating to proposed new bond-insurance criteria. It warned that, if implemented, multi-notch downgrades of insurers could follow.
On Nov. 30, Standard & Poor’s released a new rating of Assured. Its bond insuring units, Assured Guaranty Corp. and Assured Guaranty Municipal Corp., were both downgraded two notches to AA-minus from AA-plus.
“The S&P rating uncertainty, caused by their proposed new rating criteria, remained in place until Nov. 30, 2011, when S&P assigned AA-minus stable outlook ratings to AGM and AGC,” Tucker said. “So, for 10 out of 12 months, the uncertainty caused by S&P negatively impacted Assured’s business opportunities and made it harder to insure AA-rated transactions and, importantly, larger transactions, which reduced Assured’s market share from a par perspective.”
“I think because there was some uncertainty about the rating, they lost some business,” said Rob Haines, senior insurance analyst at CreditSights.
Tucker pointed out that in the first nine months of 2011, Assured was used on 40% of the transactions and 17% of the par sold for deals with an underlying rating in the A category. That was higher than comparable percentages for all of 2010. Assured “viewed that as an encouraging sign when considering the market’s concerns related to their ratings uncertainty,” he said.
After the downgrade, most analysts said that it would have little effect on Assured Guaranty. Haines said he thought it might help Assured, in so far as Standard & Poor’s said there was a stable outlook on the rating and the bond world knew what the rating would be.
After the recent challenges among monoline insurers, higher-rated A or better issuers are generally not interested in insurance, according to Phil Smith, head of the government and institutional banking group at Wells Fargo.
Fred Yosca, head of muni finance for capital markets at Bank of New York Mellon, said: “Credit is king these days and the view that insurance is infallible went out the window a few years ago.”
An issuer with a strong credit rating will get a better deal than one with a slightly less strong credit rating with insurance.
However, without insurance, many single-A and lower credits would trade at yields 20 to 30 basis points higher, Yosca said. In this context, there is a role for Assured.
The rest of the bond insurance industry did not wrap new bonds this year, having suffered too much from the impact of the recession on their involvement in other, generally mortgage-related insurance products. The impact led to their ratings being drastically cut, essentially precluding them from writing new bond insurance.
Among these insurers was MBIA, which in 2011 succeeded in reaching settlements with various financial firms it either had sued or was suing, including HSBC Holdings PLC, Royal Bank of Scotland and Morgan Stanley, among others. There are still about six plaintiffs suing MBIA concerning a split in the company stemming from the recession.
Yosca said he thought that MBIA would never come back to offer new insurance.
In response, MBIA spokesman Kevin Brown said: “We continue to believe that there is a strong demand from issuers and investors for the unconditional guarantee and portfolio surveillance and remediation services that bond insurance provides. … [MBIA subsidiary] National Public Finance Guarantee Corp. is well-positioned to meet this need once its pending litigation is resolved.”
While insurance of new issues was contracting last year, letters of credit covered $13.2 billion of par value in 2011 compared to $11.8 billion in 2010, an 11.4% increase.
A $3.3 billion chunk of the LOC volume in 2011 was issued by Citigroup for Michigan in a large deal at the end of 2011. “Take that deal away, there isn’t much of a story,” Yosca said.
Smith said he has seen his firm’s clients turn away from letters of credit in the last three years. Three years ago, when offered direct purchase or LOC-backed variable-rate bonds, most of his clients chose the latter. In 2011, three out of four chose the former.
There was a modest spike in LOC volume from dealers restructuring auction-rate transactions, converting them to variable-rate demand bonds, Smith said. Several closed-end bond funds had auction-rate preferred issues that were impaired in the economic crisis. These deals were restructured in 2011 with LOC-backed variable-rate demand bonds.