Financial Guaranty Insurance Co. fell more deeply into the hole in the second quarter as the insolvent bond insurer lost more money on contracts linked to mortgage debt and its statutory deficit continued to widen.
The New York-based company, whose parent company filed for bankruptcy protection earlier this month, posted a $16.1 million loss during the second quarter. The losses stemmed from assumptions the insurer will pay more claims on bonds secured by residential mortgages, particularly deals the company insured from 2005 to 2007.
“Residential mortgage-backed security performance continued to deteriorate during the second quarter,” FGIC said in a statement.
More than 30% of non-agency mortgage loans are at least 30 days delinquent, according to data from Bloomberg LP.
FGIC insures $64.58 billion of bonds, credit-default swaps, and structured products. The book includes $19.5 billion of municipal bonds, with heaviest exposure to the Los Angeles Unified School District, Jefferson County, Ala., and Puerto Rico.
The company ceded the remaining $188 billion of its municipal book last year to National Public Finance Guarantee, formerly known as MBIA.
FGIC has now reserved more than $3 billion to pay claims, mainly on mortgage products and credit-default swaps. The reserve to pay claims jumped by $86.5 million during the first quarter, more than offsetting returns on the company’s $1.86 billion investment portfolio.
Some of this reserve derives from the bond insurer’s guarantee of Jefferson County’s sewer revenue warrants. FGIC incurred an $809,000 loss in the second quarter from that deal, having recorded a $1.2 million loss on it in the first quarter.
Reserving for claims payment is an accounting technicality: FGIC stopped paying claims on Nov. 24 under an order from its regulator, the New York Insurance Department.
The NYID requires bond insurers under the state’s aegis to maintain a “statutory surplus” — defined as assets in excess of liabilities, subject to certain adjustments — of at least $66.4 million.
FGIC’s statutory position the day of the NYID order was shy of the minimum by $932 million. The bond insurer has continued to bleed money since that day of reckoning and now has a statutory deficit of $1.69 billion.
The pace of deterioration in its statutory position has moderated, after degenerating by $1.79 billion in 2009 — an average rate of more than $445 million a quarter. The statutory deficit deteriorated by $359 million in the first quarter of 2010, and only $46.6 million in the second quarter.
FGIC’s parent, FGIC Corp., filed for protection from creditors in U.S. Bankruptcy Court for the Southern District of New York on Aug. 3.
FGIC Corp. has no employees, no assets other than $11.8 million in cash, and no credit ratings.
The only thing it owns besides cash is FGIC, whose liabilities are nearly double its assets. Forced to pay claims on defaulted mortgage securities and set aside money to pay additional anticipated claims, the subsidiary was no longer able to pay dividends to its parent.
Without dividends from its subsidiary, FGIC Corp. claimed it could not meet its $391.5 million in liabilities, which consist of $345.5 million in bonds maturing in 2034, and a $46 million bank loan arranged by JPMorgan.
FGIC Corp. defaulted on its bonds when it failed to make a January interest payment.
The parent company submitted a restructuring plan to the bankruptcy court under which its creditors would become its owners. FGIC Corp. is currently owned by Blackstone Group, CIVC Partners, and Cypress Group.
Regardless of what structure the parent company takes, its bond insurance subsidiary will likely remain barred from paying claims until its statutory surplus is restored.
To achieve this, FGIC is trying to pare down the amount it needs to set aside to pay claims, mainly by stripping its guarantees from the bonds it insures. This is most often accomplished by buying bonds the company insures from bondholders, in exchange for cash and securities that replicate how the bonds would perform without FGIC’s insurance, a process known as commutation.
This strategy worked for Syncora Guarantee, which climbed out of a $2.6 billion statutory deficit by commuting its guarantees on structured mortgage products, and was cleared last month to resume paying claims.
FGIC in March launched an offer to commute $9.6 billion in residential mortgage-backed securities. The bond insurer revised that proposal Wednesday, offering to make bondholders who agree to commutations eligible for “certain potential litigation and dispute recoveries, and certain reimbursement amounts,” as well as limited guarantees on the commuted debt.
So far, bondholders have tendered $2.78 billion for commutation. Counting bondholders who have agreed to commutations but have not yet tendered, FGIC said it has secured commutations for 37.2% of the targeted total.
The company believes it needs to commute 72% of the total to restore its surplus.