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A Buckeye

Brokerages/Wall Street
MBIA Shrugs Off Subprime
By Mark DeCambre Senior Writer

8/2/2007 12:26 PM EDT


Mortgage insurance firm MBIA (MBI) says it has very little exposure to the subprime slime that has shaken up Wall Street.

The Armonk, N.Y.-based bond insurer held a two-hour conference call to explain how loans provided to borrowers with unsavory credit quality are affecting it. MBIA outlined its portfolio composition and underwriting criteria in a bid to quell investor fears that have sent its shares on a tailspin this week.

CFO Edward Chaplin said that although the financial firm insures some deals tied to subprime in pools of structured securities, including so-called collateralized loan obligations and residential mortgage-backed securities, its overall portfolio has fared well.

Subprime represents less than 2% of MBIA's $651.8 billion portfolio, with much of that subprime exposure centered on the higher-A rated debt that is the last to see losses. Components of these esoteric securities, which have been sliced and diced to be palatable to investors along the credit spectrum, have lately come under severe stress.

MBIA also said it had exposure to RMBS servicers such as C-BASS--a now-failing venture led by peer insurers Radian (RDN) and MGIC Investment Group (MTG) --and Bear Stearns (BSC) . Still, MBIA emphasized that those securities were originated between 1999 and 2003 and "so far performing well."

Prompting the investor call were worries that insuring shaky loans is battering companies that insure debt, given the carnage in the subprime market over the past several months. Countrywide Financial (CFC) -- the largest loan servicer on RMBS deals that MBIA insures -- announced last week in its second-quarter earnings call that delinquencies in prime loans had started to become problematic.

Adding further cause for concern were revelations by Radian and MGIC earlier this week that the insurers were feeling pain in the subprime space resulting from their C-BASS venture.

All the grim news has been a big drag on MBIA as well since it runs a similar debt insurance business.

MBIA has said that it has beefed up its underwriting criteria since 2002 and had limited participation in debt originated in 2005 and 2006 and has been monitoring situations at Countrywide, where it has a longstanding relationship.

Much of the insurers protection from losses in its portfolio come in the form of derivatives known as credit default swaps, which mimics those of financial guaranty.

MBIA's shares were up 1.6% in midday trading.

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Both Larry's are feeling the pressure these days, from above and below.  Litigation is exposing them to personal liability, as well as many others within their corporate structures.  Heat is on in the kitchen in Houston.  Not much money left, only what they can foreclose on, and its drying up with litigation costs now. 
Blackstone will most likely recommend the Litton's be dumped, and get rid of the litigation against them.  Just guessing, but its the smart business move, only one problem with that is, CBASS general Counsel has been calling most of the litigation shots, so cutting the ties would be now next to impossible in solving the current litigation costs.  And these costs are raising faster than MGIC's loss's!
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C-BASS can't dump Litton. Litton is nothing more than a tool. There are lots of choices when it comes to tools. Litton is an LLP melange that has no value if C-BASS' portfolio is worthless. Its servicing platform and infrastructure are no better than any other typical servicer.

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Its the co-mingling of operations, ownership and management, that makes my good friends at Litton Loan LLC et al.  vulnerable to personal liability and being able to cut the corporate Vail into the D&O liability.  Its going to be done through the General Counsel's!  They (Litton, CBASS,and MGIC's) all have acted to cover up criminal acts that will allow the corporate vail to pierced.  Things like, Mail Fraud, Wire Fraud, Extortion, and money laundering.  Hud violations as section 8, money for referrals for legal, etc.  They all have an effect on being able to hold the Officers and Directors personally responsible for loss's.  And here is the best news, weather your a victim or a stock holder, both can use the same to go after them!  And Im sure we victims, and stock holders are going to.
I predicted MGIC's stock at 24 before the end of September over a year ago! many of you received my email and may have seen my postings here, Im revising it, now, MGIC may be in Chapter 11 before the end of the year!  They have no reserves, and few if any large investment groups trust them!  The hiring of Blackstone, only assures me that they are going to be broken up and sold as pieces!
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Oh Yeah??????

The Battle Over MBIA

Bond insurer reports huge loss; hedge fund investor says there's more to come.

Bill Ackman
Last Trade:8.57Change:+0.293.38%
Primary executive:
Joseph W. Brown, Chairman of the Board/Director/CEO/President
The Company is a provider of financial guarantee products and specialized financial services that meet the credit enhancement, …

Is MBIA toast?

The top bond insurer says it expects to hold on to its all-important triple-A rating, even after it reported a fourth-quarter loss of $2.3 billion. The loss came after MBIA wrote down $3.5 billion on its credit derivatives.

Shares of MBIA, which fell after the report of the loss, recovered sharply after Gary Dunton, MBIA’s chief executive, sounded bullish on a conference call later in the day.

“Nothing justifies” the 80 percent drop in MBIA’s stock price over the last year, Dunton said. He blamed “fearmongering” and “distortion of the facts” by self-interested parties, a clear reference to hedge fund manager Bill Ackman.

In a letter sent to state and federal regulators on Wednesday, Ackman said he estimated that MBIA's losses on residential mortgage-backed securities and C.D.O.'s would total $11.6 billion. Ackman has been shorting MBIA's stock, betting that the company will eventually collapse.

Dunton contended that the rating agencies in their worst-case scenarios see only a possible $3 billion in losses.

The executive acknowledged that the company had problems. “All of the monolines are paying for their mistakes,” he said. But he added, “We don’t expect that bond insurers will go the way of the buggy whip.”

The sword hanging over MBIA is its holdings of collateralized debt obligations, the value of which have eroded as a result of the collapse of the subprime mortgage market. (See "What's a C.D.O.?")

Last month, the company said its C.D.O. exposure totaled $30.6 billion. Of that, $8.1 billion represented exposure to "C.D.O.'s squared," or C.D.O.'s whose underlying portfolio includes tranches of other C.D.O.'s.

Pressure on C.D.O. values will only increase. Standard & Poor's lowered or put on review ratings on some $534 billion of bonds and C.D.O.'s tied to subprime. S&P said it did not expect the ratings action to add significantly to financial institutions' losses. "However, we believe that total losses for financial institutions will eventually reach more than $265 billion," the ratings agency said.

But MBIA said today that while it had not yet calculated the full impact of the S&P review, it believed that the ratings agency had already tested the impact in its review of the bond insurers.

Amid its losses, MBIA is struggling to hold on to the lifeline of its business—its triple-A rating. That rating provides a blanket of protection for states and municipalities that issue bonds, allowing them to pay a lower interest rate. Without it, the company could collapse.

So the company is trying to shore up its capital, closing a deal with private equity firm Warburg Pincus to invest $500 million. MBIA also cut its dividend and sold $1 billion in notes.

Others believe that investors' fears about a collapse of MBIA are exaggerated. Pointing out that MBIA has already cleared the hurdles of reviews with Fitch and S&P and has raised new capital, Jonathan Laing in Barron's finds "the current price levels of its debt, credit-default swaps, and, yes, even its stock to be absurdly low."

"Moreover, both the debt and equity markets seem to be ignoring the nature of bond insurance," Laing says. Insurers only need to pay out over the life span of the underlying debt obligations, he says. That could mean over 20 years or more.
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"CDO Squared" Securities Lawsuit Hits MBIA

On January 11, 2008, MBIA became the latest bond insurer to be named as a defendant in a subprime-related securities class action lawsuit. Bond insurers ACA Capital Holdings (about which refer here), Security Capital Assurance (refer here) and Radian Group (refer here) have previously been named in subprime-related securities lawsuits. MBIA is one of the leading triple-A rated bond insurers, and the company's difficulties may represent among the more significant developments arising from the subprime meltdown. A copy of the plaintiffs' lawyers January 11, 2008 press release regarding the MBIA securities lawsuit can be found here, and a copy of the securities lawsuit complaint, which also names MBIA's CEO and CFO as defendants, can be found here.

In addition to the securities lawsuit, MBIA's benefit plan fiduciaries were also hit with a lawsuit under ERISA, filed on behalf of MBIA employees in connection with company stock held in the employees' 401(k) plan. The plaintiffs' counsel's January 11, 2008 press release about the ERISA lawsuit can be found here. The company also disclosed on January 8, 2008 (here) that the SEC and the New York Insurance Department have started informal inquiries into the company's recent disclosures and a deal the company struck with Warburg Pincus.

The centerpiece of the securities lawsuit complaint is the company's December 19, 2007 detailed accounting (here) of its exposures to collateralized debt obligations, a disclosure that contained information the complaint describes as a "bombshell." According to the complaint, in the December 19 release, the company "disclosed for the first time that it faced $8.1 billion of exposure from insuring some of the riskiest securities in the marketplace - collateralized debt obligations (CDOs) comprised of other CDOs (so-called "CDOs squared" securities) whose underlying collateral included residential mortgage backed securities (RMBS)." The complaint alleges that "with this disclosure, investors learned for the first time that Defendants had placed their triple-A rating in jeopardy."

The company's December 20, 2007 press release (here) attempted to respond to the market criticism and reaction that followed the December 19 disclosure. Nevertheless, the company later came under further pressure when it announced on January 9, 2008 (here) that the company actually held $9 billion of the CDO squared securities, rather than the $8.1 disclosed just weeks before and that, according to the complaint, "nearly 60% of these securities were originated in 2006 or later (which was material because recent vintages are defaulting with greater consistency) and that the portfolio had already caused a $200 million impairment."

The MBIA securities lawsuit is the first subprime-related securities lawsuit of 2008. In light of the magnitude and recency of the events involved in the lawsuit, it seems likely that there will be further developments, both with respect to the company itself and in general. While it is obviously still quite early, the MBIA lawsuit does at least suggest that the 2007 subprime-related securities litigation wave was not, as some have suggested, a one-time event.

I have in any event added the MBIA lawsuit to my running tally of subprime-related securities lawsuits, which may be found here. With the addition of the MBIA lawsuit, the current tally (including subprime-related securities lawsuits pending against the credit rating agencies and against residential home construction companies) stands at 38. With the addition of the MBIA ERISA lawsuit, the number of subprime-related ERISA lawsuits stands at 9.

My prior discussion of bond insurers' exposure to subprime risk, including a detailed discussion of the securities lawsuit that has been filed against ACA Capital Holding, can be found here.

CDOs Squared: I have previously noted (most recently here) that among the contributing factors to the subprime meltdown are the complicated investment instruments into which mortgage loans were repackaged and sold in the global financial marketplace. The MBIA complaint's allegations about CDOs squared underscore this point rather impressively. MBIA (and other bond insurers) played a particularly critical role in the viability of these instruments, since MBIA's willingness to provide insurance against the instruments' default enabled the instruments to carry MBIA's AAA rating making them acceptable even to conservative investors.

Readers who like me do not feely fully briefed on CDOs squared may want to review this 2005 Nomura Securities publication (here), which explains that a CDO squared security is a type of collateralized debt obligation where the underlying portfolio consists of other types of CDOs.

According to the article,

Synthetic CDOs-squared offer investors higher spreads than single-layer CDOs but also may present additional risks. These two-layer structures somewhat increase exposures to certain risks by creating performance "cliffs." That is, seemingly small changes in the performance of underlying reference credits can cause larger changes in the performance of a CDO-squared.

Of particular interest to bond insurers (and investors in a bond insurer that happens to insure CDOs squared) is that CDOs squared "display particular sensitivity" to "frequency of defaults." Based on a very detailed analysis, the Nomura article concludes that "higher default rates affect a CDO-squared tranche much more dramatically than the underlying CDO tranche." The report goes on to state, among other things that, that "for example, the probability of a [CDO squared] tranche wipeout goes from 0.6% to 41.2% as the [CDO tranche] default rate goes from 1.0% to 1.5%."

Snakes and Ladders: The Nomura article's discussion of the risks involved with CDOs squared brings to mind Warren Buffett's frequent diatribes against derivative securities. For example, in his letter to shareholders in the 2002 Berkshire Hathaway Annual Report (here), Buffett referred to derivatives as "time bombs" and as "financial weapons of mass destruction, carrying dangers that, while now latent, are potentially lethal." (Full disclosure: I own Class B Berkshire shares, although not nearly as many as I wish I did.)

I have struggled over the years to understand the vehemence of Buffett's condemnation of derivatives, but I gained fresh insight recently when I read Roger Lowenstein's excellent book When Genius Failed, which recounts the formation, growth and dramatic collapse of Long-Term Capital Management. The events described in the book took place a decade ago, but many of the same events, circumstances, complications, and even many of the same people, were involved then as are involved in the current subprime meltdown.

LTCM's story is far more complicated than can easily be recounted here, but the most critical facts are that at the beginning of 1998, the firm had equity of $4.72 billion, but as a result of leverage, carried balance sheet assets of around $129 billion. Even more astonishing were the firm's off-balance sheet derivative positions, which had a notional value of $1.25 trillion. Adverse global financial circumstances in August and September 1998 put LTCM on the wrong side of a huge number of arbitrage bets, and put the firm in a position where it had to liquidate positions, only to find that there were no willing buyers. Lack of liquidity and the firm's highly leveraged position not only threatened the firm with failure, but, owing to LTCM's massive indebtedness, threatened a constellation of financial institutions with enormous losses. The Federal Reserve became concerned that the ensuing fallout could cause panic and damage the financial markets.

The scramble to protect the financial markets from an LTCM meltdown involved a veritable who's who of the financial world, including the redoubtable Mr. Buffett. Reading about Buffett's role in the LTCM crisis gave me some insight into his loathing of derivative securities.

First, the book makes it clear that in connection with Berkshire's then-pending acquisition of General Reinsurance Corporation (which ultimately closed in December 1998), Buffett was worried about Gen Re's involvement in certain LTCM investments on which Gen Re had counterparty exposure or for which Gen Re had provided financing. (Full disclosure: At the time, I was an employee of a Gen Re operating subsidiary.)

In addition, Buffett was also deeply involved in a Goldman Sachs-led proposed buyout of LTCM, that would have given the acquirers control of LTCM's assets for $250 million, a small fraction of the assets' putative (and as events turned out, ultimate) value. The potential buyout did not come off, in part because of Buffett's inaccessibility at critical moments while he was vacationing in the Pacific Northwest with Bill Gates.

As a result of these events, Buffett apparently had a window into LTCM's portfolio and apparently came away with an unfavorable view of derivative securities. Indeed, Buffett specifically references LTCM's near meltdown and disparages some of LTCM's derivative investments ( particularly "total return swaps") in the 2002 Berkshire shareholders letter linked above.

As an aside, it is worth noting that Buffett is only one of a host of people now prominent in the subprime crisis who played one role or another in the LTCM bailout. For example, John Thain, recently given the assignment of turning around Merrill Lynch, was deeply involved in the LTCM bailout efforts as CFO of Goldman Sachs. Jon Corzine, now the democratic governor of New Jersey, was also involved in many of the discussions. James Cayne, who just this past week resigned as head of Bear Stearns as a result of that company's subprime woes, played a significant although not particularly constructive role in the LTCM bailout as well.

Although Lowenstein's book refers to events from ten years ago, it rewards reading now, because it shows how some of the same recurring behaviors drive occasional excesses and trigger periodic crises in the financial markets. Indeed, the recurrence of many of the same circumstances and names today gives the impression that the global financial marketplace represents nothing more than an elaborate game of Snakes and Ladders, where the same money, investments and people slide around in certain prescribed paths and wind up ahead or behind as the game unfolds.

There is also a certain symmetry between the events surrounding LTCM's near-demise and the current subprime crisis; once again, for example, Buffett is cast in the role of potential rescuer, in particular now with respect to bond insurers (about which refer here). But the more important connection between the two sets of circumstances is the role of complicated derivative securities in contributing to the respective crises. Indeed, given the role that these immensely complicated derivative securities, such as CDOs squared , are playing in the current subprime crisis, Buffett's comments in the 2002 shareholders letter about the dangers of derivative securities may be required reading for anyone who wants to understand what is going on today.

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