Assured Guaranty Ltd. (AGO), the municipal-bond insurer whose biggest investor is billionaire Wilbur Ross, said its credit downgrade by Moody’s Investors Service was unjustified and showed a “serious flaw” in the company’s rating process.
Moody’s cut its rating of the parent company two levels to Baa2, two steps above junk, citing in a statement the industry’s “dramatic decline” since the subprime mortgage crisis. Subsidiaries Assured Guaranty Municipal Corp. and Assured Guaranty Corp. had their insurance financial strength ratings, a sign of their ability to pay claims and obligations, lowered two steps to A2 and three levels to A3, respectively.
Ross said in a telephone interview that the market’s reaction shows that “everybody agrees with the company’s view that Moody’s made a terrible mistake.”
“It’s Wall Street saying they got it all wrong.”
Credit-default swaps tied to Assured Guaranty’s debt declined 1.4 percentage points to 1.5 percent upfront as of 3:30 p.m. in New York, according to prices from data provider CMA, which is owned by McGraw-Hill Cos. and compiles prices quoted by dealers in the privately negotiated market.
That’s in addition to 5 percent a year, meaning it would cost $150,000 initially and $500,000 annually to protect $10 million of Assured’s debt. The contracts, which pay the buyer face value if a borrower fails to meet its obligations, less the value of the defaulted debt, fall as investor confidence improves.
Assured and other bond insurers, which had top credit grades before the financial crisis, helped lower-rated localities reduce borrowing costs for infrastructure projects. Assured was the only one left insuring munis after MBIA Inc. (MBI) and Ambac Assurance Corp. had their ratings cut amid losses on guarantees of subprime-mortgage-backed debt.
Though insurer Build America Mutual Assurance Co. entered the market last year, just 4 percent of local bonds sold in 2012 had the protection, which once covered more than half the $3.7 trillion market.
Hamilton, Bermuda-based Assured said it plans to create a municipal-only insurer this year to increase market share. The subsidiary won’t have a rating from Moody’s.
Municipalities have grown used to borrowing without insurance that once held down interest costs, before the MBIA and Ambac downgrades sent floating rates soaring in 2007 and 2008. States and cities haven’t had to pay a penalty, instead issuing bonds at the lowest yields since the 1960s as investors seek a haven from Europe’s debt crisis.
“It costs so much more to buy bond insurance relative to the savings you can realize,” said Alan Schankel, head of fixed-income research at Janney Montgomery Scott LLC in Philadelphia. “I expect Assured Guaranty will have an even more difficult time maintaining market share.”
Investors have reduced the value of bond insurance to “essentially zero,” said David Manges, muni trading manager at BNY Mellon Capital Markets LLC in Pittsburgh.
Assured said in the statement that it has faced “an extraordinarily challenging business environment, with historic low interest rates, tight credit spreads and ratings reviews.”
While Assured avoided the losses that felled its rivals, its stock plunged 90 percent from June 2007 to March 2009. Ross bought $250 million worth of shares in February 2008 and committed $750 million in capital to the firm. The billionaire’s WL Ross & Co. owned a 10.2 percent stake as of Sept. 30. Though the shares recovered in 2009, they are little changed from June of that year.
“Assured operates in an industry that has not recovered from the financial crisis,” Moody’s said. The company “will continue to struggle in the face of declining fundamentals.”
In trading today, shares rose to $15 at 4:15 p.m. in New York, after falling as much as 4.45 percent. The stock is down 2.3 percent in the past 12 months, while the Russell 1000 Financial Services Index is up 22.8 percent, data compiled by Bloomberg show.
Default swaps on Assured Guaranty Municipal Corp.’s debt fell 23 basis points to 365 basis points, CMA data show.
About 4 percent of the $363 billion of muni debt issued last year through Dec. 13 was insured, according to Bank of America Merrill Lynch data. Assured Guaranty Municipal Corp. in 2012 insured $13 billion in new bonds and $1.3 billion in the secondary market, according to the company’s statement.
Some investors are betting insurance could rebound. Build America Mutual, which began insuring bonds last year, is the first new insurer of local debt since Warren Buffett’s Berkshire Hathaway Assurance Corp. entered the market in 2007.
“Bond insurance will continue to play an important role in the municipal market,” Sean McCarthy, chief executive officer of Build America Mutual, said in a statement.
Assured had already lost investment-grade status in the eyes of investors, according to Moody’s Corp.’s separate capital-markets research group. Its credit-default swaps trade at prices implying the debt is rated B3, six steps below investment grade. The contracts have signaled the company should be rated junk by Moody’s Investors Service since August 2007.
Standard & Poor’s rates Assured Guaranty Corp. and Assured Guaranty Municipal Corp. AA-, fourth-highest, with a stable outlook.
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