American International Group Inc., the insurer bailed out by U.S. taxpayers, is investing in home-loan insurance, a business that Aldo Zucaro, chief executive officer of rival Old Republic International Corp., said doesn’t make sense.
United Guaranty, acquired by AIG in 1981, backs mortgages against losses and is seeking growth after hiring Donna DeMaio from MetLife Inc. in May. Zucaro questioned the industry’s prospects after failing to separate his company from a mortgage-guaranty unit that he said may be unprofitable into 2014.
“If all you’re doing is looking at the past, yeah, clearly it’s a crappy business,” Mark Devries, an analyst at Barclays Plc, said by phone. “For those who survive and are there, it’s going to be the most attractive environment to write mortgage insurance that we’ve seen for at least a decade and a half.”
Tighter lending standards by banks and an improving housing market, with prices stabilizing and home sales close to two-year highs, mean the business is vastly different than in the years following the housing market crash that started in 2006. Mortgage insurer losses mounted in subsequent years as home prices fell as much as 34 percent and delinquencies surpassed 10 percent, while 4.7 million homeowners lost their properties to foreclosure, according to RealtyTrac Inc. data.
Old Republic posted pretax losses of more than $2 billion from mortgage-guaranty operations in the five years ended Dec. 31, while AIG’s business backing home loans had a pretax loss of $4.5 billion in the period. AIG, buoyed by U.S. rescue funds and returns from one of the world’s largest commercial insurers, can pursue growth while the accumulated shortfall and a refusal by mortgage buyer Fannie Mae to accept Old Republic policies has prevented Zucaro from writing new policies that may be more profitable.
Devries estimates that firms that stay in the business may benefit from a return on equity above 20 percent on new coverage as the exit of some rivals allows remaining insurers to boost prices, and tighter underwriting standards limit claims.
AIG competes with rivals led by Genworth Financial Inc., MGIC Investment Corp. and Radian Group Inc. Shares of all four of the companies plunged more than 80 percent in New York trading since the end of 2006. At least two smaller closely held firms were founded after housing prices crashed.
Mortgage insurance is typically paid for by borrowers, picked by lenders and required for debt exceeding 80 percent of a property’s value. The policies cover foreclosure losses and represent a separate business from mortgage-bond guarantees provided by Fannie Mae and Freddie Mac.
The market share of private companies in mortgage insurance fell to 22 percent last year from more than 75 percent in 2007 after losses drained capital at the firms and government agencies such as the Federal Housing Administration took a greater role, according to Inside Mortgage Finance. Radian sold the most private mortgage insurance in the first three months of this year, followed by AIG, MGIC and Genworth.
Old Republic opted against contributing the capital that would be required by regulators to sell more mortgage insurance. Zucaro will collect premiums and pay claims on mortgage policies sold in prior years while directing resources to more profitable lines such as title insurance and commercial coverage.
Accumulated losses that wiped out about 80 percent of Chicago-based Old Republic’s mortgage-guaranty profits since it entered the business more than 30 years ago are “sobering facts that bring into question the very rationales of the MI business model,” Zucaro said on a conference call last month. “Our mortgage-guaranty segment has spilled a lot of red ink.”
Zucaro had planned to spin off the mortgage unit in a move that would have isolated the parent company from losses. He canceled the plan June 22 after objections from stakeholders, a group that he said includes regulators, banks and bond holders.
The shares plunged 21 percent since June 21, while prices on $550 million of 3.75 percent convertible bonds dropped to 91 cents on the dollar yesterday from 100 cents. Moody’s Investors Service downgraded the company’s debt to Baa3, one level above junk.
United Guaranty can expand as the U.S. reduces its role in the housing market, AIG CEO Robert Benmosche said on an Aug. 5 conference call. The unit is pricing individual policies based on risk and provides insight into the economy, he said.
“It’s running very well and it’s enhancing whatever we do here,” Benmosche said. “We see it as a keeper.”
The unit accounted for $8 million of pretax income in the first quarter as AIG posted net income of $3.21 billion, the company said in May. DeMaio, previously the CEO of MetLife Bank, was hired that month as chief operating officer of United Guaranty to oversee sales, underwriting and loss management.
“Her experience in leading fast-growing organizations will be a major asset as we build upon United Guaranty’s position,” United Guaranty CEO Kim Garland said in a May 11 statement. Jim Ankner, a spokesman for AIG, had no additional comment.
United Guaranty has been able to write new coverage in part because AIG helped absorb losses, said Helen Remeza, an analyst at Moody’s. AIG, once the world’s largest insurer, received a bailout in 2008 that grew to $182.3 billion. The firm tapped a U.S. Treasury Department facility for $2.1 billion in 2009 in part to help restructure United Guaranty, AIG said in a filing that year.
Genworth is working to “strengthen our capital structure and realign our business portfolio,” acting CEO Martin Klein wrote in a letter last month after Moody’s said the company was being reviewed for a downgrade, in part because of U.S. mortgage insurance. The company also backs home loans in Australia and Canada and sells life insurance, long-term care coverage and retirement products in the U.S.
New policies are more profitable and will help rebuild capital, said S.A. Ibrahim, CEO of Philadelphia-based Radian. He’s said the mortgage insurance business may become profitable as soon as 2013.
“We as a company and our shareholders have borne significant losses, but this is an industry that is still standing,” Ibrahim said. “Each piece of new business we write, if it’s profitable and well written, creates a greater ability to pay our obligations to the legacy policyholders.”
FBR & Co. said in April that it raised $550 million to fund NMI Holdings Inc., a planned mortgage insurer. Essent Guaranty Inc., backed by JPMorgan Chase & Co. and Goldman Sachs Group Inc., was approved as a qualified insurer by government-sponsored enterprises Fannie Mae and Freddie Mac in 2010.
The Federal Housing Finance Agency, the overseer of Fannie Mae and Freddie Mac, which were seized by the U.S. in 2008, is studying ways for the private sector to share housing risk, according to an FHFA strategic plan.
“Mortgage insurance has to exist and, given the political support for housing in this country, I think we’ll get a solution,” said Jason Stewart, managing director at Compass Point Research & Trading LLC. in Washington. “The average homeowner has nowhere near enough savings or earnings capacity to put down a down payment” that a lender would be willing to accept without third-party backing.
Thomas Lawler, a former Fannie Mae economist who runs Lawler Economic & Housing Consulting, said the role of private firms is tied to the mandate by Fannie Mae and Freddie Mac for insurance on most low-down-payment loans, a policy that could be changed by the government.
“It was the GSE legislation that really transformed the mortgage insurance industry into something big, because it was a requirement,” Lawler said. Changing the enterprises “means that the industry itself could shrink.”
Mortgage insurance volume may also decline if risk-retention rules stemming from the 2010 Dodd-Frank Act, don’t give lenders a benefit for loans that carry it, he said.
The housing crash calls into question the viability of insurers that rely mostly on backing mortgages, Lawler said. Larger companies like AIG can better bear the risk, he said.
“If you look at the mortgage insurers today, they are still generating substantial losses from their legacy books,” said Stanislas Rouyer, associate managing director at Moody’s. “The opportunities for new business, while attractive given the quality of the loans that are being insured, the volume is not sufficient at this point to cover the losses that are still emerging.”
PMI Group Inc. filed for bankruptcy protection in November and Triad Guaranty Inc. stopped selling new policies in 2008 as capital ran short. Triad traded over the counter for 6.5 cents a share yesterday, down from a 2004 high of more than $60.
Radian and Milwaukee, Wisconsin-based MGIC have said they may fail to meet regulatory limits on risk relative to capital in the second half of this year and have received permission from some state regulators to continue selling policies if they breach the standards.
Michael Zimmerman, senior vice president of investor relations at MGIC, declined to comment.