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Understanding the Value of Credit Enhancement

Understanding the Value of Credit Enhancement. Rodney Clark Managing Director NFMA Annual Conference May 8, 2009. Our View Of The Current Situation. The bond insurance industry has been significantly impaired New business prospects are uncertain:

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Understanding the Value of Credit Enhancement

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  1. Understanding the Value of Credit Enhancement Rodney Clark Managing Director NFMA Annual Conference May 8, 2009

  2. Our View Of The Current Situation • The bond insurance industry has been significantly impaired • New business prospects are uncertain: • Structured Finance is dormant; uncertain return for insurers. • Public Finance was active prior to last year’s events, but significantly reduced penetration rate. • Only 3 ‘AAA’ companies; uncertain if others will be accepted. • Extremely Limited financial flexibility; capital adequacy for most companies has been diminished; new capital is expensive or unavailable. • Full extent of Structured Finance losses will not be known for some time and will impact capital and financial flexibility.

  3. Bond Insurers: Our View of the Current Status Group 1: Generally unaffected by current situation • Berkshire Hathaway Assurance (‘AAA’/Neg) – business prospects solid but selective approach has resulted in limited participation in market. • Assured Guaranty (‘AAA’/Stable) – has dominated primary market due to problems at competitors; pursing acquisition of FSA, which will further concentrate market share

  4. Bond Insurers: Our View of the Current Status Group 2: Somewhat impaired by current situation • FSA rating (‘AAA’/Neg) due to uncertainty relating to parent Dexia. • Ambac (‘A’/Neg) and MBIA (‘BBB+’/Neg)* ratings lowered two or more rating categories and further action possible. • Both companies in development of new muni-only subsidiary strategies * MBIA’s muni-only affiliate, National Public Finance Guarantee, is currently rated ‘AA-/Watch Dev’

  5. What Qualities Support Investment Grade Ratings? • Resources to pay claims go beyond statutory capital and include unearned premiums and installment premiums. • Time is an ally; many claims will be paid well into the future allowing for significant income generation. • Liquidity has not been impaired due to collateral posting requirements on CDO exposures. Investments are high quality. • The insured municipal exposure is low risk and not likely to generate meaningful losses. • While business volumes are currently diminished, companies have organizational and capital strengths to resume writing new business as market conditions allow. Fundamental analysis that indicates strong capital and liquidity

  6. Bond Insurers: Our View of the Current Status (3) Group 3: Seriously damaged by current situation • CIFG (‘BB’/Dev), FGIC (‘CC’/Neg)*, and Syncora Guarantee (‘R’) ratings downgraded many categories, weak capital adequacy, no competitive prospects • Radian Asset (‘BBB-’/Watch Neg) - not highly exposed to structured products, but links to its parent have severely damaged its competitive prospects. Parent has repositioned company as subsidiary of, and potential source of capital to, the mortgage insurance operation. * Prior to withdrawal of FGIC’s ratings on April 22, 2009

  7. Our View of the Ability To Write Business In The Future • Issuers and regulators have expressed a desire for highly rated and municipally focused bond insurers. • We do not believe the basic business model of municipal bond insurance is broken but owners and managers may have to accept low margins and modest returns on equity. • However, regaining former credibility with clients and investors is key, but will likely be difficult. • We believe that greater certainty of capital strength and stable, high grade ratings may lead to increased demand over time.

  8. Public Finance Issuance Trends Source: The Bond Buyer

  9. Our Views on Potential New Entrants • Widespread interest in meeting need for bond insurance: • Direct federal government guarantee • Municipally-owned bond insurer • New private start-up companies • Ambac and MBIA recapitalizing and refocusing existing subsidiaries • Existing ‘AAA’-rated companies • Key question: Will bond investors regain confidence in the product and trust individual companies to be stable, low risk insurance providers?

  10. Our Views on Potential New Entrants (2) Key rating issues: • Can management develop a sustainable business model and demonstrate the ability to generate a profitable stream of revenue of sufficient volume and quality to support the capital employed in the business? • Can top-notch management team be assembled? • Will enterprise risk management capabilities be robust? • Can risks of legacy company be effectively ring fenced to avoid contagion risk to newly capitalized subsidiaries?

  11. www.standardandpoors.com Analytic services and products provided by Standard & Poor’s are the result of separate activities designed to preserve the independence and objectivity of each analytic process. Standard & Poor’s has established policies and procedures to maintain the confidentiality of non-public information received during each analytic process.

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