Thursday, June 5, 2008

$1 Billion for MBIA

Though small in comparison to some recent cash infusions for major banks--i.e. Washington Mutual and Wachovia--the $1 billion stock sell off for MBIA deserves comment. The bond insurance duo, MBIA and Ambac, have been struggling to maintain their Aaa rating through Moody's lately, which it seems almost no one takes seriously. Nonetheless, the $1 billion infusion reflects an attempt to maintain a stable enough balance sheet to keep the rating.

Where they fit in to the credit economy is this: they insure bonds, including mortgage backed securities. If one buys a bond insured by MBIA or Ambac, and it defaults, MBIA and Ambac will pay off the principle, which if all goes as planned then investing in bonds is nearly risk free. If only a small number of bonds falters the system works, but MBIA and Ambac cannot handle massive bankruptcies and foreclosures.

Massive subprime foreclosures is already here, and once MBIA and Ambac run out of capital to pay them off they are basically defunct as it would not be sensible to invest in them if they cannot sell any more insurance for bonds. It sounds like they are nearly out of capital now, and so in order to maintain the least shred of credibility in the rating system, Moody's at this point is forced to reconsider their highest rating.

My guess is, MBIA wanted a much bigger infusion than $1 billion, but this is all they could get. The loss of MBIA and Ambac would have severe implications for the safety of investments, and the credit freeze that already exists is about to get worse. As the credit market falters, cash will become stronger.

No comments: