Wednesday, November 28, 2007 1 comments ++[ CLICK TO COMMENT ]++

Bill Ackman Thinks Bond Insurers in Big Trouble

Bill Ackman supposedly thinks that MBIA and Ambac will be bankrupt by mid 2008 if they can't raise capital:

Bond insurer MBIA Inc could be insolvent as soon as the second quarter of 2008 if it were unable to access additional capital, according to a slide at a presentation by Pershing Square's William Ackman.

Ackman estimates MBIA will incur $2.2 billion of losses in the fourth quarter, and rival bond insurer Ambac Financial Group Inc will incur $4.2 billion of losses.

Nothing new from Bill Ackman, who has been bearish on the bond insurers since 2003 (based on some article I read back then (I think in Forbes). Since I'm bullish (although not bullish enough to take a position right now), this makes me uneasy. If he were not a so-called value investor, I would sort of brush it off but since he is a value investor (meaning he is likely basing his views on bottom-up approach*), it is something one should consider. I really want to get my head around where he is wrong. He has basically implied that the whole bond insurance business makes no sense. By claiming that MBIA, which is the leader and the least likely to be downgraded, he is attacking the whole industry.

He is supposedly presenting at the Value Investing Congress and if anyone can give me (or provide a URL link) to the presentation slides (assuming it's legal to do so), I would appreciate it.

CIBC and Barclays Vulnerable to Bond Insurance Collapse

I don't really understand this article. Supposedly CIBC and Barclays acted as counterparties to some of the riskiest bond insurance that was written. If the bond insurers fail to pay then the article is implying that CIBC and Barclays will be on the hook.

Bond insurers didn't used to put up collateral when doing business with Wall Street, but that all changed as they started insuring riskier products. As a result, Ambac and other monolines were required to find counterparties with strong balance sheets to back them up when they insured the exotic bonds that Wall Street cranked out in recent years.

Enter CIBC and Barclay's, relative newcomers to the bond insurance business. With sound balance sheets and lots of cash, they were eager to help guarantee these insurance contracts for a fee. Bond insurers even packaged and sold their own debt in the form of credit derivatives -- risks that CIBC and Barclay's took on as well.

...That's because, if the insurers are downgraded, their cost of doing business will become a lot more expensive, which means they'll have less money to meet their guarantees on troubled bonds. The responsibility for these guarantees will fall to the likes of CIBC and Barclay's.

I never heard this being discussed anywhere before. I never knew that some banks, like CIBC, are somehow guaranteeing if the bond insurer fails. If you have a thought on what is happening, leave a comment below.

* Why Dissenting Value Investor Opinion Is Important In My Eyes

Admittedly I have no idea how much of a pure value investor Bill Ackman is. Generally most people consider him to be close to a pure value investor. Anyway, the reason it matters whether he is a value investor or not is because most value investors approach their investment decisions from bottom-up (i.e. starting with company specifics, then moving to industry, and so forth). So when he says that MBIA will be insolvent in 3 quarters if they can't raise capital, he is likely saying this from a detailed analysis of the company.

In contrast, note that other types of investors, such as those into sector rotation, or traders, or those making calls based on macro views, or whatever else, can easily say stuff because the mortgage market is falling apart and a lot of the structured products, like recent vintage CDO-Squared, are almost completely worthless. Although I consider these views, I give less weight to them. The reason is the same reason Warren Buffett ignores macro stuff. Consider the following:

Ten or twenty years ago, if you had looked at the macroeconomic trends for tobacco stocks and was able to predict exactly what transpired (very few can predict), you would have seen the following: declining tobacco use (especially among younger people), advertising ban (how are you supposed to sell your product if you can't advertise on any of the major media?), huge court settlements with governments that wiped out many years of profits, and an increased negative opinion by the public towards the companies. Tobacco would have looked like a bad investment... boy, would you have been wrong... tobacco stocks, such as Phillip Morris (aka Altria), ended up being some of the best investments in the last 20 years (not #1 but easily beat the market)...

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1 Response to Bill Ackman Thinks Bond Insurers in Big Trouble

November 29, 2007 at 8:22 PM

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