Friday, February 1, 2008 0 comments ++[ CLICK TO COMMENT ]++

Banks Working On Monoline Bailout

UPDATE (bottom): Added an additional comment from Bloomberg about possible strategies being considered.


It's too early to say anything but CNBC is reporting that 8 banks are working on some plan for the bond insurer problems:

Some of the world's biggest banks have grouped together to help work out a bailout plan for troubled bond insurer Ambac Financial Group, CNBC has learned.

This potential deal is likely the reason why Standard & Poor's affirmed Ambac's AAA credit rating late Thursday, while putting MBIA on a negative credit watch. That move shocked traders because Ambac had been considered to be the much weaker of the two bond insurers. Also, MBIA had received a capital infusion from Warburg Pincus.


CNBC says that the 8 banks working on some deal are the Royal Bank of Scotland, Wachovia, Barclays, UBS, Societe Generale, BNP Paribas, Dresdner, and Citigroup. Greenhill & Co is the investment bank providing advice. It`s not clear what the proposal entails or why these banks are willing to consider this deal. Some of these, like Citigroup, have a self-interest in helping the monolines due to their large exposure to the insured bonds but I`m not sure about the rest (most of them are European). Commensurate with the news story, CDS costs for Ambac and MBIA fell sharply.

From a shareholder perspective, the best outcome will be if the banks provide a backup credit line of some sort. This way, shareholders won`t be diluted and the monolines won`t have to draw any money until claims actually materialize. This should lower the market`s concern over the viability of the monolines as well. Although I`m not sure how the rating agencies look at a line of credit in their capital requirement calculations.

One of the worst outcomes for shareholders is if the banks take a large equity position. Even in this case, I suspect that the dilution will be less than if a vulture fund took over the company.

It's interesting to note how the rating agencies have different perceptions of the risk in each monoline. For instance, S&P has generally had a more favourable view of Ambac than MBIA, whereas Fitch thinks MBIA is better than Ambac.


Possible Strategies

UPDATE: Bloomberg gives a couple of possible strategies being considered:

One of Dinallo's proposals to rescue the company would have banks and securities firms act as reinsurers of bonds and securities that Ambac guarantees, one of the people said. Ambac would pay an upfront fee in return for a promise that the banks would reimburse it if insurance-related losses exceeded an agreed-upon limit, the person said.

Another option would be for banks to provide the bond insurer with capital to help it pay claims.


The first strategy is attractive from a shareholder point of view. I'm not sure if Ambac is also considering ceding its portfolio to the traditional reinsurers.

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