Ambac commutes two CDO-squared and two CDO deals
Ambac shares have taken a beating lately (what else is new?) but it announced one positive move yesterday. It commuted two of their most riskiest CDO-squared deals:
To sum up, it pays $1 billion in cold cash to get out of $3.5 billion of exposure. It doesn't say which CDO-squared or CDO deals these are but, in general, CDO-squared deals are very toxic and we are talking about almost 100% loss. It doesn't state what the actual reserved amounts were. I hope the positive effect will be big (in the billions) but one needs to be conservative and assume the benefit may be as little as a few hundread million.
It's quite ironic but the worse the financial environment, the easier it is for Ambac (and others) to commute their insurance. I'm sure that some insurance buyers are desperate for cash and would cut a deal where they get a few hundread million right now. Six months ago these same parties likely would not have done that. One of the problems is that some say that the insurance buyers have bought CDS on Ambac (or shorted the stock) as a hedge so they don't care if the company collapses. The hedge also becomes less effective the closer the stock price gets to zero.
Ambac Financial Group, Inc. today announced that it has commuted two CDO of CDO of ABS (commonly referred to as CDO-squared) exposures and two high grade CDO of ABS exposures. The four transactions, with an aggregate of approximately $3.5 billion notional outstanding at September 30, 2008, were settled with counterparties in exchange for a total cash payment by Ambac Assurance Corporation (AAC) of $1.0 billion. The two CDO-squared transactions originally comprised collateral consisting of A-rated CDO of ABS tranches, and the two high grade CDO of ABS exposures originally comprised collateral consisting of asset-backed securitizations rated A- or higher. Most of the collateral had been downgraded to below investment grade since the inception of the transactions. All four of the transactions had been internally downgraded to below investment grade.
As a result of the settlements, Ambac expects to record positive adjustments to its aggregate mark-to-market and impairment reserves. In addition, the stress case losses in the rating agency capital models for these transactions combined exceeded AAC’s final payments; therefore, the settlements will result in an improved rating agency capital position for AAC.
To sum up, it pays $1 billion in cold cash to get out of $3.5 billion of exposure. It doesn't say which CDO-squared or CDO deals these are but, in general, CDO-squared deals are very toxic and we are talking about almost 100% loss. It doesn't state what the actual reserved amounts were. I hope the positive effect will be big (in the billions) but one needs to be conservative and assume the benefit may be as little as a few hundread million.
It's quite ironic but the worse the financial environment, the easier it is for Ambac (and others) to commute their insurance. I'm sure that some insurance buyers are desperate for cash and would cut a deal where they get a few hundread million right now. Six months ago these same parties likely would not have done that. One of the problems is that some say that the insurance buyers have bought CDS on Ambac (or shorted the stock) as a hedge so they don't care if the company collapses. The hedge also becomes less effective the closer the stock price gets to zero.
By far the biggest benefit to Ambac imo is not the reduction in MTM loss or loss reserves but getting out of the tail risk. It is tail risk that is killing Ambac's ratings and stockprice. Ambac still has an adjusted economic book value of about $20/share but people are worried about the CDO's getting totally disastrous so fear rules.
ReplyDeleteI don't think they can easily change the market perception of the long-tail risk. These deals are one-off items and the market won't change its opinion easily. I think only time will heal the situation. Only changes in macroeconomic conditions will alter things significantly IMO.
ReplyDeleteIn a convoluted sense, the fact that the monolines were hit hard with the subprime virus early possibly helped the situation. If things didn't deteriorate so rapidly by mid-2007, it is possible Ambac and others would have been insuring auto loans/etc well into 2008. Personally, if I didn't get killed so early, I probably would have invested in some, in hindsight, dubious businesses.