Survival of AMBAC and the Mortgage Insurers

This gets so complicated almost on one can figure it out, which is the whole problem. Interestingly, David Tice at Bear fund actually predicted this whole scenario several years ago. But very few people saw it coming, me included. I should have believed him, and Doug Kass. I thought they were overdoing it, but I guess they were always right.

The mortgage insurers are on the hook for the “Credit Swaps” that were written to insure the companies writing the CDOs and RMBS, the securities created by packages of loans. If you were like Lehman, Citi, Merrill or JP Morgan issuing those securities, you could insure them with companies like MBIA, MGIC and Ambac. This would be similar idea to the PMI insurance that is written on individual mortgages (Private Mortgage Insurance) for loans with less than 20% equity, or the insurance on mortgages sold by Fannie Mae or Freddie Mac. In the case of FNM and FRE, the insurance policy is backed by the American government.

The problem for the commercial insurers is they don’t have enough capital to cover the insurance claims. If the government doesn’t back them up, it will be big problems for the financial system. But I think the government HAS to find some way to support them. I don’t know if $250B is the number, or not. But it would help the banks, too, if some one helped with the insurers. The banks would like to collect on their insurance policies. It would help their capital situation and would also help get the market for commercial paper moving. All this is tied together.

As for Buffett, he is creating an insurance company to insure municipal bonds, not mortgages. Most of these commercial paper insurers were doing municipal bonds till they got the mortgage bug. Now there is no healthy company to insure municipal bonds, so Buffett is stepping in.

As scary as all this sounds, it has to get resolved by the government. This is no different than the S&L crisis when the government stepped in with a $500B rescue. In fact, it is more important this time than that time, since now the money center banks are affected, not the less important S&L industry. So, I would think $250B would be a cheap bailout. Put another way, if they don’t fix this problem with the insurers and the money center banks, there won’t be much of an economy to worry about and I am not sure the dollar will be worth anything either.

The day the Feds announce a comprehensive plan to fix the problem (instead of just promises which is all we have had so far), bailout the insurance companies, the market will rebound and probably in a big way for the financials.