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Radian Group Inc. (NYSE:RDN)

Q2 2010 Earnings Conference Call

August 3, 2010 10:00 AM ET

Executives

Emily Riley – Investor Relations

S. A. Ibrahim – CEO

Bob Quint – EVP and CFO

Teresa Bryce – President, Radian Guaranty

Scott Theobald – Chief Risk Officer, Radian Guaranty

Dave Beidler – President, Radian Asset Assurance Inc.

Analysts

Mike Grasher – Piper Jaffray

Matthew Howlett – Macquarie Research

Nat Otis – KBW

Mike Grondahl – Northland Capital

Mark DeVries – Barclays Capital

Donna Halverstadt – Goldman Sachs

Edwin Groshans – Height

Ron Bobman – Capital Returns

Chris Owens – Trafelet

Ryan Stevens – Philadelphia Financial

Operator

Ladies and gentlemen, thank you for standing by. Welcome to Radian’s Second Quarter Earnings Call. (Operator Instructions) I would now like to turn the conference over to Ms. Emily Riley, Vice President of Financial Communications. Please go ahead.

Emily Riley

Thank you, and welcome to Radian’s second quarter 2010 conference call. Our press release, which contains Radian’s financial results for the quarter, was issued earlier today and is now posted to the investor section of our website at www.radian.biz.

During today’s call, you will hear from S. A. Ibrahim, Radian’s Chief Executive Officer; and Bob Quint, Chief Financial Officer. Also on hand for the Q&A portion of the call are Teresa Bryce, President of Radian Guaranty; Dave Fiedler, President of Radian Asset Assurance; and Scott Theobald, Executive Vice President and Chief Risk Officer of Radian Guaranty.

Before we begin, I would like to remind you that comments made during this call will include forward-looking statements. These statements are based on current expectations, estimates, projections and assumptions that are subject to risks and uncertainties, which may cause actual results to differ materially. For discussion of these risks, please review the cautionary statements regarding forward-looking statements included in our earnings release and the risk factors including in our first quarter 2010 Form 10-Q. These are also available on our website.

Now I’d like to turn the call over to S.A.

S. A. Ibrahim

Thank you, Emily. And thank you all for your interest in Radian. As we do each quarter, I would like to highlight our quarterly performance and also for an insight into the trends affecting our business. Bob will then cover the details of our financial position before we open the call to your questions.

Earlier today, we reported a second quarter net loss of $475.1 million or $4.31 per share, compared to net income of $231.9 million or $2.82 per share for the same period last year. Before we move forward, I’d like to address three important points.

First, it must be noted that our second quarter results were primarily driven by the accounting impact of Fair Value adjustments in the quarter, which included a pretax loss of $525 million. We mentioned this as a possibility on the last earnings call. This lost on derivatives, resulted mainly from an improved market perception of Radian’s credit risk that significantly tightened that current spread and from the widening of general corporate credit spreads. Bob will provide more details and directly to helpful disclosures in our slides. However, it is important to note that this GAAP loss does not impact our statutory capital, although it does impact our GAAP book value.

Second is the modest increase in our mortgage insurance reserves. Undoubtedly, we are extremely encouraged by the second consecutive quarterly decline in delinquencies and believe that these trends have positive implications for us in the future. However, our reserves that driven by several factors, including the composition of our delinquency portfolio, in particular, the continued historically unprecedented aging of delinquent loans due to trial modifications and foreclosure monitoring. While these other factors offset the positive default trends in our reserve estimate, Radian now has even stronger MI reserves as we continue to deal with near-term economic uncertainties in terms of employment and home prices. It is also important to note, that the actual trends in our claims space remains in line with our previous guidance.

Third, there are positive results and developments in the second quarter, including signs of credit stabilization in both our businesses, and an increase in our new insurance written. We believe these positive factors are far more important than short-term effects that cause volatility in our results and are integral to Radian’s future success and growth.

Moving on to a few highlights from the quarter, we continue to benefit from our non-mortgage insurance businesses that contributed to strengthening our mortgage insurance business. The Radian assets gave a dividend to Radian Guaranty of approximately $69 million in June, and we finalized the sale of our equity interest in Sherman Financial in the quarter.

We expect Radian assets to continue to provide important capital support for our core mortgage insurance franchise, and it’s important to note that absent the substantial Fair Value impact, our Financial Guaranty business broke even in the quarter, in spite of a continuing challenging environment for the financial guaranty industry.

The risk-to-capital ratio for Radian Guaranty was 17.9 to 1 on June 30, 2010. This compares to a ratio of 16.91 in the first quarter of this year, and 15.91 a year ago. We are comfortable that we have the capital and capacity we need to write more high-quality mortgage insurance business and the ability to make further to our MI capital from the substantial capital and the liquidity of resources of the Holding company.

In the recent pact, as mortgage insurance industry tightened underwriting and pulls backed from the marketers as result of capital constraints, the mortgage industry shifted to writing more business with FHA than private MI. our goal is to bring that share back to the private MI industry and to Radian. And we have seen early signs of progress, including an increase in new insurance written across the industry and a slow but steady decline in FHA business since February.

In order to help our lending partners compare FHA mortgage insurance to competitive Radian products with potentially lower payments and tax advantages for their borrowers, we’ve lost a marketing campaign, and created a dedicated website at radianisready.com, that feature’s online tools. Calculator and product comparisons that are easy to use and we are offering our lenders free product training as well.

Perhaps most importantly, we believe the FHA is beginning to implement the changes we’ve been anticipating in terms of reducing their risk and tightening their guidelines. In fact the US house or representatives passed a bill last Friday to raise the FHA with the ability to raise the premium charges to borrowers by as much as threefold.

The legislation to decrease FHA’s risk and stabilizes its financial position had been in development and discussions for months. While the exact timing for FHA reform passage and implementation remains uncertain, we believe that progress is being made and that the changes to FHA will that’s the changes to FHA will make our products even more drastic.

Also along these lines, we are encouraged that the new financial reform legislation, specifically , this private MI as a fact that to be construed by regulators in defining the qualified mortgage exemption and hope that this will help maintain a level playing field for our industry as we compete against FHA .

We are encouraged by a 4% decline in delinquencies in the quarter which was the second consecutive quarterly decline. There was also a drop in the number of new horses, which is a positive trend for business and confirms the credit burn out in the most trouble been to do some products. You can see this detail in the default going forward part on Slide 16. It is additionally encouraging that July delinquencies also declined slightly, representing seven straight months of decline.

New insurance written group from $1.9 billion in the first quarter to $2.7 billion and our new business again consists of loans, with excellent credit characters. We continue to maintain a strong share of business with 21% market share in the quarter which is significantly higher than our historical levels of 12%-15%.

Turning to loan modifications. As of June 30, 2010, approximately 15,000 Radian insured primary loans were in a half trial period, representing approximately 11% of primary delinquencies. Nearly 13,000 Radian-insured loans has completed the program as of the end of the second quarter and with nearly 25% of cures with the result of completed loan modifications including HAMP. Many lenders and services have their own modification programs, and when they combined, these private programs may exceed the HAMP numbers.

And now before I turn it over to Bob, it is important to recognize several examples of Radian’s financial strength and prospects for future growth.

First, Radian’s book value at June 30, 2010, was $13.40 per share and our investment portfolio remains strong at $6.6 billion. Second, we believe that our existing book of business as of June 30, 2010, contains an embedded value of $1.1 billion on our first lien domestic portfolio as shown in Slide 11. Third, Radian’s risk-to-capital ratio was 17.91 with the ability to contribute more capital to Radian guaranty from the substantial cash available at the holding company.

We continue to write high quality new MI business and I doubt you increase in the quarter. And finally, we’re pleased with the signs with the signs of credit stabilizat6ion now with businesses, including certain areas of the financial Guaranty portfolio, and that continues to decline in mortgage insurance industries. We believe that these trends are intergrouped to Radian’s future success.

And now I’d like to turn the call over to Bob for details of our financial position.

Bob Quint

Thank you, S.A. I will be updating you on the P&L activity and trends for the second quarter 2010 and our financial position as of June 30, 2010. The MI provision for losses is $428 million this quarter, down substantially from last quarter still at an elevated level. Delinquency just came down more than we expected. However, the impact on the curve losses was offset by a variety of factors, including, the reduction of our estimate at future rescissions and denial, a continued aging of our delinquency inventory, and incremental pool transactions reaching their subordination level, which is added to the number of poor delinquencies that have lost in there.

Please keep in mind that we continually update all the components of our losses or estimate, in what is still an unprecedented environment, environment. And because our reserve balance is so large, small percentage changes in any factor can have a large proportional impact in any factor can have a large proportional I impact on our P&L any given quarter.

Our delinquent loans are highly concentrated in late stage buckets, as is depicted on webcast live number 15. Almost 45% of our delinquent loans are greater than one year past due and these loans constitute a disproportionally higher share of our loss reserve.

Our reserve estimate assumes that some of these late stage delinquencies will cure although the outcome is uncertain. Because of foreclosure moratorium, modification efforts and backlog, the resolution of these loans have been very slow, and will likely continue to be slow. Because of modification efforts and strategic default, many ones that we expected to cure are still delinquent and their ultimate outcome is still uncertain. Importantly, the trend of new delinquencies is positive.

Lawsuits and two of our small mortgage insurance subsidiary that fully ends your point, Sherman, which has absorbed the disproportionate of incurred losses in the first six months of 2010. And here comes the risk from rating down to have required us to provide these companies of additional capital, in order to maintain their requisite amount of statutory surplus.

$67 million of the necessary contribution of $72 million this quarter came from Radian group. Based on our projections, we do not believe this company will need material amounts of contributions in the future. The dollar amount of loss avoided related to denials and rescissions in the second quarter of 2010 was approximately 203 million compared to 277 million in the first quarter of 2010. This reduction is due to increasing numbers of rebottles which have protracted the rescission process.

Claim state for the quarter was approximately 337 million and we are reiterating or claiming state guidance for the year of approximately 1.5 billion. Agony said was a strong possibility on the first quarter call, changing Fair Value line and net loss and other financial instrument line were impacted significantly this quarter by a tightening of Radian’s credit spread. This coupled with a widening of general corporate credit spread drove a Fair Value loss for the quarter of 525 million.

Another 66 million of Fair Value loss is included within the loss of another financial instrument plan, which often contains other positive items that offsets such unrealized losses. The total of our June 30, 2010, balance sheet amount, related to a derivative exposure and consolidated transaction then the net GAAP liability of approximately 1.1 billion. This liability relates to a CDO of ABS, NIMS, and TruPs as well as our corporate and other CDO exposures.

In contrast, in the GAAP and line and road cap number 18, we have estimated the net present value of future credit loss payments at 678 million, leaving an approximate GAAP of 454 million that would be recognized into income overtime, absent any additional credit loss payment.

GAAP differential represents over $2 of after tax book value. In calculating the net present value, we used an approximate way of 3%, which mirrors I’m best man lead. Using a higher discount rate that is more comfortable with historical button weights will reduce the expected loss significantly.

More comparable with historical weights, would reduce the expected loss significantly. Using a higher discount rate that is more comfortable with button weights would reduce the expected loss significantly. As much of the expected credit loss payment, consists of our CDO ABS exposure, the principal losses for which we would expect to occur in 2036 or later.

In Financial Guaranty, there appears to be some signs of stabilization with regard to certain credit trends, including within our chopped CDO TruP portfolio. While our public finance portfolio continues to reflect the stress from general economic difficulties, deterioration in this portfolio has been relatively modest.

With the regard to the CDO of ABS transactions, we continue to believe that we will not be required to pay principal until sometime between 2036 and 2046 and that the ultimate principal payment likely be a significant portion of our total par exposure of approximately $460 million.

Based on our cash flow projections, which shows some slight improvement, we expect to begin paying claims for interest advances sometime in early 2012. This could be earlier if credit deterioration is worst than projected.

Updated details of our TruPs exposure is presented on webcast slide number 27, with no significant changes from our first quarter update. Details of our CDO of CMBS exposure is on webcast slide number 26, with some further collateral deterioration and heightened surveillance but no expected material future credit losses.

On the last day of June we paid dividend from Radian asset to Radian Guaranty of just over 69 million. Our preliminary estimate of potential dividends for 2011 is 69.

As of this quarter were significantly reduced by approximately $15 million in variable compensation expenses, resulting from a decline in Radian stock price during the quarter. While we are required to accrue expense based on our stock price at the time, the ultimate tad of this compensation is uncertain and in some cases will not be made for a number of weeks. The appropriate expense run rate is better measured is by looking at our six months expenses rather than either or the individual quarters.

We raised $526 million in May, and we have contributed $100 million to Radian Guaranty during the second quarter and 67 million to our MI subsidiary subsequently. We have substantial remaining flexibility to support Radian Guaranty and the other MI sub capital position if necessary or to address holding company cash news if necessary. Our holding company cash resources after subtracting the recent MI capital contribution and the expected intercompany tax payment through 2011 and adding the amounts we can redeem from CPF securities is approximately $580 million.

For our investment portfolio increased significantly this quarter due to capital raise and due to the sale of Sherman Financial for cash. We have $661 million of securities purchased at quarter end that haven’t settled yet. Therefore, both assets and liabilities contain that amount at quarter end that was reduced in early July when the security is settled.

We would now like to turn the call back over to the operator for questions.

Question-and-Answer Session

Operator

(Operator Instructions) And we’ll go now to the line of Mike Grasher with Piper Jaffray.

Mike Grasher – Piper Jaffray

Thank you, operator, and good morning everyone. Bob, I wanted to go back to the slide that you referenced to, Slide 15, the primary loans in default, and just seeing the duration that some of these are sitting at. Did you break out or can you break out where or what percent of each of these buckets, maybe, are impacted by modifications?

Bob Quint

Greg, we haven’t done that. And I know earlier on we retained that most of the modifications had come from the earlier buckets. You know, I think that’s changed somewhat and we’re seeing some of the modifications coming from the later buckets more recently.

Mike Grasher – Piper Jaffray

Okay, and I guess where I’m going with this is those that the 12 payments or more, you know, 45%, for those not in the mod program – or do you have the number for what those would be in the Mod program? But for those not in the mod program, would you expect those to be sort of heading to foreclosure over the next 12 months?

Bob Quint

Certainly a lot of the older loan will be head to foreclosure and we’ve estimated for within our reserve. There are also significant amounts within the modification program both HAMP and the service re-program and mods that complete out of those programs would cure out of the older bucket.

Teresa Bryce

I think it would be fair to just to add this – it’s Teresa, that we’re seeing the mods come sort of across the board, if you will, and all of the buckets but the majority of them are still coming from kind of some of the later older buckets.

Mike Grasher – Piper Jaffray

And then one just other housekeeping item, the operating expenses looked a bit lower than what we were modeling here, anyhow. I was curious if this is a fair run-rate going forward?

Bob Quint

Yes, I think the first six months is a fair run-rate, Mike. The same thing that impacted expenses up in the first quarter, impacted them down in the second quarter and that is the variable cost that is tied to stock price. So if you look at the six months, I think that represents a fair run-rate.

Operator

Next we’ll go to Matthew Howlett with Macquarie. Please go ahead.

Matthew Howlett – Macquarie Research

Bob, just on the paid claims guidance, you reaffirmed it, the $1.5 billion to get there you need see essentially a doubling of paid claims. Is there anything that you’re seeing in July that would suggest you’re going to hit that run rate or are you just sort of looking at roll rates and figuring that a certain amount were going to have to go to claim by the end of the year?

Bob Quint

Yes, I mean, I think it’s more the lateral though. The actual currents that have through the quarter, they’ve increased. So we are seeing that happen, we’ve been expecting it to happen. But it’s still – at this point, it’s still projection of claims that we’re going to receive. So I’d say half of it is because we know what we’d be paying more and we have been paying more and the other half is really a projection that we feel claims will be going up. Obviously, the reserves have come up so much in the past couple of years and that’s going to be paid out over the next couple of years.

Matthew Howlett – Macquarie Research

And just on top of that, there’s no way of knowing what percentage of those delinquencies are in mod programs outside of HAMP? Because the Treasury reports on the HAMP program, they always point to less than 2% that fail HAMP trials are going to actual foreclosure sale, or resolve that way. Is there any way to guess what percent are in some alternative program outside of HAMP?

Teresa Bryce

This is Teresa, again in the data on that is really just isn’t very robust. So we’d had difficulty not always being able to tell. And so sometimes when even things are showing as HAMP cancellations ,they could have moved over. I think what we are starting to see is more mods being completed outside of HAMP rather than within HAMP. And we’re also think that if industry reports overall that would say that there is a trend toward even some of them HAMP mods that have started out in trial mod, with HAMPs moving over to kind of a private completion.

Matthew Howlett – Macquarie Research

Okay, and then I guess just a broader question, you’re still maintaining a really deep profitability on the first lean book of digits. At what point do you think you’re going to – can you get to that $1.1 billion up to turn profitable at some point soon. Any type of clarity on when that’s going to be, when you’re going to turn the corner and start seeing those results fall to the bottom line.

S. A. Ibrahim

I mean just based on the questions that were asked so far, they highlight the amount of uncertainty we are dealing with, particularly in terms of the buildup of inventory in our default bucket. And that complicates out ability to see forward. Hopefully, as that resolves itself, we will have more clarity. However, we are encouraged by the fact that , that uncertainty is not withstanding, we still have an embedded value of $1.1 billion, which suggests that somewhere embedded in that is the assumption that in some point we should return to profitability.

Operator

Nest we’ll go to the line of Bill Clark with KBW. Please go ahead.

Nat Otis – KBW

Actually, this is Nat Otis for Bill. Just a couple of quick questions. First on, any color on the deferred tax assets and how this quarter impacts anything going forward when you might be able to realize anything?

Bob Quint

Nat, we evaluate the deferred tax assets every quarter and we have not taken substantial valuation allowance against it, so we’re still confident that it’s a good asset. Obviously, the profit that we generate in the future will turn that around. Some of it is caused by the unrealized loss on the fair value. That will impact it as well.

Nat Otis – KBW

And then could you give some color on the pool insurance reaching the subordination and how that impacted reserves. Any way you could give any color on other components and whether it was kind of the reserve in this quarter had to do with actual mix shift in the quarter or was it more a change in your expectations going forward than impacting reserving.

Bob Quint

I think that the impact – obviously, there are a lot of factors that go into it, but the impact in order was the order I want to. So the primary impact was the most impact which from the change in efficiency and denial , then the composition with the aging of the inventory and then the subordination. All of those contributed in that order.

Operator

And next we’ll go to the line of Mike Grondahl with Northland Capital. Please go ahead.

Mike Grondahl – Northland Capital

Bob, the first one is really on the reserve and the provisioning. I know in the first quarter, you kind of adjusted it. And then the second quarter, you adjusted it again, and you just kind of explained it was for fraud rescissions and some pool stuff and the aging in the middle. If there’s going need to be an adjustment going forward, what factors would be most likely to cause that in your opinion?

Bob Quint

Mike, we adjust every quarter. Obviously, there are whole host of components to it. We revised our estimate every quarter on each of them. The efficient and denials are a big component of the number. We’re confident in our estimate, but that doesn’t mean it can’t change over time. Well, certainly that’s one that is important, roll rates to claim, you know, a very, very key component. Those are revised every quarter. Severity is the key component that’s revised every quarter. So I think that we do our best to estimate but it’s a very difficult number to estimate and every quarter there’s going to be changes that on such a large number, a small percentage of change do impact any individual quarter’s numbers.

Mike Grondahl – Northland Capital

And maybe the next one is for SA. If the Senate does pass this FHA price increase bill over the next couple of weeks, how long do you think it takes for the FHA to actually raise prices?

S. A. Ibrahim

My impression from talking with the FHA is, they have been waiting eagerly for the passage of this and that suggest, and I’m speculating here that they may actually have some strategies in mind to implement. But, other than just speculating on it, I don’t know how fast it’ll take them to move on the pricings front.

We are, however, continuing to work on several fronts to gain share back from the FHA. We are in a world where the market dynamic is such that, while in a normal world, we worried more about our other MI competitors in this environment. We are more focused and more worried about how to get share back from the FHA. And I’ll ask Teresa if she has anymore insights on that.

Teresa Bryce

No, I would just reiterate the fact that we launched a marketing campaign focused on this issue, partially to make sure that lenders understood that we were ready to write more business and that we were focused on writing more business, but also to help them understand how the execution for the borrower compares, and if they’re a products in the private MI sector that are favorable for the borrower. And so, we’ve given them online tools and calculators that help them with that.

We’ve also tried to make sure that those are tools that can easily be used by loan officers, where often that decision is made about FHA versus private MI. And, we’re continuing to look for opportunities to sort of expand the – our reaching to competing with FHA. But I would just add to S.A.’s in comment that we certainly view a price increase by FHA as a positive and we would hope that that would be shortly forthcoming.

Mike Grondahl – Northland Capital

Okay, great, thanks. And then, maybe just a quick follow-up for Bob. Can you quantify how much new delinquents dropped in July?

Bob Quint

We don’t have the components, Mike. The number that we said was that the net delinquency level declined slightly, but we don’t have that components.

Operator

Thank you. And, we’ll go now to line of Mark DeVries with Barclays Capital. Please go ahead.

Mark DeVries – Barclays Capital

Yes, thank you. Could you give us a little more detail on your pool book of business, kind of where credit is trending there, to the extents to which your tiers lost years are limited, how far you are from being capped out on some of those, and whether or not you have other deals where you are actually approaching the end of your deductible and may incur incremental – incur the losses there.

S. A. Ibrahim

We’ll let Scott answer that one.

Scott Theobald

In terms of the poll insurance, the pool insurance, the way it’s mirroring kind of the type of collateral either in terms of vintage or products it’s actually is in the pools. So for the stuff that has actually been breaching lately that has been mostly subprime and Alt-A, and its earlier books. But those kind of rates, default rates are similar to what we were seeing in those product categories.

Bob Quint

And what we’ve seen really over the last several quarters is incremental pool deals breaching kind of consistently each quarter. So it has been a component of our addition to incurred losses each quarter.

And that should continue, although there is a limit to that because much of our pool insurance exposure is GSE pool, which has historically performed very well. Less of our overall risk consists of these transactions that we’re talking about. So there’s a finite amount that this can happen. But it’ll likely continue to occur.

Mark DeVries – Barclays Capital

Okay. And then, also, on the issue of the declining assumptions around rescissions and denials, can you give us a better sense of kind of what’s going on there? I think you mentioned that you’re seeing higher rebuttals in the rescissions. Is that just extending the process or is it actually reducing the number of rescissions you initially claimed had become effective?

Teresa Bryce

Well, I – this is Teresa. Bob mentioned that in his comments. And one of the things we’re seeing is a higher level of rebuttals, which just elongates the process. And when we’ve talked in the past, we’ve talked about kind of the importance of having maintained the process, having had transparency around the reasons for rescission, and also making sure that lenders have an opportunity to respond.

And what we’ve seen is some lenders who essentially are rebutting in a lot of cases, whether there’s sort of validity to the rebuttal or new information. And so, that’s just taking more time to work through that. And it means that it takes longer to get to kind of a final rescission. But we’re still seeing right now the majority of those still end up in rescission.

Bob Quint

Mark, I would just add that, over time, we know that the rescission levels are going to come down. We’ve incorporated that in our estimate. It’s very difficult to get that timing right exactly when it’s going to come down and how far it’s going to come down, so it’s a difficult exercise. But we know it’s going to come down over time.

Mark DeVries – Barclays Capital

Okay. And are the servicers being more responsive in getting you files, and therefore reducing the number of denials that you’re doing?

S. A. Ibrahim

I think it would be fair to say that the servicers in the last few months, particularly we saw this starting sometime maybe a quarter – in the second quarter they were gearing up, have put a lot more resources behind managing the claims coming out. So the claims coming in are in a better shape, which allows us to make the – accelerate the payments we would make on the claims that we should make payments on. And again, I’d like to remind everybody that of the vast majority of the claims we receive, we do make payments and have made payments and that’s where the value proposition of our product comes in.

But in those instances where the claims are denied, they’re also better organized in rebutting them, though in some instances, as Teresa mentioned, some of them just rebut everything and that causes our process to – then we have to look at this set of rebuttals and basically go through them, though in the vast majority of instances, as Teresa pointed out, we still stand by our original claims – the original rescission decision.

Teresa Bryce

And I would just add that it really does vary by servicer. I think that to S.A.’s point, servicer – many servicers have put a lot more focus on this. But some servicers have been in a better position to address some of those issues than others have.

Mark DeVries – Barclays Capital

Okay, thank you.

Operator

All right, thank you. And, next, we’ll go to the line of Donna Halverstadt with Goldman Sachs. Please go ahead.

Donna Halverstadt – Goldman Sachs

Good morning. Actually, I just had one question I wanted to ask you about reserves. And if we go back to slide 15, I was wondering if you’d be willing to make a broad generalization about what percent reserves you are on average for each of those delinquency aging buckets? And also, what percent reserved – or what is the average age at which you are pretty much fully a 100% reserved?

Bob Quint

Donna, we haven’t – we haven’t gone to that detail. I think what we said was that, obviously, the 12 payments or more is the reserve – percentage of the reserve is going to be much greater than the number of delinquents. And the maximum reserve – it ends up being in many states, it’s 240 days. So eight payments, sometimes it’s more than that. But by 12 payments or more, they are close to the max.

Donna Halverstadt – Goldman Sachs

Right, thank you.

Operator

All right, thank you. And, next we’ll to the line of Edwin Groshans with Height. Please go ahead.

Edwin Groshans – Height

Good morning, S.A. and Bob, and thank you for taking my question. Bob, I think in your comments, you talked about the slowness of the resolution process. And I just wanted to get a sense of, in prior periods, resolution, the faster it occurred, the fewer losses were involved, and I guess there are some things like HAMP and things that are preventing a quick resolution. But are you seeing that that the slow process is resulting in higher claims? And then, what steps can Radian take to try to expedite the process?

Bob Quint

I mean it’s not resulting in higher claims. It’s resulting in higher old delinquencies. That’s a really critical aspect of why the reserves keep going up is because they’re not being resolved, they’re just getting older and older. And some of them are in mod programs, including some that we have estimated to cure. So we want them to be resolved either way. But they’re being stalled, and that’s just a factor of the way the market is today, the efforts against foreclosure in terms of moratoriums and mods, and et cetera. But, for us, all of those loans keep having reserves, and as they get older, they keep having more reserves.

Edwin Groshans – Height

I guess, I thought in recent experience, the expectation was to sell a house or get that house done with today to avoid having a higher loss content if the home prices continued to be weak. I guess, you’re not – that’s not a concern here or you’re just not experiencing that with some of the foreclosures that you’re going through?

Bob Quint

Time is on our side. So if the foreclosure doesn’t happen, there are a number of ways that the borrower can cure, including getting a modification or finding the means to pay his loan, especially ones that have the wherewithal. The strategic defaulters, who have the wherewithal to pay, the cap that we have on interest limits our payment, regardless. So if a loan gets to be five years in default, we’re not going to pay more ultimately. Our meter stops after two years on interest.

S. A. Ibrahim

But you’re right to the extent that it historically may be one of the factors that stood out in the way that servicers dealt with this process was when a loan went into default, and if it stayed in default, they typically moved on the foreclosure real fast.

For a variety of reasons, either they can’t because of their various moratoriums that exist and because of the pressure they’re under in terms of not to foreclose in certain geographies, or because they’re working on modification programs, either HAMP programs or in many instances while it’s hard to track, we hear that there’s a lot of private programs in place and caused – and we don’t know whether those private programs have the same modification terms or how long it’ll take for them to resolve, or because lenders and services are making – servicers are making deliberate decisions not to flood the market with foreclosures, and therefore they believe their best loss is a delayed loss.

We don’t really understand exactly every motivation, but we believe it’s a combination of these factors. This has resulted in a protracted play-out which is unprecedented in history, and that’s what we’ve been talking about. This is not something we’ve seen in the past. It’s causing the delinquency buckets to age, and you could speculate on various outcomes of the loans that are sitting in this aged default inventory, and we’ve been very careful in making our estimates and trying to find the best estimate in terms of how they will play out.

Edwin Groshans – Height

Great. And I appreciate that, S.A., because you are right. It is unique compared to what we’ve seen in the past. Just one more technical question, if I could. With the interest that Radian would owe on some of these things as they go through modification, when they mod and become a cure, does that application go away or is that kind of tacked onto the end at some point in time?

Teresa Bryce

Well, this is Teresa. When a loan modifies, it comes out of the default population. So there wouldn’t be a claim forthcoming at that point. If it were to re-default at some point in the future, then it would be on the basis of the circumstances at that point in time. Does that –

Edwin Groshans – Height

Great.

Teresa Bryce

Answer your –

Edwin Groshans – Height

Yes, perfect. Thank you so much. All right, thank you all. That’s all I had.

S. A. Ibrahim

Okay.

Operator

All right, thank you. (Operator Instructions). And, we’ll go now to the line of Ron Bobman with Capital Returns. Please go ahead.

Ron Bobman – Capital Returns

Thanks a lot and good morning. I had a quick question on the prospect for the FHA raising the ongoing MI rates. In the past when the FHA raised the upfront MI fee, did they implement it immediately such that mortgages in their apps pipeline were then going to be subject to the higher upfront fee or was it in effect – those were sort of grandfathered subject to the older, lower upfront fee?

Teresa Bryce

I don’t really know the answer to that. I think it’s unlikely that it would affect loans that have already been disclosed on and priced. I don’t know how you could really do that. So I would think it would be on a go-forward basis. But I can’t tell you historically exactly how they’ve implemented.

Ron Bobman – Capital Returns

Thank you.

Operator

All right, thank you. And, next, we’ll go to the line of Matthew Howlett with Macquarie. Please go ahead.

Matthew Howlett – Macquarie Research

Thanks for taking my follow-up. Just on the financial guaranty, thanks for the additional disclosure. You expect this, obviously, to be – to add back earnings to book value and be accretive to book value over timing. Where are you in terms of potentially commuting some of the reinsurance risk? I know you’ve talked about possibly starting negotiations with one counterparty and then possibly just selling the business, given that it’s going to be profitable going forward.

S. A. Ibrahim

We’ll have Dave talk about the reinsurance and then I’ll comment on the selling of this.

Dave Beidler

We are always entertaining commutation discussions and claw-back conversations and we will pursue those that make economic sense for us. Obviously, those are two-party discussions and the other party has to agree to terms that we think make sense. But we’re always evaluating those kinds of opportunities.

S. A. Ibrahim

And, in terms of the business, strategically, what we’ve said is we are not writing any new business in our financial guaranty area and we focus on commutation opportunities. If somebody were to offer us a commutation opportunity that was broader than individual deals and much larger, we would from a management perspective examine it and compare it to our own projections and make a recommendation to our Board based on what we saw.

Matthew Howlett – Macquarie Research

I mean would there be possibly any interest you’re selling the entire platform at some point? I mean, would that be a possibility?

S. A. Ibrahim

If there were parties who came to us with opportunities that made sense to us, then from a management point of view, we would bring that up with our Board as is appropriate for something of this magnitude and strategic implication. We are always open to making any decision that’s in the best interest to our shareholders. And, if that decision were deemed to be in the best interest of our shareholders, we would recommend it to our Board.

Matthew Howlett – Macquarie Research

Great. We’ll wait to hear from you on that. And just final question; I mean, nice pick-up in IW. What are you seeing in terms of pricing, at least one competitor that cut pricing? And then, lastly, Congress is possibly talking about changing the way MI – the structure of MI possibly guaranteeing the entire loan or even down to a lower LTV. Any meaningful changes you see down in the pipeline? Thank you.

Teresa Bryce

Well, with respect to price, I mean we obviously continue to take a look at what’s going on from a pricing perspective. And we will continue to do that in terms of looking at our own products and what’s going on competitively. With at least one of our competitors who had dropped their pricing quite some time ago, we haven’t seen a lot of traction with that, but we’re continuing to monitor that obviously.

With respect to what Congress might do, I think as there have been a lot of discussions about a number of different things, including the possibility that there could be MI on something less than 80% LTV. But I think those conversations are so preliminary that we can’t – we’re not in a position to speculate at this point. The discussions around GSE reform and housing reform are really just getting underway and we expect those to go well into 2011.

S. A. Ibrahim

And, you may have seen the announcements, the joint announcement from the White House, as well as from the Treasury and from HUD that Secretaries Geithner and Donovan have been charged by the administration to start the process of getting – soliciting input, industry input, into the future shape of the financial – of the housing finance industry and that process is just getting started. So we believe that the announcement of August 17 meeting in Washington that is going to be held at the Treasury Department, which represents the kick-off from the administration’s perspective of a discussion process and that would determine their recommendation to Congress on the future of the housing finance system. And we – from the industry, we expect several participants to participate in that, including ourselves.

Operator

All right, thank you. And, we’ll go now to the line of Chris Owens [ph] with Trafelet. Please go ahead.

Chris Owens – Trafelet

Hi, good morning.

S. A. Ibrahim

Hi, Chris.

Teresa Bryce

Good morning.

Chris Owens – Trafelet

My question is, do you guys have the underwriting capacity to handle significant amounts of new business if the FHA pricing increase goes through?

Teresa Bryce

Absolutely. In fact, that was part of what our whole Radian is Ready campaign was about was to make sure that lenders understood that we had the capacity and wanted to write a significant amount of new business. So we’d like to see that happen as soon as possible.

Chris Owens – Trafelet

Okay. And then, question number two, just alluding to something that Bob had mentioned, about – typically after 240 days, you’re required to be fully reserved for a loan. How do I sort of mesh that with the thought that – the alternate comment you guys made that you expect a significant amount of those loans to cure?

Bob Quint

Chris, it’s not necessarily a 240. In a lot of states, it is. It really depends on the state and the foreclosure process. That was just an example. And, fully reserved, meaning it’s not going to go up if it goes, for example, from 21 months to 22 months, but not fully reserved like it’s 100% going to go to claims. So I hope that clarifies it a little.

Chris Owens – Trafelet

I’m not really sure I understand the distinction.

Bob Quint

The reserve is not necessarily going to go up if an old loan that is considered fully reserved is one month older. That loan is still going to have a cure rate attached to it until it becomes a pending claim. All loans prior to pending claims have some cure rate attached to it.

Chris Owens – Trafelet

Okay. So the cure rate just flat-lines once you reach a certain point. Okay.

Bob Quint

Essentially.

Chris Owens – Trafelet

Is it fair to think of those loans as fully reserved with that certain cure rate less than a rescission estimate once in that 12-month bucket or are you guys sort of thinking there is something different about this bucket, given the modification characteristics it might exhibit?

Bob Quint

Those loans that have the highest expectation of going to claim and then we would net the rescission from that. So the cures from that bucket would be much, much less.

Chris Owens – Trafelet

Okay. Do you guys – would you guys disclose your cure rate assumptions for the 12-month-plus bucket?

Bob Quint

We haven’t as of yet.

Chris Owens – Trafelet

Is it fair to think of it as insignificant?

Bob Quint

I think in terms of relative, it’s smaller. It’s hard to make a statement like it’s insignificant.

S. A. Ibrahim

Chris, you also made the comment that implied there was a modification adjustment to those loans. We have a roll rate factor we built in, but we do not have exclusive modification adjustments.

Chris Owens – Trafelet

Okay, thank you.

Operator

All right, thank you. And, our last question will come from the line of Ryan Stevens with Philadelphia Financial. Please go ahead.

Ryan Stevens – Philadelphia Financial

Our question has been asked. Thank you.

S. A. Ibrahim

Thanks Ryan.

Operator

All right, thank you. And, I would now like to turn the conference back over to S. A. Ibrahim.

S. A. Ibrahim

Thank you, operator, and thank you all for participating in our call. Thank you.

Operator

Ladies and gentlemen, that does conclude our conference for today. Thank you for your participation and for using AT&T executive teleconference service. You may now disconnect.

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Source: Radian Group Inc. Q2 2010 Earnings Call Transcript
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