Subprime's Ultimate Time Bomb? by Jonathan R. Laing
Summary: Loan insurer ACA Capital Holdings' (ACA) shares lost almost 2/3 of their value, dropping from $15 in mid-June to just over $5 on July 24, before rallying back to a current $7. Barron's says investors' relief may be short lived. Its $326 million capital base and $61 billion loan exposure equate to 180-to-1 leverage. Critics say Wall Street lenders like Bear Stearns (NYSE:BSC), Merrill Lynch (MER), Lehman Brothers (LEH) and Citigroup (NYSE:C) have used the company to move billions of dollars in risky, volatile loans off their books. $9.3 billion of its exposure is to the top 60% of mezzanine CDOs, meaning it shouldn't take a hit until the bottom 40% collapses. However, all it takes to wipe out the lower level are cumulative losses of 7% -- this after Standard & Poors recently forecast a 11-14% hit. ACA also has another $5 billion exposed to 'high-grade' subprime CDOs, which could be 2/3 wiped out by a 10% cumulative loss. It also insures $444 million in 'CDO-squared pools,' which could be destroyed by as little as a 4.5% loss in the collateral. Including shareholder net worth, the company says it has claims-paying resources of over $1 billion. Should subprime woes prove systemic, Barron's says, losses could be $3 to $5 billion.