Banks, Brokers and Bullshit: Part 2.5?

It looks like my bearish position on Assured Guaranty Ltd. (AGO) needs to be doubled up. From the WSJ.com:

Ambac Financial Group Inc. is in discussions to effectively split itself up in a move aimed at ensuring that municipal bonds backed by Ambac retain high credit ratings, according to a person familiar with the situation.

A halving of Ambac would create one unit that insures municipal debt and one that would cover rapidly diminishing securities tied to the mortgages in a structure that effectively creates a so-called "good bank" and "bad bank." Bond insurers generate revenue by promising to cover bond payments on debt issued by a range of entities, including local governments. Bond insurers now are under pressure, though, because they also agreed to guarantee payments on mortgage debt or securities to banks, brokers and investors.

Ratings companies now are poised to further cut credit ratings on bond insurers because of those guarantees. Ratings downgrades can have chain reactions and lead to increased borrowing costs for municipalities and write-downs for banks that own debt backed by the insurance providers. To avert financial chaos, regulators in New York, including state insurance superintendent Eric Dinallo and Gov. Eliot Spitzer have pressured the companies to find solutions or else face regulatory action.

Ambac is one of two bond insurers considering an effective break-up. FGIC Corp. on Friday notified Mr. Dinallo's office, the New York State Insurance Department, that it is pursuing an effective break-up. But according to people familiar with the situation, FGIC's plan came as a surprise to a consortium of banks that had been in early discussions to shore up FGIC's capital. Talks between the two sides be prolonged and litigation may be one outcome. Ambac's plan is much further along and an announcement could be made this week.

But the plan to split Ambac is complex and has required tens of hours in recent days. While a "good bank-bad bank" model has existed for decades, there isn't a playbook for halving a bond insurer. A number of issues remain to be resolved, said a person familiar with the situation.

So, what does this mean for the companies and industries covered in my blog? Well, in my opinion, this is the beginning of the endgame. Let's walk through the game board...

1. Those REITs that are having problems refinancing those high LTV loans are really in trouble now. The amount of CMBS insured and reinsured by ABK and MBI are higher than most realize. The market for this stuff is quite thin to begin with. My next post will be comparison of who may be in trouble, besides GGP. GGP makes a good example of how this unfolds, though:
   • The Commercial Real Estate Crash Cometh, and I know who is leading the way!
   • Generally Negative Growth in General Growth Properties - GGP Part II
   • General Growth Properties & the Commercial Real Estate Crash, pt III - The Story Gets Worse
   • More on GGP: A Granular View of Insider Selling and Lease Rate Growth
   • GGP part 5 - The Comprehensive Analysis is finally here
   • My Response to the GGP Press Release, which seems to respond to blogs...
   • For those who were wondering what sparked that silly press release from GGP...
   • GGP: Foreclosure vs Asset Sale
   • GGP Refinancing Sensitvity Analysis
   • GGP part 7 - Share value under the foreclosure analysis
   • GGP part 8 - The Final Anaysis: fire sale of prime properties
   • A conversation about GGP's conference call
2. More pressure on the homebuilders. Centex has a very large mortgage operation that actually relies on Ambac. See chart below. The builders will also see a further crunch in the mortage markets. Centex also has a lot of off balance sheet JV exposure whose debt may be forced back in the form of maintenance and remarging agreements. You can use the Lennar analysis as a template of how this unfolds:
3. • Lennar Insolvent: Enron redux???
   • Then there is the direct mortgage history of Centex: Centex's mortgage originations are coming home to roost!
   • More issues on mortgage funding
4. The investment and commercial banks will get very hard, due to illiquid assets and direct credit exposure. I feel I have went into this in depth. See
   • Banks, Brokers, & Bullsh1+ part 1
   • Banks, Brokers, & Bullsh1+ part 2
   • The Riskiest Bank on the Street
   • Is this the Breaking of the Bear?

Obviously, the impact on the banking community cannot be understated. Take a look at the estimated losses that I have come up with, based upon these big banks' exposure to just Ambac and MBIA (MBI)! As you can see, the loss exposure goes a very long way in verifying the research performed in the 4 bank links directly above - Basically, Morgan Stanley and Bear Stearns are going to get their head handed to them if Ambac bifurcates. Their potential losses actually make Countrywide look relatively good.

Now, what gloom and doom bearish article on the monolines structured product portfolio meltdown will be complete without one harping on one of the sellside darlings of the industry? I warned my blog readers last year that the inherent risks in Assured Guaranty were far from being adequately recognized in the market. Read through this post from last year very carefully and Assured Guaranty is, in my opinion, really a play on your confidence in Rating Agencies.

I am in the process of performing a full forensic analysis of this company which the sell side seems so enamored with. I don't buy their story. We shall see what I come up with using the Reggie Reality Engine. Let's revisit an overview of this company's exposure to significant devaluations that may occur if Ambac (ABK) bifurcates, leaving the structured product risks in a standalone company that is "assuredely" (pun intended) to get immediately downgraded. Remember, AGO just reinsured $28 billion of Ambac ceded risk.

Break-down of Net premium earned -AGO
Public finance	5.2	9.3%
Structured finance	26.5	47.2%
Financial guaranty direct	31.7	56.4%
Public finance	15.4	27.4%
Structured finance	6.2	11.0%
Financial guaranty reinsurance	21.6	38.4%
Mortgage guaranty	2.9	5.2%
Net Premiums Earned	56.2	100.0%

Now, here we have a relatively thinly capitalized company with 58.2% of its earned premiums stemming from structured products, coming off of two quarters of record mark to market losses, and 5.2% of earned premiums coming from mortgage guarantees in the worst underwriting vintages of the worst housing bust in the history of this country. Does anyone besides me see a blowup just waiting to happen? The waves of devaluation and counterparty failure that will occur if/when FGIC and Ambac bifurcate will devestae this little reinsurer. Then again, this is just speculation. Let's see what the forensic analysis can confirm, when it gets here.