MBIA (MBI) announced Wednesday that it has reached an agreement with Muni Bond insurer Financial Guaranty Insurance Company [FGIC] to reinsure $184 billion principal amount of public finance bonds insured by FGIC. The agreement is subject to the approval of the NY State Insurance Department which is expected since MBIA said in its press release: “We appreciate the encouragement and support provided by the New York State Insurance Department and Superintendent Eric Dinallo in connection with this transaction.”
This is the “end of days” for FGIC’s credit default swap counterparties but good news for the holders of the bulk of FGIC insured municipal bonds. The reinsurance agreement is a “cut through” agreement meaning the insured bondholder can call on MBIA directly to make payment in the event of default on the insured bond. As a result, these bonds will be upgraded from “B-1” Moody’s and “B” S&P, FGIC’s current financial strength ratings, to A-2 Moody’s and AA S&P, MBIA’s current financial strength ratings. Bonds with a published current uninsured (on their own) rating of at least A-2 Moody’s or AA S&P will see no rating change as a result of the agreement.
Once in effect, MBIA will have the risk and all of the unearned up front premium which would amount to about $735 million, net of an assumed standard ceding commission of 20%, or $184 million, to be retained by FGIC. The ceding commission rate was not disclosed but very probably falls in the range of 20 to 25%.
Let’s assume that MBIA gets about $700 million, that’s 0.38% of par amount, not bad, and enough to generate a low double digit return on the capital required to support the reinsured risks. At the end of 2007, FGIC had US public finance exposure of $222 billion, total unearned premiums of $1.4 billion and a very low S&P US public finance weighted average capital charge of 10% of average annual debt service.
This is good news for MBIA and the holders of FGIC and MBIA insured municipals. It is bad news for FGIC credit default swap counterparties and probably for all counterparties with a financial guarantee insurer on the other side of a CDS.