The public finance market no longer has a triple-A rated bond insurer.
Standard & Poor’s on Monday downgraded Assured Guaranty Ltd.’s two insurer platforms to AA-plus with a stable outlook from AAA with a negative outlook. Stock in the parent company fell 8.3% to $19.52, but response in the municipal market was muted.
“So much has been discounted with the insurers,” said Bob Nelson, managing analyst at Municipal Market Data. “To see an insurer getting downgraded doesn’t really surprise anybody at this point due to the fact that the business model of monoline insurers has been called into question.”
The decision affects the counterparty credit and financial strength ratings of Assured Guaranty Municipal Corp., a muni-only guarantor, and Assured Guaranty Corp., a diversified insurer that wraps municipal and structured-finance debt.
“The downgrades reflect our view of a struggling financial guarantee market, the companies’ weak statutory operating performance, and the quality of the companies’ capital within our capital adequacy analysis,” Standard & Poor’s primary analyst David Veno wrote in the credit report.
Dominic Frederico, Assured’s president and chief executive officer, called the downgrade a surprise given that his company’s AAA rating was affirmed in June and the business has seen positive developments in recent months.
“These new ratings represent changes in S&P’s AAA criteria and market outlook rather than any material change in our credit profile or capital position,” he said.
The $172 million in operating earnings Assured reported for April to June reflects its highest quarterly operating earnings ever. Shareholder equity at mid-year was $3.87 billion, marking a 10% increase during the first six months of 2010.
“Through the most challenging economic environment in recent memory, we have earned operating income in every quarter since our initial public offering in 2004,” Frederico added. “Furthermore, we expect that our third-quarter 2010 operating earnings per share will exceed the consensus estimate of $0.80 per share.”
Assured’s two platforms wrapped 1,293 issues totaling $20.8 billion in the first three quarters of 2010, representing a 7% slice of the $296.7 billion issued through September. The market share of insurance is small relative to levels before the crisis when more than half of new issuance was guaranteed.
However, Assured commands 100% of all primary market wraps, according to Thomson Reuters.
Michael Grasher, a senior research analyst at Piper Jaffray & Co., was perplexed by the downgrade, which he described as “irrational” and “inexplicable.”
“This will further cement in our minds the value of the rating agencies,” he said, contending that Assured is in a better position today than it ever has been.
“Their risk profile continues to go lower and it will continue to move lower because their structured finance business is in run-off, so why now?” he asked of the timing of the Assured downgrade.
Fred Yosca, head of trading at Bank of New York Mellon, said the trading impact on Assured-wrapped bonds was limited.
Before the financial crisis, insured bonds used to trade near the triple-A scale, indicating great value was placed on insurance. Not so any more.
The 10-year insured scale now yields almost 70 points more than the 10-year triple-A scale and 50 points higher than double-A credits, according to MMD. That means Assured-wrapped bonds won’t necessarily lose market value due to the downgrade, Yosca said.
“I don’t know that people are going to pay less for an AGM-insured bond with a decent underlying rating, because I think to a great degree, people are bidding that bond — at least in part — based on the underlying rating,” he said. “I think most people are saying, 'You can’t count on the rating enhancement for insurance.’ ”
Brian Meredith, an equity analyst at UBS, maintained his “buy” recommendation on Assured and left his 12-month price target for the stock at $28.00.
“Near term, we believe the ratings downgrade will have some impact on top-line generation,” Meredith wrote. “We do not believe the market was giving AGO credit for AAA, so the downgrade should have little impact on pricing.”
Both insurer platforms are rated two notches lower at Aa3 by Moody’s Investors Service, with negative outlooks. Moody’s stripped AGM, formerly Financial Security Assurance, of its Aaa in May 2009. It took away AGC’s triple-A rating in November 2008.
Fitch Ratings has not rated any bond insurers since February.
