MBIA, Inc., (NYSE: MBI) is the world's largest bond insurer, and a financial guarantee and investment management company. It operates as a monoline insurer earning revenues by charging fees for investment management services and by insuring securitized debt. MBIA guarantees that if a corporate or municipal bond fails, it will cover the interest and the principal amount. In 2010, MBIA had total revenues of $894 million and a net income of $53 million.
MBIA's largest competitor Ambac has filed and declared for Chapter 11 bankruptcy in New York, thereby leaving MBIA as the unquestioned leader in the bond insurance industry. However, MBIA is not yet in the clear. A large part of MBIA's solvency depends on billions of dollars that MBIA expects to receive from a lawsuit against banks. MBIA claims that the banks lied about the creditworthiness of mortgage backed securities that MBIA insured. However, the banks are fighting the claims, and their financial statements do not reflect a potential charge in cash outflows. Whether MBIA is ultimately successful in obtaining the money from the banks will play a major role in the future viability of MBIA.
MBIA, headquartered in New York City, generates revenue by providing financial guarantee insurance and investment management services. Financial guarantee policies are typically written on bonds such as municipal bonds and other asset backed securities (ABS), protecting the holders against default. It also collects interest on its own investments by reinvesting its float.
MBIA also insured collateralized debt obligations (CDO) such as mortgage backed securities (MBS). While these insurance policies were lucrative, MBIA underestimated the probability of defaults and undervalued its insurance policies. Since the onset of the credit crunch and financial crisis, MBIA was obligated to cover large numbers of failed mortgage backed securities. MBIA's credit rating began to deteriorate, as it lost its AAA rating. MBIA's credit rating eventually dropped to noninvestment grade, or junk bond status.
MBIA announced it would be restructuring its business in response to continuing turmoil in the markets. Within this plan, the goal is to create separate entities for its public finance, structured finance, international financial guarantee, and asset management segments. By seperating each business segment, MBIA hopes to attain a higher credit rating in each stand alone business, thus helping the company as a whole.
In 2010, MBIA had total revenues of $894 million, a sharp decrease from its 2009 total revenues of $2.95 billion. As a result of the decline in revenues, MBIA's net income declined from $623 million in 2009 to $53 million in 2010.
MBIA breaks its operations into three segments: i) U.S. Public Finance Insurance, ii) Structured Finance and International Insurance, and iii) Investment Advisory Services. MBIA broke its traditional insurance segment into the U.S Public Finance Insurance and the Structured Finance and International Insurance segments. MBIA is operated as two subsidiaries, the National Public Finance Guarantee Corporation and MBIA Insurance Corporation.
MBIA's U.S. Public Finance insurance business has been operated through National Public Guarantee Corp. It insures a wide range of municipal bonds including tax exempt and utility bonds.
MBIA's Structured Finance and International Insurance, which is primarily conducted by MBIA Corp. (as opposed to National Public Guarantee Corp.), insures a wide variety of securities such as bonds, credit default swaps, and mortgage backed securities.
MBIA breaks its investment management segment into three subgroups: i) asset/liability management, ii) advisory services, and iii) conduits. MBIA's investment management segment provides a range of products and services to the public, private, and financial services sectors. Services provided include cash management, asset management, commercial paper programs, among others. Due to the credit rating downgrades MBIA decided to stop operating its asset/liability management and conduit segments.
MBIA separated its municipal bond unit into a new operation called National Public Finance Guarantee Corp. in an effort to separate the more stable Municipal Bond division from the troubled assets of the rest of the insurance division. The general idea is to put all the "good" bonds into a separate entity so that it can achieve a high credit rating and therefore attract new business. While MBIA has been partially successful, as the National Public Finance Corp has received an 'A' rating from S&P Rating Agency this move has brought lawsuits from majoy banks, including Bank of America (BAC), J P Morgan Chase (JPM), Barclays (BCS), and Citigroup (C). They contend that by shifting $5 billion of MBIA's assets out of a key unit and into the new division, they effectively left the original unit insolvent, or unable to meet claims. Whether MBIA successfully defends this lawsuit may determine whether the new division is permitted to persist and attract new business.
MBIA's attempt to dismiss the class action lawsuit was denied by the U.S. Federal judge, and a state level decision is expected within the week. However, J P Morgan Chase (JPM) and Barclays (BCS) dropped out of the suit, and later a New York appeals court tossed out the suit against MBIA. Citigroup (C) dropped out of the suit as well, leaving 11 other banks that are continuing to pursue and appeal this case.
The spread between the interest rates on credit instruments insured by MBIA and the risk-free rate is a major driver affecting the premiums earned by the company. Wider spreads mean larger premiums and generally higher margins, whereas narrow spreads decrease premiums. Spreads on most credit securities and derivatives have generally become wider, leading to two offsetting trends for MBIA. First, wider spreads indicate that it becomes more likely to incur losses on securities insured when spreads were lower. This can be potentially offset by making future business more attractive due to higher premiums. However, because its fallen credit ratings, MBIA has difficulty offsetting these losses with new business, as low credit ratings not only decrease consumer confidence, but also raises its cost of underwriting policies.
MBIA's business model is largely dependent upon its overall credit rating. Credit ratings provide objective judgments about the insurer’s ability to pay insured parties when necessary, and declines in the credit quality of the company will cause its potential customer pool to shrink. MBIA receives insurance premiums by guaranteeing the coupon and principal of bonds. This premium is almost entirely based on MBIA's financial strength. Since MBIA first lost its AAA rating, its credit rating has been downgraded to B3, which is below investment grade. As a result, MBIA has had difficulty in attracting new business, as potential customers are afraid MBIA will be unable to pay them back in the event of a default. MBIA's credit rating was downgraded by S&P Rating Agency to the lower levels of junk bonds.
MBIA faces the threat of competition from alternative credit enhancement products like credit default swaps, which have become much more widely available and liquid in recent years. There are very few barriers to entry in this business, since it is merely a counterparty agreement to pay in the event of default. Therefore, numerous banks and financial services companies provide these competing products.
The guarantor/financial insurance business is highly competitive. In theory, the only major barrier to entry that deters smaller financial entities from entering the market is a minimum capital requirement necessary to maintain a strong credit rating. Companies mainly compete on a mix of price and consumer trust as well as judgment of the insurer’s ability to pay. MBIA also competes with alternative forms of insurance, including derivative contracts such as credit default swaps, which are written by most major bank and financial institutions. This makes the credit insurance business substantially larger and more competitive. MBIA is a financial guarantor insurance giant, and competes directly against large bond insurers, most notably Ambac Financial Group (ABK).
Ambac has filed and declared for Chapter 11 bankruptcy in New York. It declared total liabilities of $1.68 billion, and also announced that it was unable to reach an agreement for a prepackaged bankruptcy, which would have allowed for a faster restructuring. As a result, MBIA's top competitor has faced financial difficulties, potentially leaving MBIA as the sole municipal bond insurance agency. This could potentially benefit MBIA as it becomes the only player, yet might also bring Antitrust Legislation for being a monopoly.