AAA is soooo overrated

Move along folks - the infallible Wright Model B indicator says no recession in 2008, and probably none in 2009 as well.

(with apologies to Sebastian)

great for flowers! was it free for him?

remember a $900M break up fee but he claimed the cut in subsidies implied a material adverse change.

the story I saw re: the SLM deal didn't say anything about break-up fees. Considering that Sallie's stock closed today at $28, less than half the deal price, $900M looks like a walk in the park compared to the $12B Flowers might have "lost" if it had gone through at that price.

I would assume he's going to make SLM sue him before he offers a penny.

The LA Times and SacBee both have stories of how the $4 billion repeat deficit is now $14b up $4b from the $10b of 2 weeks ago. Property tax revenues are generally 4-6% ahead of last for billed but it will be a few more days before we see how many are actually paying. Remember under Prop 13 at least 80% of the properties in the State are seeing their cap limit 2% increase this year and nearly 0% of those will see another next year and so on. A stable and predictable revenue stream. That said the State was projecting more sales and higher prices and anticipating that revenue in their projections. That said, California would need to honestly cut 20% of all spending to return close to its Constitutional obligations. Ain't gonna happen and I give them no later than mid January before most debt is marked to whatever the lowest grade one up from junk is on the scale. We are already seeing 5.3% double tax free munis going begging. That's the equivalent of more than 9% in the highest bracket.

Dont shoot!

Take a look at some valuations at Yahoo screener (perhaps in relation to this rating story & Fitch):

Stock Screener Results - Yahoo! Finance

My take: look at FRE's profit margin @ -93% versus CFC @ 4.8% and obviously the high concentration of "industry" market cap, price/book; then FNM PEG ratio @ 10.29 & P/S @ 6.3.

The subprime resets, foreclosures and market illiquidity going forward will only result in greater exposure in this highly concentrated over valued segment of mortgage related stocks. This segment will be further impacted by homebuilders and existing home inventories which will pressure margins gobs and gobs

Robert, don't worry, be happy.

After all Arnold promised a permanent fix for California's problems. What is the political subdivision number for bk? Chapter 9?

Going to be bringing back warrants real soon, they is.

Nothing is AAA anymore. Except a barrel of oil or a lump of gold.

Not that I am providing any investment advice, mind you.

Someday this war's gonna end...we are from the government and are here to help!!!

Founding member of the 100 Day Club!

"Man, if either of those guys lost AAA, I could see a couple thousand Dow points down."

No way, the FED has their back, 300 point and we get a helicopeter drop every time. Besides they are setting the stage for the next bubble just like after Y2k and 9-11 the seeds are being sewn.

Annaly Mortgage Mgmt looks like a sweet deal ready to blow!

the flight to safety will result in lower yields, so how does that impact the liquidity between these lenders in regard to discounts?

Assured Guaranty (AGO) has AAA rating affirmed, but plans 300M offering when their current market cap is 1.45B

Expired

Folks, quit overreacting to the 'bad' SCA news.

No problem: they'll just sell some stuff at the upcoming Fed auction, about $2B worth.

Problem solved, crisis averted, just as Ben surmised.

What, me worry?

Well, no early Christmas present today from the market.

But, the thought of big state budget cuts here in California, potentially happening quickly, partially makes up for that.

Robyn:

I am certainly not an expert on municipal bond insurance, but if a bond defaulted and had no potential for future recovery, then the insurer would have to book a loss for the present value of the complete stream of payments even though it wouldn't pay out the cash for years.

If it were just municipal bond insurance, then it seems like an insurer could lose their triple a rating, would be unable to write new business, yet still have enough capital to pay off losses.

In other words, the equity of company would be worthless but the policyholders could still get a lot of their money back, or maybe even all of it.

The necessity of maintaining a triple a means that they can't operate on a cash flow basis and can't earn their way out of a problem.

The GSE's on the other hand don't need the capital to maintain an independent rating and have a (limited) ability to raise their fees and earn their way out of a problem.

The thing that drives people craze is this sort of financial reporting arbitrage. Get it insured and it is worth par, without insurance it needs to be marked to market and the markets aren't functioning very well at the moment.

The markets went from believing everything to believing nothing. If ratings still had any credibility (for CDO's), then there would be a market. There is no real way to value these if the rating agencies/models are discredited and the markets are jammed up.

That's one point of view, anyway.

"The necessity of maintaining a triple a means that they can't operate on a cash flow basis and can't earn their way out of a problem."

They can operate on a cash flow basis and earn their way out (in fact the future earnings on existing deals are part of the capital the rating agencies consider), but they can't write new business with 'AAA' guarantee. In the case of SCA, the $2 billion to keep AAA is so high that it is probably in the equity holders' best interest not to try and defend it here. They can go into runoff mode for a year and see whether subprime/etc. really hits the worst case or things look better. It's conceivable, even likely from a purely mathematical POV, that they could regain 'AAA' adequacy by writing no new business and just waiting a year or so.

The FED moves over the last 24 hours seem to be "Lost In Translation" in relation to the markets. The FED should stick to rate cuts so as not to confuse Wall Street. I would imagine the candidates for president should be watching the new FED plan, it will be during their term in office that the "wide range of collateral" being accepted for loans at the FED does not get paid back. Who wants to explain a TRILLION dollar fiscal loss?

Robyn is right, and I think the discussion needs to distinguish between a default by the insurer and a default by the issuer. One does not automatically guarantee the other, so if/when some of the monolines go bust the first-order effect will be for the munis they insured to revert to their issuers' rating. Unless I'm mistaken, there aren't any below investment-grade states, which means that on average most insured munis, in the event of an insurer default, would revert to say A or AA. Their prices would have to fall to reflect the new yield, but not by a massive amount. There's also a lot of high-yield muni issuance (and high yield muni funds) out there, but I think as a proportion of the total insured debt it's a relatively small amount.

That said, when falling property taxes starting really biting next year, then the underlying credit quality of the municipalities will likely take a hit. But that's for next year.

dr strangemoney-

"Who could have ever known that a chaotic system with so many feedback loops could behave so unpredictably once it is juiced up with so much leverage?"

Plenty of precedent, so we really should have known how this will end. As you state very correctly leverage is the problem and the unwind will likely take years. I believe the current phase of the cycle will involve the stabilization of the financial system for what is to likely come in the latter phases as a result of a probable recession, ie corporate defaults from the ludicrous lbo and pe phase. Plenty of precedent here too as well, whether you wish to blame kkr or mclean for starting this "innovation" back in the 60's and 50's respectively. The early 90's showed quite well the result of too many stressed balance sheets due to the prior lbo boom.

"Maybe we have to wait for fractal finance before the financial innovation machine starts printing money again since stochastic calculus isn't quite cutting it."

I think the printing presses are rolling as we speak, the consortium deal announced this morning was quite innovative in my opinion. Now, it may take a long while to accomplish its desired task, but, it is a needed a good step towards stabilization, "for the financial sector". In my opinion, as stated, this period will be quite prolonged and the cross-border plan announced could prove quite valuable in the future. I think that many of these low rated credits will go away in one form or another, in other words, they will be the sacrificial lambs.

The fed is gaining more control over the renegades and my belief is that you and I will not see a repeat of this fiasco in our lifetimes.

There are a number of things that anger me concerning this cycle, in particular, the greedy bastards that allowed their companies to be weakened and loaded with debt to line their own damn pocketbooks knowing the ultimate end game was likely to be bankruptcy and a loss of jobs and devestation to many of their former empoyees & families.

time will pass and markets will heal, but not without a little pain and punishment along the way.

rich - I certainly do not, and that's not what I said. A default by MBIA would cripple secondary trading in the muni market, but for someone like Robyn who sounds like she's holding individual bonds rather than trading, I'm not sure it's such a huge deal.

The monoline credit insurers are weird. It's true that capital is hard to come by these days for the banks and IB's.

However, the financial reporting arbitrage value is high. $1 billion tossed into an insurer will insulate 10's of billions of dollars in debt from mark to market.

As far as their CDO exposure, it's almost like getting the impact of a super siv for a billion or two.

It's obvious that something that would fail under the same reporting standards as banks isn't a AAA. It is also in the rating agencies interests for the insurers to keep their rating.

Also the stocks can tank without an actual downgrade.

As far as the value of a diversified portfolio of credit enhanced munis that are planned to be held to maturity, it isn't that big a problem. It would be time to look for opportunities to improve the credit quality of the entire portfolio giving no benefit to the insurance. It might be possible to improve the portfolio at a reasonable cost.

From strictly economic perspective, if an individual has sufficient diversification, the only loss is the cost of the credit enhancement that may be lost.

Hmmmm. Sounds like a lot of you aren't bond people. One of the first rules of bonds - once you get away from the absolutely most liquid - like on the run treasuries in larger or institutional sized lots - is that buy/sell spreads are medium - or big - or huge (although treasury spreads on some internet trading sites are pretty good even for small investors).

You buy/sell SPY - you're talking about a spread of a couple of cents. With any muni and most corporates - and I don't care if it's a $10,000 or a million dollar trade - you won't lose less than 50 cents per $100 on the spread - and it could go up to $5 - maybe more if the bond has a problem. Bottom line - these are not trading vehicles. They are buy and hold investments for income oriented investors. I've been doing bonds for over 30 years - and the only times I have ever sold bonds is when I've become uncomfortable with credit quality issues. Which is why I no longer own bonds like Ford or GM. I have very few corporates left - and the only one on my watch list today is Nationsbank (now Bank of America). I have 7 years left at 7.75%. Somehow - I don't think I'll sell that one. But I could change my mind next year.

I have never sold a municipal bond in 30+ years. Approximately 80% of my muni bond portfolio is insured - but there are no bonds there with less than a AA- underlying credit rating. For anyone interested in munis - my rules have been the same for 30 years. Only higher quality state - city - county GO's and essential services revenue bonds. Water and sewer and the like. No airports - no hospitals - no industrial development revenue bonds. Some munis went under in the Great Depression. Although I don't think we're going through good times now - I do not yet see a Great Depression on the horizon.

I am old enough to have gone through the recession of 73-74 as an adult. And I caught the "Howard Ruff" bug in the early 80's (after 20 years - the gold I own is now at a profit!). I think we'll be going into some hard times (if we aren't there already). But there is a difference between hard times - and utter catastrophe. I look to places like this blog and others to get information - to steady my keel. But now - like other times - it seems most of what I hear is either all cheerleading or total doom and gloom. The United States of America seems to have a history of muddling through all kinds of very serious problems - and I am very hopeful that - although we may have some pain ahead of us - that we will somehow muddle through again. Roby

Robyn:

It sounds like your bonds are worth roughly the same without 'credit enhancement' as they were with credit enhancement. Which sounds right because it didn't cost much.

If the insurers had stayed purely with munis, then they would probably be fine.

Since you have been in this for a while, you must remember Penn Central bonds. Ben Graham went sort of nuts that the managers of conservative portfolios were buying nifty fifty stocks and failing to do basic analysis on the Penn Central bonds, like review coverage ratios.

I lost my taste for long duration fixed income in the early 80's when there were a lot of portfolios of long 3% utility bonds. Fortunately there was no mark to market for bonds intended to be held to maturity.

Z

Hey, Robyn

What do you see　in the future of California MUNIs? Do you expect defaults spike?

These Doc holiday posts are annoying. I vote for a ban.