The Illusion of Municipal Bond Insurance Shatters

The big bond insurers were pretty much forced to their knees by the subprime crisis and their insuring of all kinds of collateralized debt. Now, their more conservative coverage may be giving them trouble. Several municipalities may file for Chapter 11 and the stretched bond insurers may not have the cash to absorb any resulting defaults.

As Bloomberg states:

"Ambac Financial Group Inc., the second biggest bond insurer, faces as much as $1.2 billion in claims if a judge in Nevada allows Las Vegas Monorail Co., which runs a train connecting the city’s casinos, to reorganize in Chapter 11 bankruptcy. The City Council of Pennsylvania’s state capital shelved a plan to sell taxpayer-owned assets to meet payments on $288 million of debt used for an incinerator funded in part with bonds insured by a unit of Bermuda-based Assured Guaranty Ltd. Harrisburg is weighing a possible bankruptcy filing."

The article goes on to say:

“It is a worst-case scenario if the dynamics of the municipal bond market change,” said Rob Haines, an analyst who covers the bond insurance business at CreditSights Inc., an independent research firm in New York. “The companies have modeled in virtually no losses.”

With almost $0 reserved for losses a few bankruptcies could push the insurance agencies themselves into Chapter 11 and an AIG style government bailout.

The implications for municipal bond investors are not as great as it might seem. Most municipal bonds should remain safe with or without insurance. For those that feel some protection because of insurance, that's an illusory feeling. As we are coming to learn, the insurance agencies have been issuing false promises to cover losses.

Today, only Assured Guaranty has the credit worthiness to be insuring any new issues. That means we can expect more uninsured municipal bonds to hit the market. It also means that municipalities can expect to pay higher rates while investors can demand a higher return than they otherwise would have received.

Sol Nasisi
Sol Nasisi: Sol Nasisi is the co-founder and a past president of BestCashCow, an online resource for comprehensive bank rate information. In this capacity, he closely followed rate trends for all savings-related and loan products and the impact of rate fluctuations on the economy. He specifically focused on how rates impact consumers' ability to borrow and save. He also has authored a wee

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