Real Estate Lender Implosion

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Billionaires Pounce On Bond Insurers' Stumble

Andrew Farrell, 03.01.08, 6:00 AM ET


The woes of overextended bond insurers are creating a huge money-making opportunity and two of the world's most successful investors have pounced. Wilbur Ross followed Warren Buffett into the municipal bond insurance business Friday with a big investment in Assured Guaranty.

The recent entrance of the two billionaires into bond insurance was actually precipitated years ago with the decision of sector players to expand their coverage. At the time, most insured primarily municipal bonds. It was a safe, lucrative business because municipal bonds rarely default.

Insurers, hungry for bigger profits, then started insuring other types of debt. They found huge demand for their services in the exploding field of collateralized debt obligations, a type of debt backed by various assets. Many included bundles of subprime mortgages.

Now spiking mortgage defaults put the insurers on the hook for potentially mammoth payouts. The problem is prompting credit rating agencies to lower ratings on many of the insurers. The downgrades are a painful blow since municipal debt issuers only want to buy insurance from the highest rated companies.

Enter Warren Buffett, the second wealthiest American with a fortune of $52.0 billion, and Wilbur Ross, the 286th wealthiest with a fortune of $1.7 billion. Both have earned well-deserved reputations of finding value in out-of-favor sectors. Neither have any interest in insuring the collateralized debt obligations that caused so much trouble. They just want to grab the safe and steady cash flow of municipal bond coverage.

Buffett moved first. In December, he announced his Berkshire Hathaway (nyse: BRKA) would start insuring municipal bonds. With the company boasting a stellar credit rating, it's having no problems wooing governmental debt issuers. (See: "Buffett Swoops Into Bond Insurance")

Ross opted not to start from scratch. On Friday, Ross's plans to invest as much as $1 billion in Assured Guaranty (nyse: AGO) were unveiled. His choice of companies caught many off guard but makes sense. Unlike most of its competitors, Assured didn't jump on the collateralized debt obligation bandwagon and thus kept its top-notch credit rating. (See: "Wilbur Ross Makes A Safe Bet")

"Assured is one of the very few [bond insurers] that's ranked as a strong, stable triple-A even without our capital," said Ross on a CNBC appearance Friday morning. "So unlike the other situations where you would put in capital mainly to fill a hole, in the case of Assured, the capital is going in gradually over the next year to help [Assured Chief Executive Dominic J. Frederico] propel himself to a new level."

With deep pockets behind them and strong credit ratings, Berkshire Hathaway and Assured Guaranty are poised to make huge gains in market share in the current turmoil. Not only are they perfectly positioned to capture coverage for new municipal bonds, they can also profit by re-insuring older debt. Portfolio managers holding debt guaranteed by the struggling insurers are looking for insurance from more stable sources.

It adds up to more grim news for the sector's other major players like Ambac Financial (nyse: ABK) and MBIA (nyse: MBI). Shares of both dropped further Friday and continued a steep slide that has eroded the market value of each by about 80%.

http://www.forbes.com/facesinthenews/2008/03/01/ross-buffett-bonds-face-markets-cx_af_0229autofacescan04.html