Monday, November 05, 2012 10:01:03 AM
Is Radian a House of Cards?
By JONATHAN R. LAING
Some investors think Radian Group will benefit from the recovery in the housing market. But the mortgage insurer's balance sheet is far weaker than it appears. Time to think again.
The housing market may be in recovery, but the Big Three private mortgage insurers that helped fuel the last boom with their guarantees are in tough straits. PMI Group's mortgage-insurance unit was seized by state insurance regulators last fall, leading to a near-total wipeout for its parent's shareholders. And MGIC (ticker: MTG) continues to show rivers of red ink. Its shares have tumbled to $1.95 from more than $5 as recently as eight months ago.
Only Radian Group (RDN) has seemingly withstood the foreclosure onslaught. Its stock has recently rebounded to $5.30 from less than half that level just last May, aided by misplaced hopes that it will somehow benefit from the recovery in the housing market. Think again. While lenders and home builders have already taken their medicine by both over-reserving and taking substantial write-downs on their assets, Radian has not.
Enlarge Image
Leigh Prather/age fotostock
Radian has only $2.1 billion in liquid assets to cover $3 billion in future claims that it has acknowledged. The actual claims could be at least $3.8 billion.
What the company has done over the past year is to engage in a number of financial maneuvers, such as refusing of late to pay about half the dollar claims submitted by lenders following foreclosure on mortgages it insured; this preserves cash and bolsters capital levels. That could continue to prop the company up for a short while, but over the longer term, Radian could be a dead man walking. According to Standard & Poor's, Radian's mortgage-insurance operation has been losing lots of money over the past couple of years, and the red ink figures to continue into 2014, and probably—barring an economic miracle—beyond. Radian Group is "likely to default on the $250 million in debentures due in 2015," says S&P. Radian declined to comment on S&P's assessment.
Barron's has twice warned about the dangers lurking in mortgage insurers—first in 2007, when shares of the Big Three were orders of magnitude higher than their current levels, and again last year ("The Next Mortgage Bombshell," June 27, 2011). Radian stock is the only one to have defied gravity since our second story ran.
Ultimately, the fate of Radian will be decided by its two primary operating units, the mortgage insurer, Radian Guaranty, and the bond-insurance operation, Radian Asset Assurance.
These two were combined in 2008. The move seemingly wasn't made out of a desire to streamline the organizational structure. It arose just as the mortgage unit was starting to be hit by the fury of the housing bust, and capital was being depleted at an alarming rate. So, the company resorted to a controversial expedient called "stacking," by which the net worth (capital and surplus in insurance-industry lingo) of the bond insurer could be, in effect, double-pledged to back both the mortgage insurance and its own operations. Insurance regulators allow it; bankers and other lenders aren't permitted to use it.
Thus, today, the insurance unit has statutory capital, or a net worth, of just $1 billion. The number would have been negative were it not for its interest in the bond insurer, whose common stock is carried on Radian Guaranty's books at a value exceeding $1.1 billion.
The trouble is that the mortgage insurer has almost no way of monetizing those shares to pay claims, because that capital is needed at the bond-insurance unit to back its $39 billion in net exposure. And Assurance's portfolio of risks is less than blue-chip. Nearly a third of the collateral backing its $18.4 billion in insured corporate collateralized-debt obligations is below-investment-grade corporate bonds.
As a result, the mortgage insurer seems to face a substantial liquidity problem because the bond-insurance unit won't be able to pass on substantial dividends to it. Next year, for example, Radian expects to get just $40 million out of the bond operation. The mortgage company has only $2.1 billion in cash, short-term investments, and bonds that it could readily sell to cover the more than $3 billion in future claims it has acknowledged. By our calculation, the actual exposure could be at least $3.8 billion.
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By JONATHAN R. LAING
Some investors think Radian Group will benefit from the recovery in the housing market. But the mortgage insurer's balance sheet is far weaker than it appears. Time to think again.
The housing market may be in recovery, but the Big Three private mortgage insurers that helped fuel the last boom with their guarantees are in tough straits. PMI Group's mortgage-insurance unit was seized by state insurance regulators last fall, leading to a near-total wipeout for its parent's shareholders. And MGIC (ticker: MTG) continues to show rivers of red ink. Its shares have tumbled to $1.95 from more than $5 as recently as eight months ago.
Only Radian Group (RDN) has seemingly withstood the foreclosure onslaught. Its stock has recently rebounded to $5.30 from less than half that level just last May, aided by misplaced hopes that it will somehow benefit from the recovery in the housing market. Think again. While lenders and home builders have already taken their medicine by both over-reserving and taking substantial write-downs on their assets, Radian has not.
Enlarge Image
Leigh Prather/age fotostock
Radian has only $2.1 billion in liquid assets to cover $3 billion in future claims that it has acknowledged. The actual claims could be at least $3.8 billion.
What the company has done over the past year is to engage in a number of financial maneuvers, such as refusing of late to pay about half the dollar claims submitted by lenders following foreclosure on mortgages it insured; this preserves cash and bolsters capital levels. That could continue to prop the company up for a short while, but over the longer term, Radian could be a dead man walking. According to Standard & Poor's, Radian's mortgage-insurance operation has been losing lots of money over the past couple of years, and the red ink figures to continue into 2014, and probably—barring an economic miracle—beyond. Radian Group is "likely to default on the $250 million in debentures due in 2015," says S&P. Radian declined to comment on S&P's assessment.
Barron's has twice warned about the dangers lurking in mortgage insurers—first in 2007, when shares of the Big Three were orders of magnitude higher than their current levels, and again last year ("The Next Mortgage Bombshell," June 27, 2011). Radian stock is the only one to have defied gravity since our second story ran.
Ultimately, the fate of Radian will be decided by its two primary operating units, the mortgage insurer, Radian Guaranty, and the bond-insurance operation, Radian Asset Assurance.
These two were combined in 2008. The move seemingly wasn't made out of a desire to streamline the organizational structure. It arose just as the mortgage unit was starting to be hit by the fury of the housing bust, and capital was being depleted at an alarming rate. So, the company resorted to a controversial expedient called "stacking," by which the net worth (capital and surplus in insurance-industry lingo) of the bond insurer could be, in effect, double-pledged to back both the mortgage insurance and its own operations. Insurance regulators allow it; bankers and other lenders aren't permitted to use it.
Thus, today, the insurance unit has statutory capital, or a net worth, of just $1 billion. The number would have been negative were it not for its interest in the bond insurer, whose common stock is carried on Radian Guaranty's books at a value exceeding $1.1 billion.
The trouble is that the mortgage insurer has almost no way of monetizing those shares to pay claims, because that capital is needed at the bond-insurance unit to back its $39 billion in net exposure. And Assurance's portfolio of risks is less than blue-chip. Nearly a third of the collateral backing its $18.4 billion in insured corporate collateralized-debt obligations is below-investment-grade corporate bonds.
As a result, the mortgage insurer seems to face a substantial liquidity problem because the bond-insurance unit won't be able to pass on substantial dividends to it. Next year, for example, Radian expects to get just $40 million out of the bond operation. The mortgage company has only $2.1 billion in cash, short-term investments, and bonds that it could readily sell to cover the more than $3 billion in future claims it has acknowledged. By our calculation, the actual exposure could be at least $3.8 billion.
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