In the post “The Trouble with Bond Insurers” in November last year, I mentioned my concerns about bond insurers because my municipal reset holdings were insured by AMBAC and MBIA (among others).
The downgrade has happened. Today, Fitch downgraded bond insurer AMBAC “after Ambac said it scrapped a plan to raise $1 billion in capital to cover potential future claims.” Now AMBAC is rated AA instead of AAA and also “remains on negative credit watch for a further downgrade”.
Market prices of existing bonds insured by Ambac and MBIA Inc. were trading lower before the downgrade, and Flahive suggested any downgrade could accelerate the decline.
Prior to Ambac’s downgrade, T.J. Marta, a fixed-income analyst at RBC Capital Markets, said a downgrade of the company would lead to downgrades of all the municipal bonds it insured. Subsequently, it will become more difficult for cities, counties and other local entities to issue debt for building projects, Marta said.
Several types of municipal issuers will be most vulnerable if they can no longer secure insurance. These are borrowers like small private schools and hospitals that are not backed by a regular tax base or revenue stream. Typically, these entities have had to secure insurance to gain credibility with the public and sell their debt.
At the very minimum the troubles of the insurers will drive up borrowing costs of cities and other local entities at a time when many are strained by weaker tax revenue, said John Atkins, a fixed-income analyst at IDEAGlobal.com.
As for my municipal reset bonds, I liquidated them some time back in December. With this latest news, could a knee-jerk reaction cause us to see a failed municipal resets auction?