Setting out to establish a unique niche in the municipal marketplace the old-fashioned way, Municipal and Infrastructure Assurance Corporation (MIAC) is a newly licensed financial guaranty company with an exclusive focus on insuring municipal and infrastructure bonds. MIAC follows the lead of the Berkshire Hathaway Assurance Corporation, which was launched by Warren Buffet in 2008 to insure only municipal bonds.
On February 24, 2009, MIAC announced that it received approval from the National Association of Insurance Commissioners (NAIC) for participation in an expedited licensing pilot project. “MIAC anticipates that it will now be able to move quickly to become a licensed financial guaranty insurance company in all 56 NAIC member jurisdictions,” according to a corporate press release.
As recently as 2007, seven “monoline” insurers dominated the municipal bond insurance industry. However, as each ventured into the structured finance market – including securities backed by subprime mortgages and other non-municipal instruments – they experienced high levels of defaults on the underlying mortgage pools, ultimately leading to their weakened ability to add value to municipal bond issues.
At its most basic level, bond insurance is “a legal commitment by an insurance company to make scheduled payment of interest and principal of a bond issue in the event that the issuer is unable to make those payments on time,” according to The Fundamentals of Municipal Bonds, 5th Edition.
Theoretically, insured bonds received higher ratings from the bond rating agencies based on the perceived quality of the financial guaranty company offering credit enhancement, which is substantially related to the amount of capital that is reserved by the insurers to handle probable defaults.
MIAC’s exclusive dedication to municipal and infrastructure issues could well give it a fresh, undamaged niche to make its mark.
In this troubled economy and turbulent market, some may question the rationale for establishing a municipal bond insurance company at this point in time. But MIAC Executive Vice Chairman Richard Kolman asserts that the new company is filling an “urgent need” in the marketplace.
Lack of insurance for state and local municipal bond issuers has disrupted the “commoditized” practice of finding mostly AAA-rated insured bonds for much of the past two decades. For many municipal borrowers, the lack of insurance has resulted in higher borrowing costs and decreased liquidity in today’s marketplace.
Default protection is really just the beginning, Kolman says. “The use of bond insurance is more about increasing liquidity, providing better price protection during turbulent times, as well as providing a certain level of homogeneity among issuers than about credit protection,” he explains.
“In that same vein, it’s less about credit rating and more about widening credit spreads. MIAC’s goal is to help lower borrowing costs for issuers during this historical period of wide credit spreads between AA and A – as well as BBB – rated issuers.”
MIAC hopes to bring back a level of trust once bestowed to the legacy bond insurers.
One of MIAC’s goals is to “turn back the clock” to recapture the original business model of the bond insurance companies: to provide a financial guaranty for issuers of municipal bonds only. Unlike the troubled legacy insurers, MIAC brings a clean balance sheet and an infusion of private capital.
However, old-line insurers, like MBIA and AMBAC haven’t given up. Both are in the process of trying to reestablish and clean the slate themselves in the municipal market by establishing municipal-only insurance companies with new and separate capital outside of their existing insurance subsidiaries.
“The use of bond insurance is more about increasing liquidity, providing better price protection during turbulent times, as well as providing a certain level of homogeneity among issuers than about credit protection.”
The existing insurance units of MBIA and AMBAC would continue to guarantee the non-municipal business. Under a separate license agreement, MBIA is furthest along in developing its new business unit, called National Public Finance Guaranty Corp.
Assured Guaranty, a bond insurer that was founded in the 1990s and has retained its AAA rating, is also on the move. It is in the process of merging with another major insurer, FSA, which it hopes to complete in the first half of this year.
MIAC’s exclusive dedication to municipal and infrastructure issues could well give it a fresh, undamaged niche to make its mark. MIAC intends to provide credit enhancement to state and local governments and agencies, as well as essential infrastructure assets such as airports, utilities, and the like.
Since last fall, municipal bond yields linked to the best quality, highest rated general obligation bonds and essential purpose revenue bonds have declined in the market. However, not all state and local government borrowers have benefitted equally.
Borrowers with ratings lower than AA or located in troubled economic areas are often paying higher rates as many investors are cautiously staying clear. Kolman believes that a clean and well-capitalized municipal-only new entrant will allow more issuers to enter the market.
For investors who are risk-averse and for borrowers that are less fortunate, the market may be calling for a new solution to the bond insurance debacle; MIAC hopes that it will be at the forefront of a swing back to the times in which bond insurance meant a good night’s sleep.