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Derivative Gains Benefit MBIA

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MBIA Inc.’s third-quarter net income (a GAAP measure) came in at $444 million or $2.26 per share, compared with a net loss of $213 million or $1.06 in the prior-year quarter. The year-over-year improvement was primarily led by $776 million in unrealized gain on insured derivatives, compared with a loss of $1 billion in the year-ago quarter.

Adjusted pre-tax loss was $430 million, up from $24 million a year ago.

Total revenue of $1.12 billion contrasted with the revenue loss of $191 million a year ago. The improvement primarily reflects the positive adjustment in value of the derivatives.

Premiums earned during the quarter moved up 28% over the prior-year quarter to $176 million while net investment income fell 18% to $92 million.

Segmental Performance

The U.S. Public Finance Insurance is carried out by its subsidiary, National Public Finance, which was set up 18 months ago to underwrite U.S. public finance. However, the unit is facing legal action, the outcome of which has prevented rating agencies (S&P and Moody’s) to confer strong ratings on the company.

Therefore, National virtually wrote no new business, scheduled net premiums earned were $147 million, up 47% year over year, due to greater refunding activity in the third quarter of 2011 partially offset by lower scheduled earned premiums due to insured portfolio amortization.

Adjusted pretax income was $157 million, down 6%. Investment income was $53 million, 10% lower than $59 million in the last-year quarter, primarily due to lower average yields.

The Structured Finance and International Insurance business is carried out by MBIA Corp. While there was no new business written in this segment, the existing book of business generated $51 million in scheduled premiums earned during the quarter, which was down 14% year over year. The unit gained $776 million from its insured derivatives exposures.

The Advisory Services is carried out by Cutwater Asset Management. This segment earned fees and reimbursements of $14 million, down 18% year over year. The assets under management were $38.5 million at the end of September 30, 2011, down 2% year over year. The segment recorded a pre-tax loss of $100,000, flat compared with the year-ago quarter.

Adjusted book value per share (a non-GAAP measure) declined to $35.51 as of September 30, 2011 from $36.81 as of December 31, 2010.

MBIA has been facing significant problems with the onset of the subprime crisis in 2007, due to its exposure to structured finance policies, which included mortgage-backed securities and credit default obligations.

The company saw an increase in claims liability, led by a decline in the value of these securities as the housing market collapsed. Thus MBIA, once the biggest bond insurer, stopped writing insurance on them in 2008. Since then the company has not been able to recover. 

Currently, MBIA is busy reducing its risk by commutations to stabilize its main insurance unit MBIA Corp.  Year-to-date, it has successfully commuted $23 billion of potentially volatile liabilities, primarily CMBS pools and ABS CDOs.

The company has also been sued by its lenders (almost 24 of them) over the capitalization of the new company, National Public Finance, which was created to write solely state and municipal bond guarantee business. The lenders argued that the restructuring was fraudulent and was made to render the old insurer MBIA Corp. insolvent.

MBIA is busy settling the dispute with the lenders. Most of them have dropped the case. Management’s commitment indicates that the company will have settled the dispute by the end of the year.

Though MBIA is trying to recover from the mess following the housing boom, we expect the company to experience operating losses for the foreseeable future as the operating environment in the mortgage insurance industry remains highly uncertain.

MBIA’s closest peer Ambac Financial Group, which suffered similar losses, filed for bankruptcy in November last year. Another peer Radian Group Inc. (RDN">RDN), which also burnt its fingers from the losses from structured finance products, is looking to form a mutual bond insurance company.

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