The risk of muni default and bond insurance
Standard & Poor’s upgraded bond insurer MBIA Inc on Tuesday, saying it expects the company to gain market share and resume its prior role as a strong player in guaranteeing U.S. municipal debt.
The agency raised MBIA’s rating to A- from BBB and upgraded National Public Finance Guarantee Corp, the company’s main unit for insuring municipal bonds, to AA- from A…
…S&P also raised the rating on bond insurer Assured Guaranty on Tuesday to AA from AA-, citing its strong competitive position relative to its peers.
Assured was the only bond insurer left standing after the crisis and remained the top municipal issuer in 2013 by backing $7.38 billion of debt in 466 deals, Thomson Reuters data shows.
S&P rates Assured at AA and National Public Finance at AA-, which means that they can be paid to insure municipal bonds rated A or lower. I wondered what percentage of municipal ratings are A or below. And how often do municipal bonds default at rating levels below AA? How much real market is there for municipal bond insurance?
Here is the ratings distribution for Fitchâ€™s U.S. public finance ratings (page 1). that shows about 40 percent of municipal ratings are A or lower (Fitch is the smallest of the major raters).
How risky are bonds rated single-A or lower? Do they default so often that they need to be insured? We answer that question with the historical default statistics, Here is Fitch’s (page 4) historical default data:
For municipal bonds rated single AÂ by Fitch 0.05 percent of the bonds defaulted after ten years, an exceptionally small number. After 10 years BBB rated bonds defaulted at a 1.28 percent rate a somewhat riskier proposition. And junk rated bonds had significant and increasing risk of default as shown in the data.
Moodyâ€™s default data for 2012 shows that their ratings embody more default risk than Fitch at the Ba (BB) level and lower:
Oddly,Â Standard & Poorâ€™s doesnâ€™t appear to have published historical default data for 2012, instead publishing â€śtransition matrixesâ€ť that convey a different set of data. The SEC requires that 2013 default data be published 90 days after year-end, so Iâ€™ll watch it to see what is put out.
Looking at historical data, it doesnâ€™t appear that bonds rated â€śAâ€ť have enough risk to warrant bond insurance. Of course there is always the risk that a bond might drop in quality over time, so insuring it for that risk might have value. Iâ€™m lukewarm on bond insurance.
Note:Â After this post was published, S&P provided me with its 2012 public finance default report, which can be found here.