MBIA and Ambac are Dead, Fannie Mae and Freddie Mac are Next

MBIA (MBA) and Ambac (ABK) are finally dead…

Bill Ackman Was Right: MBIA, Ambac on `Ratings Cliff' (Update1): “Bill Ackman was right: the world's largest bond insurers aren't worthy of a AAA credit rating and may be headed for the bottom of the scale.

Ackman, the 42-year-old hedge fund manager who says he stands to make hundreds of millions of dollars betting against MBIA Inc. and Ambac Financial Group Inc. if they go bankrupt, will tell investors at a conference in New York today that losses posted by bond insurers may threaten to breach the capital limits allowed by regulators, making them insolvent.

That once-unthinkable scenario would trigger clauses in $400 billion of derivative contracts written to insure collateralized debt obligations and other securities, allowing policyholders to demand immediate payment for market losses, which have reached $20 billion, according to company filings. Downgrades of the insurers would cause a drop in rankings for the $2 trillion of debt that the companies guarantee, wiping out the value of the CDO insurance held by Wall Street firms, analysts at Oppenheimer & Co. said.”

All the monolines will now implode, one after the other…

“CIFG North America may fall first. The company's credit rating has been cut by 17 levels to CCC from AAA by Fitch since March because of concern it won't be able to make payments on $57 billion of the contracts.”

You are the weakest link. Good-bye.

“MBIA, of Armonk, New York, Ambac, Security Capital's XL Capital Assurance and FGIC Corp. also have guarantees with similar clauses to CIFG that may allow policyholders to demand billions of dollars if the companies became insolvent, according to company filings.”

These clauses are going to go off in rapid succession. The broader equity market is not going to take this well at all…

Ackman Foresaw MBIA Drop, Is Short Financial Security (Update3): “Hedge fund manager Bill Ackman, who correctly predicted shares of MBIA Inc. and Ambac Financial Group Inc. would tumble, said he now is betting against Financial Security Assurance Holdings Ltd.

Financial Security may be insolvent because it sold investment contracts backed by mortgage securities that have tumbled in value, Ackman, 42, told a conference hosted by law firm Jones Day yesterday in New York. Financial Security, a New York unit of Brussels and Paris-based Dexia SA, is one of two bond insurers to retain their AAA credit ratings after rivals were roiled by losses from collateralized debt obligations.”

Ackman is now targeting the last ‘strong’ insurer.

Freddie Mac, Fannie Mae to Post More Losses, Lehman Says: “Fannie Mae and Freddie Mac, the two largest sources of U.S. home loans, may post further losses in the second quarter as the housing market continues to deteriorate, Lehman Brothers Holdings Inc. said.

The brokerage changed its forecasts for operating losses for Fannie Mae to $1.20 per share from a prior estimate of a loss of 68 cent, and lowered its projection for Freddie Mac to a loss of 55 cents per share from a prior forecast of a loss of 40 cents per share.”

I am going to say it right here and right now. Both Fannie Mae (FNM) and Freddie Mac (FRE) will go the way of MBIA (MBA) and Ambac (ABK)… They are next. It is inevitable.

They are similar enough. Tiny equity and cash bases that can’t possibly sustain a ridiculously large and overleveraged portfolio of extremely poor quality…

I have repeatedly advocated using Fannie Mae and Freddie Mac as Disaster Insurance. Update1. Using LEAPS (Long Term Equity Anticipation Units) you can implement a simple, cheap and effective disaster hedge for a portfolio of any size.