Bond Insurer FGIC Plans to Split Into Two Companies

Financial Guaranty Insurance Corp., the third-biggest bond insurer that just lost its triple A bond rating because of subprime-related losses, plans to split into two companies, New York state Insurance Superintendent Eric Dinallo told CNBC.

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The company would be split into a municipal bond insurer and a structured finance insurance company, in a ''good-bank/bad-bank'' plan that would split off the relatively safe business of insuring municipal debt from the riskier business of guaranteeing repackaged mortgages and other debt.

"As of this morning, we received a notification from FGIC that they have sought application to have their business actually split into two," Dinallo said during a live interview.

FGIC is owned by the mortgage insurer PMI Group and three private equity firms including Blackstone Group.

FGIC's move comes a day after the two biggest U.S. bond insurers, MBIA and Ambac Financial Group , told CNBC that they don't need a government-led bailout despite billions of dollars of losses from subprime-related debt.

"We believe the company is well positioned to weather this storm," MBIA  Chief Financial Officer Charles Chaplin said Thursday before testifying at House hearing on the problems facing the bond insurers.

Ambac CEO Michael Callen, in a separate interview before he testified, told CNBC that the "whole issue is the asset quality of some mortgage-backed securities" and there's "no question of Ambac being able to pay claims."

Both bond insurers are facing possible ratings downgrades because of their exposure to risky subprime debt. The triple A ratings are crucial to their ability to get new business, which traditionally has been insuring municipal bonds.

Dinallo said on CNBC Friday that there has been ''no serious dispute'' that bond insurers can in the long-term pay their claims. But in the near term, there are questions about their abilities to maintain their top "triple-A'' ratings.

"When you're an insurance regulator, you're concerned about solvency and the ability to pay claims," Dinallo said. "There's been no serious dispute that these companies could, in the long term, pay their claims. But obviously the AAA rating is essential for the business model, and it's essential for the municipal side.  So even splitting the book on FGIC is a plan not so much to save its solvency, or concerning capital for payment of claims, but concerning capital to keep the rating of the municipal side at a certain level."

Moody's Investors Service cut its rating on FGIC on Thursday, the latest blow to the beleaguered bond insurance industry and the $2.3 trillion in debt it protects.

Moody's was the last of the three major ratings agencies to downgrade FGIC, which sells insurance policies promising to repay bondholders when bond issuers default.

Downgrades of bond insurers have become a focal point of the credit crisis gripping financial markets because the value of many bonds hinges on guarantees from insurers like FGIC.

Moody's said FGIC's balance sheet is "materially weakened" because the company has branched out from covering relatively safe municipal bonds into insuring risky mortgage deals with greater likelihood of default.

In order to maintain its top-caliber rating, Moody's said FGIC needs to be able to access $9 billion. The company only has access to $5 billion, Moody's said.

Moody's is also likely to downgrade some bonds insured by FGIC, the agency said, because the company's insurance provided a pillar for them that is now less sturdy. FGIC insures $315 billion in debt.

After Fitch Ratings downgraded FGIC last month, the ratings agency considered whether to downgrade nearly 115,000 FGIC-insured bonds, floated by government bodies ranging from the Ewing Township Board of Education in New Jersey to the Lake Villa Public Library District in Illinois to the Alaska Railroad Corp.

Fitch has also downgraded Ambac and Security Capital Assurance, while Standard & Poor's has downgraded SCA and FGIC. Moody's has lowered its ratings for SCA.

Ambac, FGIC, SCA and the biggest U.S. bond insurer, MBIA, collectively insure $1.7 trillion in debt, mostly bonds issued by the government.

Moody's is still mulling whether to downgrade MBIA and Ambac, but said they are 'better-positioned from a capitalization and business franchise perspective.'

The prospect of downgrades has wracked these companies' stocks because a bond insurer without the highest-quality rating will have trouble winning new business.

© 2008 CNBC.com