Fitch has placed ACA on Rating Watch Negativebecause ACA has failed to raise the additional capital necessary to allow it to do new business.
Following the lead of S&P, Fitch announced it will downgrade ACA’s rating if the necessary capital is not raised before February 1.
Byron Klapper, a spokesman for ACA, has reiterated that he expects the necessary capital to be raised by the end of January.
A downgrade of ACA would likely preclude the insurer from increasing its book of business. Although ACA previously stated its intention to access additional capital by the end of January, the rating agency felt that the passage of time had made it appear less likely that ACA would be successful in obtaining the required funding.
We expect this news to negatively impact the market value of these bonds, which we continue to believe will create a unique opportunity for investors.
Earlier this month, S&P said that if ACA did not raise $45 million in additional capital, its rating could be lowered to below investment grade, making it impossible for ACA to insure new bonds.
In March 2000, ACA announced that it was seeking additional capital sources when ACA Capital Re Bermuda opted not to renew its $75 million reinsurance agreement with ACA. This capital has since been replaced and ACA has also raised $15 million of new hard capital from its original investors as well as $1.5 million from its employees. Bank of America Securities has been hired by ACA to assist in raising the additional $45 million.
“This action by Fitch relates only to the ongoing pursuit of new capital investment to maintain the long-term stability of its rating. The rating alert does not reflect any concerns by the rating agency as to the credit quality of the company’s insured portfolio, the adequacy of its statutory capital or the professionalism of its operations,” ACA stated in its press release.
The most significant challenge ACA bonds will face, if the rating is lowered below investment grade, would be in the initial trading of secondary market issues.
Some institutional investors would be forced to liquidate their ACA holdings since they are limited to bonds with investment grade ratings. This should cause a disproportionate drop in the price of these securities.
We think that institutional bondholders will throw the baby out with the bath water. This should allow investors, who do their homework, to purchase ACA bonds with strong underlying credits at a significant discount to their intrinsic value.
Until this situation is resolved, ACA bonds will be available at yields that can be over 100 basis points higher than yields on comparable bonds.
The negative S&P and Fitch reports do not relate to the company’s ability to pay claims on its portfolio of insured bonds (S&P acknowledges that “the credit profile of ACA’s book of business remains acceptable.”)
The majority of ACA’s portfolio of insured debt is of investment-grade quality. Most ACA issues possess a level of credit quality that allows the bonds to stand on their own merit, without the insurance enhancement.
ACA issues have been managed by many of the largest, most respected Wall Street firms, giving them a vested interest in the success of these projects.
We believe, at the end of the day, many of the bonds issued with ACA insurance will have provided the same opportunities for investors as our past recommendations of Denver Airport and Philadelphia General Obligation bonds, when they were also being shunned by institutional investors.
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