Monolines: Resigned to Downgrades

The WSJ puts an uncommonly-forthright forward-looking headline on its monoline story today: "Rescue Plans Won't Prevent Downgrades". And it's right. If the monolines' plans for shoring up their capital bases come to fruition, they're still likely to suffer the loss of their triple-A ratings. Most of the story talks about the bank consortia looking to shore up Ambac and FGIC:

The banks, then, would share in the proceeds that the bond insurers would make as they collect premiums and wait for their existing portfolio of policies to expire, or "run off." In this scenario, the most the banks are hoping for is that the bond insurers' credit ratings don't fall below double-A, but they aren't getting their hopes up for a return to triple-A glory.

One could excuse the monolines in question for being less than thrilled about this particular prospect. The loss of their triple-A ratings is one thing; "run-off", by contrast, is something else entirely, and implies that the companies will essentially become shells, collecting insurance premiums but writing no new business.

The proposed bank plan indeed looks much better from the point of view of the banks involved, which get to unwind their suddenly-toxic credit default swaps even though the documentation in them clearly says that can't be done without the consent of the insurer. Their plan, then, is essentially to take over the insurer, and rescue themselves first.

An interesting open question is whether the monolines could continue as a going concern, writing new insurance, with only a double-A rather than a triple-A credit rating. I've heard noises that such an outcome is indeed possible, although no one knows for sure. But if the downgrades are to single-A or lower, it's hard to see how the monolines will continue to write new business.