The cloud over equity markets in the UK and US lifted on Tuesday after Warren Buffett “offered some respite for ailing US bond insurers”, an intervention apparently backed by New York State insurance regulator Eric Dinallo, said the FT.
What’s he proposing?
Buffett wants to “get into US municipal-bond reinsurance in a big way” through deals that would make his investment group, Berkshire Hathaway, the biggest player in the sector less than two months after it first entered, said Lavonne Kuykendall in The Wall Street Journal. He would put $5bn into a new bond insurer to reinsure up to $800bn of municipal bonds (debt issued by US cities and local authorities) and guaranteed by struggling monoline insurers Ambac, MBIA and FGIC.
Although the prospect of even a partial bail-out for the monolines cheered the financial markets, one firm has already rejected his offer, while Buffett said he was “waiting to hear” from the other two and would give them 30 days to find a better deal.
Why the negative response?
The trouble is that “the great man wants only the choice cuts of the troubled bond insurers”, said Nils Pratley in The Guardian. ‘Muni’ bonds are extremely low-risk, with a historical default rate of below 1%. As Warren Buffett admitted, “he has no wish to take a punt on the toxic stuff” – the guarantees behind bonds backed by subprime mortgages, known as collateralised debt obligations (CDOs).
If monolines do take up the offer, they “would be giving up a steady source of revenue for almost no benefit in terms of risk reduction,” said Dwight Cass on Breakingviews. Meanwhile, Buffett would “have jump-started Berkshire Hathaway’s start-up monoline business and hobbled three of its competitors”. It might be good news for muni bond investors, but monolines’ shareholders “could be in for a beating”.
For more on Buffett’s plans, read: Warren Buffett give the bond insurers a good kicking