Assured Guaranty Ltd (AGO) 2008 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Assured Guaranty third quarter earnings conference call. My name is Amicia, and I will be your operator for today. At this time, all participants are in a listen-only mode. We will conduct a question-and-answer session towards the end of this conference. (OPERATOR INSTRUCTIONS) I would now like to turn the call over to Ms. Purtill, Managing Director of Investor Relations. Please proceed.

Thank you, and thank you, all, for joining us this evening for Assured Guaranty's third quarter 2008 earnings conference call. We appreciate your interest in Assured Guaranty and hope that the change in our call time didn't cause you too much inconvenience. We believe that this might be a more convenient time for some of our investors and analysts, particularly those located in the central and western portions of the US. Our speakers today's are Dominic Frederico, President and Chief Executive Officer of Assured Guaranty Limited; and Bob Mills, Chief Financial Officer. After their prepared remarks, they will take questions from the audience. Please note that our call is not web enabled for Q&A, so if you would like to ask a question, please dial our conference call organizer at 1(800)591-6945 and join the call live in order to ask a question.

I would remind you that management's comments today or responses to questions may contain forward-looking statements such as statements relating to our business outlook, growth prospects, market conditions, credit spreads, ratings, loss reserves, and other items where our outlook is subject to change. Listeners are cautioned not to place undue reliance on the forward-looking statements made on this conference call today as management does not undertake to publicly update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise. You should refer to the Investor Information section of our website and to our most recent SEC filings for the most current and financial information and more information on factors that could affect our future financial results and forward-looking statements. I'll now turn the call over to Dominic.

Thank you, Sabra. Thanks all of you for your interest and participation in our third quarter earnings call. The last quarter was a continuation of the series of challenging quarters that Assured has had to navigate. Given this environment, I believe our earnings, production, and credit performance were fair, although obviously disappointing to us. In particular, the credit and liquidity concerns in the global financial markets have increased the uncertainties surrounding the future performance of our RMBS portfolio and some other exposures. This uncertainty leads us to proactively establish loss reserves that take into account an increasingly stressed economic environment in 2008 and 2009.

I think it's important to keep in mind however that throughout these difficult times, Assured has maintained operating profitability as well as its presence in the market as one of the few highly rated viable options for issuers and fee income investors. The company's well-established underwriting and risk management principles have protected us from the credit losses that have impaired the market presence and balance sheets of many other financial institutions. There's not a day that goes by that I am not thankful for our discussion not to underwrite CDOs of ABS or other risky securities.

Furthermore, our decision not to expand into business lines with embedded liquidity risk such as financial products or guaranteed investment contracts, has protected us from further threats to our ratings and franchise. As you are well aware, several financial guarantors are facing liquidity challenges due to their need to collateralize investment agreements or [debt] obligations due to their own ratings downgrades and the decline in market value on the assets representing the collateral supporting the debt. In spite of our many good decisions, we are not immune to the fallout from the worst credit crisis to face this country and the world since the Great Depression.

Our principal concern remains our RMBS exposures, where we have long been cautious due to the deterioration and underwriting standards that we began to see in 2004. Much of the early mortgage problems that emerged in 2007 can be attributed to poor underwriting by mortgage originators, inflated housing values, inappropriate loan products, and real estate speculation. And we believe that we were quick to identify those risks in our own portfolio as we began talking to investors more than a year ago about the problems in the HELOC sector ahead of our financial guaranty counterparts.

Today, we are looking at more traditional sources of housing losses -- unemployment and declining household incomes combined with lower consumer confidence. Our revised assumptions resulted in the downgrade of some real estate exposures, thereby triggering additional portfolio reserves. It is important to note that these additional reserves that were generated are still well within the rating agency stress case assumptions for our portfolio.

While it's uncertain how much longer we will continue to see loss reserve development on the mortgage portfolio, what I can be certain of is Assured's conservative underwriting approach to the US RMBS market in 2005 to 2000 provides a natural cap to the potential losses that this asset class will generate. I remain confident in our ability to weather the mortgage market problems with our franchise intact given our lack of CDOs of ABS, our limited RMBS exposures, and the generally high attachment points and contractual terms that we achieve.

Conversely, the rest of our portfolio continues to perform well and we remain comfortable with these exposures. About 34% of our portfolio is currently rated AAA or super senior and we continue to have the highest rated portfolio in the industry with an average rating of AA minus, the same level it has been since our IPO in 2004. We have of course extended our revised economic assumptions we used in our real estate analysis to our analysis of the remainder of the portfolio, which resulted in some downgrades in the structured finance book of business. You can see those changes as we post all of our direct RMBS and structured transactions along with their internal ratings on our website. We also expect to see some downgrades in the public finance sector as the economy becomes more stressed, although the probability of defaults is relatively limited given the terms and conditions in those transactions and the ability of many of the issuers to revise budgets, advanced borrowings, or raise revenues to adjust budget shortfalls.

I'd like to talk now what I think are the good points in our quarter. We were pleased with our new business production, given the environment, as both our direct public finance and reinsurance production results were up compared to the prior year. While US public finance production has slowed down from the pace of the first half of 2008, we were still up substantially over the third quarter 2007 production and we had about a 43.5% market share, which is higher than any other financial guarantor. We believe that both market conditions and the announced Moody's review of our ratings had an impact on our new business volume in the quarter.

However, our conversations with issuers, investors, and bankers during the quarter confirm that investors -- particularly retail investors -- still value the protection liquidity that bond insurance provides. We did several large transactions in the last few months, including a Pennsylvania turnpike deal that closed last week that was sold principally to retail investors and that benefited from the investor diversification, liquidity, and credit protection provided by bond insurance. We remain very optimistic that the demand for bond insurance will strengthen from current levels.

We recently announced results from October 2008 where we underwrote 61 transactions for $831 million of PAR, up 65% over the October 2007 month. Our reinsurance segment booked two large facultative portfolio transactions with a major reinsurance client that would recapture two books of businesses that has previously ceded to other reinsurers. As the largest and highest rated reinsurance company in the market today, we continue to look for opportunistic transactions of portfolios such as the CIFG. transaction that we announced on October 3 and that we expect to close in the fourth quarter.

I think it's also important to highlight the growth in our earnings model that we have built up over the past several years. Our enhanced revenue stream is driven by the buildup of unearned and installment premiums from new business, which is then recognized as earned revenues over the life of the insured transactions. Because of the volume of new business that we have written in the last 12 months, our year to date total revenues included in operating income are up 46% to $375.1 million -- on track to perhaps reach $500 million for the full year, depending on refundings and other market conditions in the fourth quarter. This compares to only $284 million in 2004, the year of our IPO.

As of September 30, 2008, we have approximately $2.6 billion of unearned premium reserve and future installment premiums, about three times the amount we had at year end 2004. Furthermore we have grown our investment portfolio by 65% since 2004, from $2.1 billion at year end 2004 to $3.5 billion today. This has resulted in a significant increase in investment income due to an annualized 2008 level of about $160 million, up more than 65% compared to the $95 million we reported for the full year of 2004. The combination of strong new business production and cash flows from operations has resulted in our solid increase in earned premium and credit derivative revenues and investment income in 2008 despite the difficult times.

I'd now like to touch briefly on the government and regulatory fronts, as there's been a lot of activity recently in Washington and with the New York State Insurance Department on Financial Guaranty Company's participating in TARP and the CPP. First I'd like to make sure that everyone understands that Assured Guaranty does not need or want to participate in TARP. Secondly, we do not need to participate in the capital purchase plan, as we expect to have other more efficient sources of capital should we need it. We have heard the news that some of the other financial guarantors may seek to participate in the capital purchase plan which may provide them with the ability to maintain their current rating levels. We don't believe that their participation would in any way disadvantage Assured as we believe that we will continue to be viewed as a preferred solution for issuers and that we have a financial strength to ensure the confidence of figured income investors. We applaud any efforts to ensure the financial integrity and stability of the other financial guaranty companies. However, any assistance should be limited to solvency and liquidity only and should not address the loss of rating and trading values.

Finally, I know you are all tired of hearing me talk about Moody's and frankly so am I. Every since the IPO, we've spent an inordinate time talking about Moody's and our ratings. Today, looking at the competitive and market environment, I remain comfortable with Assured's ability to continue to offer issuers and investors the benefit of our financial strength, diversified portfolio, financial flexibility, and access to capital. I hope that all interested parties will continue to focus on the financial strength and stability that Assured Guaranty Corp provides as currently confirmed by the stable AAA ratings that it has from S&P and Fitch. Assured's history of conservative underwriting has allowed us to avoid most of the highly troubled assets such as CDOs of ABS and CDO Squared, and puts Assured in the position of financial strength and stability to continue to offer the same level of protection into the future. We will continue to work with Moody's to address their concerns and to try to convince them that Assured Guaranty Corp provides investors today with AAA level protection from credit losses in their investment. One of our key goals every since our IPO has been to achieve and maintain the highest ratings possible for Assured Guaranty Corp, and we will continue that commitment.

Looking forward, we are confident that there will be strong demand for Assured's financial guaranty product as market liquidity improves and issuers are again able to sell structured finance and other transactions into the public market. We are also confident that once Moody's review is completed, that public finance investors will still recognize the value of the credit enhancement, liquidity, and transparency that the Assured financial guaranty provides. We gain this confidence from our discussion with issuers, investors, and bankers as well as the continuing level of customer inquiry from those markets. We believe that our revenue model provides stability to our earnings during volatile times, and that our proactive approach to underwriting risk management will help assure weathering the economic commitment that we are facing. Now I would like to turn the call over to Bob to discuss our financial results in more detail.

Thanks, Dominic, and good evening. I'd like to cover some brief highlights of the quarter. Please refer to our press release and financial supplement for further details on our financial position and results of operations.

Operating income, which we calculate as net income excluding after tax realized gains and losses on investment and after tax unrealized gains and losses on credit derivatives, for the third quarter 2008 was $26 million or $0.28 per diluted share compared to $48.2 million, or $0.70 per diluted share for the third quarter 2007. The principal reason for the decline in operating income was that we had a pretax loss and loss adjustment expense on US RMBS exposure written in either insurance or credit derivative form of $95.8 million or $0.89 after tax per diluted share. These losses incurred were largely related to HELOC and other second lien transactions, including $52.3 million for two Countrywide transactions underwritten in our direct segment.

Our PVP or present value of gross written premiums for insurance and credit derivatives totaled $139.4 million for the quarter, down 16% to $165.5 million which we had in the third quarter of 2007. Direct US public finance rose to $67.7 million for the third quarter 2008, compared to $10.3 million for the third quarter 2007, while reinsurance PVP was $57.2 million, up from $32.8 million in the third quarter 2007, reflecting two facultative transactions. The overall decline in PVP was due to minimal activity in structured and international finance, reflecting overall weakness in the global economy.

Net earned premiums and earned revenues on credit derivatives for the quarter totaled $115.5 million, up 105% from third quarter 2007 with growth in both direct and reinsurance. The amount included $31.7 million of refundings in our reinsurance segment, a much higher than normal amount due to the refinancing of auction rate securities and other variable rate debt in the US municipal market. Net earned premiums and earned revenues on credit derivatives excluding refunding were $83.8 million, up 62% from third quarter 2007 and reflect the significant increase in new business underwritten over the past 12 months.

As Dominic discussed, the growth of our business over the past several years combined with the stability of our earnings model gives us a great deal of visibility into future revenue levels. The source of most of our revenues for 2009 are invested assets and our unearned premium is already on the books. To further illustrate our earnings model, just based on the business that we have on the books as of September 30, 2008, we expect net earned premiums and credit derivative revenues excluding refundings of almost $290 million, which you can see on page 15 of our financial supplement.

Consolidated loss and loss adjustment expenses incurred, including losses incurred on credit derivatives and consistent with our previous accounting for loss reserves, totaled $92.6 million for the quarter, compared to loss expenses of $3.8 million for the third quarter 2007. The increase was largely due to the $95.8 million in pretax losses incurred for our US RMBS exposures as previously mentioned, slightly offset by reserve releases and portfolio maturities in nonRMBS asset classes. Aside from US RMBS, we did not have any material changes in credit ratings on our insured exposures that resulted in any meaningful changes in our loss reserving levels.

Our loss expenses for US RMBS on the other hand are very disappointing, but not inconsistent with the trends of the economy and other market participants. Our exposure to the second lien mortgage market including HELOCs and closed end seconds is relatively limited -- only $2.3 billion at September 30, 2008, or only 1% of our total net PAR outstanding, and largely concentrated in two direct transactions that we did with Countrywide, which provides investors with a great deal of transparency. The increase in our loss researches for the HELOC and closed end second lien book resulted from specific case loss reserves on some direct and reinsurance HELOC and closed end second exposures as well as rating downgrades on some other RMBS transactions due to a combination of the delinquency trends and the deteriorating economic environment.

I would note that we currently include in our assumptions a modest benefit for repurchases by originators for improperly underwritten loans, but it is a small percentage of the total amount of loans that we have submitted to the originators for repurchase to date. We will continue to review portfolio loans that did not meet the underwriting reps and warranties and will put those loans back to the originators for repurchase. But the timing and ultimate amount of any repurchase payments is uncertain. We have in fact begun to receive payments for repurchase very recently. I would note that to date we have not filed legal claims against any originator, although that course of action we would consider if we need to.

The overall credit environment for our guaranteed portfolio has continued to be quite good, given the generally poor credit conditions market wise. During the quarter our closely-monitored credit list increased by $588 million, principally due to mortgage related exposures in both segments that we've already discussed as well as three student loan transactions from our reinsurance segment. The student loan transactions were reinsurance transactions done in prior years, and were added because of interest shortfalls related to failed auctions, which have occurred marketwide, and not due to changes in delinquency patterns in the loans themselves. Also please note that our Category 3 CMC exposures increased by $1.2 billion as we downgraded both Countrywide HELOC transactions from CMC 2 to CMC 3, and established case loss reserves for those exposures.

Quarterly operating expenses increased by 9% net over the third quarter 2007. The increase in operating expenses is due principally to higher headcount than in the prior year's period. For the fourth quarter 2008, I expect operating expenses to increase by approximately 3% net over the prior year period, as we are working to go maintain our cost discipline.

Finally, this quarter we had a net loss on credit derivatives which was principally associated with downgraded US RMBS securities and wider credit spreads for insured exposures across almost all markets that was offset by further widening of our own credit spreads. As we've stated in the past, these mark to markets changes on our financial guarantees written in credit derivative form are not a reflection of our expectations of gains or losses when securities that will ultimately be realized. These contracts are generally held to maturity and the gains or losses will dissipate as transactions approach maturity absent a credit default.

We believe it is more informative to analyze our results excluding these unrealized gains or losses. As of September 30, 2008, we had cumulative net losses on credit derivatives, a fair value gain on Assured Guaranty Corp's committed capital securities, and accumulated other comprehensive losses on our investment portfolio totaling $268 million or $2.95 a share, which means that our book value excluding this amount is about $25.93 per share, a 1% increase over the last 12 months, while our adjusted book value excluding the $2.95 amount is about $42.47, an increase of 2% over the past 12 months.

Please note that we plan on filing our 10-Q tomorrow, Friday, November 7. With that, I'd like to turn the call over to the operator to poll for questions.

Operator?

(OPERATOR INSTRUCTIONS) The first question comes from the line of Andrew Wessel with JPMorgan. Please proceed.

Hey, guys, good evening. I think the first -- just a couple of questions -- the first one looking at the credit migration you saw your internal ratings on Alt-A and sub-prime, RMBS -- it looked pretty significant everything being captured now in the A and lower category -- especially for the non, the below investment grade stuff. How much of that was captured in the reserving this quarter or actually I guess it is would be more the CDS mark to market, maybe there?

Okay. Remember, on the CDS mark-to-market, that we look separately from real credit impairment. If you look at Alt-A, predominantly what you've seen is a migration from the AAA and super senior down into the AA, AA minus, A, with some migration in terms of the below investment grade or down to the BBB. I think we are trying to keep in step with what we see happening in the market and projecting that 2008 and 2009 were delaying the economic recovery, and as you know in our world of how we reserve, once we do that, it automatically kicks off the portfolio reserves, which were included in the total reserve position that Bob had talked about.

Just one clarifying point, on the reserve amount because you had mentioned the mark, so that we can display any credit impact on the credit derivatives, you actually -- the number that I quoted is a combination of two lines, it's the loss and loss adjustment expense line of $82.5 million, plus the incurred losses of credit derivatives of $10.1 million. So that's where you get the credit aspect of what comes through on the CDS [form].

The other thing I would say is fundamentally as we move things into our CMC list or downgrade them, remember there is still in our view a high probability that there will be no loss realized. However, based on our reserving methodology, there is a portfolio reserve created.

Great. And then the other question I have was based on really just looking out and seeing how the markets responded to you post being put on review for downgrade by Moody's. Obviously that had impact this quarter, but it seems like you still had pretty decent production overall. Is assuming that maybe if the markets is looking through to Moody's and saying, all right, maybe Moody's is looking at a AA, whereas S&P and Fitch would still be AAA, do you think the reception in the market is still there for you, that production in this quarter is somewhat emblematic of the markets' reception to you despite the ratings watch? Or do you think really the [lot of] production came right before the Moody's announcement and it really trickled off post that?

It's a good question, a little hard to answer. So I think there is so much uncertainty and so much concern in the market that it's really hard to establish a trend. But as we look at our activity over the quarter, obviously we had a significant setback at the onset of the Moody's announcement -- because I think general panic ensues and they are saying, okay, where does this ultimately end and is the same spiral that we've experienced on behalf of other guarantors. And if you look to the balance sheet, if you look to the exposures that we are very public and transparent about, we just don't have the size numbers and we definitely don't have the exposure to those highly volatile and highly leveraged transactions that would cause those significant losses. And as you can see, we are still reporting an operating profit even in spite of having to absorb what we consider a normal -- not normal but catastrophic meltdown in the real estate market, now into the general economy. So that was the first setback.

Then we started to recover and we internally report every day our activity in the public finance market, so we are all taking good comfort. Then Lehman goes bankrupt and the same level of uncertainty and panic hits through the market and once again we lose about another three or four or five trading days until that gets digested, and then once again the activity starts to pick up, witnessed by that Pennsylvania Turnpike deal that we did in the last week. And then you have the AIG overhang.

So I think the market wants to do business, needs to do business, values the guarantee, has confidence in Assured, but it still has to digest these market disruptions that continue to take place. And we are obviously certain that once and when Moody's comes to a decision, if it's adverse you are going to have that same market setback until such time as the market can digest, get comfortable, and then once again activity emerges. We think activity has got to get better because there is just too much financing that's not being accomplished that -- for this economy to continue to operate is going to have to ultimately go through the securitization and the insurance marketplace.

So we are hopeful that we are seeing the worst of the experience relative to production activity, and as I said trying to set aside Moody's and not making a value judgment on what the market thinks of their activity to date, there is going to be continued acceptance and opportunity. And as we continue to trade through all the issues that exist out there, we are confident of that and we are pleased with the results that we put up for the current quarter.

Thanks a lot. Appreciate it.

You're welcome.

The next question comes from the line of Mr. Joseph DeMarino with Piper Jaffray. Please proceed.

Thank you. I think you mentioned you had revised your economic assumptions. Can you give us some detail on that?

Sure. As we look out, one of the things as you're in a market dislocation, first you got to predict the depth and severity of the dislocation. Then you've got to predict its duration. And then you've got to predict its method of recovery or the slope of its recovery. So what we've basically done is stretched everything out. So as we anticipated, the peaking and the dropping of the delinquencies, [will] results in loss curves, everything has extended out so you are trapping more losses within the area of loss recognition and you are extending forward the potential recoveries. And remember the way the deals are all structured you have collateral, you have certain other rights to cash streams. So all of that gets factored in.

So the extension causes the losses to go up and that's what's reflected, and the sad part of this -- not sad, but the challenge is -- because it's real estate and most of our issues are in the home equity lines of credit, all of your remedies or offsets are really back end loaded. So as you extend out that cover of recovery, once again it gets harder to predict what is going to be the beneficial stream. And since we do everything on a net present value basis, it's discounting back at a smaller number. So all of that tends to result in a higher loss reserve, which is exactly what we posted in the quarter. So it takes us basically, we would have thought we had a recovery somewhere in mid to late 2009. We are now pushing it out beyond that.

Because? I mean your reserves or your [L&LE] went up pretty good in the quarter compared to last quarter. A little bit more than double. And it doesn't sound like your economic assumptions have worsened to the extent that you provisioned for reserves during the quarter. So is that what that's reflecting? Part of the, some of the discounts that you just mentioned? I mean, how -- ?

I'm sorry, I think the economic assumptions have worsened. As I said, if we look at a flattening and decreasing of delinquencies and default curve, which in effect equates the losses and the real estate side, as we now push that out an additional six months, you're creating a lot more loss under the curve and that's what's reflected in the reserves that we are posting. So delinquencies have decreased. But they haven't decreased in enough of a way that really has started to fully shape the loss curve. So now the top of the curve is looking more like a plateau and we now have to extend our loss projections across the plateau and extend out where we think the ultimate dropping of the delinquencies and therefore the reduction of losses will occur.

As I said, that also pushes out the recognition of the recoveries through excess spread, through draws, through reps and warranties. So, therefore, all of that adds up to as you're pointing out a significant loss increase or loss provision increase in the current quarter. Does that explain that for you?

That's helpful. Regarding the Countrywide transactions, what percentage of those are now reserved for?

Good point. The total outstanding as we look at '05 J is $545.8 million, and we have reserves that would equate to about -- so it's $545 million for '05, it's $648.8 million for '07, and the total incurred losses. which doesn't mean the total losses we expect to emerge because remember the offset, are $94 million. Roughly a net 7.9% reserve. But you'd have to add back to get to the full loss provision that we're expecting in those securitizations. The excess spread, the future draws, the subordination we have at the beginning of the deal and as well as these putbacks in terms of reps and warranties. So it's a net/net net position.

Okay. All right. Back to Moody's for a second, do you feel that hypothetically speaking a downgrade by Moody's bears lots of an impact on the reinsurance business as opposed to your direct business?

Well, depends what they do to the reinsurance company. One of our issues has been, the reinsurance company has a very different portfolio than the direct company. And once again you put them into the same situation as the direct company, we didn't think was quite proper at the beginning. The reinsurance company has portfolio opportunities. Basically they are taking portfolios from further lower rated companies, so the ratings arbitrage or the ratings values still exist. And obviously they have the capability in terms of servicing and holding the business on a go forward basis. I think a downgrade hurts everybody, and to try to apportion it, who gets hurts worse, it's a little bit more difficult.

Okay. Thanks. And last question, can you give some commentary on the environment overseas? International business?

The international business as recognized by the production of 0 in the quarter is basically frozen. There is no activity. There is a lack of any deals coming to the public market. They are being held on balance sheet today, which we obviously believe creates an opportunity for the future as well as large infrastructure projects are being delayed as well. That's going to be a market opportunity that we hope to see in the probably 2009 and maybe mid to late 2009 as those markets themselves are going through tremendous liquidity issues and financial concern.

All right. Okay. Thank you.

Thank you.

The next question comes from the line of Mark Lane with William Blair & Company. Please proceed.

Good evening, I have two questions. First one is on the two Countrywide transactions, in the past you've been willing to estimate what you believe your stress test case, worst loss case scenario would be. Are you still willing to do that? Or, yes -- are you still willing to do that?

Mark, I've got about 18 people writing on a piece of paper. We now have established a case reserve on an accounting basis that represents our best estimate of what we think our exposure is for those two securitizations.

I know it's your best estimate, but I'm assuming you also have a stress test case.

We have stress test cases that would be a lot lower than that number, as well as other cases that would be higher than that number. I would say we have cases that show a lower number to a greater extent than we have a higher number if that makes it comfortable for you.

Okay. And then the public finance business that you're doing, is there any consistency in the type of issuer or the type of deal or the banks that are bringing you the deals or is it just completely random?

Just as far as numbers done in the quarter, we did 316 deals during the quarter. 287 of those deals were general government deals and then beyond that there were a smattering of other deals in the public finance sector. Certainly a couple of sizable deals with the Louisville Arena and the Twins Fall Park but it's substantially government deals.

It's typically the smaller issuers, Mark, that obviously would not be able to go out on an uninsured basis and the fact that the insurance still provides them access and also ultimate finance savings. So that's the guys -- obviously you've seen enough press about the bigger states or the higher rated guys that have been going out on an uninsured basis or in some cases using a letter of credit as a liquidity support feature to get the deal done. But the nice thing we take away from that is if you look at letters of credit and the amount of enhancement that we've been able to do plus the rest of the market, there is still a significant percent of the market that needs some letter of credit enhancement. And we believe obviously the letter of credit market has a limited applicability and capacity such that we should be able to respond further and further and in terms of penetration opportunities on an insured basis in the public finance market.

So would you, would it be your guess that these smaller municipalities, that that demand would seem to be pretty consistent even if you were downgraded to AA?

It's a very resilient demand. It's done in the competitive bid market which we talked about a quarter ago we had moved additional resources to make sure that we were more involved in that marketplace. So, yes, the second thing we were going to tell is you we still as we talked in our brief comments, we expect to see stress in the public finance markets and we expect to see downgrades there which would once again call for an increase in the demand for insurance.

And so that downgrade comment about the munis, is that meant to send a message that to expect higher loss provisions in next year as you start to see downgrades there as well?

No, I mean obviously in our methodology which is obviously subject to the new accounting laws it would have theoretically generated portfolio reserve, but we are still quite optimistic that those municipalities tend to have the opportunity to to resolve their issues. Remember the municipal markets severities are very, very low. So you are going to have a higher incidence of potential downgrades. The severities are not significant and with the ability to reschedule delay as well as secure advanced funding, they typically can work these things out. But it does hint to the need for more insurance.

So the automatic reserving impact from the downgrades you're saying is -- ?

Small.

Small, right. Okay. Thank you.

You're welcome.

(OPERATOR INSTRUCTIONS) Next, Brian Meredith of UBS, please proceed.

Hey, good evening, Dominic. Following onto Mark's question I noticed that in your public finance area and noninvestment grade, you've now got this other public finance that's got a decent size there. Can you just explain what exactly is in there?

We know that Jefferson County is in there.

Okay.

We had three student loan deals that we did for reinsurance back a few years ago that -- they were auction rate securities based on the failed auction and the higher interest rate that they have had to now pay, there is a negative carry between the underlying loans and the interest on the debt and therefore we internally downgraded it and that's what is popped in there. It's about $340 million.

Great. And then -- ?

They are government guaranteed loans -- that's why they are considered public finance.

I don't think we really think there is a great deal of exposure there, but because of the nature of the --

Because of the negative carry, we downgraded it internally.

Next question and this one might be a tough one to answer, but in your discussions you've had with Moody's over the last couple of months, do you think the reserve you put out this quarter will be a surprise to them?

Not at all.

Okay. Good. And then the last question, all the issues that we are getting right now with Ambac and the downgrade, what impact do you think that's going to have on your potential business going forward just as investors potentially continue to lose confidence in the municipal bond insurance industry?

Well, I guess I would say, Brian, I don't think there's a continued loss of confidence. I think the activity of today is just a continued play out of the sorry situation that has happened relative to some of the guarantors in our industry. And we can all argue about the timing and whether it was anticipated or not, but I think if you look at some things like their ability to trade, the value of the stock, et cetera. I think that there were indications that there were severe problems, and whether these problems are the manifestation through a ratings process or not, I don't think the market has had any difference of opinion whatsoever.

Okay. Terrific. And I guess the last question and every quarter someone wants to ask this one on is capital management here, probably you want to wait I guess until the Moody's decision, but obviously with the stock where it is, it's a pretty attractive investment here.

It's an attractive investment on behalf of everyone, especially if you listen to Bob's adjusted book value and book value. But be that as it may, one thing we are being very conservative about everyone is upping residential loss forecast or downgrading more instruments. And although we think we are pretty proactive in our downgrade process, as I said we call our surveillance guy Doctor No -- that still does generate capital and we want to make sure that we are projected relative to an increase in capital requirements.

Okay. Thank you.

You're welcome.

(OPERATOR INSTRUCTIONS) There are no questions at this time. I would now like to turn the call over to Sabra Purtill for closing remarks.

Thank you and thank you all today for joining us. We appreciate your interest in Assured Guaranty, and if you have any additional questions or require further information please feel free to contact me either by e-mail or by phone. Thanks again and have a good evening.

This concludes today's presentation. You may now disconnect.