Assured Guaranty Ltd (AGO) 2009 Q3 法說會逐字稿

Great day, ladies and gentlemen and welcome to the third-quarter 2009 Assured Guaranty earnings conference call. My name is Katina and I will be your coordinator 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 presentation. (Operator Instructions). As a reminder, this conference is being recorded for replay purposes. I would now like to turn the presentation over to your host for today's call, Ms. Sabra Purtill, Managing Director of Investor Relations. Please proceed.

Thank you, Katina and thank you all for joining us this morning for Assured Guaranty's third-quarter 2009 earnings conference call. Our speakers today are Dominic Frederico, President and Chief Executive Officer of Assured Guaranty Limited and Bob Mills, Chief Financial Officer. We will take questions from the audience after the presentation, but please note that our call is not Web-enabled for Q&A. If you would like to ask a question on the call, please dial our conference call organizer at 866-825-3308 and join the call live.

Management's comments or responses to questions today may contain forward-looking statements such as statements relating to our business outlook, market conditions, credit spreads, ratings, loss reserves, acquisitions 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 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 financial information, as well as for more information on factors that could affect our future financial results and forward-looking statements.

I would also like to invite you to Assured Guaranty's senior management presentation to equity and fixed income investors that we are hosting in New York City on December 1, 2009. Presenters will include Dominic and Bob, as well as Sean McCarthy, Chief Operating Officer and Russ Brewer, our Chief Surveillance Officer. The presentation will be webcast, but we encourage all of you who are able to attend to join us as there will be an opportunity to meet our senior management, as well as other members of our management team who will be in attendance. The presentation will begin at about 8:30 a.m. New York time and will continue until approximately 12:30 p.m., followed by an informal buffet luncheon with management. Please contact me or any other member of our Investor Relations team to RSVP for the presentation on December 1. I will now turn the call over to Dominic Frederico, our CEO.

Thank you, Sabra and thanks to all of you on the call for your interest and support of Assured Guaranty. The third quarter marked the closing of our purchase of FSA and we have made significant progress in completing the integration of facilities, personnel and processes. We are now well-positioned to address our market opportunities with greatly enhanced earnings power, significantly larger claims-paying resources and first-rate underwriting and risk-management talent to drive our business forward.

An important step in our expanded market focus was the recent rebranding of FSA as Assured Guaranty Municipal Corp. This serves to communicate exactly what we are offering municipal bond issuers and investors -- a choice between two proven, financially strong guarantors, AGM serving the municipal market exclusively and AGC, the diversified provider.

As our core business is municipal, we believe that by offering municipal market participants a dedicated resource such as AGM, we can deliver greater cost efficiency to issuers and additional value to investors while achieving a competitive advantage for AGM in that space based on our claims-paying resources, market acceptance and experienced personnel.

Looking at our business activity, despite the ratings uncertainty in the third quarter, we continue to see strong demand for our guaranty in the US municipal market. In fact, direct third-quarter PBP was $158.1 million, almost all of which was generated by the municipal business and represents our strongest production so far this year. We insured a total par amount of approximately $8.7 billion in US municipal new issue volume, which was 9.5% of total par issued.

Further, these transactions included a number of large and significant new issues such as $270 million of senior lien revenue bonds for the North Carolina Triangle Expressway, $386 million of bonds issued out of the Indianapolis Bond Bank for the local public improvement waterways project, $347 million of tollroad revenue bonds for the Dulles Metrorail and $219 million in general obligation bonds for the Florida Marlins ballpark.

Going forward, we expect to continue to expand our role in this market based on the strength of our two-platform strategy, as well as the increasing demand from states and cities to meet their public infrastructure needs. Of course, we recognize that the fiscal pressure on cities and states is an underwriting issue and in writing this business, we are rigorously requiring that our terms and conditions are accepted, as well as rejecting business that does not meet our stringent credit underwriting standards.

Turning to Assured Guaranty Corp.'s structured finance and international public infrastructure businesses where opportunities have been limited due to the current market conditions, we are currently seeing some signs of activity. This is particularly apparent in the global public infrastructure markets where capital market executions are vital to fund long-term investments. We expect to see greater activity in these markets in 2010 as the worldwide economies rebound.

Now I want to comment on our ratings situation. First, we are fully committed to maintaining the highest ratings across all of our companies. The recent ratings actions by Fitch and Moody's requiring further capital enhancement to maintain AA ratings leaves us with a viable business model to advance our strategic plans both in the municipal and structured finance markets. We, therefore, believe executing these capital initiatives are in the best interest of the Company.

Further, although we continue to request true capital regulation for our industry by either the federal government or a single appropriate state regulatory authority, we are implementing these capital plans, which entails external reinsurance already negotiated, intercompany capital support and approximately $300 million of additional external capital. I do want to reemphasize that all this capital enhancement is to solely support rating agency requirements.

Finally, in regards to our incurred losses this quarter in our residential mortgage portfolio, these losses are primarily due to an increase in our estimate of loss severities on foreclosed homes, backing Alt-A and option ARM loans and from a lack of significant improvement in the under 60-day mortgage delinquencies causing us to extend the length of the period we expect the mortgage market to continue to underperform.

More specifically, for our direct Alt-A transactions, the assumption for base case loss severities increased from 54% to 65% and from 54% to 60% in our direct option ARM exposures. As we have previously discussed, we have devoted significant internal resources and have retained several loan file diligence firms and law firms to pursue our rights for reimbursement under the representation of warranty clauses in our contracts.

During this past quarter, we extended our remediation efforts beyond HELOCs to include first-lien transactions. Initially, we are focusing on those deals where we project losses, but we are currently in the process of reviewing close to 36,000 individual loan files from creditworthy entities. Through mid-October, we have caused the repurchase of over $146 million of ineligible loans between our two companies.

Before turning the call over to Bob who will provide financial details, I want to express my optimism for our future success. We are the only established monoline to have come through the worst recession in modern financial history in a strong capital position. I believe we are well-positioned in municipal, international public infrastructure and structured finance markets. Importantly, we have the human, technical and capital resources to meet demand for financial guaranty insurance across all these markets. Now I will turn the call over to Bob.

Thanks, Dominic and good morning. I would like to cover some brief highlights of the quarter and then we will open up the call for questions. I would like to remind you that this is the first quarter that includes the financial results of the FSA acquisition and the purchase GAAP accounting impact of that acquisition.

Given the size of this acquisition, as well as the acquisition's economics and the significant discount to book value, the application of purchase accounting has a substantial impact on almost every line in our balance sheet and income statement making comparability with periods prior to the acquisition challenging. Therefore, in my comments today, I will focus principally on this quarter's results and key items included therein rather than a comparison to prior periods except in instances where prior period comparisons are relevant.

Our third-quarter 2009 operating income, excluding $51.3 million from pretax FSA acquisition-related expenses, was $104.3 million, or $0.65 per diluted share, substantially more than the third-quarter 2008 operating income of $26 million, or $0.28 per diluted share. The majority of the acquisition-related expenses are behind us at this point. This quarter's FSA acquisition-related expenses were principally related to post-acquisition severance, investment banking fees and integration-related consulting fees.

Expenses in the next few quarters will largely be related to systems and process integration, as well as the elimination of duplicate facilities in London and some remaining severance costs. We will continue to provide you with a breakout of these expenses from our normal operating expenses so that you can see both the level of those expenses, as well as the improvement in our expense efficiencies as we finish the systems integration, which we have targeted to complete by the end of the first quarter 2010.

Because of the favorable terms of the acquisition, book value increased in the quarter even after the issuance of 22.3 million shares on July 1, 2009. Book value per share was $17.89 at September 30 as compared to $17.52 at June 30. Book value per share includes the cumulative unrealized mark-to-market losses on our contracts written in credit derivative form, as well as on our investment portfolio and our committed capital securities. Excluding the noncredit impairment portion of the derivative mark-to-market and other noncredit-elated mark-to-market, our operating shareholders' equity per share was $22.19. Our adjusted book value per share was $54.59, growing substantially from $41.97 per share at December 31, 2008, principally as a result of the value created by the acquisition.

Our new business production, which we measure as PBP or present value of new business premiums, totaled $158.1 million for the quarter, up 13% compared to $139.4 million for the third quarter 2008. Our pricing levels are higher than prior year's quarter after accounting for business mix between the quarters and we continue to be able to achieve our target returns in this environment for those categories that are attractive to us in the public sector.

New activity remains weak in direct structured finance and international due to market conditions, as well as our continued stringent underwriting and pricing standards. However, we did have some attractive, but small secondary opportunities in the structured finance side this quarter, which has continued in the fourth quarter. We are optimistic that 2010 will bring us additional opportunities in all of our markets. There was no new business in the reinsurance segment in the current quarter; although we did require a FSA portfolio previously reinsured to CIFG.

Turning to the financial statements, our net earned premiums were $330 million versus $85.5 million in the third quarter of 2008. The increase was substantially due to the FSA acquisition and the application of purchase GAAP accounting; although the new business written during the quarter also contributed to the growth.

We have included in the 10-Q, which was filed yesterday, and in our financial supplement, a rollout of the unearned premium reserve so that you will be able to better forecast our earned premiums. The fair value adjustment to FSA's book of business were amortized into earned premiums and are largely associated with structured credit portfolio, including RMBS. The shorter average life of these exposures will result in significant amortization into income in the coming quarters.

Net investment income was $84.7 million in the quarter, up 95% from the prior year due to higher levels of average invested assets resulting from the acquisition. Our pretax book investment yield was 3.6% in the quarter, down from 4.8% in the prior year due to the decline in market interest rates and a greater concentration of municipal bonds in the portfolio, which have a lower pretax yield than taxable bonds.

We also had a reasonably high concentration in short-term investments and cash, principally the result of the acquisition and the alignment of the portfolios. We recently added three new investment managers to our combined $9.9 billion investment portfolio. We do not anticipate any major changes beyond decreasing our short-term investment position as more attractive portfolio opportunities arise in line with our conservative investment guidelines. Currently, the combined portfolio has an average rating of AA.

Loss and loss adjustment expenses, including incurred losses on credit derivatives, totaled $275.5 million in the quarter compared to $92.6 million in loss and loss adjustment expenses and incurred losses on CDOs in the third quarter of 2008. The quarter's loss expenses did not include any additional reserves for FSA exposures. As a result of FASB Statement 163 and purchase GAAP accounting, changes on our expected losses for FSA's financial guaranteed contracts are reflected as a change in the expected loss allocation in our unearned premium reserve, which is reflected in the footnotes to the 10-Q. Loss expense will be recorded relative to the FSA exposures only when losses exceed the unearned premium reserves established in PGAAP on a specific exposure as mandated by FASB Statement 163.

However, revised loss estimates for FSA's credit derivative exposure, which are not governed by FAS 163, are included in unrealized gains or losses on credit derivatives in the income statement and are broken out in the financial supplement. The majority of our loss expenses this quarter and since the end of 2007 have been due to poor RMBS credit performance. During this quarter, we increased our loss estimates for first-lien US RMBS mortgage exposures principally for Alt-A and option ARM transactions due to higher-than-expected delinquencies and loss severities related to actual foreclosures that have exceeded historical highs.

We also had additional reserving on certain HELOC exposures in selected non-RMBS exposures that we had previously established reserves for. Our below investment grade list totaled $24 billion at September 30, about 3.8% of our net par outstanding.

Other operating expenses were $66.2 million in the quarter, up significantly from the prior year due solely to the acquisition and the resulting increase in headcount. Our headcount is approximately 370, already reduced considerably from the pre-acquisition headcount, which was in excess of 500 for the individual companies. We plan as part of the integration to reduce the current headcount by an additional 15% to 20% by the end of the first quarter 2010.

We also expect to reduce non-employee expenses as we complete the consolidation and closing of redundant offices outside the US. We project that ultimately the acquisition will result in annual expense savings of approximately $150 million. I expect the quarterly run rate for operating expenses to approximate $50 million in 2010 beginning in the second quarter.

Acquisition costs represent the amortization of deferred acquisition costs or DAC only for the legacy Assured Guaranty portfolio since FSA's DAC was eliminated in PGAAP accounting. Tax expense increased to $38.4 million compared to a benefit of $6.2 million in the prior year period due to increased operating income. For 2010, I would expect the effective tax rate to be in the 18% to 22% range, increase from our pre-acquisition expectations due to our larger presence in the United States.

At the time of our year-end earnings call, which will be in the last week of February, coincident with the filing of our 10-K, I will provide further insights relative to expectations for operating expenses, as well as specific income lines, which will enable you to better measure expected run rates for 2010. I would now like to turn the call over to the operator to poll for questions.

(Operator Instructions). Daniel Kim, JPMorgan.

How are you guys doing?

Good, Daniel. Thanks.

So I guess my first question is could you tell us a little bit more about the capital initiative? You mentioned that you have negotiated extra insurance. Can you tell us about the counterparty or the size of the transaction and what kind of credits are being wrapped?

I'll tell you where the credits are being wrapped. The credits are portfolio of predominately municipal and international infrastructure credits. There are some infrastructure finance in there, but not RMBS that allows us to kind of boost the returns of the ceding company. We have got one ceding company that has already agreed. We have got the transaction out to another as a way to make sure we are getting competitive pricing on that and that will represent about a third of the capital raise.

Secondly, we are moving some capital inter-Company around to put it where it needs to be and take advantage of the differences in the books of business and how that equates itself relative to rating agency capital requirements.

And then the third leg is, as we have talked about, we anticipate going to the market for around $300 million of external capital.

And that $300 million of external capital, could you tell us what nature -- is it preferreds, converts, hybrids or common equity?

Well, that is exactly the analysis we are doing today in terms of seeing what is available in the market, cost, ultimate impact on the financial statements of the companies in terms of accretion, dilution and recovery period. So we are actually going through that analysis as we speak.

Understood. And the Moody's base caselaw scenario, how does that compare to what you guys have reserved so far for the losses? Is there -- compared to the loss reserves that you guys have currently?

I think it is reasonably close and reasonably close to maybe like a quarters worth of income, nothing that would be significant if we had to go up to that level of losses. Obviously, we believe in our models and assumptions under our base case. And remember, our ultimate reserve pick is a kind of probabilistic analysis of four different cases. So in terms of base case to base case, they are probably slightly higher than we are.

Got it. And about the loss mitigation, you have looked at $1.5 million of RMBS credit and you booked almost $500 million. Is that something that you can expect in the future? I mean you have obviously $29 billion of RMBS. Are you going to review the entire $29 billion or are you just going to look at a subset of that and do you expect --? Go ahead.

I would love to say we're going to look at all $29 billion; though that might be a little impractical. However, today, we are looking at all RMBS. We started out in the second lien because that is where we are paying losses currently. I think we have done a very good job of reviewing those files and generating the kind of putback request as represented by predominately most of the $146 million collected to date. And on true files reviewed -- in other words, between us and the originator -- we get a high percentage of collectibility, which further kind of gives us comfort that the type of work and the direction we are taking is the proper one. And it tends to be confirmed as being supportable by the level of collections.

In the current quarter, we have expanded more significantly into the first lien, but we are only choosing those first-lien transactions where we do expect potentially to pay a loss and therefore had a reserve up.

Right.

And since that represents only a percentage of all first-lien transactions, we are not looking at every deal, every file, but we will continue to expand that as necessary.

So do you -- I mean you guys posted a pretty impressive recovery on this. Do you expect that to sort of continue or kind of fall out as you (multiple speakers) more?

It better continue or we have a huge problem, Daniel. Obviously, we are booking a receivable that we are very comfortable with that reflects a whole lot of allowances against it in terms of what we see as true file that are qualified for reimbursement versus what the receivable represents. And once again, we are running it against our expected losses being booked into the financial statements. If loss experience would worsen, we would firmly believe then that the amount of collectibility or the amount of loans that we would have subject to reimbursement under the rep and warranties would increase as well.

You can only explain a given amount of defaults today in terms of looking at economic conditions. Once you get outside that number, and you still see a higher incidence or percentage of defaults, you have got to then look for other exposures or other explanations as to what is generating the cause. It's what we do from an underwriting point of view, what we do from a surveillance point.

We have got to understand what are the causes and as we continue to break this thing down, the causes, once you get past a certain level of experience, tend to indicate that there is obviously a significant percentage of rep and warranty issues relative to the loans in these files. And therefore, we will continue to seek reimbursement and the receivable that we have booked obviously is our expectation off of currently booked losses of what is ultimately collectible.

Great. Thank you. This is very helpful. Thanks, guys.

Mike Grasher, Piper Jaffray.

Thanks very much. A couple questions. First of all, on the production front, Dominic, I guess where do we go from here? You have had good production in the quarter despite the overhang from Moody's. There has been a lot of conversation. Or I guess the question, what has been the conversation over the past week since the rating announcement or has there really been enough time to reflect on that?

Well, I think it is a little soon, but we have been out very heavily, as you can well imagine, Mike, after the Moody's announcement, touching base with the large institutional investors, as well as significant financial consultants, financial advisers that are involved in the production of the business for us.

And the nice thing is is we travel around the country and speak to a lot of these folks. I mean they are all very supportive and they really want us to succeed. They believe in the business model. They see a need for the product and that is encouraging. As you said, in the current quarter, with all sorts of issues hanging over our heads, we still had a very strong production quarter. As a matter of fact, one of the things I would call your attention to is we look at our expectation for all of 2009. For the combined companies, it will be the greatest year on record for municipal production say for 2008.

And remember, in 2008, you had a lot of quick refundings and the bond option programs all unwound and it was an aberrational year for both companies. But if you think about it, even in spite of the economy, the circumstances, the concern over the industry, to have the best production year ever in municipal business except for 2008 in this year, I think says volumes about our opportunities, the acceptance of the Company, the business model going forward. So hopefully we would expect with more stability, and I will use that term sparingly, in terms of the ratings, you would hope to see further penetration and a further increase in business opportunities. And we think that hopefully this story continues to improve. As the economy continues to rebound, we start to further deal with these residential losses as they are arising.

And remember, one of the biggest benefits we have is seasoning, right? So if you look at our residential loss experience, you are going to see that the 2005 year is very, very quiet in terms of expectations of what's already recorded. 2006 is getting quiet. So as we move through the remainder of this year and then through the beginning of next year, hopefully that becomes a significant issue of the past. And we have got the companies really well-positioned to take advantage of the opportunities in the market.

Now against that, we have got to build America bonds that principally come out without insurance and as they take up a more significant percentage of all new issue, obviously that has an impact. So we are going to go through kind of peaks and valleys in terms of business opportunity. But as I said, the core business model works, the product acceptance works and as we go around and we were just in the Southwest last week and talk to the market, there is a tremendous amount of enthusiasm, a tremendous amount of support and people that really do want the Company to succeed. So we are very pleased by that.

Okay, so a positive outlook despite the naysayers that maybe exist here and there?

If there are naysayers, I would say, okay, then explain my third quarter.

Exactly. Okay. And then as we look at the schedule on the run-off of deferred premium revenue and we see the expected losses implied there, does that sort of -- is it fair to say that you expect sort of peak losses to be during 2010 or what would change that sort of outlook as we look at that schedule?

Mike, this is the magic of purchase accounting, which I will let Mr. Mills try to explain it. And if you understand this, I have got another little quiz I want to give you.

I had Dominic or Bob scheduled for that question.

Well, here you go. This is -- strap on your seatbelts. Here goes the ride.

This is the quick pitchout, Mike. Dominic threw this one at me real quickly. And I am sure we will have some further discussions about the applications of the accounting principal. I mean the way it goes under Statement 163, the deferred premium revenue amortizes in and it's booked in purchase accounting on an exposure basis. So it rolls in reasonably quickly to start with because most of the risk premium is charged in the structured book in the RMBS book. So that is why you see a lot coming in.

Now the expected losses really represent the losses that we had booked as part of the acquisition. These were old FSA's loss reserves that existed at the date of acquisition. So under the accounting literature, that comes across and becomes a part of the unearned premium reserve. So as you -- if you take a specific exposure, as you amortize down the unearned premium reserve, which is the gross amount, all things remaining equal, when you amortize down to the point that you hit the level of loss reserve, that even if things are exactly as we expect, the amortization of the premium will continue and then you will book an offsetting reserve amount through loss reserve expense to get back to the net amount.

That is a reasonably complicated way to explain the booking of the net, but you will in effect re-expense the previous FSA reserves at the point you are also recognizing the risk premium through the amortization of unearned premium.

Did you get that, Mike?

That's very helpful. Thank you, Bob. And then just a final question here. In terms of the delinquencies themselves, was there any change sort of as the quarter wore on. Did they come in at a higher run rate or did they begin to slow or for that matter, the month of October?

Well, that is kind of the question of the day. So if you look at the year, and we'll talk first lien and second lien, So if you look at the year of first lien, first lien at the beginning of the year showed reasonably strong drops in the below 60-day delinquencies through the first say between February and April, May area.

We said, okay, it looks like we are tailing off, we are starting to get back to a normal -- whatever the issues were, both economic and misrepresentations are running through the course and we are going to hopefully start to grade down to a more normalized curve. And what we have seen in the last three months is it basically flattened out. So there have been no real improvements since about June in terms of where the level of delinquencies are.

Now remember, we calculate them on a percentage basis. They are a percentage of the remaining pool balances. So by definition, as the pool pays down, there is always going to be pressure upward on that number. We try to look at it on an absolute dollar basis. Then we are saying, okay, we just don't see enough continued decline to make us feel that victory has been achieved and kind of the worst is behind us and that causes us to extend the curve. So that is in first lien.

In second lien, it is pretty much the first part of the story in that delinquencies have continued to trail down and especially if you look back say in the 2005 and 2006 vintages. And once again, pool balances are significantly coming down there so that you are really having a true absolute dollar value decline in delinquencies. So good news kind of on the second lien, kind of no real news on the first lien and that kind of puts us in our position today.

Okay, appreciate it. Thank you.

Brian Meredith, UBS.

Good morning. A couple questions. Dominic, you kind of touched on it a little bit earlier. I was wondering what do you think the real impact on your business the Build America bonds are going to have? Are you seeing kind of an increase there and is that going to have an impact here going forward if it continues to get extended to subsidy?

Well, A, it looks they are going to extend the subsidy and it does have an impact. Our percentage of wrapping Build America bonds is significantly less than the typical tax-exempts. So as they become a higher percentage, that causes issues for us in terms of market opportunity.

The good news is as the market continues to I think further recognize the risk that is out there in the municipal market, I think that obviously helps the demand for our product because you would really like to have the protection of our set of eyes doing the engineering or underwriting of the transaction, our terms and conditions in terms of protecting the investor and then our centralized surveillance and that really is where we deliver the quality of the product into the marketplace. And I think that concern over credit performance in the municipal market going forward for say the next 18 months should really help demand even in spite of the Build America bonds. And remember, our target market today is really the A, BBB issuers that really do need the access to the market that we provide.

And then next question, the Moody's downgrade and the negative outlook. What impact if any do you think that is going to have on your pricing and your returns that you are generating?

We are fairly optimistic on that, Brian. Because of the fact that we are able to maintain AA level ratings, and albeit kind of by the shorter end of the scale, we think that that is more than valuable in today's market and more than respected in terms of the necessary rating to improve issuance and in effect generate the kind of financing savings that our product was intended to provide.

So we are quite comfortable with the ratings in terms of what it means to the business model. And as I say, we have been out pretty strong into the market to make sure that kind of stuff is confirmed and I think it has got to be better than the current quarter if I had to really guess because at least the uncertainty is kind of behind us. So at least we have some certainty for at least some period of time where people can feel very comfortable about using either company and relative to the value it is going to provide to their specific issuance.

Okay. And then last question, more kind of a long-term question here. With the prospects of a recovery of some of the other bond insureres looking worse and worse every day, what do you think the outlook is for an industry where there is really only one player and is it possible to have an industry with just one player longer term?

It's like do you have a one-armed violin player. I guess you could, if your chin is strong enough. So we think we have got pretty strong chin. We have a pretty strong chin. I am also being -- our room is pretty packed here with people that we have available on the call. So one of my fine, fine employees keeps reminding me that don't forget we are AAA S&P and off of that AAA, I think we get a lot of market respect and a lot of market opportunities. So I don't want to ignore that, but you're always kind of forced down to the lowest common denominator. That is one of the bad parts about the nature of our beast. So I want to make sure that that still has value and I would be curious as to whether you could run a single rated platform someway down in the future as well. So getting back to the other question, Brian, I'm sorry?

The part of it was just --.

Oh yes, the industry of one. Obviously, there is not many industries of one, so we would not at all be opposed to seeing competition. We think there will be. It also depends on how the current companies that are not trading ultimately resolve themselves from here, whether there are sell-offs of portfolios, which would attract new capital, whether people want to come in on a de novo basis, which obviously there has been some reasonable rumors that there are at least one that we know of and maybe others that are coming out.

We believe that with the current damage companies out there, maybe there should be strong intervention by the regulators in terms of protecting the policyholders and do it on a portfolio-by-portfolio basis. And that would allow the market to view those portfolios and opportunities to once again attract capital. I know we would attract capital if we really had an opportunity to write one of the non-trading companies' municipal portfolios.

So I think there is a future out there. Obviously the type of success we generate, which we think will only be enhanced by further capital and competitors in the marketplace and stability in the marketplace, I think is attractive enough to bring in new players and we would expect to see them start to emerge in hopefully sometime in 2010. Of course, all you folks will begin to panic as soon as we get our first competitor out there and what does it mean to our business model. We are quite confident in terms of the Company, the trading value, the portfolio that we have out there, the people, the contacts, the infrastructure we have built that will be successful in any market of any size or number of competitors.

Thank you.

(Operator Instructions). Brian Gonick, Senvest.

Hello?

Hey.

Hi, sorry about that. Good morning. What impact, if any, do you think the government's HAMP loan modification program would have on your RMBS portfolio?

Hopefully, we think it would have a positive effect and we are comforted by seeing the statistics for loan modifications, seem to be increasing and especially say in the last few months. What is the whole goal there? It hopefully takes out a current delinquent or a mortgage that could theoretically become delinquent and default from that pool. And since most of the uncertainty in terms of RMBS performance and most of our disagreement, to be very honest with you, over the rating agency's stress model is what percentage of the current borrowers will default.

And therefore, the loan modification program that obviously provides affordability to certain of these mortgage applicants in terms of their ability to meet the payments would be a positive to us in terms of keeping people out of the delinquency pools. If you keep them out of the delinquency pools, you keep them out of the default pools. If you keep them out of the default pools, you take away some of the excess supply that is going through the real estate market, which is causing pressure on pricing and keeping pricing down.

So it has a huge impact all the way back through the entire kind of chain of performance here for specific residential mortgages. So we are optimistic of what the value of the loan modification program could mean relative to the future performance of the RMBS.

But you have not taken any of that into account yet in your loss assumptions, have you?

No, because remember, our numbers in our reserves are really driven off of the delinquency pool and therefore creating what we call the constant default rate off of that and projecting it forward. So it is based on real statistics. So because that stuff hasn't shown tremendous impact yet, it really is not factored in at all.

Great. And just one last clarification on the repurchase of the RMBS that you had. The $800 million effect or effective gain, is the sort of net gain and impact to book just the $360 million or whatever that number was?

Say that again. You lost me on the numbers.

Well, I think you said that the gain, the effective gain was about $800 million, right, on the HELOC repurchase?

The benefit that we are taking into consideration in establishing our reserves.

Right. But then there is this second number of $360 million.

Right. The second number represents the amount of the $800 million that is reflected in the expected loss on the AGM portfolio because, as you might recall, the FSA reserves as part of purchase GAAP accounting were basically translated into the unearned premium reserve. So of the $800 million, the $300 million is included in loss estimates for the expected loss number and the difference is what we take into account for establishing the loss reserves carried on the loss and loss expense reserves line of the balance sheet.

Okay. And there is no way to extrapolate some of this to other portfolios of the same vintage?

I'm sorry.

Remember, most of the rep and warranty right now is based predominantly on the second lien and really on the HELOCs. So where the unchartered territory is and why we have got so many files under review is on the first lien side. And if you look at the majority of the reserves booked in the quarter, obviously significantly RMBS. But inside the RMBS loss reserves, it is significantly first lien in terms of the option ARMs and the Alt-As so that is where you are going to have the biggest benefit. So that is still to be determined. So what has been booked has been predominantly booked off the second lien with a small allowance made for the first lien stuff. So it is hard to extrapolate because a lot of that work is still kind of the devil's in the details from where the loss reserves are today and obviously the expectation of any variation in that going forward.

The unearned premium reserve relative to the AGM, right, so the old FSA, is incredibly complicated. As you can understand, you had the true core unearned premium from the deals that they booked at the time they did them. You had the loss reserves that got closed out into that as part of this purchase accounting where, based on FASB rules, if you have more ultimate premium than you expect losses, you can't book a loss reserve until the premium is at a level below the expected losses, so now you have got that buried in there.

Now you wind up having the rep and warranty, which is kind of a negative, a contra in there. So the unearned premium becomes quite a story in and of itself relative to the FSA acquisition. And therefore, it is harder -- you are going to have to really pay attention to our footnotes in the Q to try to figure all this out.

Right. Okay, thanks a lot.

I apologize for that by the way, but that is the nature of how the financial reporting is these days.

Thank you.

You're welcome.

Lawrence Kam, Sonic Capital.

Good morning, gentlemen. I've found this beguiling because there is nobody that said congratulations on a fantastic quarter.

Thank you. That is always --.

Looking at your numbers, it looks like you are running at about over $7 of pre-provision after-tax earnings rates, which you will probably hit in the next quarter or two as loss reserves start coming down, the provisioning starts coming down. I am just curious, do people not get the joke? What is your sense of kind of the market expectations out there?

Well, if I could, can you please call Moody's and Fitch for me. They will finally get the joke. If you look at their stress losses, we can emerge that in income for god sakes in the next two years and yet they don't get the joke. So if you hang on the line afterwards, I will give you their phone numbers for the two appropriate parties at both rating agencies.

But obviously, we have a strong earnings model. That is why we were very attracted to the FSA opportunity and what we thought was a great negotiation of a good transaction on behalf of both companies, them wanting to exit the business and us being very attracted by both personnel and infrastructure and obviously the financials of it. And we need a good economy, we need these loan mods and the rep and warranty purchase activity to really take a strong hold and then I think we can allow what is a tremendous buildup of future earnings to emerge and it be a great day for all parties on this call.

One clarification. What is the expected financial impact of the reinsurance transactions?

That's a good question. We have a number on where we are at today. Obviously we are evaluating whether there is other opportunities. The number changes whether we go excess of loss or specific reinsurance and that is still one of the things that is up in the market today. So it is a number that is reasonably absorbable in our earnings model. It is not significant relative to next year's expected revenues, but it does provide the appropriate level of capital relief that is critical for us maintaining the AA.

But it will kind of amortize in along with the premiums, right? It won't be a one-time hit?

Right. It will amortize based on the ceded portfolio, the earnings related to that ceded portfolio so that it will go out in the normal course of the earnings of that business.

Okay, great. Fantastic. Great quarter, guys.

Thank you very much.

[Chris Owens], Trafelet.

Congratulations, guys, on a great quarter and a successful execution of this acquisition. So a couple of questions here. One is I would like to follow up on the question asked by JPMorgan regarding future rescission benefits. And I think the question he was trying to get at is you guys have reviewed $1.5 billion in defaults and recognized a $500 million benefit. I guess my question there is what is left and is that kind of one to three per portion -- would that be accurate or telling for the rest of the defaults that you guys have to go through?

No, it won't. Remember, what we booked as the asset has a lot of allowances against it. So obviously we have to consider whether we will continue to get reimbursements or whether the counterparty will basically dig in and we'd have to go to litigation. And once you get the litigation, the extension out then a potential reimbursement period becomes a reasonably significant.

So that relationship and what you are looking at is nowhere near the relationship that it would be up through the standards that we were getting everything paid as we submitted it to them. It is just a very conservative estimate of what we think is recoverable today and that will continue to evolve as we get either more traction -- like for instance, in one of our biggest rep and warranty counterparties, just currently we have agreed to a kind of streamlining process of submitting a request.

So whether that has a significant impact it would. If it does, if it has an impact it will drive up that percentage. Remember, we have said I think on previous calls that when we do the initial file review for the rep and warranty violations we are getting a significant number. We I thought have quoted above 90% of loan files reviewed do not qualify for these specific inclusions in securitizations.

So when you look at the one third you can start to look at how much allowances we have put against that relative to electability period, if we have got to go into litigation. The current receivable involves 10 servicers so it is not just one, but we only look at servicers that are financially sound and therefore have the ability to repay. The guys that have already gone by the wayside we take no credit for, there is no allowance made even though we theoretically might make a claim in their bankruptcy.

Sure. I guess from someone sitting in my seat, to use a sports analogy, kind of what inning do you think you are in in terms of this process?

I love sports analogies. I would say top of the third.

Top of the third? Okay. Scientific. All right. And then is there a specific amount of statutory capital that you would like to free up in terms of this reinsurance agreement? Is that the target or how are you thinking about that?

Yes, it is really rating agency capital right. As I said, we got involved with this solely to support the rating agency requirements. Although we disagree we think it is obviously in the best interest of the Company to continue to have a viable business model which allows us to continue to write new business in the municipal market. And as I said, we are seeing structured finance activity and we have booked two kind of secondary trade deals in the quarter.

So it is how we think we need to continue to progress to continue to make the kind of advancements that we are. And as I said, as we go around the market there is just a tremendous amount of enthusiasm for the success of the Company and the need for the product. So it is what it is. It is not statutory, it is not GAAP, it is rating agency.

Okay. Well if we can kind of quantify -- what do you think the rating agencies are asking for?

Too much.

Too much?

Yes.

Is that less than $0.5 billion or --?

I don't know, if you look at the -- obviously the amount of external capital kind of gives you an idea of what the quantum is because I think we have been pretty open about dividing this up into roughly thirds.

Yes.

So you know, we will continue to look at that. The sad part is we have talked about the earnings emergence obviously which adds to capital. We also have significant runoff in the two portfolios. Remember, although we are writing a reasonable amount of business each quarter it is all public finance, which means that the structured finance portfolios of both companies are running off significantly.

They are the ones that are generating most of the rating agency capital requirements. And if you look at the runoff in the two companies between now and the end of 2010, we will runoff a multiple of what the capital needed today, yet that is not getting credit or credence relative to the reviews or enough credit, let's put it that way, as well as the current reviews.

So although they project losses that are due out in 30 years, we don't get significant benefit from the runoff that comes out in the next 13 months. And that is the frustration of dealing without a true capital requirement model even from the Fed or from the appropriate state that allows us to really manage our capital a lot more efficiently than we are currently forced to do relative to the ratings.

So we will be very aggressive in how we manage the capital. As I said, we thought in the best interest of the Company and our business model that we do this capital enhancement between -- currently and as we see differences next year, whether the RMBS kind of calms down, runs off, the normal portfolio run-off, the earnings generation, we will then look to improve the capital position at that point in time.

Sure. Okay, and just kind of a couple quick questions. For the FSA-related expenses, I think you guys had talked about $60 million over three quarters. It looks like, and I think Bob alluded to this earlier, that you have gone through most of that. So should we -- kind of what is the guidance for the next couple of quarters in terms of those expenses?

Well, there shouldn't be anything more than the next two quarters.

Yes, it should be substantially -- there will be some that drag into the first quarter of 2010. Probably the last big piece, which is the closing of the duplicate facility in London, takes place in the fourth quarter and that is probably $5 million. The remaining balances after that dissipate considerably.

Okay, so $60 million is still the right number to be looking at? At or near?

(multiple speakers) $65 million.

It's close. The only thing that is going to change -- we know the facilities that are being eliminated; we have got a pretty reasonable cost on that. We have made the first estimate of other related costs that will fall out of the process. We are still -- as we did the integration and merging of the two companies, there are still some kind of growing pains both positive and negative that I will flesh out over the next six months. We have got everyone integrated. We have got all departments staffed. We have got all positions. We did a whole title restructuring, a salary restructuring. So the number could change a little bit, but not significantly.

Yes, I mean so far we have booked like $55 million of it. The consulting relative to the integration of systems is clearly a variable in the equation, but $60 million, $65 million is a reasonable number in total.

Okay, great. And then the other question, for the yield on the investment portfolio, obviously you guys do have a lot of short duration investments. That should be going up over subsequent quarters if my assumption --.

(inaudible) substantially as much as anything because the amount of money we have tied up in very low yielding, short-term investments, which is really the result predominately of the realignment of the portfolios and the acquisition. So it will increase to some degree, but the interest environment is not very attractive right now and the alternative investments that are longer in duration are not all that attractive. I mean it is still going to be low yield, short duration, but we should see some improvement because of the reduction in the short-term investment.

And remember, our portfolio goes more municipal now because you have got a bigger presence in the United States. So in the old days, the portfolio was split between the Bermuda company and the US company. Now you have got a significant US presence. Therefore, you'll go to a higher percentage of municipal, which will force the yield down.

But [a 4] handle sometime in 2010, does that sound reasonable? Depending on the interest rate environment?

(multiple speakers). If I could polish my crystal ball up enough, I might say --.

Okay, all right, fair enough, fair enough. Well, once again, congratulations on a great quarter and getting all this done and thank you for answering my questions.

Brian Gonick, Senvest.

Hi, sorry, I forgot this one.

Brian, we charge for the second call, just so you know.

The Dexia lockup ends in mid-December, I think. Do you have any thoughts on how that is going to be handled and might it be done in conjunction with the capital raise that you're also going to be looking at towards the end of the year?

Well, as you know, the Dexia lockup has a --.

-- today.

I think it expires today.

Today, okay.

Maybe yesterday.

And obviously we are very open to whatever their needs are. We have not had real significant communication with them relative to any plans at this point in time. So we will continue to view that based on whether they want to hold on and see what else they can get out of this thing or whether they would like to relieve some of their position.

They have been very good so far as a good shareholder and we look forward to whatever their needs are in the future, we will meet.

Great. Thank you.

[Andrew Carnes], CBI.

Hey, guys. Congratulations on a great quarter and great acquisition.

Thank you.

Thank you very much.

I was -- I didn't want to beat a dead horse here, but I was hoping maybe you could dumb down the Statement 163 UPR discussion a little bit for me, especially in terms of -- is the implication here that you wouldn't be reserving -- you would have to work through that UPR before you were reserving for additional losses on the FSA book?

That's correct.

I will do the dumb down because I am probably the oldest beaten horse -- no, I am not the oldest beaten horse, but I am a good beaten horse here. So to give you a couple of examples, examples are really easy. So if you had a deal that you thought had two years of remaining life, it is an RMBS deal, short tail, short term and in the old FSA books, they had a $10 million reserve up and yet they had basically exhausted the premium.

We come in under purchase accounting and say, okay, for the $10 million reserve, we want $15 million of premium because we think it is a mature book, it is seasoned. Therefore, there is a variability potential. We have got capital we are going to have to hold against us, so we want $15 million.

So under the discount purchase, we throw $15 million up against that deal. It's got a 24-month amortization. You cannot recognize the $10 million until the $5 million goes away because of the famous FASB and how they look at financial guaranty accounting.

So in the first one-third of the two year remaining, so eight months, you burn off the $5 million of additional premium that you recorded and now every time you earn a $1 of premium, you are going to book a $1 of reserve because you are now at the level of expected losses equal to the remaining premium left. Okay? So that is factor number one in how you saw the schedule in the Q or in the supplement that shows the emerged losses. That is not us guessing when losses are going to emerge or our crystal ball that we think we are going to have to book up new losses at some period in time. That is the losses already recognized, booked, evaluated, estimated on the old reserving principles of FSA that now, through the magic of purchase accounting and 163, hocus-pocus, they disappear, they are sitting in the unearned premium reserve.

Okay, that helps me. I'm going to listen to that five or six times and look at that schedule again.

And if you don't go crazy, you probably are a third of the way home. But most of us have lost our mind when we tried to evaluate this because, at one time, we thought we were going to be able to retain the reserves, then, no, you couldn't retain the reserves. So now when you look at the rep and warranty, it really gets funky because you have got the reserve in there and now against the reserves, still buried in the unearned premium, you have got the recovery, which then reduces the amount of reserve, but has to emerge as once again you earn the premium and you have got to get down to the level of the excess earned premium booked in the purchase accounting adjustment for the discount purchase price before you will start to recognize this activity coming through the financials. So we will be able to predict with certainty the emergence of loss reserves on the old AGM book as this earned premium hits the level of where the previous booked losses are.

Now to your second point which is as critical so we had a large amount of purchase discount that we were able to go back and reevaluate under current value accounting every transaction in the old AGM book and where we thought we had a premium deficit, we were able to record additional premium.

So let's say for the sake of argument the losses that we guessed or estimated in one of those deals was wrong and we now have to go out and add more losses to the programs. Take my earlier example. We had $10 million of loss, we put up another $5 million of premium, so now you have got $15 million in the unearned. You have got to earn the $5 million before you get to the $10 million. We will say, whoops, our bad, it is really $12 million of earned, $12 million of expected loss. Once again, nothing goes through the income statement; you just go back in the unearned premium reserve and then instead of saying I have got $10 million sitting in here, I now have $12 million. Therefore, I will earn only $3 million free and then once I hit the $12 million mark, I start to recognize losses.

So any loss development reasonable from here on on the AGM book will be absorbed in the unearned premium reserve and not go through the income statement until such time as you've exhausted all the unearned premium reserve and got down to that level of where the losses were originally at -- or now currently estimated. So there is that two different factors. It absorbs new loss reserve or revisions of old estimates and it will ultimately recognize old loss reserves once you get the earned premium and the unearned premium down to the level of what the expected losses are.

If Dominic hasn't put everybody to sleep at this point, in footnote 5, which is where the table is, we will continue going forward to provide that kind of detail so that you can follow this very complicated issue.

And I would also suggest you look at page 15 of the financial supplement, which includes in there the amortization schedule for credit derivative revenues and the amortization of the discount on installment premiums included within the unearned premium reserve. We think that schedule will be helpful for people to look at it and it also has the expected loss amortization and obviously that will be updated each quarter as we report earnings.

So we have now totally confused you. Hopefully there is enough out there and obviously Sabra is available and Bob is to walk you through and I think the examples make it a lot easier.

Well just to look very top level, if I look at the adjusted operating income of the quarter of roughly $100 million and then there is two chunks of after-tax reserving, about $105 million plus $103 million, you get over -- you get $308 million of operating earnings if we get back to a zero loss environment with --.

XYZ if there, but yes, you are exactly right.

Well, 157 million shares, so that is $1.96. That is $8 annualized.

What you need to keep in mind though is look at the unearned premium reserve amortization schedule because there is a run-off of the unearned premium reserve relative to the fair value adjustment for the purchase of FSA. You can't project forward necessarily the same level of earned premium into 2010 or 2011 as you are seeing in this quarter, which is the first quarter of the acquisition and therefore has the highest component of that amortization.

Well, there weren't a huge amount of refundings in the quarter.

I am just suggesting if you take a look at schedule 15 and give me a call after we conclude the earnings conference call and I can help walk you through that, but you need to take into account that the fair value adjustment of the purchase price of FSA amortizes into earnings over the next several years and that has a meaningful impact on the top line.

Okay. Thanks for the help.

Give me a call.

Okay, thanks.

With no further questions in queue, Ms. Purtill, you may proceed with closing remarks.

Great. Thank you all very much for joining us today for our conference call. We certainly appreciate your interest in Assured Guaranty and your patience with us this quarter as we reported later than our normal schedule. We certainly hope to be back on our normal schedule for the 10-K and the fourth-quarter earnings, which will be reported towards the end of February. If you have any additional questions or require further information, please feel free to contact me. And in addition, please remember to mark your calendars for our December 1 Investor Day. We look forward to seeing you then. Thanks again and have a great day.

Ladies and gentlemen, thank you for your participation in today's conference. This concludes your presentation. You may now disconnect. Good day.