Assured Guaranty Ltd (AGO) 2010 Q3 法說會逐字稿

Good day ladies and gentlemen and welcome to the third quarter 2010 Assured Guaranty earnings conference call. My name is DeAna and I will be the operator for today.

(Operator Instructions)

I will turn the conference over to host for today, Ms. Sabra Purtill, Managing Director Investor Relations. Please proceed.

Thank you and thank you all for joining us today for Assured Guaranty's Third quarter 2010 financial results conference call. Our speakers today are Dominic Frederico, President and Chief Executive Officer of Assured Guaranty Limited, and Bob Mills Chief Financial Officer. After their prepared remarks we will poll the audience for questions. However, our web cast is not enabled for questions. If you listening to the web cast and would like a question. Please dial in 1-866-804-6921. Our presentation and comments today may contain forward-looking statements relating to our new business and credit outlooks, market conditions, credit spreads, financial ratings, loss reserves, acquisitions financial results and offer other items that may effect our future results.

Listeners should not place undo reliance on our forward-looking statements, as they are subject to change due to new information, future events, or otherwise. We undertake no obligation to update or revise any public forward-looking statements. Except as required by law. I will remind you if you are listening to a replay of this call, or reading the transcript please keep in mind that future management presentations, press releases, or financial filings may update any forward-looking statements made today.

You should refer to the investor information section of our website into our most recent SEC filing including the 10Q that we expect to file on Tuesday, November 9 for the most current and complete financial information, and for more on information on factors that affect our future financial results and forward-looking statements. I will now turn the call over to Dominic.

Thank you, Sabra. And thanks to all of you on the call for your interest in Assured Guaranty. I am pleased to report that our third quarter financial results which demonstrate significant improvement over the same period last year and reflect stabilizing credit performance in the enhanced powers of our Company. Our Third quarter 2010 operating earnings are the highest we have achieved in our history. And this is the Second quarter in a row that we can make such a claim.

However, despite these strong result, we are dealing unwarranted downgrade of our financial strength ratings, this time by S&P which is why we have been continually requesting that a comprehensive regulator be established to oversee the rating agencies. Such regulation would facilitate a more transparent and consistent business environment for all issuers and investors.

I will say more about S&P's actions a little later in my remarks. Turning to our business activity. For the third quarter we made a progress on a number of key strategic priorities. First, we continue to see a positive trend in our market share of the tax-exempt new municipal market. Second, we added seven mandates for financing and global infrastructure transactions. And third, we continue to reap the benefits of our greatly expanded RMBS loss mitigation efforts. Year to date we have consistently increased our penetration of the tax-exempt new market each quarter. Reaching 9.8% at the end of September excluding taxable issues.

For the third quarter of 2010, we ensured $7.2 billion of municipal issues which generated $84.5 million of PVP, a 4% increase from the previous quarter and this was done despite a 10% decrease in municipal market issuance. Over the past nine months we've insured approximately 1400 primary and secondary transactions aggregating $20 billion of gross [par] insured. Importantly, as we've gained traction in municipal market, we maintained credit and pricing discipline. The average underline rating of our assured transaction.

In addition, our third quarter average returns were consistent with those of recent quarters and within our target for this business. Updating our previous report, since the Monday October 25 rating change announcement, AGC and AGM have had over 120 municipal transactions with a PAR amount of $1.6 billion closed as scheduled or priced with AGC or AGM's insurance. And this business has maintained an average underlying rating of single A, which is consistent with business written in the prior quarters. We believe the significant volume of transactions Assured over the past two weeks reflects the markets confidence and the strength and stability of our guaranty as well as the validation of our value proposition. The credit underwriting, negotiated terms, surveillance, and remediation we provide over and above our guarantee adds substantial value for US municipal issuers in terms of cost savings and access to the capital markets.

We also expect to find continued success in insuring portions of large issues in the secondary market. Insured secondary municipal transactions are not counted in published penetration numbers but reflect additional insurance demand.

An interesting fact for the third quarter is that in the quarter, we insured 24% of all A rated issues, which is an outstanding result and is a reflection of the value and demand for our product from our target mark of issuers. People, including the rating agencies, talk about the low penetration rates. Results like the above tell a very different story.

Another interesting fact is that in the pre-crisis time of 2006, only 6.2% of municipal issuers were rated either AA plus or AAA. In 2010, that number jumps up to 32.2% of all issuers are either AAA or AA plus. For Moody's those percentages grew from 8.3% to 33.2% in 2010.

Clearly, the removal of 25% of the insurable market will cause overall market penetration rates to decline but is not reflective of a decrease in real demand for the product. Some final points on the ratings. In our view the change to double AAA stable which contradicted S&P's June 24, of our AAA ratings were simply not warranted.

We've had a AAA from S&P, since the founding of our company. And their downgrade, we believe represents changes in S&P's AAA criteria and market outlook, rather than any material change in our credit profile or capital position. In fact, during the last three years of this economic and financial crisis, our GAAP shareholders equity has more than doubled to more than $1.6 billion in the Third quarter of 2007 to $4.2 billion at September 30, 2010.

Further, in their rating analysis S&P did not provide us with certain critical assumptions and key sensitivities used in their analysis of certain risks in our portfolio. This is despite the fact we believe such information is required on [inaudible].

Lastly, as far as we can tell, they have stretched their AAA stress-case, loss projections to an extreme that assumes a future depression of outside proportion. For example, in their report, they said that one contributing factor to the increase in model losses for our capital adequacy, was exposure to obligors that have either defaulted or deferred payment in our trumped securitizations.

In calculating this capital charge, we estimate that S&P, would have had to project 1600 bank failures with no recoveries. From either default or deferred securities. Or said another way, 20% of all banks in the United States would fail. This is truly an unimaginable scenario and one can hardly conceive what would be left of the US economy or our financial system under such conditions. The fact that the Assured companies would still warrant double A plus rating under such a scenario, is a true testament to our financial strength.

Another example, is their extreme assumption of a 25% unemployment rate, used in their analysis of our RBS exposures in their AAA stress-case. Once again, it's difficult to imagine what entity could survive either corporate or governmental under a 25% unemployment scenario.

Finally, we would also challenge S&P, as to whether they use same stressed standards in evaluating all S&P's they rate. One final comment, there's also been a lot talk about no new interest into the market. As you can see, under these type of lack of true regulations and rules, it would be hard to understand people committing capital into a marketplace where they really do not understand or can comprehend or see a clear transparent path to what is the capital required. Couple that, with the actions by the insurance commissioners, that continue to leave--basically insolvent companies, holding portfolios and try to differentiate protection-provide to the same type of policy holders, leads to a market of instability and therefore does not really, require or command additional capital at this time.

Now, lets turn over to our structured finance business. Year-to-date, we have produced $16.7 million of PVP from $2.6 billion of gross-par. During the Third quarter, we closed a $200 million public transaction for AmeriCredit. That was well received in the market. Based on the market reception for this deal and a number of new opportunities, we are optimistic about our future prospects.

Similarly, in the global infrastructure market, we are seeing a marked increase in issuer and investor interest for our guarantee. Which has led to our having been requested to provide a quote on a number of transactions, either as the sole execution or in competition with bank funding options. And we hope to convert these opportunities to new PVP.

Finally, I would like to comment on our RMBS loss mitigation efforts. We have now, diligently pursuing putbacks of loans that breach [rep] and warranties for about three years. Long before many market participants realized the poor adherence to underwriting standards and practices, occurring at the originator level. And we are gratified that the market finally seems to recognizes the magnitude of this situation. And the potential for recoveries in our RMBS portfolio. Since the beginning of 2010, we have intensified our lost mitigation effort. And this has resulted in significant progress on loan putbacks. In the Third quarter we obtained commitments to repurchase $111 million of loans.

To date, we have reviewed $5.3 billion of loan files and have identified $4.7 billion of breaches of rep and warranties. Equally important during the quarter, we increased the scope of loan pullbacks to a broader range of transactions and viable counterparts. Before turning the meeting over to Bob, I want to reiterate my expectation that we will continue to build our market position in the US municipal market and add value in the re-emerging structure finance and public global infrastructure markets. Importantly, at our current rating level, we have the ability to provide market access and cost savings, to a large and diverse segment of issuers that meet our underwriting standards.

I remain confident in sustainability of our business model and our future growth. Bob?

Thanks Dominic, and good morning to everyone on the call.

Our Third quarter 2010 operating income was $222.8 million. Was a new record for Assured Guaranty. Exceeding our record results of Second quarter 2010. Excluding a tax benefit related to the amendment of an AGMH, pre-acquisition tax return, our operating income was $167 million. Operating income for diluted share was $1.19. Also, the highest in our history.

Excluding, AGMH related tax benefit, operating income for diluted share was $0.89, up materially, from $0.29 in the third quarter of 2009. This is the fifth quarter that includes the AGMH acquisition, whose large base of under premiums has been a major contributor to our earnings power.

Also contributing to our operating income was a reduction credit losses, compared to a year ago. Primarily in RMBS. Our strong results this quarter and year-to-date are reflected in our ROE as well. Our annualized operating ROE this quarter was 19.8% and year-to-date we are running at 15.4%. Significantly above 5.8% and 6.3%, we achieved in the third quarter of 2009 and the first nine months of 2009 respectively.

Turning to the income statement, our net earned premiums included operating income was $301.5 million. Down 9% from $330 million in the third quarter of 2009. The First Quarter, which included AGMH.

The decline in net earned premiums is consistent with our expectation, given the continuing runoff of the AGMH structure finance book of business and the associated unearned premiums. The fundings were up slightly, compared to the prior year period, at $21.2 million. This compared to $17.4 million, a $0.01 per diluted share increase.

Our net investment income growth continues to struggle given the low interest rate environment. Even though our total investment portfolio was $10.7 billion at September 30, 2010, up from $9.9 billion in September 30, 2009. During the quarter, we began to implement some investment changes and duration lengthening that should help improve the yield on the portfolio, which was 3.73% on a pretax book yield basis in September 30, 2010.

Losses incurred on contracts written in financial guaranty, in credit derivative form that are included in operating income, totalled $136 million this quarter, as compared to $275.5 million the prior year. The majority of these losses were for US RMBS, principally for losses that we expected to expense from unearned premiums, as disclosed in our financial supplement.

As well as changes in the quarters risk-free discount rate, modest loss development on some RMBS exposures and amortization of the present value discount, on loss reserves. There were no material loss items in our public finance exposures during the quarter. Our expected loss to be expense before VIE consolidation, but is included in our unearned premium reserve, in which we include in our calculation of adjusted book value, declined this quarter to $1.18 billion from $1.24 billion.

I would also note that our total benefit for representations and warranties, included our expected losses for financial guaranty and credit derivatives contract, were substantially unchanged from last quarter totaling $1.4 billion of September 30, 2010. Reflecting RNW payments received this quarter in a small increase in our RNW expected future benefit.

Through October, we've reached agreement to have $412 million of mortgage loans repurchased, which includes $111 million from the third quarter, our highest ever. Clearly, we are making progress in converting mortgage putbacks into cash, since we begin our RNW review process, more than two years ago. Operating expenses were $52.2 million in the quarter, down from $67.3 million in the prior year quarter. We've reduced employee head counts significantly since the acquisition, from 475 the day of the acquisition to a low of 326, in May this year.

As of this week our head count is at 356, reflecting new hires in the RMBS workout and loss mitigation group. Including, a team of eight mortgage servicing specialist who are focused on improving servicer effectiveness, as well as transferring servicing from ineffective servicers. Based on the current head count I expect our quarterly operating run rate, to continue to be in the $50 million to $55 million range.

Except for the first quarter of 2011, when as per accounting standards for retirement eligible employees, we incur higher operating expenses for stock based compensation. This amount depends on the value of the stock and options granted by our board compensation committee that totaled about $7 million in the first quarter of 2010.

One last note on our income statement. The effective tax rate on operating income continues to be volatile, reflecting the tax benefit this quarter as well as a reduction in operating losses at our Bermuda operations. Excluding the $55.8 million tax benefit, our effective tax rate on operating income is 23%, that's a low end of our expected range of 24% to 28%.

The tax rate has-- and will continue to fluctuate with a level of loss expenses booked in taxable versus nontaxable jurisdictions. Based on our expected losses to be expensed in the fourth quarter 2010, and 2011, I would still estimate that the effective tax rate on operating income will be in the 24% to 28% range. But it could be higher or lower, depending upon losses in Bermuda, which is where the majority of our reinsurance book is domicile.

Our book value per share was $22.80 in September 30, 2010, up 19% from $19.12, December 31, 2009. Mainly because of net income and accumulated and other [comps] of income. Partially offset by the cumulative effect, of consolidating VIE's on January 1, 2010, from the 700,000 share repurchase in May. Our operating shareholders equity per share, was $25.17 at September 30, 2010, up 12% from $22.49 at December 31, 2009 due to our strong operating results for the first nine months of the year. Finally our adjusted book value per share was $49.01 versus $48.40 at December 31, 2009.

That concludes my comments on key financial items in the quarter. The operator will now give you the instructions for submitting your questions.

(Operator Instructions)

The first question will come from the line of Darin Arita of Deutsche Bank.

Good morning. I was hoping to start on mortgage repurchases and Assured Guaranty has been successful in getting cash for these mortgage repurchase request. I think the Company's reviewed around $5.3 billion of loans. Can you give us the amount of mortgage repurchases that have been requested and the amount of mortgages that are still--Assured is still looking to review or are currently reviewing?

Okay, Darin. It's Dominic. So, of the $5.7 billion roughly $4.7 billion -- or the $5.3 billion, roughly $4.7 billion had breaches. So, obviously that becomes, what is the requested reimbursement amount and begins the process of the whole negotiation around how we collect cash.

Typically, those amount of breach loans will be put together and sent out to the various originators. They obviously do a first review, making a initial determination, which is typically very small in reimbursement. Then, we get into what we call the rebuttal process, where we go through all the loan files. And that in effect, starts the cash process.

So, you can see that there is a tremendous lag, between our review and our initial request for reimbursement when cash eventually flows in. So, today of the $4.6 billion of breaches -- $4.7 billion -- we've billed out about $3.6 billion of that. The remaining billion will be billed out in the short-term. As I said, that starts a process.

Your second question, in terms of how many more loan files will we review, we continue to acquire loan files, that does cause us to increase at certain points in time the size of the rep and warranty asset, as we get more files for review. Roughly we're anticipating about $10 billion in loan files based on current requested activity. So, another $5 billion on top of what we got. And ultimately, we would expect to receive about $20 billion of loan files.

Got it. The company thus far has booked about $1.4 billion benefit. Can you give us the rational behind the $1.4 billion versus the $4.7 billion?

Sure, we look at the receivable or the credit that we take for the loans subject to recovery--constantly. The one thing we've done, as we begin to now, get further activity, obviously we will continue to review the assumptions that we use in calculating the recovery amount. However, we do look at sustainable activity. Obviously things are still very volatile and there are still other measures that can be taken. Such as in a couple of cases, we're involved in litigation. And obviously the litigation has some uncertainty, as well as a further impact in terms of time value of money.

So, it's litigation and it's other potential activities on behalf the obligors. It's the amount of putback request and the time to resolve it through the rebuttal. And seeing results on a more elongated or demonstrated period of recovery. So, obviously, we're incredibly pleased with the results to date.

We believe that the strategy that we had implemented years ago in terms of trying to avoid litigation and trying to go deeply within the files and really trying to do [create] file-by-file; which although appear to be incredibly tedious and maybe wasn't generating results that other people had at the time or expected.

Obviously, we now look at that strategy as being incredibly valuable. Having been the right strategy and is now put us in a position where we can optimistically look at the value of that recovery effort and we think we will be able to recover over longer periods of time.

Got it. Just turning towards the ratings and ratings issue. Dominic you talked for quite some time, about trying to get a comprehensive regulator. Can you give us any update on progress on that, as well as your thoughts any other ways you might be able to change this business model?

As you can see, with the recent activity and us disclosing for you a little bit more of the specific assumptions that were used as part of the process, I think the need of a comprehensive regulator is apparent.

Also, when we talk about this new capital coming in, as I said in my prepared remarks it's hard to imagine that there would be capital providers that will come in under scenario, where there are no controls. There are no checks and balances. There are no clear regulations. So, that you know the rules by which you have to play by. We've always said give us a clear set of requirements and we will find a strategy and a structure of the company that works. But constantly that gets changed on us.

We failed in the first view I believe, in terms of getting that comprehensive regulator. In the Dodd Frank Bill there's some soft language as to some oversight responsibility, but that's not affective. With the changeover in terms of Washington and continued discussion of a relook at Dodd Frank.

We can only work as hard as we can continue to work and see if we can affect change and move this in a positive direction. Which we believe will be beneficial for all constituents.

So, that's issuers, investors and new capital start-ups that would obviously want to participate in what we believe is an excellent business opportunity, but it has to have a clear set of rules and regulations.

Completely agree there. Thank you.

You're welcome.

And the next question will come from the line of Brian Meredith, UBS.

Good morning everybody. Two questions. First, Bob I was wondering if you could provide a breakdown of RMBS loss, kind of the gross loss of the putbacks. What's the discount? What would be the RMBS loss in the quarter? What were the expected losses in the quarter? What were the expected losses in the RMBS loss?

The expected losses in the quarter, if you look at the second quarter supplement page 18, the expected loss in the quarter was disclosed at that point in time.

That's not any different. Okay.

It was $83 million. If you add the discount rate, naturally it's depending upon where you sit in the curve and what happens with the rates during the quarter. The loan rates came down again and probably will continue to come down if the feds anticipated actions. But the impact of the changing discount rate also added about $20 million to the lost line for the quarter.

So, the vast majority of the incurred loss, the $136 million, really came from losses expected as well as rate changes on the longer dated issues.

Okay, so the incremental losses were not a lot. Wouldn't I think about grossing it up it for the putbacks? The net loss you have?

The change in putbacks for the quarter--really, the net change is $52 million, that's the increase in the development of the putbacks. The putbacks changed very little yet. The net change quarter to quarter is about $15 million. Cash money that came in the door is $67 million. So, the net development on that was $52 million.

Keep in mind that, that doesn't go straight to the income statement. It gets split between what's embedded in the UPR. It's not something you should look at as being the income statement impact, persae.

Got you. The second question, Dominic, wondering if you could give us your thoughts on whether the bond program is going to get extended given some of the changes we've seen in congress and if not, what the potential impact could be for you?

Well, Brian my crystal ball only works about half the time. If you asked me three months ago what was our expectation, we would have said, obviously an extension. Probably for a year at a lower subsidy. At that time we working very hard to either get the insurance costs as part of the subsidized amount that would be reimbursable, and or widen the amount of qualified issuers under the program.

As we look at it today, and the concern over deficit et cetera. I think the strong statement made in the recent election, I think we would now say that it's probably less likely, but we're still trading around kind of a 50% probability.

At this point in time, we think it would be less likely that the extension would go through for a couple reasons. One, it does have a fairly large tax bill relative to what the deficit and managing that situation is. And number two, the municipal market seems to be operating pretty effectively. Without it, if you go the tax exempt route. Therefore, there wouldn't seem to be the same need that existed say, a year in a half ago, when this was put into place.

The one thing we do concern ourselves with, if there is clarity around our extension, obviously, you can expect to see a huge record of bad issuance in the fourth quarter, to get it under that 35% subsidy, which in the short term would obviously cost us penetration in the quarter. We don't have a lot of success in that taxable market. They're not true insurance buyers.

So, obviously, a nonextension we think would be beneficial, create more supply in the Texas end market. Probably widen out spreads. Obviously give us more insurable opportunity. But at the same time, if there is no extension, you can expect the fourth quarter that's going to be incredibly dominated by bad issues.

How much of the bad issuance would you say is stuff that you could potentially insure?

We're typically in the very low percent, like 1% to 2% , because obviously they are the bigger boys of the higher rated. We always made the joke that it's a California--New York program and not a nationwide program. I think there was an article I read this week that kind of pointed that out to one of the members of the finance committee going in. So, year-to-date, Sabra just put a premium 70% of [babs] are double A plus or better. That kind of tells you where that marketplace is and obviously that's not a market based on our current ratings that we have real impact on or any impact on

Great. Thank you.

You're welcome.

The next question will come from the line of Mike Grasher, Piper Jaffray.

Hello, good morning everyone. Bob, I wanted to social circle back, just at the comment you made. The $412 million through October, I think is what you said in terms of putbacks. Was that ever to date or was that just 2010?

That's to date.

Okay. Thanks for clarifying that. And then, Dominic, can we get an update just on the retail distribution platform that you're looking to roll out?

Obviously, we have looked at our product distribution and our customer base, obviously 2010 has been heavily influenced by the retail investor and our goal through our planning process and strategic objectives was to broaden that distribution to the retail investor .

As you're aware, we've entered into an agreement with the Municenter, to provide an insurable option to regional broker dealers to provide insurance on what is uninsured issues, but subject to already a preapproval process in our underwriting guidelines and we've given a list of names that are preapproved. Typically, where we already have issuance out there, from those names and therefore have things like standing relative to control rights, etc in the obligor.

This was also part of our ad campaign to build retail recognition, so that was kind of a hand in glove. We're working through the final issues with both the Municenter, technology and the New York state insurance department and hope to launch this

Okay. Any material, I guess--production expected in 1Q or will it be farther out?

It's funny we feel like restaurant owners, Mike. We are going to do a soft opening here and make sure we control the volume and make sure we have a good experience on behalf of the customers.

You'll see more of a gradual build there as we look to really control it. And make sure that everything we've implemented -- obviously, there are control issues here in terms of having pre-committed capacity that's available. Kind of on an internet, click and close. As we designed all that, we're going to continue to test it.

We've got if make sure it go through the [inaudible] positioning, and procedures and so we'll have a very gradual opening on this but we would expect to see contributions in 2011.

Okay. Final question, just around credit performance in the municipal finance world, the public finance. Doesn't look like anything changed there in terms of big exposure, but overall, can you comment just terms of the decision-making that's going on or how it's changed or not within the municipalities?

I think you see a couple things happening. One, obviously, we see our trouble credits still remain our two favorites. That one in Alabama and that one in Pennsylvania. Obviously, we'd say there are more political issues and financial and solutions are out there. We're very pleased by the fact that the receiver was put in Jefferson County. And we expect to see activity supporting more adequate debt servicing and resolving some of the stalemate issues in Harrisburg, that continues to be a political nightmare.

Which is amazing, because people that early in the year were complaining that the banks, aka us and the banks, would have to contribute for putting them in this horrible situation. Except for the fact they can't even meet payrolls throughout the rest if the year. I am sure the banks and ourselves had nothing to do with their inability to meet payroll. So, just goes to show you the ineffectiveness of the management that continues to exists. That's why we've got legal means to pursue and we're comfortable and confident in pursuing those means and the impact that will have.

We think the election in Pennsylvania should help. Obviously, the governorship turned over in terms of party. Hopefully, get a lot more direct activity because the potential bankruptcy of the state capitol is never a good thing for a state.

But once again, it seems that the credit issues seemed to be contained right within those two credit. The chapter nine concern that everyone will be filing for bankruptcy, obviously doesn't seem to have any real bearing. We do know tax receipts statewide are increasing for the second quarter in a row. So, that is a positive sign.

We see movement that most states and most municipalities are willing to address their issues in terms of balance in payment and therefore, that's a positive trend. Credit is very important. Access to the market is very important.

Although that seemed to have been forgotten through some of these discussions and positioning by certain of the municipalities. It's still relevant and the [hayo] is a good example. We've seen a couple presentations made by the city manager or the mayor and they've talked about the difficulty of the bankruptcy. How much it cost them, in terms of fees that was basically in excess of deficit they had through one of the reporting periods.

I think we're comfortable in our portfolio, obviously, we monitored those credits religiously. We've never been a big believer in the meltdown. But, are going to have pockets of problems and that's why you have legal departments and rights under the contracts, and you pursue your legal and structural remedies where they exist. And we're confident that, that will continue to provide the proper remedies to the situations that exist today.

Okay, thanks very much.

You're welcome.

The next question will come from the line of Michael Ting, Goffe Capital Management. Please proceed.

Hello, good morning. I just wanted to follow up on the putback process. Dominic you mentioned earlier there was a rebuttal period. Once a file is reviewed and ultimately rejected by the originator. Is that typically the end of process for Assured or do you have any other recourse?

Depends on what's the result of the rebuttal. We would be notified by the originator that they would like to come in and rebut. Remember, it's our request for reimbursement. They have right to appeal the request. So, burden kind of on them. Then they come in and say okay, we want to cover 33 loans of this period. Obviously, the most work we've done in this regard,is with Bank of America. We will go through each file and we will get resolution, kind of a file-by-file. Some will agree to resend, others they will agree to reimburse.

There are a certain core of files that we determine that we can't come to an agreement. Therefore, we put them what we call now, a impasse bucket and we monitor the size of the impasse buckets relative to the objectives we have in terms of collections. As you can understand, in a lot of deals, especially in the first lien deals we have a significant amount of leverage. And, what do I mean by leverage?

Leverage means that there are a lot more reimbursable loans, than what we have as our net loss exposure on the deal. If we attack at the AAA, and we expect a loss in the AAA portion of the structure--well in order for us to have a loss in that portion of the structure that means you have losses go through the entire rest of the securitization. So, it had to go through the equity piece, the BBB pieces, the A pieces, the AA pieces.

Well, when you have losses through all those layers, remember they're all still theoretically reviewable, breachable and therefore putbackable, and the relationship of then our insured exposure and the receivable that we take against it, compared to the body of loan file. That's why have these outsize numbers of files and breaches and recovery. Not all that represents 100% reimbursement of our loss situation.

It's not in that same proportion, but it does represent that either in cases where up above, we might be able to build back our subordination. Therefore, take us further away from risk, as opposed to represent true dollar cost. In some cases we have partial structures, so that we are sharing that recovery, with other people that have wrapped portions of the AAA layer. But that's kind of -- this impasse thing is still yet to be resolved.

We continue to look at the size of that and the specific loans within it. Obviously, we feel there's a strong case of recovery or we wouldn't have put it in this impasse bucket. And those will be resolved after we get through all of the loan files and deal with the ones that we can readily agree are reimbursable or re-sendable.

Of the $5.7 billion -- sorry, $4.7 billion of breaches, approximately how big is this impasse bucket?

Remember, on the $4.7 billion, I will give you numbers--don't hold me to, but approximate -- so, we probably had, say $500 million of loans actually go through the entire process. And the putback -- or the impasse on those loans is probably in the $40 million to $50 million range. So, about 10%.

Remember that the majority of the $4.7 billion, is outstanding and bills roughly $3.6 billion. We have another billion dollars of bills to send out.

Remember, we are the control parties so we're collecting on behalf the everybody. As the contracted party that basically has the rights, we're reviewing all the files and we're not stopping at our files. Obviously, we have a process that look as the all the defaulters significantly outstanding or delinquent loans, and we'll go through all of those as necessary or as we get the files. So, hopefully that gave you an answer. I kind of scrambled a bit.

That was helpful. Following up on that, if your supplement you list the exposure to the various mortgage servicers. Can you comment on whether Assured has any plans to seek putbacks from any of these servicers or trustees from various securitizations?

We had a strategy that looks at first and foremost our first line of action is against the originator. In our case we only look at solvent originators, right. There are a number of originators that have, obviously, kind of disappeared and gone out of business. And, although we'll put a claim in a bankruptcy filing, obviously we don't have a high expectation of receipt.

First, and foremost we look at originators and we look at the solvent originators. Secretly, we look at the servicer to the extent that the servicer is not the originator or the servicer is solvent. Obviously, there are a lot of concerns today over servicer behavior. Obviously, there was a very public letter that was published by a certain group of private investors that specifically said, you servicer, you made mods and saw breaches, you didn't notify us of the breaches yet you made the mods, you mishandled the foreclosure process.

Once again, this is indicative of poor service or behavior and therefore we have the right to transfer servicing and that's the right and remedy that we're seeking. Once of transfer servicing you will get access to files and those type of things to begin a more agressive putback or reimbursement situation. So, then you've got after you go from originator to servicer, then you have potential issues relative to the banker. There is a long process. There are many facets to it. I think we're at stage one of the process in terms of the origination side. And obviously, we've done this dedicated service group up in California that we think about provide significant loss mitigation as we look to either police servicer behavior, enhance it by bringing in outside servicing specialties or transferring it. Which then, of course, gives us even more opportunity to loss mitigate.

Great, thank you.

The next question come from the line of Larry Batali, Moore Capital.

Hello, good morning. I have a few questions. First is on the option arm portfolio. Looks like both the paid losses and incurred losses were higher in Q3 relative to Q2, as the [Q Op] portfolio losses start to come down. Wondering if you can broadly frame how you see things going in the option arm portfolio over the next few quarters?

I think we would all say that the option arm portfolio, and I don't have the statistics right in front of me so I apologize, but the option arm portfolio is probably the one area where we have issues relative to skinny subordination on some of those deals.

Obviously, pretty horrible results to date and therefore we expect to incur losses. Our reserves based significantly on activity in that option arm area. The one thing I will say, we haven't really begun aggressive putbacks at this point in time. As you remember our strategy was to focus on where we were actually losing significant cash. So, in the early stages, our putback effort was really around second, because they were dollars out the door.

Even in the option arm, we have paid very little losses so the activity you see is all reserved based, formulaic based, not really cash based. Our reserving process is complicated to say the least and you're running billions of dollars through these sensitive models that percentage points do matter. So, when you look at in option arm, you see a slow down in repayment rate. We see the early stage delinquencies, although still in decline a little bit slower so kind of looks to be that those loans or will be outstanding on a longer period of time.

However, we feel that as we look to the putback opportunity, we have stronger rights in first leins we have stronger rights on some of these files. And yet, as I said, we look at the recoverable on a demonstrated performance basis.

The change in expected loss for the quarter for option arms is just about $28 million. What went through the incurred is greater than that amount but that's because of the late, the expected loss comes through from the other premiums.

So about $28 million increase in expected loss on the option arm book?

Hopefully, everyone understands when we say expected loss. Expected loss is not us saying we know we will put investors in reserves in the next quarter.

Expected loss is a figment of our accounting regulation, where they required us to do purchase gap accounting. The new rules on financial guaranty accounting is that you can't put up reserves if you have premium because we are able to go back and restate premium based on the purchased discount. We wiped out a lot of loss reserves that were on the books but are now basically held inside as kind of a contrary in the other premium reserve.

And because these are short tailed deals, they're mortgages, as you earn the premium now where there is loss expectation to get. They both emerge simultaneously out of the [unreprem] reserves, so although they come through loss curve line, they're really a function of the accounting where they were previously reserve and had to be eliminated because of the purchase accounting adjustment on the premium and now we re-emerge again so we get the benefit of having to look at them twice going through the income statement as we earn the premium.

In the second quarter supplement you say expect $23.9 million of losses in Q3. The incurred losses were $115 million or $115.5 million. How much of that is development? How much of that is because of all the accounting stuff that you just went through, Dominic, on premium reserve?

As Bob said earlier on in his comments, roughly had the $80 million emerge through and you had about another $20 million of the change in the discount rate. Obviously, we discount the longer term liabilities but we have to use a published, at a risk free rate. As that rate changes, regardless of our expectation of a loss, you're going to have to put through a counting loss to through up the discount rate. So, because rates came down, obviously the present values goes up, therefore you put more incurred through the financials. If rates go the other way, you see us starting to take down or take credit through the income statement, but it's just the changing of the discount rate having nothing to do with our expectation of the ultimate loss.

Understood. Got it. And you anticipated my question on how the option arm putbacks were going to go, so I won't ask that. I have two quick ones. You said you expect to go through $10 billion in files and then you said $20 billion, I just wanted to clarify that. If you could address the runoff in the RMBS portfolio. It looked like another billion dollars came off in the quarter. I'm wondering what -- I can look at the categories but I'm wondering, generally, what's driving it and if you expect that to continue? And that's all I had. Thanks.

Okay. So, in terms of the files, remember, first and foremost, we look at the folded or seriously delinquent files. That doesn't mean that we've looked at all the files. So, the $10 billion to the $20 billion is the difference in looking at more current files. Obviously, we've done some statistical sampling on current files to see if the [bree] trades seem to similar on the one I remember specifically they were. So, the difference, the delta in the files is really we continue to expand it into current files as well and going into the more 60 plus as opposed to the 180 plus delinquencies.

Runoff.

Runoff, we've been averaging about a billion dollars a quarter in runoff and that's been historic and we continue to see that.

I ask because if you look at speeds in these categories, they're all a lot lower than the rate which your portfolio is running off.

You get the benefit, I hate to say it, runoff also includes charge offs. It's not a pretty answer but it's also helping to make up for the lack of repayment. If you don't repay it, it gets charged-off in certain of the deals.

Yes, but you're not losing a billion dollars a quarter?

No. The majority of it is truly pay-offs. We hope that, that continues. Obviously, we think the mod will help as well in converting some of that delinquency back in the current borrowers we'll see -- getting better on the modification so that's a positive statement.

We do benefit from the runoff and remember, this is mortgage business. It typically performs on shorter tail than other exposures, typically a five to seven year period. The vintages we're looking at are '05 to '07. So, as we look at 2011, the '05 theoretically gets the seventh year and if you look at some of the outstanding balances are reasonably well south, 50% and they should continue to move that way. Especially, as interest rates continue to be incredibly low.

Great, thank you.

You're welcome.

Next question will come from the line of Chris Owens, Trafelet

Good morning. My first question is regarding the mortgage putbacks and the accounting for them. It seems to them there's a lot of gray area and how you book these. My understanding is that you have the same auditor as your largest counter-party in the mortgage servicer states. So, are they going to give you any guidance on how this is accounted for? My feeling is that one side is booking and assets and the other side is not booking a liability, or vice versa. Are they going to update you on how this will actually be accounted for and any timing on when they would do that?

No, they don't give us guidance remember they review our audit procedures and policies, and sign off on our audit of financial statements. We can only account for our side of the equation.

There is an interesting letter on the FCC website that you might want to take a quick read over. Where the FCC recently, I think it was last week, sent out a letter to the banks specifically saying they will be look act the Qs and Ks and looking at how they've handled the provision they've set up and the disclosure they've made around rep and warranties. So, I think this difference potential in accounting is starting to get some rather significant publicity and as I said, go to the SEC website you will see that nice letter that we would say, we could have written it better ourselves.

Okay. But I guess -- I don't understand how your auditor can say, okay, one of our companies has an asset that directly pertains to the liability of another company but we're --

I would suggest you call Price Waterhouse -- we deal with the insurance end of the house. We're not the banking end of the house. Our partner takes full responsibility for our financials, as do we. How they handle it within their structure, their issue and as I said, please read that last letter on SEC section on their website now.

Okay. Seems strange practice on their part. The second question is, maybe it's more of a comment, is that it seems unrealistic that you guys will be getting a triple A rating from the rating agency anytime soon. Seems like they can be arbitrary and not being held accountable for how they're working their math through, they were wrong on the downsides, they're going to miss it on the upside.

So, but it also seems like sort of a blessing in disguise. Why not manage your business for a double A rating and just buy back stock? Your stock this morning is $20. Your adjusted book value is $50. Every dollar that you repurchase create $1.50 in value for shareholders versus writing new business which has at most a 15% ROE. Seems like a pretty easy calculation there, so I would just love to hear your thoughts on how you're thinking about that.

I would say you are exactly right. But, if someone would come to me and gets back to this ambiguity and say what is exactly surplus our capital that would maintain ratings, and understand we really don't want to maintain our ratings. We deal with the issue of the Moody's double A three negative outlook, we see no justification for that, especially the negative outlook. We put record earnings up two quarters in a row. Portfolio is very stable.

We've gotten out tremendous momentum on the rep and warranty. They talk about penetration and lack of competitors but I think it's rather clear where penetration is. Obviously significant AAA and double A pluses out of their own rating department. There have been a lot of companies historically rated AAA that had 1/10 of the penetration we have today. So I don't buy those kind of rationales or judgements and decisions but once again we're not in an area clarity, and specific requirements. We have to be very careful. You are exactly right buyback at this level -- but I've got a double -- been me of more significant penetration and I have to deal with that issue first and I don't have a clear set of what is the exact calculation that tells me where my flexibility is relative to my capital business.

But I guess, who cares? You can send --

We do, to be honest with you.

But why? Because you can send everybody home 2011 and just buy back stock and you will make more money for your shareholders than trying to write new business.

Your right for 2011. I don't know where I'd be in 2012, there will be no industry.

Again, I do care. It doesn't matter. If you can buy back your stock at $0.50 you can do that all day and create more value than you could ever create trying to deal with the regulators, deal with the auditors, deal with the rating agencies. It just seems like an easy solution. You guys have your rules.

I am gluten for punishment.

Okay. Okay.

Thank you. You got to look at the longer term. This is not about how we manage 2011. This is really how we manage 2030 and what is the opportunity here.

We are in a very unique position through a lot of things that have happened we find ourselves as the only supplier in a market that has a demand. That will provide long term growth and benefit to the shareholders. Sure we can make some short term decisions now but it's important that we maintain a business presence. The Moody's double A three negative outlook is a significant detriment.

Its capital requirement is unclear. Obviously, we think we have runoff significant exposure that will put us in a strong excess capital position. We don't see any movement on their behalf and we've been tempted to that engagement, so we have to deal with that issue first and foremost in terms of the long term viability of the Company (inaudible) of the value, which is actually beneficial to the shareholders. In the end we can disagree on the short term and we don't disagree but this issue still remains. So, we appreciate that. We're cognizant of it and would love to engage you further if you want to come visit us in terms of your view. And I'm sure there are others that have the same view but we've got to manage for the long term and not the short term. Next question please.

(Operator Instructions)

The next question will come from the line of Lawrence Kam, Sonic Capital.

Good morning.

Good morning.

I know you pre-announced this quarter, so maybe not a surprise to everybody but it is a very excellent quarter and I think that it is appreciated by your shareholder base. My question is regards to the putback issue. There's been a acceleration in your recoveries, I was just wondering if that was more of a function of just more face time with the originators or is there any improvement in terms of the efficiency of your interactions with them?

Please stand by for continuation of the conference. One moment please.

Apologies for that. We're in Bermuda and there's been some strong winds. Apparently problems with the phone line. I think Lawrence Kamp was on the line to ask a question.

He will have to press star one again.

Sorry about that. Wondering where you lost me. My question was regarding the putbacks. There's been an acceleration in the recoveries and I was just wondering if that was more of a function of increased face time with the originators? Or if there's been any improvement in the efficiency of the process?

We've agreed more standard form of putback request. Especially in Bank of America's case. They've been a lot more timely in setting up meetings. So they're happening more frequently than in the past. We brought in the putback effort to more counter parties. We are seeing more activities now from other originators besides Bank of America, Countrywide -- we're up to five originators that were now in into a process and once again, we'll have some growing pains with them in terms of getting to this rebuttal process et cetera. But we've obviously expanded the breech or the breadth of our activity now and obviously we've improved processing as well.

Can you quantify that in any way and provide some increased explanation how this process is going in the future?

Yes, we try to give - there's a role for it I think in the current supplement that will provide you kind of a more timely activity so you'll see those numbers kind of hit on a more regular and consistent basis. So the one you also have to appreciate as we now move from second lein and first lein, the size of the loan becomes significantly higher, therefore potential collections should benefit from that as well.

To be clear, the disclosure that will be the 10Q that's filed on Tuesday it's actually a new disclosure the SEC requested with this exposure.

Okay. And I just wanted to follow up on the previous questioners remarks. I think it is appreciated the market that that there is a significant value in the company even without any origination what so ever. Although, clearly, that doesn't seem like a preferable outcome. I think it is appreciated that the returns that you have been putting up lately. Once again, congratulations. Thank you.

Thank you Larry. And, also, remember we do have a buyback authorization outstanding for 2 million shares so we're not insensitive to spot opportunities relative to our stock price. But, as I said, we walk a very thin line relative to where we see opportunity and obviously our desire to get off this precipice of double lay three negative outlook models. Make all your calls to Moody's as best you can on our behalf, please.

This concludes the question-and-answer portion of today's conference. I'd now like to turn the call back to Sabra Purtill for closing remarks.

Thank you all today and thank you for your patience with our small technical challenge just a few minutes ago. We certainly appreciate your interest in Assured Guaranty and if you have additional questions or require further information please do not hesitate to contact us. Thank you and have a great day.

Ladies and gentlemen, this does concludes today's conference. Thank you once again for your participation. You may now disconnect, and have a great day.