Ambac Financial Group Inc (AMBC) 2005 Q4 法說會逐字稿

Greetings, ladies and gentlemen, and welcome to the Ambac Financial Group Incorporated fourth quarter earnings conference call. [OPERATOR INSTRUCTIONS]. It is now my pleasure to introduce your host, Mr. Sean Leonard, Chief Financial Officer of Ambac Financial Group Incorporated. Thank you, Mr. Leonard, you may begin.

Thank you. Good morning everyone, and welcome to Ambac’s fourth quarter conference call. I’m Sean Leonard, Chief Financial Officer of Ambac. With me today are Robert [Eismann] and Pete Poillon, Investor Relations. This call is also being broadcast on the web. Our earnings press release and quarterly operating supplements are on our website. Also note that we have included on our website a short slide presentation that summarizes our quarter’s results.

The first quarter 2006 earnings will be released on April 26, 2006 at 8.00 am with a conference call at 11.00 am. During this conference call we may make statements that would be regarded as forward-looking statements. These statements are based on management’s current expectations. I refer you to our press release for factors that could change actual results.

Turning to highlights of the fourth quarter, net income was $204.3m, or $1.90 per diluted share. That’s up 12% on a per diluted share basis from the fourth quarter 2004. While Ambac reports net income in accordance with generally accepted accounting principles, or GAAP, research analysts may make certain adjustments to net income to calculate their reported estimates. Therefore, to enhance investors’ understanding of our financial results, we continue to provide information on the items that analysts adjust out of GAAP net income to arrive at their current estimates, so those items are as follows.

Number one, net after tax gains and losses from sales of investment securities and mark to market gains and losses on credit, total return and non-trading derivative contracts. In the fourth quarter of 2005, net after-tax gains amounted to $13.2m, or $0.12 per diluted share. This compares to net gains of $10.7m, or $0.09 per diluted share impact in the fourth quarter 2004.

Some analysts also back out the after-tax effect of accelerated premiums earned on obligations that have been refunded, and other accelerated premiums, such as reinsurance cancellations. Total after-tax accelerated premiums amounted to $20.3m, or $0.19 per diluted share in the fourth quarter of 2005, which compares to $7.2m, or $0.07 per diluted share in the fourth quarter of 2004.

Turning to credit enhancement production, or CEP, CEP which represents gross upfront premiums, plus the present value of estimated installment premiums on insurance policies and structured credit derivatives issued or assumed in the period came in at $395.8m. That’s up 15% from $344.2m in the comparable prior period.

Let me take you through some of the details by segment, Public Finance. Public Finance CEP was $153.5m, up 51% from the fourth quarter of 2004. Municipal market issuance, as reported by third party sources was up 6% from $91b in fourth quarter 2004 to approximately $97b in the fourth quarter of 2005, while insured penetration declined slightly from 53% in the fourth quarter last year to about 51%.

Ambac’s market share in the quarter, based on prior written, was approximately 20%, down from about 25% in the fourth quarter of 2004. Strong healthcare and tax-back production caused a growth relative to the comparable prior period.

Turning to Structured Finance, Structured Finance CEP was $143.4m. That’s up 62% from the fourth quarter of 2004. We closed deals across a wide array of sectors with commercial asset back and auto-securitizations being especially strong during the quarter relative to prior year. Investor owned utilities and student loans also grew nicely. In the MBS market, spreads continued to be challenging, but we’ve noted some improvement in that market.

Turning to International, International CEP in the fourth quarter came in at $98.9m. That’s the best quarter of the year for Ambac, but still down 36% from a very strong fourth quarter of 2004. We are very pleased with the diversity of the production with deals closed in nine different countries during the quarter. Full-year production in the international markets was disappointing, however, coming in at 40% lower than 2004 as European private finance initiative, or PFI deals, were slow to close, and deals in general were smaller than in previous years.

I’m going to highlight premiums earned for the quarter. Net premiums and other credit enhancement fees earned, excluding refundings, increased to $182.1m. That’s up 2% from the fourth quarter of 2004. Public Finance earned premiums, excluding accelerations, grew 5%. Structured Finance grew 10%, while International decreased 10%. Excellent production and asset classes such as commercial ABS and auto-securitization has more than offset the negative growth trends we discussed in past quarters related to MBS and CDOs.

International earned premium declined due to the following factors – run-off and early terminations in the book, lower new business production in 2005 and an increase in the weighted average life of business originated in 2005. While we insured about $10.3b of net foreign International during 2005, the total International book actually declined by $16.6b from year-end 2004.

Our deferred earnings, representing future earnings on premiums already collected and the future value of installments, increased slightly to $5.5b. These deferred earnings will be recognized as earned premium and other enhancement fees in the future of the life-related exposures.

Investment income – investment income, excluding VIE income, was $96.7m. That’s up 6%. Investment income grew primarily due to the increase in the portfolio, driven by positive operation cash flow. Investment income has been adversely impacted by the continued low interest rate environment and our buyback of approximately 4.3m shares of stock in 2005, primarily in the second and third quarters, costing almost $300m.

Losses and loss adjustment expense – loss provisioning amounted to $15.6m, down 8% from $16.9m in the fourth quarter of 2004. Total net loss reserves at December 31, 2005 amounted to $300.7m, up from $287.7m at September 30, 2005. Total loss reserves include case basis reserves of $103.1m and ACR of $197.6m. Ambac established a new case reserve for a public financed infrastructure transaction during the quarter, as well as added to case reserves on a distress healthcare deal. Excluding that activity, the portfolio in total has showed slight improvement.

As a reminder, Ambac’s total loss reserves include active credit reserves, ACR, and case basis reserves. Ambac establishes active credit reserves for probable and estimable losses due to credit deterioration on insured obligations that have not yet defaulted or been reported.

ACR is established only for adversely classified credits based on Ambac’s view of whether the insured’s financial condition has deteriorated. Ambac establishes case basis reserves for losses on insured obligations that have defaulted. Due to the relatively small number and large size of certain credits comprising ACR, improvements or further deterioration in any one credit may significantly impact our loss provision in a given quarter.

During our third quarter discussion I stated that I would keep you informed about the activities surrounding our $92m Hurricane Katrina reserve. Our reserve estimate related to Hurricane Katrina remains materially unchanged. We remain involved in meetings and discussions with the appropriate parties and as with all stressed credits within our portfolio, we will continue to be active in our surveillance and remediation efforts.

Ambac will continue to assess the impact of Hurricane Katrina on subsequent periods as more information becomes available to us. I am happy to report that we have not paid any additional Katrina related claims during the fourth quarter, and all the claims that we had paid during the third quarter were subsequently recovered.

The Financial Accounting Standards Board continues to review the industry’s accounting for financial guarantee insurance contracts, and is making progress. It remains a work in process, however. As a result, our accounting policies are subject to change in the future. I encourage all investors and other interested parties to read Ambac’s accounting policy footnote and MBNA discussion regarding our losses or policies, our loss reserve methodology and the potential for future changes. These disclosures can be found in our 2004 Form 10-K that was filed with the SEC in March.

Financial Services – Financial Services net revenues, excluding realized and unrealized gains and losses, were $11.4m compared to $14.6m in the comparable prior period. Our Financial Services segment is comprised of the Investment Agreement business and Derivative Products business. Financial Services net revenues declined as a result of lower upfront revenues in our Derivative Products business, partially offset by increased spreads in the Investment Agreement business.

Our return on equity was 15.4% for the quarter, and 14.4% for the full year. Regarding share buybacks, I’d like to provide a brief comment about our share buyback activity. Ambac did not buy back shares during the fourth quarter. Earlier in the year, primarily during the second and third quarters, we bought back about 4.3m shares for approximately $300m.

Our decision to buy back shares in any given time is dependent on several factors, including our current capital position, the business environment and our ability to put capital to work in the markets that we serve at attractive returns, the overall quality of our financial guarantee portfolio as considered in rating agency capital models, and lastly, the current stock price.

Earlier in the year, considering the factors just mentioned, we set a target internally to opportunistically buy back shares. We hit that target right about the time that Katrina hit the Gulf coast. Needless to say, as a Triple A rated company, our capital is a precious commodity.

Given the new risks to our portfolio posed by Hurricane Katrina, combined with our desire to maintain a surplus of capital to put to use as market conditions change, we decided not to repurchase shares in the fourth quarter. We will continue to analyze capital usage in 2006 as we seek to optimize our capital position consistent with a Triple A rated company while maximizing shareholder value.

Regarding our CEP discount rate, I would like to inform our investors and other constituents that beginning in the first quarter of 2006, we will modify the discount rate that we use in our calculation of credit enhancement production, currently 7% to a rate that more closely approximates the current market rate. As such, the discount rate going forward may change from quarter to quarter. This approach is consistent with our current calculation of adjusted book value, and we believe with how our competitors calculate premium production.

In summary, Ambac had a good quarter from a top-line production standpoint. Market conditions remain challenging but our disciplined approach towards our business remains consistent. As the market conditions improve, Ambac will be well positioned to take advantage. That concludes my prepared remarks. I would now like to open it up for questions.

[OPERATOR INSTRUCTIONS]. Our first question is coming from Geoffrey Dunn of KBW. Please proceed with your question.

Thanks, morning Sean.

Morning Geoff.

Just a quick question on buyback. What remains under any kind of authorization that you have, and what is your free capital position at the holding company if you saw an attractive opportunity present itself?

Yes, Geoff, our available stock, still available under the Board of Program, remains at approximately 4.6m shares, so that’s what we have remaining. From a standpoint of cash available to potentially -- we will certainly be looking at that during the quarter. We do have some available cash sitting at our parent holding company but then we also have some -- we’ll be looking at potential transactions during the quarter that could be favorable, and we’ll keep you updated on that as they occur, if and as they occur.

Okay, two operating questions. First you mentioned that you are seeing some modest improvements in the mortgage market, or the MBS market. Could you comment on that more specifically? And then second, from a credit standpoint, some news on your Delta Terminal exposure during the quarter, can you talk about where that stands on your watch list? Are there any reserves against that, and have you made any payments on that deal?

Yes, I can start with the mortgage side. We did say we were able to write a couple of transactions during the quarter in the mortgage-backed sector. We didn’t have -- it wasn’t a large growth sector for us. In structured finance we saw more, the growth coming from the commercial asset-backed side, so mortgage-backed, we’re seeing some opportunities but we haven’t seen a major improvement there.

Is the opportunity modestly widened spreads or is it in specific sub-sectors of the MBS market?

No, I think it’s more modestly wider spreads that we’ve seen. We continue to participate mostly in the [off-A], the high grade sub-prime piece, but we did see some widening and some opportunities there, but limited, and not quite like we’ve seen in the last couple of years, for instance.

Regarding our exposure to the Massport situation, I can’t comment in detail there, due to the sensitive nature of the current discussions and the current situations.

However, what I can say about that situation that has been publicly announced, Delta has paid a portion of the rental payment due on the Terminal A facility at Logan Airport relating to the post-petition after they had failed bankruptcy in September, mid-September, through the end of December. They made a partial payment for 100% of that period and they do not pay the period pre-petition.

Ambac did, under its insurance policy, we did actually make a claim payment of approximately $3.6m to cover that. Other than that, Geoff, I prefer, due to the sensitive natures of this current situation, not to make any other comments in that regard.

Okay, and just clarifying, you can’t comment on whether you have further reserves set up for that?

No, that’s -- as you can appreciate, that’s a discussion that’s ongoing and it’s quite a sensitive matter, so we would not wish to make any further comment on that.

All right, thanks Sean.

You’re welcome.

Our next question is coming from Joshua Shanker of Citigroup Investment Research. Please proceed with your question.

Good morning gentlemen. My first question, is there a way that we can get a handle around what the ROE characteristics of business being written today are compared to what they were two years ago, four years ago or anything that we can compare it to?

You can see the overall results. We don’t publish specific ROE on transactions or particular sectors. What we have said in the past is that generally, the International transactions provide the highest return on equity as on average, speaking generally, obviously, then followed by Structured Finance and then Public Finance.

There are situations in Public Finance, specifically the markets that Ambac likes to target, that carry higher ROEs. Those are the more complicated transactions and those that would not be characterized as a general obligation or tax-back transactions. Ambac targets the healthcare sector. We had a very good quarter in the fourth quarter in the healthcare sector, so that’s another area that we target.

I know there is published profitability statistics from the rating agencies from time to time that investors could look at, but we do not publish details of ROEs by individual product type or bond type.

Is it fair to say that you believe that the business you’re writing today is equal in profitability to the legacy business?

Well, it depends on which year, underwriting year you look at, I suppose. We have said before that 2003 was a very good year from a credit spread perspective, so we have seen spreads come in from that level. From the public finance, I think we’re looking at levels that are relatively stable from a historical basis, but that is a cyclical trend that will widen and tighten over time, so it’s sector dependent, but if you’re comparing against the 2003 vintage underwriting year, I would say that the spread has tightened.

Very good. In terms of -- in the press release, or earnings release, you mentioned that spreads in Public Finance appear to be attractive. Does that particularly pertain to your business mix, or is that a general comment about the market?

No, that’s a general comment about the market. I will say that what’s generated some of the positive results, quarter on quarter, we’re up substantially in CEP, also there are some large transactions in that specific space. Healthcare transactions, for instance, carry larger premium of par value, so that’s certainly a sector that we had great success in the fourth quarter there.

Thank you, and finally on the Katrina reserving, is there a time where you might discover that you’re over-reserved for Katrina? I note there was no change seen in the last quarter. How are you coming to grips with the adequacy of those reserves or more or less seem perhaps a redundancy?

Yes, we run that through our normal surveillance process and we’re looking at the detailed credits, each individual credit that’s on that list. We think that that’s probably more of a short to medium-term type evaluation. We think that 2006 will be telling as to the repopulation of the city itself, and the economic activity in the city which should give it some better indication and better direction on the level of and adequacy of our loss reserving.

So we’re thinking that that’s going to be more of a mid-year to the end of the year next year to really get some better information so we can narrow down that particular field. But I think that at December 31 there has not been material developments, I would call them, either from a situation of the government figures, state government or other governments stepping in to provide support for that service, so from that standpoint we had publicly communicated that we did not consider that. We still don’t consider that, so if something were to happen there, that would be indicative of how we would look at our potential reserves in that area.

Okay, well thank you very much. Congratulations on a great quarter.

Thank you.

Our next question is coming from Mike Grasher of Piper Jaffray. Please proceed with your question.

Good morning. I’ve just phoned late so I apologize if this has been asked or spoken about, but can you give us more details on the large refunding? Was this follow-up to the one that occurred in the third quarter?

No, it was not. It was a Public Finance bond, a large Public Finance bond that was partially refunded. So it was one of our larger exposures, a portion of which had been refunded during the quarter, so that would cause an acceleration of the unearned premiums, since we’re no longer on that risk.

Okay, and I think the one I was speaking to, actually, was the California Tobacco?

That’s correct.

Is there more to come with that, or has that been fully absorbed?

Yes, that was fully refunded. It reverses -- the one in the fourth quarter is only partially refunded. Approximately one third of the bond was refunded.

Okay, and then any hint, or sense of how the refunding has played out during the quarter? Was it pretty evenly spread or advanced early in the quarter and then slowed as the quarter went on?

It was pretty evenly spread. The one -- the California bond that we just spoke about, that occurred in December, so that one came, and that makes up about, I believe it was about 41% of the total number, and that came towards, obviously, in December towards the end of the quarter.

Okay, and then if you think about just refundings in general as we go forward, certainly with, one would hope, with rates rising, that would slow but how much impact could we see or experience from a change in the business, the mix of business, so as we do more and more of the ABS and international, or international, the refundings decline as well?

Yes. We broadly publish in our operating supplement, we have a table. I don’t have the page handy, but that particular table schedules out the actual earned premium that is expected for 2006. That’s on page 18.

Right.

I’d probably refer you to that. There are a lot of elements, obviously, in there. The mix of business, we talked a little bit about International, how there is some enhanced activity in the investor -- in the utility space which normally carries a longer premium earning pattern, versus Structured Finance generally, speaking generally, would carry a shorter earnings pattern. But all those, the mixes, the pluses, the minuses, are all baked into that schedule. That gives you a sense for the premium earnings for the following year.

Okay, and then just a general comment around the pipeline in International at the moment?

We’re certainly seeing good activity in the International space currently. If you look from quarter to quarter 2005 versus 2004, you’ll see a decline. That was due to a very successful fourth quarter of last year. There were a couple of large transactions. We’re certainly seeing that being the case, continue to be the case, in the International large transactions, closings are driving favorable quarterly production, but we currently see good activity there.

We had had a slow year from the U.K. PFI perspective, but in closing transactions, but we continue to work on transactions there, as well as try to increase the installment base business from the asset-backed side. So we’re seeing good activity. We still see that as a growth segment, just do as -- we think somewhat of an anomaly in this year’s production, specifically in the first and third quarters.

Okay, and then finally any update on Basel II?

No, I don’t have much to add on Basel II. We had been seeking, and looking internally to see potential opportunities for the financial guarantee product in that space, but I really don’t have anything much more to add than that’s obviously high on our agenda to look into, to see how that product, our product, can be used in conjunction with the implementation of those capital standards.

Okay. Congratulations on the quarter.

Thank you.

Our next question is coming from [Eman Barsoon] of Lang Group. Please proceed with your question.

Hi, it’s actually Bob [Huttonson]. Three quick questions, one follow-up on Geoff Dunn’s question. If you monitor the competitive landscape, particularly in the senior sub asset-backed market, are you seeing any deterioration in asset quality that would in effect give you some confidence that you basically could re-enter that market more aggressively at some point in 2006?

The second question is that in the press release, your comment on the International earned premium, that one of the reasons why it’s a little weak is because of the longer duration of new business that’s being written. I’m not clear as to why longer duration business would pressure the earned premium on the International business. Maybe I’m missing something there.

And the third question is the 7% on the discount rate, what are the factors that you use in determining the discount rate, and what are the major similarities and differences, as you understand it, from your competition in terms of how they use the discount rate to compute production and adjusted book value?

Okay, let me try -- I’ll handle the discount rate question first. What we have done for our adjusted book value calculations, we’ve used the rate, current rate of approximately 5.1%. That considers the underlying tenor of the installments on a weighted average basis and a weighted average of the underlying credit quality in the structures where we get those premiums. So that’s how we calculated the adjusted book value.

For a CEP, we have kept the discount rate constant at around 7%. We would like to change it to be more consistent with the adjusted book value calculation which would consider current market rates clearly, the underlying tenor of how long those particular cash flows are expected to be received, and the underlying rating of the entity that’s paying us those installment premiums.

The change is really on CEP and there will be no change in the way you calculate adjusted book value?

That’s correct. So CEP, if you use the rate more consistent with our competitors and more consistent with what we use for adjusted book value of approximately 5%, that would have an increased CEP in the fourth quarter of approximately $19m.

Is there some point at which long-term interest rates would trigger an increase in the discount rate that you use to calculate adjusted book value?

Yes. That, as you will see, if you looked over time, you will see that rate moving from quarter to quarter. We would expect the CEP discount to do the same.

But you haven’t changed that rate even with the developments in the interest rates over the last year or so?

I think that -- Rob, maybe you can help me, I thought that rate has changed from quarter to quarter.

For adjusted book value, yes it has.

So yes, that has changed, Bob. We would expect that to be the case going forward.

Got a comment on the asset quality senior sub-marketplace, can’t give you any specifics there. Just would mention that we did underwrite two sub-prime deals in the fourth quarter and we hadn’t written any in the several prior quarters. We would obviously continue to monitor that. And if we thought there was opportunities there we would certainly be aggressively pursuing those, and really don’t have much else to add there.

On the International earned premium, the comment there is that the comparison, there’s really three things. There’s some run-off in the Structured Finance book that’s impacting earned premium growth. There’s also the business production was slower than it was in 2004 in perspective.

And just the other factor that went into that is transactions that, while you might perceive the same CEP, a Structured Finance transaction may have a life of, say, three years, versus a utility transaction that might have a life of in excess of 10 years.

So the earnings since our earnings pattern are based on the exposure to risk, the longer tender transactions will be earned over that longer period of time.

But aren’t the International transactions done on a -- not on a single premium basis?

Yes, International can be mixed. We do have installment of premiums which is typical in the domestic marketplace for structured finance deals. But we also do receive upfront premiums. And, depending on the individual transaction, how it’s negotiated, we might even receive a portion up front and a portion in installments.

Okay. Thank you.

Thank you.

Our next question is coming from Ken Zerbe of Morgan Stanley. Please proceed with your question.

Good morning.

Hi Ken.

My first question is on the loss provisions. Can you just repeat what you mentioned on the call earlier? What did they -- in terms of the new case reserves, what do they relate to?

One related to an existing transaction for a stress healthcare credit. And the other related to a Public Finance infrastructure transaction. That was -- there was case reserve activity relating to those two specific situations.

In addition, we have the active credit reserve which also would impact our income statement loss provision. And some of that activity was to move from that account to the case reserve account as well as some slight improvement in our overall credit watch list that makes up our ACR.

So from a standpoint, we break it into sub-segments, CDOs, MBS, and the enhanced equipment trust. We saw slight improvement across those three areas.

Okay.

And partially due to pay-downs and partially due to some net positive performance.

Okay. In terms of the penetration rate in the total finance market, I guess 51% seems relatively low versus what we saw during most of 2005. Is this more of a seasonal decision? It doesn’t seem like it would be. But I believe it’s been up closer to 60%. And what are some of the trends driving the lower penetration?

Yes, that’s something that we noticed as well. I think there’s a couple of things going into that, broadly speaking. We saw, from the standpoint of the marketplace, more high-quality general obligation issues that went out uninsured. So that, we think, has impacted driving down clearly the insured penetration.

Other things we think there might be, if you look back, last year we saw similar trends where it tailed off towards the end of the year as well. So we think there might be some seasonality. And there might also be some competitive factors and how the model lines actually pursue that marketplace, maybe that’s indicative of tighter pricing.

So probably a combination of the three. It’s hard to pin down any one specific element.

Okay. Great. Thank you.

Welcome.

Our next question is coming from Darin Arita of Deutsche Bank. Please proceed with your question.

Hi. Good morning. A lot of questions here. The first one is on the tax rate. It seems like it has crept up above 27% in the fourth quarter here. And I think prior to that it was running around the low 26% level. Is there anything that happened there in the fourth quarter?

Nothing remarkable, Darin, that I can think of. Now we continue to largely invest. We didn’t do as much in the fourth quarter investing in tax exempts, did accumulate some short-term investments there. So you saw probably less activity going into the actual tax exempt portfolio.

You did see some increases of the -- some mark to market gains, for instance, that would attract higher effective rates. So probably a mix of those items.

Alright. Well, any thoughts on how that should trend for 2006 in terms of tax rate?

No, I would state that we looked in our investment -- what primarily drives that difference between a statutory rate and an effective rate is our investments in tax-favored income. Currently, where we see the marketplace, the yields between taxables and tax exempts would favor more investment in tax exempts. So I would expect that if that trend continues that that might have the effect of keeping that the same.

Okay. And on page 20 of your supplement, the summary of below investment grade exposures, the general obligation bond exposures have gone up significantly. Can you provide any comment on that?

The comment I will provide on that is that’s primarily a result of Hurricane Katrina. In the third quarter supplement, we provided a footnote disclosure saying that we were in the process of going through and actually signing letter grades to the Katrina exposure. So they had not gotten into the below investment grade table.

We have done that in the fourth quarter, with -- given a little bit more time to do so. And they have worked their way to the table.

Okay. Great. Thanks very much.

You’re welcome.

Our next question is coming from Gary Ransom of Fox-Pitt Kelton. Please proceed with your question.

Yes. Good morning. One quick question and then another longer one. One is just whether you can update us at all if FASB has done anything or made any progress at all in making reserving more consistent across the industry?

And the second question is about the Structured Finance business. You put a lot of business on the books. There was a big variety. But I wonder if you can go into a little more detail on the conditions there, whether the opportunities were spread driven, special situations, complexity, and just add a little color on to what was going on in that Structured Finance business more generally.

Sure. First on the FASB, their progress. We’ve had, as part of the Industry Association Group, have had a number of conversations with the Financial Accounting Standards Board. It looks like they will probably be meeting on this topic, I think, in February and maybe early March to begin that analysis.

I know they have reached out certainly to us and some others in the investment community to get their sense of financial guarantee insurance and what would be most helpful to users of our financial statements. So I know they’re taking a broad view of it and trying to -- I believe, trying to assess all viewpoints to prepare us in the user communities. So there’s been some development there.

But no insight as to where it might be heading at this point?

No. The FASB has public meetings. And I would expect one to occur either February or early March. So that would be a way to get some additional information in that regard.

Regarding Structured Finance business, to give you a little bit of sense, and others a sense of our fourth quarter production, we had two transactions in particular. We monitor internally large CEP transactions that are in excess of $10m. And we had two large transactions in the fourth quarter that were -- that we think were attractive that we closed. So that obviously helped our production.

But generally, Structured Finance, International, we’re Public Finance. When we have good quarters, at least over the last year or two, have been driven by closing the large transactions where we think Ambac has a competitive advantage over some of the smaller market participants.

Can you share with us what it was about the two large transactions that allowed you to get the business?

Yes, I think one was size, and certainly both were expertise in those particular asset classes. So I would probably say those two things and our ability to execute in performance in closing transactions.

Okay. Thank you.

You’re welcome.

Our next question is coming from Rob Ryan of Merrill Lynch. Please proceed with your question.

Good morning.

Hi Rob. Good morning.

If the market were to give us, say, an extra 50 basis points on the 10-year Treasury yield this year, could you list for us the pros and cons of such an interest rate move, whether it be on new business production, the income statement, balance sheet? Just where are the positives and the negatives? And would you consider it to be a net benefit or a net negative?

Well, certainly it increases and we would look to two rates. One would be taxable rates, and two would be how tax exempt, longer-term rates perform. As I mentioned earlier in the call, our investment portfolio, due to the dynamics of those two marketplaces, from an investment standpoint, favors tax exempt investment.

So net a movement in the [taxable], I assume it had a same shift in tax exempts. And still favored tax exempt, that would obviously help the new investments into our investment portfolio. We take obviously operational cash flow and invest it at higher rates. So that would have a positive effect on the portfolio.

I presume also higher rates would also have the -- would favor charging a particular premium on certain transactions, public finance, for instance, there’s a charge on principal plus interest. So that would have more exposure. That would generally have a positive impact.

As rates go higher, also credit spreads tend to widen as a general factor. So I think that would help. Increasing rates would slow down accelerations presumably, which would impact normal earned. But that’s not to say accelerations are a bad thing, it would just -- would help normal earned premium growth statistics.

On the balance sheet, the marking to market of the investment portfolio, given your current duration and a rise in interest rates, how much book value is that risk?

We currently -- I think currently, Rob, our accumulated unrealized gains net of tax, I think, is around $260m. So rising rates could impact again and would be dependent upon the sector taxable/tax exempt. But that would have an impact of approximately $230m. So rising rates, if that were to diminish, the unrealized gains would have an impact on adjusted book value and book value measures.

And the effect of higher interest rates on prepayment fees, on the asset-backed and mortgage-backed portfolios?

Yes, that’s another one that would presumably have a positive impact on those fees, depending on which part of the curve moved. I suppose we would have an impact on those particular deals and how frequently folks would refinance their existing mortgage obligations.

Okay. So overall, if we can give you the 50 basis points, do you want it or not?

Overall yes, we would take that.

Okay. Great. Thank you.

You’re welcome.

Due to time constraints, our last question today will be coming from Al Copersino of Columbia Management. Please proceed with your question.

Thank you. I just wanted to ask a quick question about your Katrina reserves. I assume when you’re reserving you do not account for the fact that you have historically gotten paid back for these things in the third quarter and that you probably would get paid back. Is that a fair assessment that they accept the reserves but they don’t account for Ambac receiving the funds back that they have to pay?

No. No. We would factor in all available security on the individual issues that we have. So, for instance, debt service reserve funds or the nature of the actual revenues that are security for the underlying obligation.

But this is -- taking the Hurricane Katrina compared with other previous natural disasters, for instance, we have insured obligations in Florida and there’s been hurricanes that have caused damage to certain communities where we have insured obligations. We think New Orleans is a bit different due to the nature of the catastrophe and the dislocation of the population of the city. There’s been a massive dislocation of the population which will have, presumably, an effect on the available tax base that would support some of the underlying obligations that we’ve insured.

So that’s a bit different. But we would consider unique circumstances with each underlying obligation. That includes obviously their ability to pay, and loss given to [fault] type rates.

That makes sense. But as of yet, at least in the third quarter claim statements you’ve made, the repayment of money back to Ambac has therefore exceeded your initial conservative expectations. Is that a fair assessment?

Well, we paid three claims and we recovered those funds from the underlying [obligors]. What we think, however, is due to the nature of the collection periods for a lot of the underlying security, we will start to see the potential strain on the tax base, not necessarily at this point in time, but more into the future as collections have been collected in advance that were able to fund debt service requirements. That dynamic will change in 2006 and 2007.

Okay. Thanks very much.

You’re welcome.

I would now like to turn the floor back over to you for any further comments.

Yes. Thank you everyone for your interest in Ambac Financial Group. If we can answer any additional questions, please call myself or Pete Poillon, Investor Relations. And thanks again.

Ladies and gentlemen, this does conclude today’s teleconference. You may disconnect your lines at this time. Thank you for your participation.