Ambac Financial Group Inc (AMBC) 2017 Q4 法說會逐字稿

Greetings, and welcome to the Ambac Financial Inc. Fourth Quarter 2017 Earnings Call. (Operator Instructions) As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Ms. Lisa Kampf, Head of Investor Relations; Claude LeBlanc, Chief Executive Officer; and David Trick, Chief Financial Officer.

I will now turn the call over to Lisa.

Good morning, and thank you all for joining today's conference call to discuss Ambac Financial Group's Fourth Quarter Financial Results.

We'd like to remind you that today's presentation may contain forward-looking statements, which are based on management's current expectations and are subject to uncertainty and changes in circumstances. Any forward-looking statements are not guarantees of future performance of events. Actual performance and events may differ, possibly materially, from such forward-looking statements. Factors that could cause this include the factors described in our most recent SEC filed quarterly or annual reports under Management's Discussion and Analysis of Financial Condition and Results of Operation and under Risk Factors. Ambac is not under any obligation and expressly disclaims any obligation to update any forward-looking statement, whether as a result of new information, future events or otherwise.

Today's presentation contains non-GAAP financial measures. The reconciliations of such measures to the most comparable GAAP figures are included in our earnings press release, which is available on our website at ambac.com. Please note, we have posted slides on our website to accompany this call.

I would now like to turn the call over to Mr. Claude LeBlanc.

Thank you, Lisa, and welcome to everyone joining today's call. 2017 was a transformational year for Ambac. With the successful achievement of many key strategic priorities and material advancement of others, we believe Ambac is well positioned entering into 2018 for the creation of long-term shareholder value.

Our accomplishments include, first, the February 12 exit from rehabilitation of AAC Segregated Account, a transformational strategic priority that will create an estimated pro forma book value increase of $7.56 per share or a 25% increase on our Q4 book value per share once reflected in our first quarter 2018 financial results.

Next, the removal of the going concern risk language from Ambac Financial Group's 10-K, which we filed last night. This is the first time since 2008 that AFG's audit opinion did not express concern about such risks, which reflects the material improvement in Ambac's financial strength achieved to date.

Last night, we also announced the employment of Miss Joan Lamm-Tennant as a new director at both the AFG and AAC boards. Joan brings with her a wealth of experience and industry knowledge and is a welcome addition to our board. Joan's appointment will expand the board skills and bring new perspective as we move forward post exit from rehabilitation. With the addition of Ms. Lamm-Tennant our -- to our boards, we now have 7 member interlocking boards in the U.S.

We also implemented significant changes to the risk management group in 2017 to improve its effectiveness at reducing risk exposures and accelerating the stabilization of our insurance platforms. Notably, during the past year, we reduced insurer portfolio by 21% from $79.3 billion net par outstanding to $62.7 billion as of December 31, 2017. Over the same period, we also reduced adversely classified credits by 17% or $3 billion to $14 billion from $17 billion at year-end 2016.

Major commutations and settlements during the year included: first, the termination of Augusta Funding, a $185 million adversely classified credit resulting in a gain of $43 million; second, the derisking of Spirit, a GBP 188 million U.K. pub securitization transaction; third, the settlement of the JPMorgan Ballantyne litigation, the key terms of which are confidential but which contributed to a $92 million benefit from the reduction of loss and loss expense reserves; fourth, the commutation of $44.6 million of net par exposure of a distressed municipality; fifth, we helped facilitate a settlement with a mortgage insurer and trustee, amongst others, that resulted in a benefit of approximately $49.8 million with respect to the -- to 2 transactions as reimbursements for clients paid. I will highlight additional material derisking transactions achieved during the fourth quarter in a few minutes.

During the year, we also continued to pursue all appropriate actions to protect our legal rights in Puerto Rico. Most recently, Ambac joined a group of creditors in challenging the draft fiscal plan for Puerto Rico, seeking more oversight and transparency. We also significantly increased our investments in Ambac wrap securities during the year, purchasing over $815 million of distressed Ambac insured securities, including insured RMBS and Puerto Rico securities.

At December 31, we -- Ambac owned 58% of COFINA and 29% of our PRIFA-insured bonds. To remind everyone, these instruments are held in our investment portfolio, and we do not factor our bond ownership into our reserves for any such purchases. We also continue to progress our BofA countrywide litigation case, which we're firmly prepared to take through trial on the strength of our claims. And finally, we took significant steps to reduce operating expenses, reducing headcount by approximately 19% from the beginning of 2017, which will translate into $8.5 million in annual cost savings and reflects an approximate decrease of 20% in our annual compensation costs.

I would now like to spend a few minutes to address some of these accomplishments in more detail. The closing of the transaction that marked the exit from rehabilitation of the Segregated Account announced on February 12 was a culmination of years of hard work. The transaction closed following the successful conclusion of AAC's tender offers and consent solicitation, which received overwhelming support from surplus note holders who participated in the transaction, representing 99.6% of the principal and accrued and unpaid interest outstanding on AAC's General Account Surplus Notes held by parties other than AAC and AFG. As I mentioned a moment ago, the transaction resulted in an estimated increase in book value of $7.56 per share on a pro forma basis, which will be reflected in our first quarter 2018 results. David will provide greater detail of the financial impact of the transaction momentarily.

As a result of closing this highly complex transaction, significant benefits will accrue to Ambac stakeholders. In exchange for an effective consideration package of 40% cash, 41% secured notes and 12.5% General Account Surplus Notes, AAC received the following: first, satisfaction and discharge of all outstanding DPOs of the Segregated Account, totaling approximately $3.9 billion, including accretion; second, cancellation of the $809.5 million in principal plus accrued and unpaid interest of AAC's 5.1% General Account Surplus Notes; third, an effective discount of 6.5% on the accretive value of DPOs and the outstanding amount of principal and accrued and unpaid interest on tendered General Account Surplus Notes; and fourth, $240 million in new capital from the issuance of Tier 2 notes backed by certain RMBS rep and warranty litigation recoveries.

In addition, with the merger of the Segregated Account into AAC's General Account following the conclusion of the Segregated Account rehabilitation, claims are now being paid 100% in cash. Additional benefits from the exit include reduced regulatory oversight, reduced costs and expenses related to the rehabilitation process, improved strategic and financial flexibility and the unified corporate governance structure. We are extremely pleased with the outcome of this transaction, and I believe that the flexibility that this transaction affords us will position us to further deliver on our commitment to create significant long-term value for our shareholders.

Turning now to our derisking activities, which is an ongoing key strategic priority. During the fourth quarter, we took significant steps to reorganize the Risk Management Group, sharpen and expand our focus on risk remediation activities and have now added a group of credits known as watch list credits to our targeted derisking activities. Watch list credits are those for which there may be heightened potential for future adverse development based on certain quantitative and qualitative factors and which we will also target in our efforts to improve the overall quality of AAC's insured portfolio. We believe that these steps will enhance our overall focus on actively derisking the insured portfolio, reducing its long-term volatility and improving the quality of adjusted book value.

Turning now to some transaction highlights for the fourth quarter. Active remediations and normal runoff of our book resulted in a 6% decrease in net par exposure and 8% decrease in adversely classified credits since September 30. We achieved a number of key successes with respect to adversely classified credits during the fourth quarter, including: the negotiated refinancing of $145 million of adversely classified bonds related to Chicago public schools; next, the termination of a number of residential mortgage-backed security transactions, which reduced adversely classified credits by $422 million; and third, the refinancing of the only non-investment grade CDS left in our portfolio, further reducing adversely classified credits by $74 million.

Turning now to litigation. Our RMBS litigation continues to progress. In the primary Countrywide case, briefing of our appeal to the highest court in New York was completed during the fourth quarter, and we are awaiting a date for oral arguments to be heard by the court. The judge that has been overseeing this case has advised us that she will not set a trial date until the Court of Appeals issues a decision. Based on what we know of the appellate court schedule, we believe the earliest we could reasonably expect a trial to occur is in the latter half of the year. Our other case against Countrywide that is pending in New York as well as our cases against Nomura and First Franklin are progressing, and conclusion of fact discovery is expected by the end of the second quarter.

Turning now to Puerto Rico. Ambac is pleased that the Bipartisan Budget Act of 2018 provides billions in additional federal aid, and also requires Governor Rosselló to develop a 12- to 24-month economic and disaster recovery plan and periodically provide progress reports to Congress. Such increased transparency and accountability is also foundational to any restructuring process, yet continues to be absent in Puerto Rico.

Ambac and a broad group of creditors had just days before issued statement calling for the same transparency in connection with the fiscal plan development and restructuring process. Ambac and the other creditors identified many deficiencies in the revised fiscal plan and ways in which it fails to comply with the core requirements outlined in PROMESA. Among many other weaknesses, the plan uses healthcare costs and government spending assumptions that contradict the government's own out-migration forecast, and the plan fails to fully account for cash held at various accounts that may be available to meet needs outlined in the plan. In short, we do not view the fiscal plan as a realistic starting point for restructuring Puerto Rico's debt and, more importantly, do not believe that it will lead to renewed capital market access, which is the ultimate goal of PROMESA.

The Commonwealth and the Oversight Board need to stop engaging in protracted legal battles and start developing and implementing holistic solutions, which will use public and private funds to revitalize the local economy. This can only be accomplished in consultation and coordination with creditors and potential investors. The focus needs to be on stabilizing Puerto Rico's financial profile, capital market access and ability to provide for its residents.

Respect for legal rights and upholding the rule of law is essential to accomplish these goals. In this regard, we were pleased to see the Oversight Board, in its recent filing, recognize that under Puerto Rico law, a dedicated sales tax was transferred to COFINA and should not be considered available resources for the Commonwealth. We vehemently disagree with the suggestion of the Oversight Board that PROMESA allows these proper rights to be ignored and expect that issue to be strenuously litigated. Congress created the Oversight Board so that the Oversight Board can make the tough decisions that politicians are elected to make to put Puerto Rico on a path towards economic growth. The Oversight Board is failing in its basic goal and continues to ignore the basic precepts set forth in PROMESA.

Unfortunately, the court's recent ruling on Ambac's HTA complaint, holding that the fiscal plan is not subject to review for its compliance with requirements of PROMESA, may further limit the Oversight Board's willingness to cooperate with creditors in development and review of the revised fiscal plan. While unfortunate and, we believe, wrongly decided, this decision is consistent with Judge Swain's recent rulings in related litigations, where, in our opinion, she similarly misapplied existing precedent and failed to consider long-term customs and practices of the municipal market, resulting in rulings that deviate significantly from municipal bond market expectations, particularly with respect to continued payment on revenue bonds. These rulings are being appealed.

Continued lack of progress, unnecessarily lengthy legal battles, further protracted resolution timelines and persisting uncertainty will result in the failure of PROMESA law and the stated mission of the Oversight Board as well as lead to increased cost and burden. Failure to progress matters in an efficient manner will only stand to benefit the Oversight Board, advisers and lawyers at the expense of the people of Puerto Rico. The situation in Puerto Rico continues to reflect significant uncertainty, which could result in material losses to creditors, including Ambac. We plan to continue to actively pursue dialogue with local and federal officials and progress all aspects of our strategy and litigation with respect to mitigating losses in Puerto Rico.

Now I would like to turn the call over to David Trick to discuss the financial results in greater detail. David?

Thank you, Claude, and good morning. Relative to the third quarter, our fourth quarter results reflect lower loss and loss expenses, higher investment returns and higher gains from interest rate derivatives, all partially offset by lower premiums earned. For the fourth quarter of 2017, Ambac reported a net loss of $19.5 million or $0.43 per diluted share compared to a net loss of $190.9 million or $4.20 per diluted share for the third quarter of 2017. Adjusted earnings in the fourth quarter were $5.5 million or $0.12 per diluted share compared to an adjusted loss of $149.8 million or $3.30 per diluted share in the third quarter.

Turning to some more specifics on our financial results. Premiums earned were $31.5 million during the fourth quarter versus $53 million during the third quarter. Normal earned premium decreased during the quarter to $22.7 million from $26.8 million or about 15%, primarily due to the continued runoff of the insured portfolio. Accelerated premium declined by $17.4 million to $8.8 million, mainly due to the proactive derisking of 2 material and short international transactions during the third quarter, which resulted in the acceleration of about $14 million of premium. Accelerated premium also declined due to a 10% reduction in public finance net protocols driven by runoff of insured callable exposure.

Net investment income for the fourth quarter and the third quarter of 2017 was $107.1 million and $87.2 million, respectively. As noted previously, net investment income for the fourth quarter was impacted by accelerated discount accretion on investments in AAC-insured RMBS securities, resulting from updated cash flow projections incorporating the impact of the expected first quarter 2018 Segregated Account exit from rehabilitation. The increase in investment income was tempered by increase in cash and short-term investments and, consequently, a reduction in portfolio duration as we completed the liquidity buildup required to close the Seg Account rehabilitation exit transactions. Shortening duration over the last few quarters provide the added benefit of positioning us well in the face of rising rates.

Mark-to-market gains on invested assets classified as trading were $3.1 million in the fourth quarter of 2017 compared to $4.9 million in the third quarter of '17. The decline in fourth quarter trading income was a reflective of a strong third quarter, particularly with regards to our holdings of Corolla notes.

Losses and loss expenses incurred were $102.3 million for the fourth quarter of 2017, down from $209.8 million for the third quarter. The fourth quarter incurred losses were driven by adverse development in public finance and RMBS portfolios, offset by improved credit performance in the international portfolio. More specifically, public finance produced incurred losses of $42.2 million, mostly due to adverse development in Puerto Rico versus $212.5 million in the third quarter. RMBS produced incurred losses of $18.2 million in the fourth quarter, driven by excess spread compression, loss expenses incurred and a modest reduction to the rep and warranty credit. These items were partially offset by a $21.8 million benefit from the termination of 20 RMBS transactions during the quarter.

The third quarter benefit of $34.4 million included a pooled mortgage insurance policy recovery resulting from a settlement between the trustee and the mortgage insurer, the proceeds from which were received during the fourth quarter. Ambac UK produced an incurred benefit of $7.3 million in the fourth quarter, down modestly from the third quarter, mainly due to improved credit performance and foreign exchange gains as the pound, Ambac UK's functional currency, strengthened relative to the dollar in Europe.

Interest rate derivative gains were $23 million in the fourth quarter compared to $4 million in the third quarter. Our interest rate derivative position continues to serve as an effective partial hedge against the impact of rising rates on our insured and investment portfolios. The company is well positioned for rising rates as the derivative portfolio maintains a sensitivity of approximately 800,000 for each basis point increase in interest rates.

Fourth quarter operating expenses decreased by $5.1 million from the third quarter to $28.7 million. The decrease was mainly due to a $3.6 million reduction to severance costs related to third quarter -- to the third quarter from wide corporate reorganization and the resulting reduction in salary expense, partially offset by an increase in performance-based incentive compensation. Noncompensation expenses also declined during the fourth quarter, led by a near $2 million decrease in restructuring cost to about $5 million and about $1 million of other cost reductions, partially offset by close to $3 million of additional OCI advisory expenses.

As noted previously. We remain focused on reducing our core operating expenses but also anticipate that we will experience volatility quarter-to-quarter associated with the normal course of operations and various other events. That said, restructuring and OCI fees accounted for a total of just over $10.2 million in the quarter compared to approximately $9.2 million in third quarter. These amounts equate to approximately 62% and 54% of noncompensation expenses during the fourth and third quarters of 2017, respectively. After the successful conclusion of the Segregated Account rehabilitation and beginning with the second quarter of 2018, we will not incur additional restructuring cost, and OCI-related costs will be reduced materially.

Regarding taxes. Our fourth quarter provision of $12.6 million reflects an estimated net $1.9 million cost to related to the passage of the Tax Cuts and Jobs Act, along with $8.7 million of Ambac UK current taxes and $2 million of state taxes. The $1.9 million net impact related to the implementation of the new tax law includes $31 million of deferred taxes associated with foreign subsidiaries, which will reverse over time, partially offset by a $30 million benefit from the repeal of the corporate AMT. We expect the AMT credit, which will benefit AAC, will be refunded in installments through 2021.

For the 2017 tax year, AAC has utilized NOLs in an amount that resulted in the accrual of $30.5 million of tolling payments for AFG. We expect AFG to receive this amount in May 2018. Our NOLs now total approximately $3.7 billion, including $1.4 billion associated -- allocated to AFG and $2.3 billion allocated to AAC.

Our fourth quarter total comprehensive loss of $127.8 million led to a decrease in stockholders' equity at December 31, 2017, to $1.4 billion or $30.52 per share from $1.5 billion or $33.33 per share at September 30, 2017. The total comprehensive loss was due to the net loss for the fourth quarter and unrealized mark-to-market losses on certain Ambac insured bonds held in the investment portfolio.

Adjusted book value was $1.1 billion or $24.34 per share at December 31, 2017, compared to $1.1 billion or $24.50 -- $24.56 at September 30. On a stand-alone basis, as of year-end 2017 and after the restructuring transaction, AFG held cash and investments, including net securities receivables, of approximately $377 million and $385 million or $8.32 and $8.49 per share, respectively. The majority of these assets were invested in AAC-issued and related securities.

The impact of the Segregated Account rehabilitation exit transaction will be recognized in the first quarter of 2018. The pro forma balance sheet as of December 31, 2017, reflecting the estimated impact of the transaction, was included in our public disclosures. Notably, the pro forma estimated book value and adjusted book value pickup is an increase of $344 million, bringing estimated book value to $38.08 per share and adjusted book value to $31.90 per share, an increase of approximately $7.56 per share.

That concludes my formal remarks. I will now turn the call back to Claude for some additional brief closing remarks.

Thanks, David. For 2017, we laid out a number of strategic priorities, including: the active runoff of AAC and its subsidiaries; loss recovery to litigation and the exercise of contractual and legal rights; improved cost effectiveness and efficiency of the operating platforms; rationalization of Ambac's capital and liability structures, leading to a simplified corporate governance structure and the successful exit from rehabilitation of the Segregated Account; and the exploration of selective business transactions that would offer attractive risk-adjusted returns and enable utilization of Ambac's net operating losses. We are pleased to report that we've made significant progress with respect to all our stated objectives and are continuing to advance against each.

Looking ahead for -- to 2018, we are focused on building upon our momentum from 2017 to improve the quality of our book value and leverage the overall strategic and financial flexibility achieved through the exit from rehabilitation of the Segregated Account. Having completed the restructuring transaction, a key priority for the board and management in 2018 is capital allocation at the holding company. We will continue to evaluate the best uses of our capital at AFG to deliver value to our shareholders on a tax and risk-adjusted basis, considering liquidity and the strategic needs, which may include additional investments in AAC securities, new business opportunities as well as direct and/or synthetic stock repurchases.

To date, AFG has used its capital strategically to support the creation of material value from its investment in AAC. Recently, AFG put its capital to work to support and facilitate the restructuring and presently maintains an investment of about $215 million in AAC surplus notes and secured notes. While still maturely invested in AAC securities, AFG is now better positioned to consider and act upon alternatives to put its capital to work to create long-term value for shareholders.

In conclusion, I would like to thank our shareholders for their ongoing support as we navigated a successful close to 2017. As we look forward to 2018, we remain focused on executing our strategic priorities and delivering long-term shareholder value.

Operator, please open the call for questions. Thank you.

(Operator Instructions) Our first question comes from the line of Andrew Gadlin with Odeon Capital Group.

Thank you for the pro forma statements and the breakout and the disclosure comment of this $215 million of note at the holding company. Can you give us a breakout between litigation notes and the surplus notes?

David, the breakout between the secured notes is about $125 million of secured notes, and the remaining surplus notes on a fair value basis is about $88 million.

So that's -- fair amount you said close to $100 million, right? I mean...

$100 million of accrued CNI.

Got it, okay. And then, what's the pro forma cash balance on the transaction?

Cash and short-term investments is just over $100 million, $102 million. So total assets on a pro forma basis after the transaction on a fair value basis is about $384 million. And if you include the tolling payment we talked about, that would bring it up to about $450 million at the holding company.

Our next question comes from the line of Mark Palmer with BTIG.

As you think about the best use of your resources for loss mitigation, how do you put continued or additional purchases of the bonds underlying the COFINA senior insured exposures up against other options?

So I think the way we think of bond purchases is really separate from risk remediation. As we talk about our risk mitigation strategies in Puerto Rico, we are looking at our litigation, our active engagement with both federal and state officials as well as our efforts in working through both mediation and negotiations with various stakeholders. But I think at this stage in Puerto Rico, we really think of the litigation as being the key driver to most of our activity until the -- we hope the negotiation process becomes more active. On the bond purchase side, we have made some significant purchases at -- for Puerto Rico bonds, where we see the pricing of those bonds to be attractive. We hold those bonds available for sale. And they are not considered -- we do not consider them as part of our risk remediation activities, and we also do not consider them with respect to our reserving modeling calculations. So they are held independently. We do believe that in the case of a plan of adjustment and for voting purposes, that to the extent we still hold the bonds of that time, that they will be bonds that we will vote in addition to our rights under the -- our insurance policy at that appropriate time. But I think for the purposes of the remediation, we really view that as distinct from the -- our ALM and bond purchase activity.

Our next question comes from the line of Andrew Hain with Stifel.

Just want to quickly understand your segregation rights just a little bit more in detail. Just by way of an example, if you have a bond that you wrapped, which matures -- Puerto Rico I'm talking about, in light of the filing and the bond were to mature, let's say, tomorrow, my understanding is that the bondholders right segregate to you and that you will pursue claims against Puerto Rico. I want to understand how you are situated or how you view your situation in that example relative to like bondholders. And is there any risk that you are potentially treated differently?

I think the way that we would view things, obviously, as it relates to Puerto Rico, you're asking specifically or...

Well, just because it's the most realistic example out there where everybody is focused on, so yes.,, But...

Yes. So again, I think the way you describe it is correct, and I think we have segregation rights and we have unique rights as a insurer that bondholders do not have. So I think the way you described it at a high level is correct. We obviously also own a number of bonds ourselves. So I think when we look at exit plans and our rights vis-à-vis other bondholders, I think we will be looking at it both as a bondholder, given we're now one of the larger holders of Puerto Rico exposures, but also look at it through the lens of our insurance policies. And historically, I think these have been on exits and in bankruptcy situations. Monolines have been significant participants in the negotiation around the exit plans. So I think there will be, obviously, an insurance overlay that we believe will dominate as part of our insurer rights, as part of that process. But I also think that given the size of our direct bond hold holdings, that we will also have the potentially broader perspective vis-à-vis exit plans.

Yes. Okay, okay, great. And then just on that same notion. Is there precedent that you can provide there with Detroit? Or any other situations where you might have been involved where...

I think it's, again -- and probably the best example I'd point to is maybe Jefferson County. I think you've seen -- you saw their monolines, picked different directions, all of which were in their best interest but leveraging their insurer rights and also ensuring that their segregation rights were properly addressed and also situation again where certain of the monolines had relatively more meaningful holdings in certain bonds and also different litigation rights. And I think that's probably the most relevant example I would point to.

(Operator Instructions) Our next question comes from the line of Ben Clifford with Nomura Securities.

I guess my first one is in your 8-K from earlier in the month, you talked about -- on top of the pre-disclosed gain that you gave this morning to adjusted book value, there was $287 million of gains from settlement of unpaid claims, the $50 million from settlement of deferred amounts. I was just wondering if you could clarify whether that $7.56 -- the $7.50 gain to book value includes that amount or not.

Yes. That is the -- if you look at the pro forma we provided, there's a $344 million gain on a pro forma basis to book value and adjusted book value as of December 31. And the amounts you described effectively are the same amounts that affect that $344 million that would, of course, [competitive time].

So we shouldn't expect any incremental gains on top of what you already disclosed when you...

There'd be a few million dollars actually because of the accretion of interest between December 31 and February 12 when we closed the transaction. So there'll be a few million dollars of extra pickup of discount on that accretion amount.

And then my last question. The -- you disclosed in July that you had an option to purchase more of the Corolla notes. I was wondering if that option is still outstanding? Or whether you've exercised your ability to purchase those notes?

Yes. We did exercise the option. We purchased that $45 million of original face, I believe, in the third quarter.

Our next question comes from the line of Andrew Hain with Stifel.

Just to follow up. Maybe I missed it, but did you guys comment on your intentions on coupon payments on the 5.1% surplus notes? And am I right that if you do pay a coupon or if you're allowed to pay a coupon on those notes? The new Tier 2 financing, also are those cash pay? Is that correct?

That's correct. But under the surplus notes -- first of all, I think you are aware that we did get approval to pay a $13.5 million interest payment, which will be paid on March 1, which represents 6 months' interest at 5.1% on the accrued principal and accrued interest outstanding as of closing of the transaction. But under the surplus notes, we're required within 45 days of their interest payment date to request from the OCI permission to pay interest on those notes. So the -- our ability to pay note is solely with -- and is solely a decision of the OCI, but we are required to make that request every year. And you are correct, if we were to make payment on the surplus notes, it does trigger a sort of pro rata payment of interest on the Tier 2 notes.

Great. And then just so I'm clear on that, that if you were able to pay or if the OCI let the dollars out for the coupon payment, the interest will be payable on the accreted amount. And it's not retroactive, right. It'll just be on a go-forward basis?

Well, they are [PEC] notes. So we would have put aside those amounts for the notes, but they would not have to be paid in cash.

Our next question comes from the line of Charles Post with Sterling Grace Municipal Securities.

When you acquired the PRIFA bonds and COFINA bond, I assume you do not for loss of mitigation purposes. Is that correct?

We do not acquire bonds for loss mitigation. We are acquiring them as part of our ALM strategy. When we are able to acquire bonds at attractive prices, we'll look at those bonds. We focus -- we have a broad asset management, asset liability management program, but there is an allocation that we do look at acquiring our own wrap paper, and we saw attractive prices to acquire the COFINA bonds. From the perspective of matching out our liabilities, I think you can equate that the duration and risk profile of the securities, obviously, tie into our liabilities to the extent we were to maintain our holdings in those securities. So we think it is a good ALM strategy for some of those liabilities. But with these, assets are held for sale, and we have no commitment to maintain ownership of those securities in the future. So I think it's not a risk management or risk mitigation strategy but a strategy that is focused on our asset liability management.

Okay. But the -- perhaps some reserves on COFINA and PRIFA, I assume -- so we have no -- just to be clear, you have no benefit from owning those to reduce the reserves we have on those credits.

That is correct. So that's what we said, and that is correct. So the reserves are gross. We do not adjust our reserves because of buying or selling any of our wrapped bonds.

Okay. Is that the same thing on the RMBS side, too?

Yes. It is.

Okay. So we've got the gross reserves, we've got no benefit in any way to our reserves from the ownership of those underlying securities. So in theory, our book value could be understated to the extent we own those when these transactions occur and maybe we offset some of the losses with the fact that we own some of those bonds.

Yes, Charles. You could, I guess, look at it that way. But the better way to look at it, we bought these bonds, whether they're Puerto Rico, RMBS bonds, at discounts to their face, and they have attractive yields as a result of that. And so the -- if you look at the sort of discount to par at which they purchased them, there is significant value in terms of the yields and discount capture from the face value of those bonds that we captured.

And we're not seeing that value anywhere in the book value is I guess what I'm getting at.

You see it over time as those bonds accrete up, as we earn the yield over time. And too, if you're looking at book value versus the book, adjusted book value is subject to the mark to market on that portfolio.

I guess on COFINA, it's going to take some time because -- 2047, '54. I might be around, I might not be.

I hope you are.

And then on the Citigroup settlement that continues to be out there. Is there any sense for timing on that or a dollar amount? I know it says significant, so just trying to get a sense of what that could be and when that could be?

We have made what I'll say as some progress along in the process, but it's still too early to say with any level of accuracy that -- when those moneys will come in. The SEC did appoint the distribution agent. That's a positive sign and hopeful that it would be in 2018. But at this point in time, I can't give you a specific date.

Okay. And the presentation, we continue to have that language that besides the R&W, we're pursuing other recovery efforts. Are you guys pursuing anything? Does -- could it be significant? Can you comment anymore on that?

So this is language with relation to RMBS or...

No. It's in the RMBS section, where it talks about the recoveries, and then there's also a comment that you're pursuing other opportunities for recoveries.

Yes. I think -- I mean, we are always engaging in activities for enhancing our recovery. So there's a number of things that we may do in relation with servicers and other participants in our securitizations, and we also have a number of other litigations with trustees and other parties that we are pursuing to increase our recoveries.

All right. And lastly, at the very end of your presentation, you mentioned direct or synthetic stock repurchases. It's the first time I've heard you say that or maybe I missed it before. Is there a timing when you could do that, a sense for it? Is it that you're open to do it like later this year or it could take some time?

It is something that we have considered in the past, and we've been much more active now that we're exiting rehabilitation. AFG is still, as we mentioned, fairly committed to AAC between senior notes and surplus notes. But as we look at our capital allocations at the holding company, we are now, with increased flexibility, looking at other ways to create long-term shareholder value. We believe that a repurchase program may be something that could be considered more near term than previously, but we will be evaluating that along with a host of other options, including the deployment of capital in new businesses amongst others. But I think for us, I think one of the issues that we've highlighted in the past as a challenge are the issues surrounding our NOLs and the 382 rules on changing control, which is why we mentioned the -- this potential for a synthetic buyback, which may have a mitigating effect on that particular issue or limit any risk on that issue, which is now one that we have a tolerance for. So it is something that we'll consider -- continue to consider. And if and when appropriate, we'll report it back to the markets once our Board decides the timing and that decision is appropriate.

Our next question is a follow-up from Andrew Gadlin with Odeon Capital Group.

Following up on the previous question. Is the Ambac-insured muni portfolio held at ASA -- I know that the regulator pointed to that as part of the derisking done that's -- exit from rehab. Now that you're out, I mean, is there any limitations on your ability to sell any of that?

No. I don't think we have any limitations at all. So I think we're clearly committed, as I've mentioned earlier in my prepared remarks, on a strategy of derisking and as well as maximizing our returns and long-term value creation for shareholders. So again, I think we will be exploring with increased flexibility a number of options around both derisking and our ALM activity, and I think that's one of the enhancements of being out of rehab. But we've not committed either way on holding our positions other than we are certainly committed on our continued focus on derisking.

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