MGIC Investment Corp (MTG) 2005 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the MGIC Investment Corp.'s third quarter earnings call. At this time all participants are in a listen-only mode. Later we will conduct a question and answer session and instructions will follow at that time. If anyone should require assistance in the conference, they may press star then zero on their touch-tone telephone. As a reminder this conference call is being recorded. I would now like to introduce your host for today's conference, Mr. Mike Zimmerman. Mr. Zimmerman, you may begin.

Thanks, Kelly. Good morning and thank you for joining us today on the call and for your interest in MGIC Investment Corporation. Joining me today to discuss the third quarter results are President and CEO Curt Culver, Executive Vice President and CFO, Mike Lauer, Executive Vice President of Risk Management Larry Pierzchalski. Our earnings release of this morning, which may be accessed on our website located at www.mgic.com, includes additional information about the Company's quarterly results that we will refer to during the call and include certain non-GAAP financial measures. During the course of this call we may make comments about our expectations of the future. Actual results could differ materially from those contained in these forward-looking statements.

Additional information about those factors that could cause actual results to differ materially from those discussed on the call are contained in the earnings release. If the Company makes any forward-looking statements we are not undertaking an obligation to update those statements in the future in light of subsequent developments. At this time I would like to turn the call over to Curt.

Thanks, Mike. Good morning. Net income in the third quarter totaled 142.4 million compared with 134.1 million a year ago. Diluted earnings per share was $1.55 versus $1.36 a year ago. New insurance written was 18.1 billion which was up 9% from the second quarter and flat with last year. The new insurance written was comprised of 11.4 billion of flow and 6.8 billion of bulk, with year-to-date flow down 15% from last year and year-to-date bulk up 41% year-over-year. Persistency ended the quarter slightly lower at 60.2% versus 60.9% last quarter. During the quarter the yield on the ten year treasury started at just over 4% then rose to 4.4% in early August and then fell to 4.01% by the end of August. Since that time the yield has risen to the current level of just under 4.4%.

This in turn put pressure on persistency as 30 year mortgage rates bounced from a low of 5.4% in late June to 5.9% by the end of July, then fell again to 5.65 before beginning to recover at the current level of just under 6%, at 5.95%. Most forecasts are calling for rates to move higher for the balance of 2005 and into 2006 within a range of 6% to 6.5%. There tends to be approximately a quarter lag between origination activity and its impact on MGIC's results which can cause a relationship between a cancellation rate and the persistency rate to be mismatched in periods when there is a change in the direction of mortgage rates. But as a result of all these numbers, we did have weaker persistency and as a result insurance in force decreased modestly to 170.2 billion from 171.8 billion last quarter and is down 5.3% from last year.

The average premium earned was 71.5 basis points compared to 72.5 basis points last quarter and 72 basis points a year ago. The drop in yield was primarily the result of the large 2003 bulk book cancellations as two year prepayment penalty provisions expired and borrowers took advantage of more favorable terms in the primary market. Regarding credit losses, paid claims were 157 million, up 9% from 144 million a year ago but down 1 million from last quarter. Our reflecting a modest increase in our delinquency account coupled with an improvement in our claims rate, losses incurred totaled 146 million in the quarter, 14% lower than a year ago but up 9 million from last quarter. Underwriting expenses in the quarter totaled 70.6 million versus 69.7 million a year ago and 70 million last quarter -- or 69 million last quarter. Income from joint ventures net of tax was 31.7 million versus 29.6 million a year ago and 44.5 million in the second quarter.

As we look to next year mortgage originations are expected to be down approximately 20% from this year with a reduction virtually all in the refinance sector. However, even though the general market will be down 20%, I believe our volumes will be flat with this year due to the positive impact of higher interest rates on piggyback loans coupled with the growing success of our single file products which should lead to somewhat higher mortgage insurance penetration. In addition I think credit spreads will widen somewhat and give us more opportunity in our bulk channel. Higher rates plus slowing home price appreciation will also have a positive impact on persistency, although the pace and degree of persistency improvement will be dependent on both these factors. Paid losses should be down marginally from this year with delinquency development dependent on employment. And finally expenses should be up marginally from 2005. With that let's take questions.

[OPERATOR INSTRUCTIONS] Our first question comes from Geoffrey Dunn from KBW.

Good morning. I wanted to get into the run off of the '03 book a little bit. This is something you guys have talked about before but it definitely looked like a surge occurred this quarter as some of those two-year periods expire. How long do you think that this surge of the '03 book will continue and, as you think about the profitability of what have you are putting on now versus the profitability that's running off, where do you think the premium yield is going to stabilize?

With regard to the run off of the bulk '03 business, a lot of that business is two year ARMs tied to the six month LIBOR. Six month LIBOR is up around 300 basis points today versus the period when it was originated. So you can understand the motivation to maybe refinance out of that given the 300 basis point rise in the interest rate as it comes to its adjustment, it's first adjustment, from origination two years past. The persistency pattern to date, including this rise in cancellations now, was not totally unexpected. We do model large increases in cancellations on the second and third year anniversaries for two and three year ARMs. There is probably own only about 40% of that book remaining, so going forward I don't think the '03 book bulk will impact that much going forward.

I think from a profitability standpoint you lose some of the revenue but you also lose some of the claims. So net/net you probably lose a little bit in that transaction but once again it was modeled. The credit spreads, going to your other question about the premium rates, the credit spreads haven't widened out yet, so we are putting on new business. The average premium rate is close to where the average premium rate on the portfolio is. We are starting to get the feel of vibes that the credit spreads may widen out here, in which case we think we will probably not only write more business but also at maybe slightly higher premium rates. But the new business is being put on akin to the average premium rate on the bulk portfolio.

One last question. I think your previous paid loss guidance was that the second half of the year would be flat with the first half. Is that still hold?

Yes. I think -- this is Mike. We paid 156.6 million in the third quarter. 158 in the second. And I think going forward in the fourth quarter, paids will be flat to the 156. So we're pretty much on target for where we were. At the beginning of the year I said paids would be between 600 and 630 million and we are probably in the 615 to 620 zone right now for the total year.

The next question comes from Ed Groshans from Fox-Pitt, Kelton.

I just have one follow-up on, you were talking about the 40% of the book remaining, that's 40% of the bulk book in 2003?

The second half, 36%, actually.

Thank you. You mentioned something with the claims rate and some improvement in there. I wonder if you could talk about that and if that's expected to go forward?

Mike, again. I think as I commented in the second quarter, although we had seen a reduction in delinquencies quarter to quarter in the first and second quarter, we hadn't seen much improvement in the percentage of delinquencies going to claim. But they had moderated. I would guess I was pleased with that. In the third quarter we actually saw in some markets the percent of claim or percent of delinquencies going to claim decline. So an improvement, if you will, in the development. And we saw that across the number of markets and in all products.

So that was encouraging. Not withstand the fact that we did see some slight increase, I would say seasonal in notices. We would anticipate in the fourth quarter another increase in delinquencies and that would be a seasonal adjustment, I would say. And in addition whether or not the claim rate improvement continues would be a function of the economy. So I think we will have to wait to see, but certainly it was positive in the third quarter. The second quarter flattened out and the third quarter improved. That was, I think, a reflection of the economy and the development of the delinquencies declining.

You know, looking here we see the volume of delinquencies did increase in the quarter yet it does look like there was some reserve releases also. And I guess is that primarily related to the improvement in the claim rates?

Yes, it's a function of two things. I think the paids were down quarter to quarter about a 1.5 million and an improvement in claims rate on the current delinquencies, yes.

Is there anything -- are there some improvements in later stage buckets also that might be leading to that?

Effectively that's what it would be. It would be the older delinquencies where normally they would continue to escalate, if will you, in claims rates and that's not happened. It's in fact improved. So that's a positive development.

Our next question comes from Ken Posner from Morgan Stanley.

Curt, good morning. The subject of capital standards has been a longstanding controversy, I guess, with the mortgage insurers and some of the rating agencies sound like they are at least rethinking their approach to how they set capital standards. Putting aside questions as to state regulators and rating agencies, what's your view on roughly the right amount of capital for your business right now? Recognizing that a rating agency might not agree with you or a state might not let you dividend as much out as much as you'd like, what's your view on where the right range is?

Mike Lauer, let me just talk a couple minutes. As we've said, the benchmark, of course, is the regulatory requirement 25 to 1, but historically the rating agencies have used much lower numbers, 15 to 20 to 1. It's difficult to say in this environment what the proper number is. I think clearly because of the book run off and the profitability, we've generated some excess capital and we have dividend up dividends from the rating company and used some of that capital for dividends and stock repurchase. But it's difficult to put a number on it and say that it should be X to 1, because of your comment earlier and that is the qualifier is that the rating agencies have instructed us that they are redoing their models. In the past one or two of the rating agencies actually would show us the calculation and we had a pretty good handle on where the risk to capital would be relative to the ratings.

However, that's all changed. So it's possible that going forward when they come up with their new models that it won't be as numerically driven but rather more qualitative and I think that's where they are heading. So it's difficult to say. We were comfortable, obviously, at 15 to 1. We think -- we ran the Company at 20 to 1 and we are AA and we clearly think that 15 to 1 is a reasonable number in that area. Now, what happens subsequent to that, obviously, is maybe the change in mix of business and our economic conditions but certainly 15, 16 to 1 is a very comfortable level.

So -- by the way I'm not trying to ask you to predict what a rating agency is going to conclude because that's their business and they'll run their models. But when you sit down with them can you -- are you -- based on your model, that a reasonably prudential level would be 15 to 16 to 1? Can you make that argument to them?

Sure we have. As I said, we were AA rated at 20 to 1 with much less capital. So -- but the -- I don't think -- I think from a business standpoint and a rating agency standpoint those are discussions that you have year in and year out and their position is that business conditions change and the environment changes, the business environment changes, the products change, even the competitive position changes, et cetera. And I think they look at a number of issues to look at that. So it's no longer going to be just how we can run the book and risk assess it and come up with a number. That won't be the -- how they are going to react and that's basically what they've told us. It's going to change. They just haven't resolved how they are going to change it.

Do you make the point to the rating agencies, do you think that you should get capital relief for the captives?

We haven't made that argument because it hasn't been necessary, do you follow? We have some capital but we haven't made that position?

Why wouldn't you just make that argument? I mean, because again there are state regulators and issues about dividending, but why wouldn't you make that argument to the rating agencies?

There's some additional work and expenses to do it and time involved. And as it is we are already significantly over capitalized. It isn't really worth the effort for to us pick up another half a point or something.

Thank you.

Thanks, Ken.

Our next question comes from Paul Miller from FBR.

Thank you very much. Curt, this is a question for you and I think it's what everybody is talking about out in the mortgage market world is that now rates are going up and the Fed is being somewhat aggressive in taking the short end of the curve up and the economy might slow in '06 and we could get a, not necessarily a credit event but credit losses definitely will go higher in '06. And I think that's weighing on the whole industry from the subprime space to the MI space and here you are releasing reserves. You must see something that you like into '06 and can you just tell us what that is? Or do you also feel that in '06 could be a challenge on the credit side?

Well, I think in the last few years, relative to credit quality, is certainly not what it used to be. Now that being said -- and first of all back to the reserving, as Mike has said many, many times, it is a formula that we follow. We've had improvements in claim rates and those reserves reacted accordingly. So that was not something we did. The formulas as such show better cure rates and so we released reserves, as we would. Now back to credit quality. Again, I look at credit quality from the aspect of what are the real risk within those credit quality areas. And again we try and mitigate the risk that we insure based on that. As I look at it, it's back to who's buying the properties? I think if you got people buying for purchase versus investors that are buying to flip properties, there is where the real risk in the market is, is investors. We have got 4% of our book that's investor.

The product, if you look at the IOs, the Neg Ams and things of those sort, that's where the risk is, the fixed rate instrument. Still, you have got to love it and if you look at what we've done with our book, I think less than 1% of our book is Neg Am, ARMs and less than 5% or maybe even lower than that is IO business. So we don't have much risk there either on an instrument basis. Geography, another spot where you, certainly in this business that's what you are looking to insure against relative to catastrophic risk, and that's having too much business in any one sector of the country. And again if you look at us, California I think is 7.8% or maybe a tad lower than that relative to the risk that we have in force. So we have a great dispersion of risk. And then also I say if you look at the final area that we have been concerned about and that's been where you had limited documentation on borrowers, the all-pay sector.

In that we've got I think 7% of our flow book is in all-pay and I'm delight with that fact because we have much higher claim rates in all-pay type business. And we have more in the bulk side but on the bulk side the average LTV on the all-pay business is 80%. So we have strong collateral protection. So when you get down to the final line of the credit quality that has been detrimental to this business, I don't think it's business you've seen a lot within our Company and our, frankly our industry. It's been more things done, if you will, under the auspicious of 801010s, 8020s and other instruments. So I like where our Company sits relative to credit risk.

Did you say that 4% of your book is related to spec lending?

4% is investor.

Investor?

Investor owned properties, which we get a much higher premium rate on and we underwrite very tightly.

And --

But that is last year 23% of the transactions done were investor driven properties. And I think that's a real risk within the general marketplace.

But it seems like everybody, everybody I talk to anyway, Curt, doesn't have a lot of investor related properties. But when you see this anecdotal evidence of the 23% and you go down to Florida and you read the news articles about the condo flipping and whatnot, couldn't that, even if that starts to show weakness, could that bleed into everything else? You just think those areas will have problems but those guys who have underwritten those loans correctly probably will be okay?

Then it comes back to, on those investor owned properties, yes, that will be an issue and it will cause values to slow within those markets that are driven by investor type properties. But again, a lot of what we do in the sector that we serve is not vacation type properties where people are flipping their properties. We are serving the basic borrower. So I don't think that's a significant risk. If that does happen as you described it, as I said, it will lead to a lowering of real estate values within that sector. But as long, again, as people are employed within our business, that won't be an issue. People don't sell their properties because it went down in value, they bought it to live in it.

A lot of people make a comment that the MI guys need a big credit event to widen out the credit spreads and get maybe banks to back off from these 801010 products. Do you believe that or do you believe that the business can come back to you slowly with the home price appreciation just slowing down.

I think it's a combination of things. You are going to have slowing appreciation and we are starting to see that already in many markets. You did have the OCC guidance on May 16th from all four of the agencies relative to lending on seconds liens. I think you'll get guidance on first liens in the near future also relative to the risk in the marketplace. That is very helpful. As rates continue to increase, clearly a product like our single file and frankly other competitors have now matched our product which should make it more significant in the marketplace will also be a factor. We will slowly recover against the structured transactions in the marketplace on our own. Now to the extent there is a credit event, and I think there will be some in some markets, that will help the situation also.

Curt, thank you very much.

Thanks, Paul.

The next question comes from Bruce Harting from Lehman Brothers.

Can you just talk about the behavioral sort of theory, if you will, behind delinquencies going up versus claim rates going down and in what part of the economic cycle do you typically see that versus the reverse, or both going up at the same time? And is claim rates rising purely a function of unemployment and is that the reason we are not seeing claim rates up? And, Mike, you said that you started this year with guidance of 600 to 630 and now you are saying 615 to 620, so right in the middle of that. Are you -- did I miss, or are you providing guidance for next year yet?

Curt said earlier, I think, relative to paids, we would see a decline in paids. I think we will give you more guidance on that in January after we close up the year, but right now our forecast would be that paids would be lower in '06 versus '05. But we haven't put a number on it yet. Relative to the development, I think what I talked about was the -- normally we would anticipate seeing a seasonal increase in delinquencies in September quarter and also in the fourth quarter. But what was more important was during the second quarter we didn't see any significant increase in claims rates. If you recall during '03 and '04 where we had some significant build up of incurreds and reserves, I talked about not only the increase in delinquencies but, more importantly, the fact that delinquencies were going out at higher rates quarter to quarter.

In other words, the percent of which a notice went to claim was increasing quarter to quarter. And in the second quarter of this year we saw that moderate first and second quarter. And in the third quarter we saw some decrease in rates which was encouraging. Now relative to what that -- if that continues into the fourth quarter that would be a function of the aging of those delinquencies as well as improvement in the economy. So all of that is subject to the economy. I think, again, we will see an increase probably in delinquencies in the normal increase in the fourth quarter. Whether or not we continue to see improvements in claim rates, that will be a function, continued function of what's happening to employment and the economy.

One of your -- Curt I thought I heard you say earlier that you, too, believe that, or you believe that the rise in home equity costs may shift more market share back to the MI industry. Can you expand on that a little bit and would you call it a bottom in terms of industry penetration here?

I would call it a bottom, Bruce, and I think it's, as I said, a combination of product changes, i.e. single file, because even with the change in rates our traditional product is still not as competitive as a HELOC financing. So the product changes accompanied by the raise in the prime rate that we've seen, which clearly impacts the HELOC financing and what you are seeing now is a number of borrowers taking the joint -- that HELOC and their first and refinancing into one note because they've gone up significantly year-over-year. So that combination, as well as the OCC guidance that on May 16th that came out relative to the banks and others participating in this market, all those factors are playing a role in increasing our MI penetration. Now I remind people, it took us -- five years ago I talked about these instruments at about 10% of the business and then last year started talking about 50% of it being lost to these.

I think that process will be a slow one. It's not as those we are going to get 100% of that back tomorrow. It's going to be a slow process to increase that MI penetration. But we are trending the right way. I think we have bottomed -- hello?

I'll get back into the queue.

Mr. Harting, your line is open.

Can I ask another question or should I get back in the queue?

Yes, you can ask another question.

Okay. So if, following up on Ken's question, if one were to characterize MGIC the last few years while your competition has invested excess capital into new businesses, you've stayed the course, just stayed in a pure play in the mortgage insurance business? And from your comments it sounds like you've also avoided some of the new fangled products and have been very careful on the credit risk. But if -- the sentiment is so negative right now in the equity markets and if in the next 12 to 18 months we do see a downturn in housing markets and it takes all stocks down with it simply because people don't wait around to see who has the good credit and the bad credit, they sell all stocks together. Can you just talk about your capital management philosophy, would you step in and buyback more stock or would you see an opportunity to do more business? Can you just weigh those for us a little bit? Thanks.

Frankly a credit event would probably be positive for our Company given what I see our portfolio looking like, as well as our balance sheet, to play a role in possibly consolidating within our industry. So clearly we had interest in that in the past and will in the future. And I think those kind of events, again, given our financials and our risk management capabilities, puts us in a great position to play a role in consolidation. Now those are point in time opportunities and price opportunities. If that opportunity wasn't there, I think you would see us probably buying more of our stock back.

Thank you.

Our next question comes from David Hochstim from Bear Stearns.

Could Larry or somebody talk about what markets you are seeing more weakness in, the markets where you are not seeing an increase in cure rates? And then also I wonder if maybe Mike could talk a little bit about C-BASS and Sherman and if there is a different outlook in terms of earnings, or earnings contribution declined sequentially as promised, I guess, but just wonder what's going on with C-BASS in terms of recurring income and gains and how much they are being affected by higher rates or why their credit spreads on maybe some of the residuals they are doing business in?

Regarding the markets, really the markets primary concern continue to be the auto manufacturing markets, predominantly Ohio and Michigan, and that's really not much of a change. And there's some new news out there now with Adelphi and whatnot. And we have reasonable exposure there on our flow side, 4, 5, 6% in a couple of those states. Aside from that we continue to keep a close eye on California, but really we are not seeing much change there. And on top of that California Association of Realtors recently came out with their '06 forecast. God love them, they're calling for a 10% median home price increase next year. But they do think some of the stronger gains, especially the higher cost coastal areas, will slow. We haven't seen any real significant changes in California inventory. Some of the forecasts are calling for increases although be it slower than in the past.

Do you have some kind of a mark-to-market average LTV on the book today relative -- rather than what book is when it's -- what the LTV is when it's originated?

I don't have that offhand. We can tell you what the original. On the flow I think it was around 91%, Mike?

Yes, 93, it's a little higher than that.

On the in force or new writing?

That's in force, right, yes.

And on the bulk?

The bulk in force is around 85.

That was at the time of origination?

Origination, right.

So to the extent that most of your book is pre 2005, you've had pretty decent appreciation except in the midwest.

Even in the midwest other than a couple of states, Michigan, maybe.

So your LTVs are actually lower?

Yes, effective LTVs are.

Prices aren't going down yet. So as a couple of other people have asked or pointed out, a lot of investors are worried about deteriorating credit in the market generally and, I guess, look at your drawdown reserves, which is wholly appropriate given your reserve position and your credit picture, but it's troubling to some people who don't really understand the dynamics.

As I said earlier, you have to understand the risk we need -- when you get down to investor products, all day products, too much in the geography. That's where risk is in this business. And we are nicely diversified.

And on top of that the price point between flow and bulk, it's probably new businesses, 150,000 average on the flow and maybe closer to 200 on the bulk. But the point being we've avoided the low-end and the high-end. And the high-end typically is the spot where you see a lot of volatility when market change occurs.

What is the average claim like in the third quarter compared to the second?

That's [INAUDIBLE] was up.

Yes, in the second quarter the average claim payment for total is 25.7 and it's 26.7 in the third quarter. It's up slightly in the third quarter.

And then with C-BASS and Sherman, can Mike talk about that?

Well, I think the guidance that we give relative to the fourth quarter is probably flat to this third quarter, maybe slightly down. It would be subject to whether or not they do any special transactions. We don't look for any increase in the fourth quarter. And relative to next year, I think, depending again on Sherman, for example, how many transactions they would have, between C-BASS and Sherman we look for some increase year to year. But they had, C-BASS in particular, had a very strong year as did Sherman. So they are coming off a strong '04 year, to be even would be a plus but it's too early to call at this time.

And then just the sequential change from the second quarter to the third quarter and the decline in C-BASS, how much of -- I guess it didn't seem like there was that much of their earnings in the second quarter that were gain related. But (indiscernible) did they sell off some risk or shrink their recurring income?

C-BASS or Sherman?

C-BASS.

No, they had an increase in recurring revenue, I think, quarter to quarter. Service revenue was up and recurring revenue was up.

The decline was really just a loss of all the gains they had in the second quarter which was an unusual period?

Yes.

Okay.

And your earlier question about rates, I guess what I would say is that we had a general improvement in almost all the markets expect, I would say, the midwest. That continues to be on a claim rate side flat, no improvement.

Okay. Thanks.

The next question comes from David Chamberlain from PIMCO.

All my questions have been answered, except for just curious, on the living expense ratio picking up, is that just a product of the cancellation rate rising?

I think it's a combination of a slight increase in operating expenses. You saw our other revenue was up, contract other rating revenue was up 1.5 million or 2 million, and a decline, if you will, in premiums earned.

And finally, just on the share repurchasing, is there any reason in terms of the way you guys thought about capital management this quarter versus last when you bought back the 3.3 million, was that just as a result of the special dividend had you in the second quarter versus the third quarter.

Yes. We had a special dividend in the second quarter. We repurchased about 3.3 million in the second and another 1.1 in the third and we still have some cash, approximately 115 million at the holding Company right now.

Just to revisit the question of capital management, how active can you be in terms of repurchasing your stock at say a given price of what it is today, at $58, given what the ratings the way you do, is there any kind of constraint there?

I wouldn't say with the rating agencies other than the first step would be to get permission for the dividend, up-streaming the dividend, and then obviously reviewing that with the rating agencies.

Okay, thanks.

You have a follow-up question from Ed Groshans from Fox-Pitt, Kelton.

Since no one mentioned it, I just figured I'd follow-up. Could you talk about Katrina, any effects you are seeing now or if we are going to see some effects, when you would expect to see that to start rolling through the books?

Well, the effects now relative to reporting, I think, are minimal because we've got minimal exposure there. Less than 3% of the Company's risk in force is in the States affected by Katrina and Rita. Relative to the impact on us in general, as far as losses, no, there will be some noise in delinquencies. But again, I don't think a whole lot because of the small nature of the states in which it impacted us. But relative to the risk for us, again we insure credit risk, we are not a property and casualty company. So our risk comes about whereby an employer may have been damaged or put out of work and the people working there can no longer draw paychecks and have to pay their mortgage and are unable to because of their employer being gone. And that's what we've seen in past instances. So there's been a minimal impact to us, but there has been a small impact because of the employment situation.

And, I guess, how long before you would start to see that come through and create some of the noise in the delinquency numbers?

I think there was like a ninety-day moratorium relative to servicers, so I think fourth quarter we should start to see, get a truer picture on what's happening.

So in the fourth quarter if we start to see delinquency rise, a little piece of that may be due to the Katrina effects?

Yes.

With the claim rate, if I just try to get a little better understanding. If the claim rates stay flat at this level, would we be expecting additional reserve releases or would we see that be more stable going forward?

I think two other factors would be, that would be the number of delinquencies. If there was no change to delinquency levels and rates remain the same then there would be modest change. If in fact delinquencies would go up, then it would be a function of the level, if you will, of the increase as well as any severity changes. But at this point in time it's -- I wouldn't expect a significant increase. We don't anticipate a significant increase of delinquencies in the fourth quarter subject to, I would say, Katrina. If that happens maybe some additional information with respect to delinquencies of where they are and how many came from those states.

Can you help me, I guess the claim rates are well above where they've been historically. Is there an expectation that maybe they will come back down going forward if the economy remains strong.

The claim rates have been strong for the last two quarters -- two years I would say, almost eight quarters. And they have declined here in the third quarter and flattened out in the first and second quarters. So we were at some historic highs with respect to the percentage of delinquencies that went to claim. Pretty much because of the maturation of those delinquencies and the level. You recall that we saw a combination of things. One is that the level of delinquencies was declining, as well as improvements in employment. So the combination of those mitigated that and claim rates improved. Whether or not that continues will be a function of mostly the economy.

Okay. Thank you very much.

Thanks.

Your next question is a follow up from Geoffrey Dunn from KBW.

My question was answered. Thanks.

The next question comes from David Riddle from Avera.

This is John and David, at Avera Global Partners. Two questions regarding C-BASS. One has to do with the coming OCC guidance for first liens and the potential for shoring up capital for the category of loans which C-BASS holds. The second has to do with the role C-BASS is playing as a differentiator, if you will, of providing financial solutions in the context of your traditional mortgage insurance business. Could you help us explain, just a brief explanation of how you are using it to provide financial solutions in the context of winning traditional MI business and whether or not it's an effective tool in helping to strengthen your relationship with your traditional lending customers?

We are not using it at all relative to strengthening our relationship on the mortgage insurance side. We do share information relative to credit losses and credit default patterns, which makes us both more effective as we bid for transactions. But we don't -- what we do relative to mortgage insurance has no impact on C-BASS.

Would it be possible that your C-BASS partners do do that.

I'm sorry.

Would it be possible that your other partners in C-BASS do use it as a competitive tool to strengthen their relationships?

You mean Radiant?

Yes. Could they be doing one – (multiple speakers)?

I have no idea. They need to answer that question, not us. But MGIC doesn't. Relative to the OCC guidance, I'm not quite sure what you are asking so I don't have a response.

I'm sorry. You are not sure what I'm asking?

Yes.

I'm asking if there will be additional capital requirements for higher risk type of loans at entities like C-BASS?

They are not a financial -- you are talking about the BASEL requirements and things of that nature?

Whatever may be coming. Basel is part of it but whatever may be coming in the next round of OCC guidance, which will address the "category" of higher risk type loans.

They are not regulated by that -- by those agencies, first of all. Second, relative to, I think, the OCC guidance on first lien, it won't be capital as much as it will be just looking at the risk that institutions are taking and going in on an institution by institution basis, the banks, et cetera. It may create an opportunity for C-BASS, actually. That's what I think would happen. And relative to Basel, again, that's a couple of years down the line. So again, I – (multiple speakers).

You are saying no one will be looking at C-BASS balance sheet as a QSPE or how will they be looking at C-BASS, it's going to be exempt from this?

Who is they?

The OCC, Federal reserve, others that are involved in these joint communiques about mortgage lending.

John, this is Mike Zimmerman. They are not regulated by the financial institutions, the OCC, or OTS, FDIC, National Credit Union, that's the joint task force if you will. They are not regulated by those. They are a private entity holding the capital, so.

Oh, so no one will oversee C-BASS then?

The rating agencies do on each transaction. We do. Radiant does. Trust me.

No. I was just curious if there was any other watchdog entity out there that might be looking over that kind of stuff. It's basically you guys and the rating agency that will determine the level of capital C-BASS requires?

Effectively. Because they roll up into our financials, so they are going to be looked at as part of us as it gets consolidated.

I think there are great opportunities for them.

And then just last piece, then, when you are talking about the MI portfolio, I know that C-BASS is different but it's kind of the same kind of assets, basically mortgage based assets. And we talk about loan to values and owner occupied and all that, does that include your participation in C-BASS portfolio or not?

No, this is MGIC's portfolio.

Got it. Got it. Okay. Thank you.

The next question comes from George Largay from Dawson Capital Management. George Largay your line is now open.

Hello? Anyone there?

Excuse me, I didn't mean to get into the queue. I'm sorry about that.

The next question comes from Ken Posner from Morgan Stanley.

Just one follow-up question on the subject of capital. How much borrowing capacity would you estimate you would have at the holding Company level without jeopardizing the rating of the holding Company?

You mean increasing our debt?

That's right.

From existing levels?

Yes.

I mean, that's a discussion I would have to have with the rating agencies. Right now we are probably at about debt to equity of about 12% or 13%. It could go higher. I would have to have that conversation. And, again, it would probably be what would be the purpose of the debt, et cetera, how is it going to be used and what would the financials look like.

In the past you guys have borrowed, I think, you guys have borrowed at the holding Company to buy back stock.

We have been as high as 120, Ken. That would be the top.

And I just ask because anybody looking at the financial statement sees, relative to a 15 to 1 ratio or even something in that ballpark, more than twice as much capital and we know it's stuck in the regulated entity, but we know it's there. It's stuck because of fairly inflexible and somewhat arbitrary rules. And so from an aggregate level one might think that you could borrow a little bit more at the holding Company, not more than is prudent but a little bit more, buy back a little bit more stock and at least move the dial a little bit towards where it should be.

The only thing I can say is that we did buy back 5.5 million shares this year already and to date we've bought back about 32 million shares. So it isn't like we haven't been doing it. I think right now we are in a unique period where the book has run off and the risk has declined rapidly and I think that may be a unique period. And, of course, we built up surplus because of the profit. But, I think the Company has the ability to raise debt. Whether or not we would want to raise debt to repurchase stock or just continue to increase operating dividends out of the rating Company is a trade-off, I think, and to date we have not included the debt strategy. We've done it earlier in '01 and '02, I think. And I think currently our strategy would be to increase the dividends from the rating company and use those operating cashes.

Clearly the dividend is the best way to actually address the issue. But I just can't think of very many stocks, at least the ones I'm familiar with, where the capital is potentially twice, or more than twice, what it should be and therefore there has got to be more purpose to moving the dial in that direction, in whatever way you can, than there would be at a thrift that's right at its minimum capital ratio. Hence the question. Thank you.

Thanks.

The next question comes from Richard Diamond from Inwood Capital Partners.

I have actually two questions. One is, Curt, is it fair to say given market conditions, excess capital and potentially improving demand that the outlook for the next year at MTG is probably the best it's been in the last three to four years?

Well, I don't know how to categorize it. I would say relative to recapturing business from transactions lost on mortgage penetration, that trend is upward. The persistency trend is clearly upward, although, as I said, the pace and degree of that I'm not quite sure how quickly it will come. So that's a positive. The slowing appreciation in the marketplace is a positive for us relative to persistency. As rates rise obviously it helps the investment portfolio also, which is a positive. Now within that do you have the backdrop of credit risk that people seem to be very cognizant of as we talk here today. But again within that I think our portfolio is in a wonderful position. I don't want to categorize that this is the best of all times, but I would say the trends are positive relative to the business and the financial impacts of that will happen. I don't know how quickly. Again, I don't know if that flows through next year, but it certainly, over the next couple of years it's a very positive picture.

Second question is about terminology in regards to investor humps. To what extent is your mortgage coverage baby boomers who are buying a second home because they plan to use it and to what extent are people just buying homes where they are not going to be occupied purely for speculation? Because if I understand it correctly --

Yes, within that I would say that 4.3% that I mentioned is in our portfolio, I would expect all of that, now that's a generalization, but I would say that the high, high majority of that is second home properties. I classify that as investor properties also, because it's not primary residence. But I would expect virtually all of that to be second home properties. We are not in the business of insuring properties to have others rent it out.

And the next question is just sort of a follow on. Of that, you know, second home demand, to what extent do you believe it's being driven by demographics as much as anything else?

Clearly it is being driven by demographics. I mean, if you looked at the last, I think it's the last four years, Mike Zimmerman did this and I talked about it at our last presentation, real estate values over the last five years on single-family detached properties went up 21%, on condominiums they went up 58%. And that was documented across every region in this country. So the real growth in values has been within that sectors. You've had a return of the baby boomer in a couple of instances. One buying second homes like I did myself. Or, two, like what's happening in Milwaukee, and I think many major metro areas, you are having a return of people downtown to these wonderful condo projects that are being built. So a lot of the impact in real estate values has been condo driven caused by demographics, this large glut of baby boomers moving through the system and buying their second home or moving back downtown.

Thank you very much.

Thank you.

The next question comes from Mike Grasher from Piper Jaffray.

Good morning. Most of my questions have been answered but I did want to just raise the question around bankruptcy filings. There certainly has been a spike in those over the past four weeks. To what impact or to what relationship might we see in terms of claim rates versus the bankruptcy filings, if any at all, over the next quarter?

I'm not -- I don't think it will have much of an impact on us. I think longer term it will be positive for us, obviously. That's not a big sector where we get involved. So I think the impact is marginal. Maybe it has a slightly negative impact in the short-term but long-term for a positive.

In terms of the persistency numbers that were posted in the quarter, highlight maybe what September alone might have been on a relative basis year-over-year or what October begins to look like?

Well, Mike, this is Mike Zimmerman, the monthly number, and you have got to take it for what that is, it's a monthly persistency calculation; for the total portfolio it's 50.9%, so call it 51%. That's trended down. July and August were both, call it 55% on a monthly basis.

What were the components?

I don't have the flow and bulk broken up. It's not on the total there.

The bulk the cancellations brought that number down pretty significantly.

Correct. In a quarterly basis it was 54%. But again I think that's influenced a lot by the bulk business canceling with those prepayment penalties expiring.

And then just a housekeeping item. Do you have paid losses broken out between flow and bulk?

They should be on the supplement. There's -- the flow was 72 and bulk was 65 and other was 20 for 157.

Thank you.

The next question comes from [Ravi Shauper] from Sigma Capital.

Hello?

Ravi Shauper, your line is now open. Please check your mute button. He might have stepped away. We will go to the next question. The next question comes from Jeffrey Huffman from Columbia Management.

Hi, I'm just curious to get your thoughts regarding the alternative to PMI in the marketplace and whether or not that trend might be shifting in your favor. It seems like when I talk to other investors about your stock the reaction I often get is that PMI is no longer relevant because it's being intermediated by 8020 loans, 801010 type loans. Do you see anything in the marketplace to give you some reassurance that maybe the marketplace is shifting in your favor?

Yes, I talked about that earlier. I think we frankly -- .

I'm sorry, I missed that.

That's okay. I think we bottomed as an industry relative to our competitiveness against those alternative transactions. It's been a process that, as we talked about over the last five years, has impacted 10% of our business five years ago and probably half of our business last year. And on both coasts, probably 80% of the business. Why are we trending upward? We've had a revision in our product whereby we are charging a different premium rates relative to very high credit scores, where much of this happens, which has made us competitive, clearly, against the 80 with a purchase second we are now more competitive on a cost basis. So where the real challenge has been is against the HELOC financing and with the prime continuing to move upward as it has, it has made us very competitive relative to that instrument, although still without single file we are not competitive.

So what has happened is, again, the prime going up has raised rates dramatically on competitive instruments against us. Those are all variable rate instruments, which borrowers do not like, so they are locking into fixed rate first, which is very beneficial to us. Also through single file we make it tax deductible, which is very beneficial on a cost basis. So the combination of rate rising and product changes is making our product -- as well as the fact that it's in fixed rate versus variable rate debt, has made our product much more competitive.

Thanks a lot.

Thank you.

I'm not showing any further questions on the phone lines.

Thank you very much for your interest in MGIC. Have a good day.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program. You may now disconnect and have a wonderful day.