SAN FRANCISCO (MarketWatch) --Executives of leading bond insurers Ambac Financial and MBIA Inc. admitted mistakes and took some responsibility for the current crisis in the municipal bond market during Congressional testimony on Thursday.
Ambac (ABK) Chief Executive Michael Callen also said that the company will no longer guarantee complex mortgage-related securities known as collateralized debt obligations (CDOs) and even more convoluted securities called CDO squareds.
MBIA (MBI) Chief Financial Officer Chuck Chaplin said the company has been talking with the New York State Insurance Department about restricting the type of risks bond insurers can take on in future, possibly limiting themselves to muni bonds.
However, the company also criticized short sellers, who bet against shares including those of MBIA, for spreading "false and misleading assertions" for their own benefit.
Bond insurers used to just guaranty muni bonds, becoming known as monoline insurers because they didn't take on any other types of risk. But during the 1990's, they branched out into structured finance, selling guarantees on mortgage-backed securities and CDOs. Since the mortgage crisis hit last year, concerns have grown that these companies will have to pay big claims, leaving them with less capital than they need to keep crucial AAA ratings.
That, in turn, has sparked turmoil in the muni bond market. That's because when a bond insurer is downgraded, all the securities it has guaranteed are, in theory, downgraded too.
MBIA's Chaplin admitted some responsibility for that turmoil, under tough questioning during Congressional testimony on Thursday.
"We are culpable," Chaplin said. "The fact that we have engaged in wrapping the bonds that we have, especially in the mortgage area, has resulted in the problems that we're experiencing right now."
If MBIA and other bond insurers had stuck to just guaranteeing muni bonds, "we certainly wouldn't have this problem," he added. "I'm afraid we have no one to blame but ourselves."
Ambac's Callen also said that the insurer had made mistakes.
"We guaranteed overly complicated structures known as CDO squareds," he said. "We're not happy about that. We will no longer guaranty CDOs and CDO squareds."
The biggest mistake Ambac made was assuming that the mortgages backing such securities wouldn't experience losses all at once, because they were from different parts of the U.S. But the downturn in house prices and accompanying foreclosures has unexpectedly become a nationwide problem.
In the wake of such mistakes, MBIA's CFO was asked if bond insurers should be limited to just muni bond risks in future.
"We have been having just those types of discussions with" the New York State Insurance Department, Chaplin said. "About changing the base of business that the bond insurers engage in."
Still, despite taking some responsibility for recent credit market turmoil, MBIA also criticized short sellers, such as Bill Ackman, head of hedge fund firm Pershing Square Capital Management LP, who has been betting against the company for several years.
Ackman often makes "false or misleading assertions and draws incorrect conclusions," MBIA said in a document that was submitted to lawmakers recently. MarketWatch obtained a copy.
"It's clear to us that Mr. Ackman's comments have undermined confidence in MBIA for both the fixed-income and equity markets," the company added. The "trading value of MBIA's stock and credit default swaps have weakened, providing potential financial benefit to Mr. Ackman."
The hedge fund manager, who was also testifying at the same hearing on Thursday, rebuffed the accusations, arguing that executives of bond insurers may also be acting in their own self interests.
"Management is also biased. They own stock and options. I am short stock and options," he said.
Ackman said Pershing's interests are aligned with bond insurer policyholders.
"We want the bond insurers to make good on their obligations," he said.Alistair Barr is a reporter for MarketWatch in San Francisco.