Moody's Investors Service last Tuesday said the ratings for the bond insurers could be significantly affected by their exposure to second-lien RMBS losses, which are higher than the rating agency expected.

"This could have material implications for the estimated capital adequacy of financial guarantors most exposed to this risk," wrote Stanislas Rouyer, Moody's senior vice president in the bond insurance group.

Both MBIA, parent of bond insurer MBIA Insurance Corp., and Ambac Financial Group, parent of Ambac Assurance Corp., in their first-quarter earnings statements reported setting aside additional capital reserves for direct RMBS losses, which include second-lien securities.

If the losses continue to mount in second liens and other parts of the insurers' direct RMBS book, like home equity lines of credit, they could be forced to raise additional capital to meet rating agency guidelines.

"Moody's intends, in the short term, to assess whether worsening performance in this sector is likely to be material for exposed financial guarantors, and will update the market as appropriate," Rouyer wrote.

Last Monday, MBIA said it had set aside an additional $510 million to cover losses related to second-lien mortgages. The loss reserves of more than $1 billion represent roughly 10% loss severity for MBIA's second-lien RMBS portfolio, the company said in its earnings presentation.

On April 23, Ambac reported $834.5 million in losses related to second liens in the first quarter. In a similar presentation accompanying the earnings release, Ambac said, "second liens continue to drive losses in the direct RMBS portfolio."

Many of the losses for both companies are coming from exposures to Closed End Seconds, second mortgages tied to a fixed rate, that were expected to be less risky than some of the others.

"On a few deals, losses could reach as high as 80%," said Ambac Chief Executive Officer Michael Callen on the first-quarter earnings call.

Rouyer's research released Tuesday followed the publication of a special report written by Moody's structured finance analysts highlighting the poor performance in the second-lien asset class, especially for securities created between 2005 and 2007.

Moody's said it now expects second-lien RMBS losses to reach 17% on average in 2005, 42% on average in 2006 and 45% on average for those created in 2007. The worst performing deals are likely to lose more than 60% of their original value, the rating agency said.

(c) 2008 Asset Securitization Report and SourceMedia, Inc. All Rights Reserved.

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