Moody's put the triple-A ratings of Financial Guaranty Insurance Co. (FGIC) and XL Capital Assurance, a unit of Security Capital
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4.74, +0.23, +5.1%) , on review for possible downgrade late Friday after re-evaluating the companies' exposure to potential subprime mortgage losses.
See full story.By issuing warnings on FGIC and XL Capital Assurance, the agency is also putting more than 90,000 securities that the companies had guaranteed on review for a possible downgrade, according to global fixed-income analysts at UBS.
The majority of those securities -- 89,709 -- are in the public finance sector, the analysts said, noting that this was "unprecedented" in the municipal bond market.
Bond insurers agree to pay principal and interest when due in a timely manner in the event of a default. It's a $2.3 trillion business that offers a credit-rating boost to municipalities and other issuers that don't have triple-A ratings.
But if a bond insurer loses its triple-A rating, the securities it has guaranteed also lose their top rating.
"I can't think of a credit watch action in my 32 years in the muni bond market that had that many securities involved," Richard Larkin, a municipal bond expert at JB Hanauer & Co., said in an interview on Monday.
Moody's said at the top of its U.S. public finance Web site on Monday that ratings may not be up to date on the site because of the large volume of rating and watchlist changes resulting from its bond insurer actions.
It's too early to tell if Moody's actions will affect muni bond prices, but it could cause widespread problems if lots of investors try to sell securities that have been put on review for possible downgrade, he added.
"The problem here is that there are so many investors with these securities. So people you're trying to sell securities to may be trying to sell some of the affected securities too," Larkin said. "In normal cases, when a security is cut to AA from AAA, the value of the bond would go down."
Bond insurer problems have already affected the muni market. In the past, the price of a municipal bond backed by a triple-A rated bond insurer was definite and secure. But now, prices have become more volatile and investors are less sure of value, Larkin said.
The difference, or spread, between yields on triple-A rated municipal bonds and similar muni debt that have a triple-A rating through bond insurance has been widening, according to David Gilliand, chief credit strategist in UBS's municipal securities group.
More municipalities that don't have triple-A ratings are selling debt without bond insurance because of that, he added during a conference call on Monday.
A lot of investors in the muni bond market have to invest in insured bonds, so they have no choice. But other investors are worried, Gilliand said.
"The rest of the market is increasingly concerned that perhaps there is more out there than the rating agencies are willing to acknowledge," he said. "There is a great unknown out there that the markets have never confronted before. That's creating a perfect storm in munis."
Alistair Barr is a reporter for MarketWatch in San Francisco.
