The cost to insured Ambac debt over five years is essentially the maturity value of the instrument. Bloomberg reported:
Five-year credit-default swaps on Ambac Assurance Corp. have jumped 3.2 percentage points since Nov. 9 to 78.3 percent upfront, according to CMA DataVision. That’s in addition to 5 percent a year, meaning it would cost $7.83 million initially and $500,000 annually to protect $10 million of Ambac obligations from default.
The price implies a 99% chance of default on the firm's debt. Ambac is a huge bond and mortgage insurer. The story went on to say:
Delinquency proceedings against the company would trigger termination payouts of $23.1 billion by its insurance unit on credit-default swap contracts, Ambac said in a filing earlier this month. Ambac also may be required to accelerate the payment of $1.6 billion of holding-company debt, the New York-based bond insurer said in the filing.The problem is Ambac sold credit coverage to other parties. Is that part of the $23.1 billion payout?
Banks that bought credit swaps from Ambac and other insurers to hedge against losses on mortgage- related securities used swaps on the insurers to protect themselves if the companies fail to make good on the guarantees.Might other second order consequences be in store?
Ambac isn't the only firm to have CDS reflux. ResCap, the financing arm known as GMAC, saw its credit default swaps bounce. WSJ reported:
It cost investors $4 million upfront plus a $500,000 annual fee to insure $10 million of the firm's bonds against a default.GMAC/ResCap is in line for a third injection of taxpayer money, the only large TARP bank to have failed Treasury's stress test. GMAC's new CEO may jettison ResCap, its residential mortgage unit. Will he cut off the gangrenous hand to save the body?
Rumor is the feds will watch Ambac implode, just as it did with CIT. Incidentally, The Journal noted CIT's cds will settle November 20.