Saturday, January 5, 2013

Freaky Friday, a Non-Event Sealing Opinion, and a Modest Proposal

Yesterday was freaky friday for MBIA's common stock, trading over 10 million shares, compared to a daily average (for the trailing three months) of less than 3 million shares, and the MBIA common stock closed at $9.09, up almost 12% for the day.  Moreover, there was some curious trading in the January 19, 2013 calls, with over 31,000 contracts (representing 3,100,000 shares) traded in the $9, $10 and $11 calls.  Only about 2,000 corresponding puts were also traded, so it appears that the heightened option activity was not an instance of sophisticated hedging, but rather the establishment of speculative positions. 

Curious minds might wonder why?

One putative explanation is that during the day Justice Bransten released her order regarding Bank of America's (together with its affiliates, BAC) motion to seal various exhibits to MBIA's motions for summary judgment (SJ) on primary and successor liability.  The SJ motion for primary liability was argued December 12-13, 2012, and the SJ motion for successor liability will be argued this coming week.  Indeed, Justice Bransten may decide January 7 to permit the successor liability arguments to be televised.  So perhaps the reason for the spike in MBIA's common stock activity can be attributable to the sealing decision or the prospective successor liability SJ argument.

The sealing decision, however, was largely a non-event.  It can only be described as a split decision, as BAC was able to seal most of the confidential reserve data and calculation information that it wanted to keep secret, and the only BAC settlement information that Justice Bransten ordered unsealed related to a settlement the terms of which were at least partially disclosed (and as is BAC's wont, created as many questions as it answered).  So, either the market suffered an utter headfake if it was basing its upward bias on the unsealing decision, or the explanation for the trading froth lies elsewhere.  For that, readers might speculate as well as I can.

But as to another matter of speculation, I can offer a modest proposal.

It does occur to me that BAC's desire to maintain confidentiality, and indeed even create confusion, over the terms of any settlement with MBIA could be exploited by MBIA if MBIA were to propose a settlement structure that would involve the sale by MBIA of stock of MBIA Insurance (Securitization Sub) to BAC.  Securitization Sub is both the obligor on the cds that BAC holds that MBIA wishes to terminate, and the beneficiary of any payment by BAC in settlement of MBIA's fraud and putback actions against BAC.  Apart from these transactions, Securitization Sub maintains a rather noncontroversial investment portfolio backing an insurance guaranty exposure that should be relatively easy to value.

The benefit of settling the MBIA v BAC fraud and putback actions as well as the BAC v MBIA article 78 action and the commutation of the cds by means of a sale of Securitiztion Sub is that BAC would have substantial lattitude to account for the transaction in the manner it sees fit, and its public disclosures regarding the transaction would be couched more in terms of purchase price for Securitization Sub stock than the cost of settling any legal action.

For example, suppose hypothetically that MBIA and BAC were to agree to a net payment by BAC to MBIA of $2 billion in settlement of all legal actions between them and the commutation of the cds, and that Securitization Sub's remaining value, ex-litigation, was $300 million.  This $2 billion settlement could be structured as a $2.3 billion sale of Securitization Sub by MBIA to BAC ($1.6 billion of this purchase price would pay off Securitization Sub's borrowing from MBIA), and no specific disclosures of the amounts paid in settlement of any claims need to be made.

Moreover, BAC could avoid taking any hits to its earnings if it has under-reserved for the fraud and putback actions and maintained a higher carrying value for its cds.  Rather, BAC would apply this $2.3 billion purchase price to the carrying value it would establish for the Securitization Sub stock that it just purchased.  This sleight of accounting would involve a conversation between BAC and its accountants, of course, in which, one suspects, BAC would be rather persuasive.

NB:  this blog is not intended to be investment advice, and should not be relied upon by anyone to constitute investment advice.  Investing is a tough game, and everyone must do and "own" their own work, because you will certainly own your investments.

Disclosure: long MBI.  Follow me on twitter.

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