Decision on Ticor Sure to Offend Some : Builders Push Plan That Would Allow ‘Worthless’ Insurance
State Insurance Commissioner Bruce Bunner faces a dilemma.
Several dozen builders are pressuring him to allow them to buy what they agree could be “worthless” mortgage liability coverage from Ticor Mortgage Insurance. But, if the builders win out, investors who bought $300 million in municipal bonds could see the value of their holdings plunge.
The developers need the insurance to fulfill a legal technicality that entitles them to the $300 million in cheap bond money. They want the money to finance 50 multifamily apartment projects, mostly in California and Arizona.
But state regulators warn that Ticor Mortgage faces such large claims in connection with a troubled East Coast real estate company that it might not be able to pay up should builders default on the bond payments. In fact, they say that Ticor Mortgage faces possible insolvency, and such uncertainty makes new insurance from Ticor Mortgage worth little if anything. For these reasons they recently banned Ticor Mortgage from issuing any new policies.
Builders Don’t Care
The builders don’t care. They say that, even if the coverage proves worthless by conventional measures, it’s worth millions of dollars to them right now. They don’t even mind that they would have to pay premiums of nearly $1 million annually for the next 30 years to get it. Without it, they say, they lose access to the cheap bond funding and will have to seek regular, more expensive loans to pay for their housing projects, most of which are already complete.
If Commissioner Bunner does not allow Ticor Mortgage to insure the bonds, bondholders will simply redeem the securities and collect accrued interest. But if he does, “risks would be shifted from the builders to the bondholders,” says a bond expert at one of several large banks acting as trustee for the money raised in the bond issue. The banker spoke on the condition that his name not be used.
The questionable insurance makes the bonds very risky and consequently depresses their resale price. Even if none of the builders defaults, and the bondholders collect the full value of the securities at maturity, the investors in the meantime hold an illiquid investment with severely depressed value.
Could Go Bankrupt
“It boils down to this: We have to weigh whether the needs of the developers are greater than the needs of the bondholders,” says one state insurance regulator, who spoke on the condition that his name not be used. “There are developers that could go bankrupt from this, whereas bondholders won’t be hurt at all at first, if ever.”
Adds the bond expert: “There’s always risk in a (housing) project. It’s just a matter of who gets it. There’s no question the builders are behind the eight ball right now.”
Regulators say they think that Ticor Mortgage is the first municipal bond insurer to cancel coverage because of financial difficulties. “This is a peculiar situation, no doubt about it,” says one state official. “No one seems to win.”
The plight of the builders and the bondholders illustrates the domino effect that troubles such as Ticor Mortgage’s have on investors and companies in the housing market.
One high-ranking insurance regulator estimated that “billions of dollars” of mortgages have been written by top banks on the strength of Ticor’s reputation. The regulator says the banks, which he would not identify, “have counted on mortgage insurance to buffer the cost they must absorb from defaults. Now that security is eroding.”
Ticor’s situation raises questions about the stability of the entire financial guarantee market, which totals $210 billion for mortgages alone. Insurance for securities backed by pools of mortgage funds adds another $37 billion, and municipal bond issues add tens of billions of dollars more.
Industry analysts say that the instability stems from the rising default rate on mortgages for homes appraised at unrealistically high values when inflation and interest rates were rising during the late 1970s and early 1980s. The long-term result is likely to be scarcer and costlier financial guarantees. That could result in fewer rental apartments and could make home loans harder to obtain.
The Ticor Mortgage problems began last month when state regulators banned the company, the nation’s third-largest mortgage loan insurer, from issuing new policies. The state took the drastic step three months after Ticor Mortgage revealed that it faced a potential loss of $166 million, and possible insolvency, in connection with a real estate syndicate, Equity Programs Investment Co., whose risky loans it insured.
In letters and meetings during the last several weeks, the developers and Ticor Mortgage have asked the state to make an exception to the ban. Regulators are considering the request but say they cannot act if the additional exposure would push Ticor Mortgage into bankruptcy. They say they have not heard from any of the hundreds of bondholders, including companies as well as individuals.
Terms of the $300 million in revenue bonds stipulate that the mortgage money can’t be turned over to developers until the previously guaranteed insurance is put into effect. The bonds were issued in the last few years only on the certainty that the insurance was available and at a time when Ticor’s mortgage rating was top-notch. The developers estimate that they have paid about $7 million to Ticor Mortgage in exchange for contracts promising that insurance would be issued. Now Ticor Mortgage says the state’s ban prevents it from honoring the pledge.
“I paid Ticor nearly $140,000 and they sent me a non-cancelable contract-- a non-cancelable contract! “ exclaims Tim Gannon, a developer for 20 years who estimates that he will lose at least $1 million if Ticor Mortgage doesn’t come through.
Developers and state officials say that a healthy, substitute insurer could be used to save the bond issue, but with all insurance in scarce supply, such a candidate has been impossible to find. “It looks like Ticor or nothing,” says Gannon.
Gannon and other developers warn that, if Ticor Mortgage is prevented from fulfilling its obligation, the troubled insurer and its parent, Ticor, are likely to be slapped with a string of lawsuits from angry developers who could lose an estimated $100 million during the next 10 years.
Even Greater Risk
However, if regulators allow Ticor Mortgage to go ahead, the troubled insurer will be exposed to even greater risk so that a group of developers can fulfill the letter--but not the spirit--of terms of the bond issue. Standard & Poor’s and Moody’s, the two top rating agencies, already have lowered to below investment grade their estimates of Ticor Mortgage’s ability to pay claims.
But even if builders convince Bunner to allow the coverage to be written, they still may not get their bond money, trustees say. One bank official says, for example, that Ticor Mortgage might not fulfill bonds terms that demand a qualified insurer. “Our job is to protect the bondholders,” he says. “We’d have to take a look, deal by deal.”
Insurance Commissioner Bunner, who may make a decision as early as today, must weigh all the possibilities. Even builders acknowledge the difficulty of the decision.
“He’s in a bind,” says Barbara Carol Barsky, a San Diego lawyer and developer who estimates her potential loss at over $600,000 during the next 10 years. “He doesn’t want to give us back the fees because he says that Ticor needs it, and he’s right. But if he doesn’t give us our money back, we should get the insurance.”
Ticor Mortgage’s problems rest with Equity Programs in Falls Church, Va., which in August defaulted on payments on $1.4 billion in home loans. The default, the biggest in real estate history, led most of EPIC’s limited partnerships, which had been marketed as tax shelters, to file for protection from creditors under Chapter 11 of the U.S. Bankruptcy Code.
Ticor Mortgage says it has $235 million in cash reserves. If it has to pay the total $166 million in possible claims from the EPIC default, it would be left a slim $69 million from which to pay all other claims.
By law, Ticor Mortgage can face exposure to only 25% of mortgage value. That means it could lose $75 million should all the mortgages connected with the $300-million bond issue fail. Developers have spent the last few weeks trying to convince state regulators that their projects are sound and stand little chance of default.
Regulators also must determine whether Ticor Mortgage would be obligated to pay the first 25% of a defaulted mortgage or the last 25%. The latter is less risky because even overvalued homes usually are worth 25% of their mortgage value on the open market.
The reason that builders need Ticor Mortgage, and the low-cost funding that the insurer may help them get, is simple. Municipal bonds offer lower interest rates but are attractive anyway because they are tax-free. Those who borrow the money from the bondholders thus obtain financing at rates that are lower than those offered by banks.
Municipalities Also Benefit
To build rental units, developers first borrow from banks, getting the loan largely on the assumption that they will get the government-backed bond funding. When the units are finished, builders pay the bank with the bond money and then pay the bondholders with rent collected on the apartments. Municipalities also benefit. By offering low-cost construction money, they encourage the building of affordable rental housing within their borders.
Developers say they cannot profit on such housing without cheap funding. As to the particular bonds now under review by state regulators, they brush aside any suggestion that bondholders will suffer from any increased risk.
“Bondholders always take a risk that market conditions will change,” says Barsky, the San Diego developer. “These (housing) projects are rock solid and stand no chance of failure.”
“None of us would have built these units without bond financing. The project wasn’t feasible economically without bond financing,” she says. “The coverage may be completely worthless, but without it this deal can’t go through.”
