More On Bond Insurance

This morning's guests on CNBC provided some truly interesting and valuable insights on several topics.

One guest was T. Boone Pickens, opining on oil and natural gas prices, as well as longer term energy concerns. I'll be writing about his comments in my next post.

The other guest was one who I have seen once or twice before on Squawkbox- Doug Dachille. Mr. Dachille, from his title and the name of his firm, seems to be head of a not-large investment management firm. As I searched my prior posts, I found this post, dated exactly two weeks ago, in which Dachille's prior appearance (with Jim Cramer) is described.

I was, for the most part, impressed by Dachille. His grasp of macroeconomics left something to be desired, but his logic and comments on fixed income issues were refreshing and provocative.

This morning's appearance was no different, in terms of the quality and value of Dachille's remarks.

His focus was on the very hot topic of what is to become of AMBAC, MBIA, FGIC and other so-called financial instrument insurers.

The discussion began with remarks about noted short-seller William Ackman's proposed 'good insurer/bad insurer' plan, as well as NY State AG Dinallo's similar idea, both of which have put pressure on the insurers to do something prior to a rating agency re-evaluation of their credit ratings next week.

Dachille did an admirable job of cutting the Gordian knot surrounding the business of these bond insurers.

In essence, Dachille argued that their business is superfluous. Period. That their existence is now the result of some hoary old legislation or internal investment rules by various pension or government funds regarding the minimum rating which a security must have to be held in their portfolio.

Dachille noted that the insurers cost approximately 10-15bp for their function. In comparison, according to Dachille, fixed income managers are paid roughly 35bp.

Both fees are not necessary, according to Dachille, because only one 'due diligence' need be performed. If the insurers are truly taking the risk, via insurance, then at least a commensurate amount of fee should be removed from the managers, because their work is made easier, and risk removed for their customers.

Dachille questioned why an insurer whose financial resources are obviously inadequate to serve their obligations, whose stock price has fallen so much in the past year, and whose ratings are about to be changed to a level below many of their customers, should have any material affect on, or benefit to, a bond issuance?

Santelli agreed wholeheartedly. Both engaged in a brief dialogue suggesting that the bond insurers no longer serve an economic purpose, because they confer a sort of average risk rating, by virtue of their coverage, when buyers should really do their homework to more accurately price individually-issued municipal securities for risk.

Thus, Dachille's overall view is that there isn't really a crisis because these firms don't really add economic value now anyway.

Granted, he admits that banks holding suspect, effectively under- or soon-to-be-uninsured CDOs, will have to take further writedowns. On this note, he observed the parallel between the insurers' "crisis" and the super-SIV plans last fall.

Those plans, he noted, came to naught as banks began to just write down their losses. He feels the same should occur now, because, one way or another, the holders of these insured, but ineffectually so, instruments, will have to realize their lower values eventually.

I found much sense and value in Dachille's observations and recommendation. After years of a charade, the missteps by the bond insurers into non-municipal waters have accidentally exposed the lack of true economic utility of even their core business.