Loss and Loss Adjustment Expense Reserves

9 Months Ended

Sep. 30, 2021

Loss and Loss Adjustment Expense Reserves

Note 5: Loss and Loss Adjustment Expense Reserves

U.S. Public Finance Insurance

U.S. public finance insured transactions consist of municipal bonds, including tax-exempt and taxable indebtedness of U.S. political subdivisions, as well as utilities, airports, health care institutions, higher educational facilities, housing authorities and other similar agencies and obligations issued by private entities that finance projects that serve a substantial public purpose. The Company estimates future losses by using probability-weighted cash flow scenarios that are customized to each insured transaction. Future loss estimates consider debt service due for each insured transaction, which includes par outstanding and interest due, as well as recoveries for such payments, if any. Gross par outstanding for capital appreciation bonds represents the par amount at the time of issuance of the insurance policy.

Certain state and local governments and territory obligors that National insures are under financial and budgetary stress. In addition, the

COVID-19

pandemic may present additional but unknown credit risks to National’s insured portfolio. Puerto Rico had been experiencing significant fiscal stress and constrained liquidity, and in response, the U.S. Congress passed PROMESA. In formulating loss reserves, the Company considers the following: environmental and political impacts; litigation; ongoing discussions with creditors; timing and amount of debt service payments and future recoveries; existing proposed restructuring plans or agreements; and deviations from these proposals in its probability-weighted scenarios. On April 12, 2021, National, other monoline insurers and the Oversight Board reached an agreement in principle settling certain HTA clawback claims in the Commonwealth Title III case and providing for a distribution to HTA holders of cash, bonds and a contingent value instrument and on February 22, 2021, National agreed to join the GO PSA. In September of 2019, National agreed to join the RSA with PREPA, other monoline insurers, a group of uninsured PREPA bondholders, Puerto Rico, and the Oversight Board. Refer to “Note 1: Business Developments and Risks and Uncertainties” for further information on

COVID-19

and the Company’s Puerto Rico exposures.

Recoveries on Puerto Rico Losses

For recoveries on paid Puerto Rico losses, the estimates include assumptions related to the following: economic conditions and trends; political developments; the Company’s ability to enforce contractual rights through litigation and otherwise; discussions with other creditors and the obligors, any existing proposals; and the remediation strategy for an insured obligation that has defaulted or is expected to default.

As part of the GO PSA, National will receive certain consideration to include cash, bonds and a CVI. The ultimate recovery value to National will depend on the value of these assets once issued and over time. Prior to the third quarter of 2021, National’s estimate of GO recoveries was based on expected long-term cash flows and sale prices at future dates of the consideration it expects to receive from the GO PSA discounted at risk free rates used for GAAP loss reserving. In the third quarter of 2021, National updated its loss reserve scenarios, which include a probability weighting of potential outcomes, to include certain assumptions about recovery valuation on the date it expects to receive the cash, bonds and the CVI. Also in the third quarter of 2021, National modified its PREPA scenario assumptions to reflect the market insight gained from the anticipated sale of a portion of the recoverable on PREPA bankruptcy claims that had been fully satisfied by National’s insurance claim payments. The net effect of these changes in assumptions resulted in additional incurred losses for the third quarter of 2021.

International and Structured Finance Insurance

The international and structured finance insurance segment’s case basis reserves and insurance loss recoveries recorded in accordance with GAAP do not include financial guarantee VIEs that are eliminated in consolidation. In addition,

COVID-19

may present additional but unknown credit risks to MBIA Corp.’s insured portfolio. Refer to “Note 1: Business Developments and Risks and Uncertainties” for further information on

COVID-19.

RMBS Case Basis Reserves (Financial Guarantees)

The Company’s RMBS reserves and recoveries relate to financial guarantee insurance policies, excluding those on consolidated VIEs. The Company’s first-lien RMBS case basis reserves primarily relate to RMBS backed by alternative

A-paper

and subprime mortgage loans. The Company’s second-lien RMBS case basis reserves relate to RMBS backed by home equity lines of credit and

closed-end

second mortgages. The Company calculated RMBS case basis reserves as of September 30, 2021 for both first and second-lien RMBS transactions using a process called the Roll Rate Methodology (“Roll Rate Methodology”). The Roll Rate Methodology is a multi-step process using databases of loan level information, proprietary internal cash flow models, and commercially available models to estimate potential losses and recoveries on insured bonds. Roll Rate is defined as the probability that current loans become delinquent and subsequently default and loans in the delinquent pipeline are

charged-off

or liquidated. The loss reserve estimates are based on a probability-weighted average of potential scenarios of loan losses. Additional data used for both second and first-liens include historic averages of deal specific voluntary prepayment rates, forward projections of the LIBOR interest rates, and historic averages of deal-specific loss severities. In addition, for second-lien RMBS backed by home equity lines of credit, the Company assumes a constant basis spread between Prime and LIBOR interest rates. Where applicable, the Company factors in termination scenarios when clean up calls are imminent.

In calculating ultimate cumulative losses for RMBS, the Company estimates the amount of second-lien loans that are expected to be

charged-off

(deemed uncollectible by servicers of the transactions) and, for first-lien RMBS, the Company estimates the amount of loans that are expected to be liquidated in the future through foreclosure or short sale. The time to liquidation for a defaulted loan is specific to the loan’s delinquency bucket.

For all RMBS transactions, cash flow models consider allocations and other structural aspects and claims against MBIA Corp.’s insurance policy consistent with such policy’s terms and conditions. The estimated net claims from the procedure above are then discounted using a risk-free rate to a net present value reflecting MBIA’s general obligation to pay claims over time and not on an accelerated basis.

The Company monitors RMBS portfolio performance on a monthly basis against projected performance, reviewing delinquencies, roll rates, and prepayment rates (including voluntary and involuntary). However, loan performance remains difficult to predict and losses may exceed expectations. In the event of a material deviation in actual performance from projected performance, the Company would increase or decrease the case basis reserves accordingly and

re-evaluate

its assumptions.

RMBS Recoveries

The Company’s RMBS recoveries primarily relate to excess spread that is generated from the trust structures in the insured transactions. Previously, recoveries also included second-lien “put-back” claims related to those mortgage loans whose inclusion in an insured securitization failed to comply with representations and warranties (“ineligible loans”); however the Company has settled all of its put-back claims relating to the inclusion of ineligible loans in securitizations it insured. See “Second-lien Put-Back Claims Related to Ineligible Loans” below.

Excess Spread

Excess spread within insured RMBS securitizations is the difference between interest inflows on mortgage loan collateral and interest outflows on the insured RMBS notes. The aggregate amount of excess spread depends on the future loss trends, which include future delinquency trends, average time to

charge-off/liquidate

delinquent loans, the future spread between Prime and the LIBOR interest rates, and borrower refinancing behavior (which may be affected by changes in the interest rate environment) that results in voluntary prepayments. Excess spread also includes subsequent recoveries on previously

charged-off

loans associated with insured second-lien RMBS securitizations.

Second-lien

Put-Back

Claims Related to Ineligible Loans

During the first quarter of 2021, the Company entered into a settlement agreement with Credit Suisse related to its

put-back

claims. In the litigation brought to pursue these claims, Credit Suisse had challenged the Company’s assessment of the ineligibility of individual mortgage loans. In November of 2020, following a trial and post-trial briefing, the Court overseeing the litigation issued a decision declaring that MBIA Corp. had succeeded in establishing that a majority of the loans in the transaction were ineligible. In January of 2021, the Court issued an order declaring that Credit Suisse was liable to MBIA for approximately $604 million in damages. In February of 2021, the parties to the litigation entered into a settlement agreement pursuant to which Credit Suisse paid MBIA Corp. $600 million, and the Court entered an order dismissing the case. Refer to “Note 13: Commitments and Contingencies” for further information about the Company’s litigation with Credit Suisse. As of December 31, 2020, the Company consolidated the RMBS securitization originated by Credit Suisse as a VIE and, therefore, eliminates its estimate of recoveries from its insurance accounting and reflects such recoveries in its accounting for the loan repurchase commitments asset of the VIE using a fair value measurement.

CDO Reserves and Recoveries

The Company also has loss and LAE reserves on certain transactions within its CDO portfolio, primarily its multi-sector CDO asset class that was insured in the form of financial guarantee policies. MBIA’s insured multi-sector CDOs are transactions that include a variety of collateral ranging from corporate bonds to structured finance assets (which includes, but are not limited to, RMBS, commercial mortgage-backed securities (“CMBS”), ABS and CDO collateral). The Company’s process for estimating reserves and credit impairments on these policies is determined as the present value of the probability-weighted potential future losses, net of estimated recoveries, across multiple scenarios. The Company considers several factors when developing the range of potential outcomes and their impact on MBIA. A range of loss scenarios is considered under different default and severity rates for each transaction’s collateral. Additionally, each transaction is evaluated for its commutation potential.

Zohar Recoveries

MBIA Corp. is seeking to recover the payments it made (plus interest and expenses) with respect to Zohar I and Zohar II. In March of 2018, the then-director of Zohar I and Zohar II placed those funds into voluntary bankruptcy proceedings in federal bankruptcy court in the District of Delaware (the “Zohar Funds Bankruptcy Cases”).

Salvage and subrogation recoveries related to Zohar I and Zohar II are reported within “Insurance loss recoverable” on the Company’s consolidated balance sheet. The Company’s estimate of the insurance loss recoverable for Zohar I and Zohar II includes probability-weighted scenarios of the ultimate monetized recovery from the Zohar Assets.

Notwithstanding the monetization procedures agreed to in the Zohar Funds Bankruptcy Cases and confirmed by the court, there can be no assurance that the monetization of the Zohar Assets will yield amounts sufficient to permit MBIA Corp. to recover a substantial portion of the payments it made on Zohar I and Zohar II. In particular, as the monetization process unfolds and new information concerning the financial condition of the portfolio companies is disclosed, the Company may revise its expectations for recoveries. For example, at a June 3, 2020 hearing, counsel for one of the portfolio companies announced that the monetization process for that company would be delayed as a consequence of having to investigate issues relating to the integrity of the company’s financial statements. Failure to recover a substantial portion of the payments made on Zohar I and Zohar II could impede MBIA Corp.’s ability to make payments when due on other policies. MBIA Corp. believes that if the NYSDFS concludes at any time that MBIA Insurance Corporation will not be able to pay its policyholder claims, the NYSDFS would likely put MBIA Insurance Corporation into a rehabilitation or liquidation proceeding under Article 74 of the NYIL and/or take such other actions as the NYSDFS may deem necessary to protect the interests of MBIA Insurance Corporation’s policyholders. The determination to commence such a proceeding or take other such actions is within the exclusive control of the NYSDFS.

Summary of Loss and LAE Reserves and Recoveries

The Company’s loss and LAE reserves and recoveries before consolidated VIE eliminations, along with amounts that were eliminated as a result of consolidating VIEs for the international and structured finance insurance segment, which are included in the Company’s consolidated balance sheets as of September 30, 2021 and December 31, 2020 are presented in the following table:


	As of September 30, 2021						As of December 31, 2020
In millions	Balance Sheet Line Item						Balance Sheet Line Item
	Insurance loss recoverable			Loss and LAE reserves (2)			Insurance loss recoverable			Loss and LAE reserves (2)
U.S. Public Finance Insurance	$	1,286		$	386		$	1,220		$	469
International and Structured Finance Insurance:
Before VIE eliminations (1)		254			682			1,082			780
VIE eliminations (1)		(3	)		(218	)		(625	)		(259	)

Total international and structured finance insurance		251			464			457			521

Total	$	1,537		$	850		$	1,677		$	990

(1) - Includes loan repurchase commitments of $604 million as of December 31, 2020.

(2) - Amounts are net of expected recoveries.

Changes in Loss and LAE Reserves

The following table presents changes in the Company’s loss and LAE reserves for the nine months ended September 30, 2021. Changes in loss and LAE reserves, with the exception of loss and LAE payments and the impact of the revaluation of loss reserves denominated in amounts other than U.S. dollars, are recorded in “Losses and loss adjustment” expenses in the Company’s consolidated statements of operations. As of September 30, 2021, the weighted average risk-free rate used to discount the Company’s loss reserves (claim liability) was 1.52%. LAE reserves are generally expected to be settled within a

one-year

period and are not discounted. As of September 30, 2021 and December 31, 2020, the Company’s gross loss and LAE reserves included $33 million and $30 million, respectively, related to LAE.


In millions	Changes in Loss and LAE Reserves for the Nine Months Ended September 30, 2021
Gross Loss and LAE Reserves as of December 31, 2020 (1)	Loss Payments	Accretion of Claim Liability Discount	Changes in Discount Rates	Changes in Assumptions	Changes in Unearned Premium Revenue	Other	Gross Loss and LAE Reserves as of September 30, 2021 (1)
$990	$(298)	$11	$(25)	$173	$3	$(4)	$850

(1) - Includes changes in amount and timing of estimated payments and recoveries.

For the nine months ended September 30, 2021, the Company’s loss and LAE reserves declined primarily due to payments made on certain Puerto Rico exposures and a decrease in expected payments related to certain insured first-lien RMBS transactions as a result of an increase in risk-free rates used to present value loss reserves during the period. This decline was partially offset by unfavorable changes in future recoveries of unpaid losses due to a change in assumptions as well as the increase in risk-free discount rates on certain Puerto Rico exposures.

Changes in Insurance Loss Recoverable

Insurance loss recoverable represents the Company’s estimate of recoveries on paid claims and LAE. The Company recognizes potential recoveries on paid claims based on the probability-weighted net cash inflows present valued at applicable risk-free rates as of the measurement date. The following table presents changes in the Company’s insurance loss recoverable for the nine months ended September 30, 2021. Changes in insurance loss recoverable with the exception of collections, are recorded in “Losses and loss adjustment” expenses in the Company’s consolidated statements of operations.


			Changes in Insurance Loss Recoverable
			for the Nine Months Ended September 30, 2021
In millions	Gross Reserve as of December 31, 2020		Collections for Cases			Accretion of Recoveries		Changes in Discount Rates		Changes in Assumptions (1)			Other (2)			Gross Reserve as of September 30, 2021
Insurance loss recoverable	$	1,677	$	(74	)	$	12	$	5	$	(80	)	$	(3	)	$	1,537

(1) - Includes amounts related to paid claims.

(2) - Primarily changes in amount and timing of collections and LAE.

The decrease in the Company’s insurance loss recoverable reflected in the preceding table was primarily due to a decrease in expected recovery assumptions on CDOs, the collection of salvage related to certain CDO transactions and the collection of excess spread related to the termination of certain second-lien RMBS trusts. This decrease was partially offset by the amount of claim payments made during 2021 that the Company expects to recover on certain Puerto Rico credits.

Loss and LAE Activity

For the three months ended September 30, 2021, loss and LAE incurred primarily related to changes in loss scenario assumptions on the Puerto Rico GO and PREPA credits, as well as a decline in expected salvage collections related to CDOs. In the third quarter of 2021, National modified its GO scenario assumptions to incorporate the final terms of the Plan of Adjustment. This includes a commutation of 27% of

National’s outstanding insured bonds and an acceleration of National’s remaining insured bonds. In addition, National updated its GO loss reserve scenarios to include certain assumptions about recovery valuation on the date it expects to receive cash, bonds and a CVI. These assumption changes decreased expected GO recoveries. Also in the third quarter of 2021, National modified its PREPA scenario assumptions to reflect the market insight gained from the anticipated sale of a portion of the recoverable on PREPA bankruptcy claims that had been fully satisfied by National’s insurance claim payments, which decreased its expected PREPA recoveries, partially offset by additional expected recoveries under the PREPA RSA.

For the nine months ended September 30, 2021, loss and LAE incurred primarily related to the changes in loss reserve scenario assumptions on the PREPA credit discussed above, and reflects changes in loss reserve scenario assumptions on HTA exposure to reflect the most recent Plan of Adjustment. In addition, an increase in the risk-free rates used to discount the value of long-dated future recoveries on Puerto Rico exposures contributed to loss and LAE incurred. Loss and LAE incurred also reflects a decrease in expected salvage collections related to CDOs. This was partially offset primarily by a decrease in the present value of loss reserves related to first-lien RMBS transactions as a result of the increase in risk-free discount rates.

For the three months ended September 30, 2020, loss and LAE incurred primarily related to a decrease in expected salvage collections related to CDOs, an increase in incurred losses on RMBS transactions and an increase in actual and expected payments on certain Puerto Rico credits. For the nine months ended September 30, 2020, loss and LAE incurred primarily related to a decrease in expected salvage collections related to CDOs, an increase in actual and expected payments on certain Puerto Rico credits and an increase in incurred losses on first-lien RMBS transactions. Overall, risk-free rates used to discount loss reserve and recovery cash flows declined during the nine months ended September 30, 2020. The decline in risk-free rates used to present value recoveries on certain Puerto Rico credits resulted in a loss and LAE benefit for the period. This was partially offset by loss and LAE incurred from a decline in risk-free rates used to present value future claim payments across the Company’s insured portfolio.

Costs associated with remediating insured obligations assigned to the Company’s surveillance categories are recorded as LAE and are included in “Losses and loss adjustment” expenses on the Company’s consolidated statements of operations. For the three months ended September 30, 2021 and 2020, gross LAE related to remediating insured obligations were $4 million and $8 million, respectively. For the nine months ended September 30, 2021 and 2020, gross LAE related to remediating insured obligations were $17 million and $25 million, respectively.

Surveillance Categories

The following table provides information about the financial guarantees and related claim liability included in each of MBIA’s surveillance categories as of September 30, 2021:


	Surveillance Categories
$ in millions	Caution List Low		Caution List Medium		Caution List High		Classified List			Total
Number of policies		58		3		-		203			264
Number of issues (1)		17		2		-		89			108
Remaining weighted average contract period (in years)		5.9		2.2		-		8.4			7.5
Gross insured contractual payments outstanding: (2)
Principal	$	1,480	$	7	$	-	$	2,741		$	4,228
Interest		1,952		1		-		1,240			3,193

Total	$	3,432	$	8	$	-	$	3,981		$	7,421

Gross Claim Liability (3)	$	-	$	-	$	-	$	897		$	897
Less:
Gross Potential Recoveries (4)		-		-		-		1,831			1,831
Discount, net (5)		-		-		-		(242	)		(242	)

Net claim liability (recoverable)	$	-	$	-	$	-	$	(692	)	$	(692	)

Unearned premium revenue	$	8	$	-	$	-	$	30		$	38
Reinsurance recoverable on paid and unpaid losses (6)										$	8

(1) - An “issue” represents the aggregate of financial guarantee policies that share the same revenue source for purposes of making debt service payments on the insured debt.

(2) - Represents contractual principal and interest payments due by the issuer of the obligations insured by MBIA.

(3) - The gross claim liability with respect to Puerto Rico exposures are net of expected recoveries for policies in a net payable position.

(4) - Gross potential recoveries with respect to certain Puerto Rico exposures are net of the claim liability for policies in a net recoverable position.

(5) - Represents discount related to Gross Claim Liability and Gross Potential Recoveries.

(6) - Included in “Other assets” on the Company’s consolidated balance sheets.

The following table provides information about the financial guarantees and related claim liability included in each of MBIA’s surveillance categories as of December 31, 2020:


	Surveillance Categories
$ in millions	Caution List Low		Caution List Medium		Caution List High		Classified List			Total
Number of policies		46		16		-		219			281
Number of issues (1)		16		3		-		100			119
Remaining weighted average contract period (in years)		6.4		6.4		-		7.9			7.4
Gross insured contractual payments outstanding: (2)
Principal	$	1,422	$	123	$	-	$	3,302		$	4,847
Interest		1,974		54		-		1,441			3,469

Total	$	3,396	$	177	$	-	$	4,743		$	8,316

Gross Claim Liability (3)	$	-	$	-	$	-	$	1,088		$	1,088
Less:
Gross Potential Recoveries (4)		-		-		-		1,947			1,947
Discount, net (5)		-		-		-		(173	)		(173	)

Net claim liability (recoverable)	$	-	$	-	$	-	$	(686	)	$	(686	)

Unearned premium revenue	$	10	$	-	$	-	$	35		$	45
Reinsurance recoverable on paid and unpaid losses (6)										$	11

(1) - An “issue” represents the aggregate of financial guarantee policies that share the same revenue source for purposes of making debt service payments on the insured debt.

(2) - Represents contractual principal and interest payments due by the issuer of the obligations insured by MBIA.

(3) - The gross claim liability with respect to Puerto Rico exposures are net of expected recoveries for policies in a net payable position.

(4) - Gross potential recoveries with respect to certain Puerto Rico exposures are net of the claim liability for policies in a net recoverable position.

(5) - Represents discount related to Gross Claim Liability and Gross Potential Recoveries.

(6) - Included in “Other assets” on the Company’s consolidated balance sheets.