For decades, Fannie Mae and Freddie Mac have been the principal factor in determining the availability of single-family mortgages in the United States for conforming loans. From the summer of 2007 to the summer of 2008, the combined common and preferred equity market capitalization of the GSEs declined on the order of $140 billion, the FHFA was appointed conservator of each GSE and their most senior management was replaced by executives designated by the federal government. As their conservator, FHFA controls and directs the operations of Fannie Mae and Freddie Mac. In connection with the conservatorship, the United States Treasury has committed a $200 billion facility to each GSE to support its capital, which is a $100 billion increase from the original facility established for each GSE at the time the conservatorship began.
Losses incurred are the current expense that reflects estimated payments that will ultimately be made as a result of delinquencies on insured loans. As explained under “Critical Accounting Policies,” except in the case of premium deficiency reserves, we recognize an estimate of this expense only for delinquent loans. Losses incurred are generally affected by:
The effective tax rate credit on our pre-tax loss was (42.1%) in 2008, compared to (37.3%) in 2007. During those periods, the rate reflected the benefits recognized from tax-preferenced investments. Our tax-preferenced investments that impact the effective tax rate consist almost entirely of tax-exempt municipal bonds. The difference in the rate was primarily the result of a smaller loss from underwriting operations during 2008, compared to 2007.
The percentage of our volume written on a flow basis that includes segments we view as having a higher probability of claim continued to increase through 2007. In particular, the percentage of our flow new insurance written with loan-to-value ratios greater than 95% grew to 42% in 2007, compared to 34% in 2006. For 2008 the percentage of our flow new insurance written with loan-to-value ratios greater than 95% declined to 18%, and was only 3% for the fourth quarter of 2008.
In addition to providing primary insurance coverage, we have also insured pools of mortgage loans. New pool risk written during 2008, 2007 and 2006 was $145 million, $211 million and $240 million, respectively. Our direct pool risk in force was $1.9 billion, $2.8 billion and $3.1 billion at December 31, 2008, 2007 and 2006, respectively. These risk amounts represent pools of loans with contractual aggregate loss limits and in some cases those without these limits. For pools of loans without these limits, risk is estimated based on the amount that would credit enhance the loans in the pool to a “AA” level based on a rating agency model. Under this model, at December 31, 2008, 2007 and 2006 for $2.5 billion, $4.1 billion and $4.4 billion, respectively, of risk without these limits, risk in force is calculated at $150 million, $475 million and $473 million, respectively. For the years ended December 31, 2008, 2007 and 2006 for $23 million, $32 million and $56 million, respectively, of risk without contractual aggregate loss limits, new risk written under this model was $1 million, $2 million and $4 million, respectively.
related to unfavorable prior years’ loss development. See Note 8 to our consolidated financial statements in Item 8.
Primary claims paid for the top 15 states (based on 2008 losses paid) and all other states for the years ended December 31, 2008, 2007 and 2006 appear in the table below.
Historically all of our insurance risks were included in a single grouping and the calculations to determine if a premium deficiency existed were performed on our entire in force book. As of September 30, 2007, based on these calculations there was no premium deficiency on our total in force book. During the fourth quarter of 2007, we experienced significant increases in our default inventory, and severities and claim rates on loans in default. We further examined the performance of our in force book and determined that the performance of loans included in Wall Street bulk transactions was significantly worse than we experienced for loans insured through the flow channel or loans insured through the remainder of our bulk channel. As a result we began separately measuring the performance of Wall Street bulk transactions and decided to stop writing this business. Consequently, as of December 31, 2007, we performed separate premium deficiency calculations on the Wall Street bulk transactions and on the remainder of our in force book to determine if premium deficiencies existed. As a result of those calculations, we recorded a premium deficiency reserve of $1,211 million in the fourth quarter of 2007 to reflect the present value of expected future losses and expenses that exceeded the present value of expected future premium and already established loss reserves on the Wall Street bulk transactions. The discount rate used in the calculation of the premium deficiency reserve, 4.70%, was based upon our pre-tax investment yield at December 31, 2007. As of December 31, 2007 there was no premium deficiency related to the remainder of our in force business.
During 2008, the municipal bond market experienced historically poor performance, and resulted in approximately one-third of our securities (580 issues) being in an unrealized loss position as of December 31, 2008. The unrealized losses in all categories of our investments were primarily caused by widening spreads. Of those securities in an unrealized loss position greater than 12 months, 101 securities had a fair value greater than 80% of amortized cost and 65 securities had a fair value less than 80% of amortized cost. We do not believe the unrealized losses are related to specific issuer defaults and because we have the ability and intent to hold those investments until a recovery of fair value, which may be maturity, we do not consider those investments to be other-than-temporarily impaired at December 31, 2008.
The incurred but not reported, or IBNR, reserves referred to above result from defaults occurring prior to the close of an accounting period, but which have not been reported to us. Consistent with reserves for reported defaults, IBNR reserves are established using estimated claims rates and claims amounts for the estimated number of defaults not reported. As of December 31, 2008 and 2007, we had IBNR reserves of $480 million and $368 million, respectively.
The consolidated financial statements include the accounts of MGIC Investment Corporation and its majority-owned subsidiaries. All intercompany transactions have been eliminated. Historically, our investments in joint ventures and related loss or income from joint ventures principally consisted of our investment and related earnings in two less than majority owned joint ventures, Credit-Based Asset Servicing and Securitization LLC (C-BASS), and Sherman Financial Group LLC (Sherman). In 2007, joint venture losses included an impairment charge equal to our entire equity interest in C-BASS, as well as equity losses incurred by C-BASS in the fourth quarter that reduced the carrying value of our $50 million note from C-BASS to zero. As a result, beginning in 2008, our joint venture income principally consisted of income from Sherman. In August of 2008, we sold our entire interest in Sherman to Sherman. We review our investments in joint ventures for evidence of “other than temporary” impairments, such as an inability of the investee to sustain an earnings capacity which would justify the carrying amount of the investment. There were no “other than temporary” equity investment impairment charges for the years ending December 31, 2008 and 2006. Our equity in the earnings of joint ventures is shown separately, net of tax, on the statement of operations. (See note 10.)
Our basic and diluted earnings per share (“EPS”) have been calculated in accordance with SFAS No. 128, “Earnings Per Share”. Basic EPS is based on the weighted
We cede a portion of our business to reinsurers and record assets for reinsurance recoverable on loss reserves and prepaid reinsurance premiums. We cede primary business to reinsurance subsidiaries of certain mortgage lenders (“captives”). The majority of ceded premiums relates to these agreements. Historically, most of these reinsurance arrangements are aggregate excess of loss reinsurance agreements, and the remainder have been quota share agreements. Under the aggregate excess of loss agreements, we are responsible for the first aggregate layer of loss (typically 4% or 5%), the captives are responsible for the second aggregate layer of loss (typically 5% or 10%) and we are responsible for any remaining loss. The layers are typically expressed as a percentage of the original risk on an annual book of business reinsured by the captive. The premium cessions on these agreements typically range from 25% to 40% of the direct premium. Under a quota share arrangement premiums and losses are shared on a pro-rata basis between us and the captives, with the captives’ portion of both premiums and losses typically ranging from 25% to 50%. Beginning June 1, 2008 our captive arrangements, both aggregate excess of loss and quota share, are limited to a 25% cede rate.
The reinsurance agreement is expected to provide additional claims-paying resources when loss ratios exceed 100% for new insurance written beginning April 1, 2008.
During the period in which we held an equity interest in Sherman, Sherman was principally engaged in the business of purchasing and collecting for its own account delinquent consumer assets which are primarily unsecured, and in originating and servicing subprime credit card receivables. The borrowings used to finance these activities are included in Sherman’s balance sheet. A substantial portion of Sherman’s consolidated assets are investments in consumer receivable portfolios that do not have readily ascertainable market values. Sherman’s results of operations are sensitive to estimates by Sherman’s management of ultimate collections on these portfolios.
2009. The following tables provide the components of aggregate annual net periodic benefit cost, the amounts recognized in the consolidated balance sheet, changes in the benefit obligation and the funded status of the pension, supplemental executive retirement and other postretirement benefit plans:
In 2009, we decided to substantially increase the allocation range for fixed income securities.
In 2008, 2007 and 2006, we paid dividends of $8.2 million, $63.8 million and $85.5 million, respectively, or $0.075 per share in 2008, $0.775 per share in 2007 and $1.00 per share in 2006. In the fourth quarter of 2008, we suspended the payment of dividends.
The statutory net income, surplus and the contingency reserve liability of the insurance subsidiaries (excluding the non-insurance companies), as well as the surplus contributions made to MGIC and other insurance subsidiaries and dividends paid by MGIC to us, are as follows:
The anti-referral fee provisions of RESPA provide that the Department of Housing and Urban Development as well as the insurance commissioner or attorney general of any state may bring an action to enjoin violations of these provisions of RESPA. The insurance law provisions of many states prohibit paying for the referral of insurance business and provide various mechanisms to enforce this prohibition. While we believe our captive reinsurance arrangements are in conformity with applicable laws and regulations, it is not possible to predict the outcome of any such reviews or investigations nor is it possible to predict their effect on us or the mortgage insurance industry.
Two law firms have issued press releases to the effect that they are investigating whether the fiduciaries of our 401(k) plan breached their fiduciary duties regarding the plan’s investment in or holding of our common stock. With limited exceptions, our bylaws provide that the plan fiduciaries are entitled to indemnification from us for claims against them. We intend to defend vigorously any proceedings that may result from these investigations.