7,314 square feet of office space in Ohio and South Carolina, serving as our mortgage insurance service center and certain on-site offices. The leases for this space expire during 2012.
Our estimated credit loss payments presented in the table below represent our current estimate of the present value (net of estimated recoveries) that we expect to pay in claims with respect to our insured credit derivatives and net variable interest entity (“VIE”) liabilities. The fair value of these obligations is measured as of a specific point in time and may be influenced by changes in interest rates, credit spreads, credit ratings and other market, asset-class and transaction specific conditions and factors that may be unrelated to our obligation to pay future claims. Other factors that may cause a difference between the fair value of these obligations and our estimated credit loss payments include the effects of our non-performance risk and differing assumptions regarding discount rate and future performance. In the absence of credit losses, unrealized losses related to changes in fair value will reverse before or at the maturity of these obligations. However, we may agree to settle some or all of these obligations prior to maturity at amounts that are greater or less than their fair values at the time of settlement, which could result in the realization of gains or losses and the reversal of unrealized gains or losses.
Provision for Premium Deficiency. We reassess our expectations for premiums, losses and expenses for our mortgage insurance business at least quarterly and record or adjust the premium deficiency reserve, as necessary, as actual losses are incurred and premiums are received. For 2010, the reserve for second-lien premium deficiency was impacted by the transfer of premium deficiency reserves to loss reserves and by updates to assumptions underlying our loss estimates.
The following table summarizes our mortgage insurance segment’s results of operations for the years ended December 31, 2010, 2009 and 2008 ($ in millions):
(3) Reflects the impact of terminations of captive reinsurance transactions and first- and second-lien transactions.
The large unrealized fair value loss for 2010 is primarily due to the significant tightening of our CDS spread. We also experienced multi-notch downgrades from the rating agencies in one project finance transaction and one CDO of middle market CLO transaction, which resulted in significant widening of the underlying credit risk spread and increased our unrealized losses for these transactions. Slightly offsetting these losses were improvements in the underlying credit spreads of our insured Corporate CDOs, CMBS, RMBS, and TruPs.
(3) Represents the net (asset) liability recorded within derivative assets or derivative liabilities for derivative contracts.
(3) The timing of these potential payments is uncertain given the nature of the obligation.
Our most significant need for liquidity beyond the next 12 months is the repayment of the principal amount of our outstanding long-term debt that comes due in 2013, 2015 and 2017. At December 31, 2010, approximately $250 million in principal amount of our long-term debt is due in each of 2013 and 2015, and $450 million in principal is due in 2017. We may redeem or continue to repurchase some or all of our outstanding debt if circumstances are favorable to us. At this time, we cannot determine the timing or amount of any potential repurchases, which will depend on a number of factors, including our capital and liquidity needs.
our decision to rescind coverage before we consider a policy to be rescinded and removed from our default inventory, we do not currently expect a material amount of policies that were ultimately rescinded to be reinstated. All estimates are periodically reviewed and adjustments are made as they become necessary.
We established a fair value hierarchy by prioritizing the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level I measurements) and the lowest priority to unobservable inputs (Level III measurements). The three levels of the fair value hierarchy under this standard are described below:
incorporate bond structure, yield curve, credit spreads, and other factors. These securities are generally categorized in Level II of the fair value hierarchy or in Level III when market-based transaction activity is unavailable.
NIMS are financial guarantees that we have issued on NIMS. NIMS derivative assets primarily represent derivative assets in the NIMS trusts that we are required to consolidate. NIMS VIE debt represents the debt of consolidated NIMS trusts, which we account for at fair value. The estimated fair value amounts of these financial instruments are derived from internally-generated discounted cash flow models. We estimate losses in each
Recently, we have experienced an elevated level of insurance rescissions and claim denials for various reasons, including, without limitation, underwriting negligence, fraudulent applications and appraisals, breach of representations and warranties, and inadequate documentation. After estimating the default to claim rate, we estimate the severity of each product type, type of insurance, and state grouping based on the average of recently observed severity rates. These average severity estimates are then applied to individual loan coverage amounts to determine reserves.
CDO-These securities are categorized in Level III of the fair value hierarchy. The fair value of the Level III securities is generally estimated by discounting estimated future cash flows.
The following table provides a summary of our maximum exposure to losses, and the financial impact on our consolidated balance sheets and our consolidated statements of operations as of and for the year ended December 31, 2010, as it relates to our consolidated VIEs:
We also consolidate the assets and liabilities associated with two other financial guaranty transactions, in which we provided guarantees for VIEs that own manufactured housing loans, and which had previously been accounted for as insurance contracts. Due to the contractual provisions that allow us to replace and appoint the servicer who manages the collateral underlying the assets of the transactions, we concluded that we have power to direct the activities of these VIEs. In addition, as the guarantor of certain classes of debt issued by these VIEs, we have the obligation to absorb losses that could be significant to these VIEs. The consolidated assets associated with these VIEs are recorded at fair value in accordance with the fair value option and classified in other assets on our consolidated balance sheets. The liabilities of these VIEs are also recorded at fair value in accordance with the fair value option. The assets of these VIEs may only be used to settle the obligations of the trusts, while due to the nature of our guarantees, creditors have recourse to our general credit as it relates to the VIE debt. However, due to the seniority of our insured bonds in these transactions, we do not expect to incur a loss from our involvement with these two VIEs; as such, we did not have a reserve recorded for these transactions as of December 31, 2009. At January 1, 2010, we determined that these VIEs required consolidation, and the fair value of the VIE assets equaled the fair value of the liabilities of these VIEs such that there was no net liability to us from our involvement with these VIEs; therefore, no transition adjustment was necessary. During 2010, our net cash inflow was $0.6 million related to our involvement with these VIEs.
(1) Comprised of broadly diversified domestic equity mutual funds ($146.8 million fair value) and various preferred and common stocks invested across numerous companies and industries ($29.4 million fair value).
The following tables show the gross unrealized losses and fair value of our investments, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at December 31, 2010 and 2009:
Our losses and LAE incurred in 2010 for default notices reported in the current year have decreased relative to the current year amounts reported at December 31, 2009, primarily due to a decline in new default notifications reported during 2010 compared to 2009. Our incurred losses in 2010 for defaults reported in prior years have been negatively impacted by changes in estimates based on information and trends observed in the current period.
2. During the five business day period after any five consecutive trading day period in which the trading price per $1,000 principal amount of the notes (for each trading day during that measurement period) was less than 98% of the product of the last reported sale price of the common stock and the applicable conversion rate on such trading day; or
CMAC of Texas’s ability to declare dividends on its common stock is restricted by certain provisions of the insurance laws of the State of Texas, its state of domicile. The insurance laws of the State of Texas limit the maximum amount of dividends that may be paid from positive unassigned surplus by an insurer without prior approval by the Texas Insurance Commissioner. Under such test, CMAC of Texas may pay dividends during any 12-month period in an amount equal to the greater of (i) 10% of the preceding year-end statutory policyholders’ unassigned surplus, or (ii) the preceding year-end statutory net income. In accordance with such restrictions, no dividends may be paid in 2011, without prior regulatory approval.
In 2008, our stockholders approved a new equity compensation plan, the Radian Group Inc. 2008 Equity Compensation Plan (the “2008 Equity Plan”), under which we may grant incentive stock options, non-qualified stock options, restricted stock, restricted stock units (“RSUs”), stock appreciation rights (“SARs”), performance shares and phantom stock. In adopting the 2008 Equity Plan, we agreed not to issue any new awards under our prior equity plan, the 1995 Equity Compensation Plan (the “1995 Equity Plan”). We awarded shares under the 2008 Equity Plan during 2010 and 2009 and under both the 2008 Equity Plan and the 1995 Equity Plan (together the “Equity Plans”) during 2008. To date, all awards granted under the Equity Plans have been in the form of non-qualified stock options, restricted stock, RSUs, SARs and phantom stock. The Equity Plans provide that any grant of non-qualified stock options (other than incentive stock options to holders of 10% of our voting shares) must be at an option price per share equal to 100% of the market price of our common stock on the date of grant. Officers and other employees of Radian Group, its affiliates, advisors and consultants are eligible to participate in the 2008 Equity Plan. Non-employee directors are also eligible to participate in the 2008 Equity Plan (and were eligible to participate in the 1995 Equity Plan), but are not permitted to receive grants of incentive stock options. The maximum contractual term for all awards under the Equity Plans is 10 years.
No shares of restricted stock were granted during 2010. We granted 375,500 shares of restricted stock during 2009 and 170,400 shares of restricted stock during 2008, with each grant vesting over three or four years. Other than the restrictions discussed above, the holders of restricted stock have all the rights of a common stockholder, including the right to vote the shares and the right to receive cash dividends. The cost recognized for these awards is based on the fair value at date of grant and is recognized on a straight line basis over the vesting period.
Officer LTI Plan-In 2009 and 2010, the Compensation Committee granted awards under the Officer LTI Plan that are not based on our stock price. Performance for 50% of each award under the Officer LTI Plan will be measured over a three-year performance period. The remaining 50% of each award will be measured over a four-year performance period. At the end of each performance period, the Compensation Committee will determine in its sole discretion, the specific cash payout to each participant, which may range from 0% to 200% of the amount of the target award then under consideration, based on the Compensation Committee’s view of our overall corporate performance and the degree to which each of the following performance measures have been satisfied: (1) mortgage insurance market share, (2) capital management, (3) mortgage insurance credit quality, (4) expense management, and (5) operating profitability. Compensation costs recognized related to non-share-based awards under the Officer LTI Plan was $1.1 million for the year ended December 31, 2010.
On November 29, 2010, a lawsuit Moses vs. SunTrust Banks, Inc., alleged to be a class action, was filed in the Federal District Court for the District of Columbia against SunTrust Bank, its affiliates and a number of mortgage insurers, including Radian Guaranty. The complaint alleges various causes of action related to captive mortgage reinsurance arrangements with SunTrust Bank, including that the defendants violated RESPA by paying the lender’s captive reinsurer excess premiums in relation to the risk assumed by that captive. The mortgage insurer defendants demanded that the plaintiffs voluntarily dismiss from the lawsuit any mortgage insurer who has not insured the plaintiffs’ loan. The plaintiffs responded informally that they would do so in an amended complaint they intend to file sometime after March 2, 2011. Plaintiffs disclosed at the time of their response to the demand for dismissal that they intend to add another plaintiff in the amended complaint and have identified one such potential plaintiff. Radian Guaranty does not insure the loan of the original plaintiff nor the one potential new plaintiff who has been identified. We intend to move to dismiss the claims against us in the event that the plaintiffs do not voluntarily dismiss us from the lawsuit.