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Assured Guaranty(NYSE: AGO)
Q2 2022 Earnings Call
Aug 04, 2022, 8:00 a.m. ET
Contents:
- Prepared Remarks
- Questions and Answers
- Call Participants
Prepared Remarks:
Operator
Good morning, and welcome to The Assured Guaranty Limited second quarter 2022 earnings conference call. My name is Danielle, and I'll be the operator for today's call. All participants will be in a listen-only mode. [Operator instructions] As being recorded.
I would now like to turn the conference over to our host, Robert Tucker, senior managing director, investor relations, and corporate communications. Please go ahead.
Robert Tucker -- Senior Managing Director, Investor Relations, and Corporate Communications
Thank you, operator. And thank you all for joining Assured Guaranty for our second quarter 2022 financial results conference call. Today's presentation is made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. The presentation may contain forward-looking statements about our new business and credit outlooks, market conditions, credit spreads, financial ratings, loss reserves, financial results, or other items that may affect our future results.
These statements are subject to change to the new information or future events. Therefore, you should not place undue reliance on them, as we do not undertake any obligation to publicly update, or revise them, except as required by law. If you're listening to a replay of this call, or if you're reading the transcript of the call, please note that our statements made today may have been updated since this call. Please refer to the investor information Section of our website for our most recent presentations, SEC filings, most current financial filings, and for the risk factors.
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This presentation also includes references to non-GAAP financial measures. We present the GAAP financial measures most directly comparable to the non-GAAP financial measures referenced in this presentation, along with a reconciliation between such GAAP and non-GAAP financial measures in our current financial supplement, and equity investor presentation, which is on our website at assuredguaranty.com. Turning to the presentation, our speakers today are Dominic Frederico, president, and chief executive officer of Assured Guaranty Limited; and Rob Bailenson, our chief financial officer. After the remarks, we'll open the call to your questions as the webcast is not enabled for Q&A.
Please dial into the call if you would like to ask a question. I will now turn the call over to Dominic.
Dominic Frederico -- President and Chief Executive Officer of Assured Guaranty Limited
Thank you, Robert, and welcome to everyone joining today's call. At the halfway mark of 2022, Assured Guaranty's adjusted operating shareholder's equity per share, and adjusted book value per share were at the highest levels in our history $90.18 and $134.91 respectively. The second quarter and first half of 2022 were marked by extreme market volatility, rapidly increasing inflation, and Fed action to raise interest rates. Rob will cover how the shifting industry environment affected our financial results, but I am pleased to say that our core insurance business continued to perform well in this year's volatile markets.
New business production has been strong and consistent in recent years with excellent results. In the first half of 2022 PVP, a total of $145 million, and its sources were diversified across US public finance, international infrastructure, and global structured finance. In terms of direct PVP, we again produce more than $100 million of the first half directly PVP, making it five times out of the last six years that we've exceeded that milestone. In US public finance, during the same period this year, $106 million of first half direct PVP was second only to last year's first half production.
And would have easily been the best first half of any year with the inclusion of one of our large transactions that sold in the second quarter but closed in the third quarter. In the first half of 2022, municipal bond yields trended higher and credit spreads also widened, though to a lesser extent. The June 30th benchmark yield of 3.18% for 30-year AAA GO bonds reflected a 65 basis point increase in the second quarter alone and was more than double the yield at the start of the year. However, yield and spreads were unusually volatile.
New money issues rose modestly in par volume and dominated the market. But rising interest rates also pushed some potential refunding, including taxable advance refunding of the money, causing overall volume markets market volume to decline. We continue to see high demand for our bond insurance compared with pre-pandemic levels. The first half, of 2022 ensured penetration of 8.8%, which was higher than the 8.4% in the first half of 2021, and significantly higher than the 5.9% in 2019's first half.
We believe that two important factors have helped to amplify the use of bond insurance. Wider investor awareness and insurance offer safety from the many potential consequences of a volatile economic condition, and a larger number of issuers recognize the cost-effectiveness of bond insurance. For the first half of 2022 Assured share of the insured primary municipal bond market exceeded 56%. We guaranteed 380 new issues, a total of $10 billion in insured par sold.
We said 12-year records for the first half secondary market par [Inaudible] and almost $1.8 billion in combined primary and secondary market insured par sold at $11.8 billion. Our direct gross par written on US municipal transactions closed during the first half was also the highest in 12 years. Contributing to this were 17 primary market transactions where we guaranteed $100 million or more of par each. We believe deals of this size reflect significant institutional demand for our insurance due to the financial strength of our guarantee and the relative price stability and increased market liquidity our insurance can provide.
Looking at the second quarter, our insured par sold a total of $6.5 billion, of which $1.4 billion was secondary market par. Total insurance penetration for the quarter was 8.9%. Our bond insurance market share was over 54%. We also guaranteed 10 large transactions sold in the quarter that utilized over $100 million of our insurance each.
These included a $608 million in New York Tower Authority issue, entirely wrapped by Assured Guaranty, and a $4.68 million portion of an [Inaudible] to transact Transportation Authority issue, which closed after the quarter end, and as contributed to the strong start we've seen for our third quarter PVP results. In fact, across our company in the weeks since the third quarter began, we have already written more than $75 million of PVP, remember our first half total PVP was $145 million. In a sign that investors recognized the strength of our guarantee, we continued to add value to AA credits. For the first half of 2022, we ensured $1.6 billion of par sold through 79 primary and secondary market policies, on bonds rated in the AA category by S&P, Moody's, or both.
This included 1.1 billion of par on 52 deals sold in the second quarter, of which approximately $300 million was insured in the secondary market. International Public Finance produced $30 million of PVP during the first half of 2022, including $18 million in the second quarter. In May, we wrote a large secondary market guarantee for an institutional investor. Our pipeline of potential international public finance transactions looks very good and includes a number of significant transactions that we consider likely to close in 2022.
And as I said previously, we have already seen a strong start in the third quarter. In Global Structured finance, we continue to see potential opportunities with such clients as life insurers, banks, other direct lenders, pension funds, and asset-backed investors. We closed our second guarantee of the subscription finance facility for a bank during the second quarter and see many opportunities to work with new counterparties in the fund finance sector. The CLO market remains an important area of focus.
We are speaking with current and potential CLO investors about opportunities created by the recent spread widening. More importantly, our insured portfolio quality continues to improve. During the first six months of this year, our exposure to below investment grade credits decreased by almost $2 billion of par, including the $1.3 billion of Puerto Rico exposure we extinguished as a result of the Commonwealth GO PBA plan of adjustment. Our BIG par exposure now represents only 2.3% of our insured portfolio.
On our last call I mentioned as part of the Commonwealth GO, PBA plan of adjustment, we receive cash and new GO bonds totaling approximately $1.2 billion, plus additional contingent value instruments. In addition, concerning the Highway and Transportation Authority Revenue bonds, in July, we received from the Commonwealth pursuant to the Commonwealth GO PBA plan of adjustment and the terms of the HTA plan support agreement, $147 million of cash and $668 million notional contingent value instrument. The HTA plan of adjustment confirmation hearing has been set for August 17th and 18th. Assuming the current HTA plan is confirmed and implemented, we expect to receive additional recoveries in the fourth quarter.
[Inaudible] all responsible parties understand that completing the island's debt restructuring is a key factor for its further economic progress in Puerto Rico. After three quarters of applying pressure to complete mediation to achieve a consensual resolution of the treatment of the Puerto Rico Electric Power Authority revenue bonds, our last unresolved Puerto Rico exposure. On July 29th, the judge extended the term of the mediation to August 15th. The improved quality of our already high-quality insured portfolio adds to the reasons for our insurance subsidiaries' high financial strength rating.
S&P has recently affirmed its AA financial strength rating for all of our financial guarantee companies, stating both our very strong financial risk profile and very strong business risk profile, in its annual review of Assured Guarantee. This report describes many strengths supporting our AA ratings, including S&P's view that we have excellent capital and earnings with a meaningful capital adequacy buffer. You can read the entire report on our website, assuredguaranty.com. On the asset management side of our business, during the second quarter, we increased assets under management by approximately $950 million to $17.9 billion, of which 96% is now fee earning.
Third-party inflows totaled $1.3 billion, we closed the new CLO and held an oversubscribed final closing for our latest healthcare fund. And we continue to execute on our other strategic objectives. Given the uncertainty in this economic environment, it's good to reflect on the proven resiliency of our company. In the first year of the pandemic, we saw investor appetite for bond insurance increase, and that heightened interest has been maintained.
As this year's developments continue to remind investors that the future is often volatile. We have succeeded through decades of economic cycles by delivering on our commitments to protect investors, principals, and interests against all risks while proving our resilience through disciplined risk management and responsible stewardship of capital. Our insurance subsidiaries aggregate $11 billion of paying resources today or approximately the same as they were at the end of 2007. Even though, since then, we have paid gross claims exceeding $13 billion to keep investors whole and return more than $5 billion to shareholders through share buybacks and dividends.
We maintain those numbers by mitigating losses on growth claim payments, only $6 billion of net claims through recoveries, reinsurance, and reimbursements, and by earning more than $6 billion in adjusted operating income over the same period. Our $11 billion of claim-paying resources now supports a much smaller and higher quality portfolio of insured risks. By every measurement that compares our capital resources to insured exposure, our insured leverage is less than half of what it was at the end of 2009. This resilience has positioned us to thrive as business and market businesses are creating more incentives for the use of financial guarantees.
We've never been better prepared to serve our clients, protect our policyholders, and create value for our shareholders. Well, now turn the call over to Rob.
Rob Bailenson -- Chief Financial Officer
Thank you, Dominic. And good morning to everyone on the call. In the second quarter of 2022, adjusted operating income was $30 million or $0.46 per share, compared with $120 million or $1.59 per share in the second quarter of 2021. The largest drivers of the quarter-over-quarter variance are mark-to-market movements on alternative investments, which had a $27 million after-tax loss in the second quarter of 2022 versus a $38 million after-tax gain in the second quarter of last year.
And the trading portfolio, which consists of Puerto Rico contingent value instruments, and that experience $15 million loss in the second quarter of 2022. Our core underwriting results, excluding these fair value adjustments, remain strong. As I mentioned in the past, quarter-to-quarter comparisons of adjusted operating income are volatile due to the nature of these investments and the corresponding accounting that requires recognition of these mark-to-market movements in income. However, it's important to note that for the Assured [Inaudible] funds, which account for most of this variance, the inception to-date mark is a pre-tax gain of $98 million.
This represents a 10.8% total return, which is in line with our targeted return. Demonstrating the value of our investment diversification strategy into alternative investments. As for Puerto Rico's CVI or contingent value instruments, the company received these instruments as part of the March 2022 resolution of the GO PBA exposures, which resulted in a $1.3 billion reduction of our insured exposure to Puerto Rico. We now manage this component about Puerto Rico's exposure as tradable instruments.
Any gains and losses we recognize in adjusted operating income on this portfolio are a reflection of current market pricing. Both of these mark-to-market adjustments, which account for $80 million of the variance, are reflected in the insurance segment, which had an adjusted operating income of $55 million in the second quarter of 2022, compared with $152 million in the prior year. In the insurance segment, net earned premiums, and credit derivative revenues were $86 million in the second quarter of 2022, compared with $106 million in the same period of last year. The refunding component of earned premiums, as well as changes in debt service assumptions, accounted for the majority of the change.
Economic development on our BIG short portfolio was a benefit of $32 million, primarily consisting of a $39 million benefit in US RMBS, included in total economic development in the effect of increasing discount rates, which was a benefit of $42 million in the second quarter of 2022 across all sectors. This resulted in a benefit in loss expense of $17 million, which is a function of both economic development, and amortization of deferred premium revenue. For the insurance segment. Income from the investment portfolio consists of several components.
Net investment income on the available cell portfolio and changes in fair value of trading securities and alternative investments. Net investment income was $66 million in the second quarter of 2022, compared with $71 million in the second quarter of 2021, primarily due to lower average balances. Equity in earnings and alternative investments was a net loss of $34 million in the second quarter of 2022. The losses were a result of lower net asset values of the CLO funds and dilution from rebalancing.
Following final fundraising closed for the healthcare fund. In the second quarter of last year, these funds had gains of $48 million. This volatility was the single largest driver of the quarter-over-quarter period variance in adjusted operating income. Fair value losses on the training portfolio were $18 million, which represent mark-to-market movements on the Puerto Rico contingent value instrument.
In the Asset Management segment, adjusted operating income increased to breakeven in the second quarter of 2022. With respect to our capital management objectives, we repurchased 2.6 million shares for $151 million in the second quarter of 2022. Subsequent to the quarter close, we repurchased over 600,000 shares for $35 million. on August 3, 2022, the board of directors authorized the repurchase of an additional $250 million of our common shares, which brings our current remaining authorization to $365 million.
Continued share repurchases along with our positive adjusted operating income, and new business production at propelled operating shareholder's equity and adjusted book value per share to new records of over $90 and $134, respectively. Since the beginning of our repurchase program in 2013, we have returned $4.5 billion to shareholders, resulting in a 71% reduction in total shares outstanding. From a liquidity standpoint, the holding companies currently have cash in investments of approximately $189 million, of which $135 million resides in AGL. These funds are available for liquidity needs for use in the pursuit of our strategic initiatives to either expand our business or repurchase shares to manage our capital.
As we look forward to the rest of the year, we remain optimistic that the interest rate environment will be more conducive to new insurance business production. The Asset Management Segment and Alternative Asset Strategies will continue to contribute to the company's progress toward its long-term strategic goals. And Puerto Rico, our largest single below investment grade exposure, will be substantially resolved by the end of the year. In a sign of continued progress, we received $147 million in cash and $668 million in original notional contingent value instruments in July as a part of the pending HTA settlement.
I'll now turn the call over to our operator to give you the instructions for the Q&A period. Thank you.
Questions & Answers:
Operator
[Operator instructions] We'll take our first question. Caller, your line is open.
Unknown speaker
Hey. Good morning, guys. Thanks for taking my questions here. Could you go into a bit more detail on the earned premium decline, I think you attributed it somewhat to a change in debt service assumptions, And what does that mean for the go-forward recognition of premiums, kind of what do you expect there?
Rob Bailenson -- Chief Financial Officer
So half of it was due to a decline in refunding. And the other part was an extension of the life of a transaction because CPI is related to the CPI index in the UK. And when you have a significant amount of premium associated with that, you have to reallocate that. And it's more exposure -- you have more exposure.
And if you have more exposure, you then have to earn it over a longer period of time, which makes it slow -- which then, slows down your expected earn premium.
Dominic Frederico -- President and Chief Executive Officer of Assured Guaranty Limited
So it doesn't make it smaller, just makes it go over a longer period of time.
Unknown speaker
OK. Got it. And then it sounds like your demand for your [Inaudible] remains strong. Can you talk about pricing our new business relative to the in-force book, both from a pricing power perspective as well as considering perhaps a more uncertain economic outlook?
Dominic Frederico -- President and Chief Executive Officer of Assured Guaranty Limited
So, we get paid on debt service, which means as interest rates go up, that service increases. Therefore, the premium calculation of the rate on the debt service becomes higher. Number two, typically as interest rates go up, spreads widen. We get paid based on the percent spread.
It becomes an even more variable market for us relative to the return. We calculate return on a transaction by transaction basis and business by business basis and then compare it across quarters and years. So, our goal is always to get a double-digit return. Obviously, there is volatility and that is sometimes there's a larger transaction that might come in higher or lower basis than it because we do, given amount of per quarter, it could fluctuate the result.
But at the end of the day, we're hitting our target in terms of return. We think the market will continue to get better for us as the year progresses. The first half of the year has been so volatile, that there's been a little bit of sticker shock relative to, the issuance in the marketplace. As we said, new money is up a bit, but there's virtually little activity on the funding side.
However, this environment for us then creates an even better environment for secondary market transactions. And of course, we talked about the secondary market in a narrative where to give you a statistic, we remain as much business as of the six months in the secondary market. But I think it's twice what we wrote all of last year.
Rob Bailenson -- Chief Financial Officer
Yeah. And to give you some --
Dominic Frederico -- President and Chief Executive Officer of Assured Guaranty Limited
Point of comparison.
Rob Bailenson -- Chief Financial Officer
To give you some -- sorry.
Dominic Frederico -- President and Chief Executive Officer of Assured Guaranty Limited
So in the secondary market, obviously, is a higher price, and higher return business. So the more that compliment direct primary business really drives are ROEs up to very reasonable or not reasonable profitable levels to the company.
Rob Bailenson -- Chief Financial Officer
And to give you some of those numbers on the secondary market, as Dominic just talked about, in the second quarter, we brought $27 million of PVP for the six months it was $50 million of PVP and that's over $1.4 billion of par for the quarter and $1.7 billion of par for six months.
Unknown speaker
OK. Good, helpful numbers. And then just lastly, can you remind us, what your latest sort of calculation is for how much excess capital that you currently have? And whether that be the -- a method they're looking at perhaps rating agency levels or above and acceptable leverage of CPR to gross par, or anything else that you think is relevant?
Dominic Frederico -- President and Chief Executive Officer of Assured Guaranty Limited
We look at it from two bases, right? One rating agent because it's important that we maintain our AA rating from [Inaudible]. And two, from our own internal capital model to make sure that we continue to provide the necessary protection and buffer relative to the marketplace to ensure the company remains financially strong. It was just getting a little bit easier for us as the portfolio continues to amortize down there for the leverage ratio increases. Yes, as the capital position is made relatively significant.
Now, the only number we've given you is 2019, which I think is the 2020 number, which is over $2 billion. And we still trying to maintain a significant level of capital. And as you well know, in our capital management strategy, [Inaudible] that. And then obviously, position relative to share buyback, which we will continue as part of a capital management strategy, but we will continue to evaluate circumstances and situations as the market continues to evolve.
Portfolio amortizing, higher risk in the portfolio basically continue to decline [Inaudible] the capital position we still think it's significant. And remember that after returning $4 billion of capital to shareholders, so we've still got a long way to go. Relative to working the capital down to a reasonable level that we think would provide us the opportunity for higher ROEs. Therefore move up the ROE relative to the cost of capital [Inaudible] that the valuation of the company going forward.
We look forward with the very strong optimism that A, the financial guarantee business is growing, and profitability is waning, which should contribute to higher premiums for the next three years or so, managing the capital down. If you talked a little bit about [Inaudible] is that we've finally gotten the platform stabilized to break even though we still have to build the verticals to such a degree [Inaudible]. If you look at all three combined, I think it puts us in a very good situation relative to opportunities for ROE going to lower capital base to live the businesses functioning very, very well in this market.
Unknown speaker
Great. Thank you.
Rob Bailenson -- Chief Financial Officer
Thanks, Tommy.
Operator
We'll take our next question from the line of Geoffrey Dunn with Dowling & Partners. Please go ahead. Your line is now open.
Geoffrey Dunn -- Dowling and Partners -- Analyst
Thanks. Good morning, guys.
Rob Bailenson -- Chief Financial Officer
Hi, Geoff.
Dominic Frederico -- President and Chief Executive Officer of Assured Guaranty Limited
Good morning, Geoff.
Geoffrey Dunn -- Dowling and Partners -- Analyst
Rob, I wanted to understand, how the new mark on trading securities. I believe that applies to the CVIs you received, but that is a mark that -- as I understand correctly, has occurred since you received those CVIs on July 8th, or does that extend back to some of the instruments you received in the GO as well?
Rob Bailenson -- Chief Financial Officer
Yeah. It extends back to when we received the original CVI.
Geoffrey Dunn -- Dowling and Partners -- Analyst
OK. So but it includes some of the HTA stuff too? Or no?
Rob Bailenson -- Chief Financial Officer
The HTA stuff came in very late and the mark-to-market movement primarily related to that.
Dominic Frederico -- President and Chief Executive Officer of Assured Guaranty Limited
General obligation.
Rob Bailenson -- Chief Financial Officer
General obligation. Not the HTA.
Geoffrey Dunn -- Dowling and Partners -- Analyst
OK. So what I wanted to understand is with the mark-to-market noise and I'm just going to bounce around each quarter. Does that affect your recovery assumptions on CVIs to be received in the future here? With respect to your reserving at all? Or is it truly just mark noise that doesn't have any implications on the core reserve position?
Dominic Frederico -- President and Chief Executive Officer of Assured Guaranty Limited
So if you remember, Geoff, we book a recovery estimate. Once you physically receive the instruments of the recovery, they get fresh from the day of receipt. That sets the recovery period relative to the insurance policy and now becomes an investment in the investment portfolio. Now, subject to any other volatility in terms of pricing in the investment portfolio until you either hold them to maturity or sell them.
Rob Bailenson -- Chief Financial Officer
Yeah. So we've already locked in what's going to be in our reserve and now it's actually going to flow through that investment portfolio.
Geoffrey Dunn -- Dowling and Partners -- Analyst
That, I understand. I'm just wondering if the trading securities have in any way influenced your recovery expectation on the CVI still to be received in the future.
Dominic Frederico -- President and Chief Executive Officer of Assured Guaranty Limited
Not for the insurance policy [Inaudible] for the investment return, right? So you got to make sure you understand that. At the date of the settlement that is lost in the recovery, ultimately on the insurance policy period, end quote. Now it no longer has anything to do with the recovery of insurance or guilt. And then the claim was and now becomes an investment.
And obviously, if you look at those investments, then you value market conditions. The expectation of their returns, what the market returns are therefore will manage that balance accordingly as we get through the period.
Rob Bailenson -- Chief Financial Officer
And Geoff, we've already received -- maybe this will help, we've already received all of the CVI that we were going to get from the GO, and the transportation [Inaudible] don't we're not getting anymore. So it will not affect any reserve assumptions.
Geoffrey Dunn -- Dowling and Partners -- Analyst
OK. So and then, on the HTA then all that's remaining is new bonds, or is there a cash-in new bond component still to come?
Rob Bailenson -- Chief Financial Officer
Is it cash, and a new bond component coming, when the plan is approved.
Geoffrey Dunn -- Dowling and Partners -- Analyst
Got it. OK. Great. Thank you.
Operator
This concludes the question-and-answer session. I would like to turn the conference back over to our host, Robert Tucker for closing remarks.
Robert Tucker -- Senior Managing Director, Investor Relations, and Corporate Communications
Thank you, operator. And thank you all for joining us on today's call. If you have additional questions, please feel free to give us a call. Thank you very much.
Operator
[Operator signoff]
Duration: 0 minutes
Call participants:
Robert Tucker -- Senior Managing Director, Investor Relations, and Corporate Communications
Dominic Frederico -- President and Chief Executive Officer of Assured Guaranty Limited
Rob Bailenson -- Chief Financial Officer
Unknown speaker
Geoffrey Dunn -- Dowling and Partners -- Analyst
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