Insurers must hold more capital to support residential mortgage-backed bonds

As reported by the Wall Street Journal, the National Association of Insurance Commissioners (NAIC) has approved increasing the amount of capital that insures must set aside to support their investments in residential mortgage-backed bonds.

Regular readers weren't surprise by this action as they know that in its white paper on the Future of Mortgage Finance, the NAIC linked the amount of capital that insurers need to hold to the disclosure provided by the mortgage-backed bonds.

Specifically, bonds that provided observable event based reporting with all non-borrower privacy protected data fields disclosed required less capital than bonds that provided out-of-date disclosure using a subset of  these data fields.

State regulators agreed to require that insurers set aside more capital to support their investments in bonds backed by residential mortgages, a step they say will help insulate the industry from losses during a severe downturn. 

The increase was approved by a task force of the National Association of Insurance Commissioners, an organization of state officials that sets solvency standards, in a conference call Friday. 

The changes would increase by an estimated $600 million to $800 million the total amount that insurers are expected to hold against securities backed by residential mortgages that aren't guaranteed by Fannie Mae and other government agencies, according to Wall Street and regulatory estimates. 

The change brings the required capital up to about 3.2% of the carrying value of insurers' holdings of the bonds from about 2.7%. 

The task force had said in recent meetings that it was acting out of concern that insurers may not have enough capital to cushion themselves from losses from subprime mortgages and other risky home loans should a severe recession hit. 

These bonds helped tip some banks and other financial firms into serious financial problems during the 2008 financial crisis. 

The American Council of Life Insurers, a major trade group, had maintained in comment letters in recent weeks that the proposed increase was too bearish, and didn't reflect improvements in the U.S. housing economy. Some industry executives have contended the proposed changes apply to many more bonds than they think is justified.... 

But on Friday's call, the proposed change was approved by a wide margin. The vote assured that the NAIC will adopt the news rules, which will be applied when insurers compile their 2012 financial statements.