Fitch Affirms Ambac's IFS at 'AA'; Outlook to Negative

Business Wire, March 12, 2008

NEW YORK -- Fitch Ratings affirms the insurer financial strength (IFS) rating on Ambac Assurance Corp. (Ambac) and its subsidiaries at 'AA' and the long-term rating of Ambac Financial Group, Inc. (Ambac Financial) (NYSE: ABK), the parent company of Ambac, at 'A'. The Rating Outlook is Negative.

The following ratings have been affirmed:

Ambac Assurance Corp.

Ambac Assurance UK Ltd.

Connie Lee Insurance Co.

--Insurer financial strength (IFS) 'AA'.

Ambac Financial Group, Inc.

--Long-term rating 'A';

--$400 million 5.95% senior unsecured notes due Dec. 5, 2035 'A';

--$142.5 million 9.375% senior unsecured debentures due Aug. 1, 2011 'A';

--$75 million 7.5% senior unsecured debentures due May 1, 2023 'A';

--$400 million subordinated notes due Feb. 7, 2087 'A-'.

The affirmations follows Ambac's completion of its $1.5 billion raising of new equity capital, a review by Fitch of Ambac's updated business plan, consideration of various qualitative ratings factors, and an update on Fitch's current views of U.S. subprime related risks.

Updated to reflect the noted $1.5 billion capital raise, Fitch believes Ambac's pro-forma claims paying resources at year-end 2007 of $16.0 billion are consistent with Fitch's updated standards for 'AA' capital. However, claims paying resources fall below Fitch's 'AAA' capital targets by a range of $4 to $5 billion. Fitch will continue to monitor developments in the RMBS markets for its impact on direct exposure to that asset class as well as implications on structured finance collateralized debt obligations (SF CDOs) insured by Ambac.

Fitch notes that Ambac's updated business plans include several improvements to its risk management framework, including the permanent exit of several riskier capital intensive structured finance business lines and a re-emphasis of its core municipal franchise. In addition, Ambac's suspension of underwriting all structured finance exposures for the next six months will over time (assuming relative stability of underlying ratings in the existing insured portfolio) result in the build up of capital, as the company will benefit from the amortization of existing insured obligations, some of which exhaust a material amount of required capital resources. This will possibly aid the company's return to 'AAA' capital standards in the future, and more importantly, limit the risk of volatility in the insured portfolio in the future. Furthermore, Ambac's exit from the investment agreement business reduces liquidity risk at the holding company and simplifies the company's business model.

That said, Fitch believes it will be very difficult to stabilize the ratings of Ambac, or for Ambac to ultimately return to an 'AAA' IFS rating, until the company can more effectively limit the downside risk from its SF CDOs through reinsurance or other risk mitigation initiatives. Fitch does not anticipate removing the Negative Rating Outlook over the near- to intermediate-term until the ultimate risk of loss on the SF CDO portfolio can be more definitively quantified.

Further, Fitch does not believe it will be possible for Ambac to regain its 'AAA' IFS rating until the company can reestablish momentum in the financial guaranty market, especially in the core U.S. municipal finance sector. The company also needs to provide clarification on its long-term management and leadership, and needs to demonstrate its management can successfully execute its strategic business plans. These qualitative business, management and franchise-related factors will take on added consideration in future ratings reviews.

Finally, today's affirmation factors in Fitch's updated analysis of Ambac's $32.2 billion exposure to SF CDOs (including $2.4 billion in CDO-squareds), and the implications this analysis has on Fitch's view of Ambac's overall capital adequacy position.

Fitch currently believes that expected losses on this book of business will ultimately fall within a range of $4 to $5 billion. These totals reflect Fitch's current estimates of the range of future losses that Ambac would be expected to incur over the life of these transactions, stated on a present value basis. The range of outcomes reflects the unknown magnitude of U.S. residential mortgage losses on SF CDOs insured by Ambac. From a present value perspective, Fitch discounts the expected future loss rates by 5% over a two-year period for CDO-squareds, 5-years for mezzanine SF CDOs and 7-years for high-grade SF CDOs.

Fitch's analysis of expected losses includes an assumption that underlying cumulative loss rates on U.S. residential mortgages supporting outstanding subprime residential mortgage-backed securities (RMBS) pools will average 21% in the 2006 vintage year and 26% for the 2007 vintage year. These assumed cumulative loss rates are consistent with those currently used by Fitch for its ratings of outstanding RMBS transactions.

Given Fitch's current projected loss estimates for 2006-2007 vintage subprime RMBS, it is expected that a high percentage of the underlying tranches that were originally rated below 'AAA' will potentially default and suffer significant losses. This development is expected to result in losses elevating high into the capital structure for many SF CDOs. Only those RMBS and SF CDO transactions from the 2006-2007 vintages that maintained very healthy levels of initial subordination are expected to avoid experiencing losses in the future.