The Primus Guaranty (PRS) Stock Report
June 20th, 2008 by 
James Cullen
I’ll be away on a short vacation for the next few days, so in the meanwhile I’m sharing my latest stock report on Primus Guaranty (PRS). While the company can seem complex, I think the underlying business model (explained in the report) is actually quite simple and understandable for most investors. Jeff Annello suggested the same in the recent Q&A I did with him. Also, read the notes from my conversation with the company.
Read the Primus Guaranty (PRS) Stock Report.
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Disclosure: I own shares of PRS.
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June 22nd, 2008 at 2:58 pm
James,
It seems like the fundamental question with Primus is the quality of the credits it has ensured. Is there any data available on the portfolio as a whole and the reference entities in it? That is, is there any way for an outside investor to try to come to their own estimate of the risks inherent in Primus’ book?
June 22nd, 2008 at 11:41 pm
Jim,
There is a breakout of the sector allocation of the portfolio, as well as credit rating. Off the top of my head, the average reference entity has an A rating, with about 15% concentration in financials, 10% in insurers, and then about 5% or less in a number of other areas.
June 24th, 2008 at 11:44 am
Thanks James. I took a look at the Q1 08 supplemental data available on their web site. Some things I noticed:
(1) About $19.2 Billion in single-name CDSs. Of this, the S&P and Moody ratings are:
- Less than 5% at AAA or Aaa
- 18-21% are AA or Aa
- 35-37% are A
- 35-38% are BBB or Baa
- 4-5% are between CCC/Caa and BB/Ba
If I was doing a deeper analysis of the portfolio then the next thing I’d do is look at historical default rates based on these ratings. Defaults have been near historical lows in recent years, but data from years ago can probably give us some idea of what to expect in tough times (say 2002 for comparison).
That’d be a first cut calculating a possible loss expectation for the portfolio.
(2) Looking at industries, the ones I’d worry about are:
- Financial intermediaries - 13% of the book
- Insurers - 9.5% of the book
- Building/development - 4.5% of the book
- Automotive - 3.5%
- Retailers - 3.25%
- Brokers / dealers / investment houses - 2.5%
- Home furnishings - 1%
That totals to about 37% of the portfolio in industries that seem risky to me. It’d be very interesting to know how the credit rating data maps onto the industry data. Hopefully the B and below credits aren’t over-represented in these industries.
It would also be interesting to know how many reference entities there are in each category (ie. is the 13% in financials made up of 2 banks or 22 or 222?).
———
In general, the key issue to me is: Do I have enough data to estimate Primus’ intrinsic value?
That value is heavily dependent on the performance of the portfolio, which depends on the rate of default of the reference entities.
The best data possible would be a breakdown of the portfolio showing every reference entity and the amount of insurance written on it.
Is anything less acceptable (to me)?
Possibly.
By your reckoning, Primus has a 245 basis point capital cushion.
So the $64 question is, if defaults rise to equal historically bad periods (previous recessions), how much damage can we expect? Is it anywhere near 245 basis points? Is it more?
Primus themselves have probably looked at this in great detail and might be able to talk an outside investor through their thinking.
I may do some digging myself.
June 26th, 2008 at 12:49 am
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September 17th, 2008 at 12:07 pm
Thanks for your research on Primus Guarantee.
Wondered :
1) How do you estimate impact of Lehman Brothers bankruptcy filing on Primus economic book value ?
2) Their business model is not a “zero default” model therefore economic book value should be somehow discounted with a credit event reserve (like an insurer which is putting a reserve on its balance sheet to cover even very improbable events).
I understand for example from their recent Lehman Brothers Conference presentation that they have about $500 m. of notional exposure to monolines. So there clearly are some risky assets in their books.
How much do you think this reserve to cover future credit loses may impact their “true” economic book value ?
3) According to your and management analysis stock is really dirty cheap even if you consider a run off scenario. But there is a total lack of management stock insider purchase recently. How do you view this discrepance between their words and their money ?
Thanks in advance for your feedback.
Best regards
September 17th, 2008 at 9:26 pm
Vincenzo,
If the ultimate recovery value on Lehman debt that I saw from Bloomberg is correct, bond holders should get 60-80 cents on the dollar after liquidation. Taking the lower end of that (60%) against the gross notional ($80M), and adding in quarterly premiums accrued against expenses implies a cost of about $0.40-0.45 per share in book value.
I’m not sure I quite understand what you’re saying about reserve accounting, but I think the easiest way to quantify it is to look at a run-off model and compare the discounted cash flows against the present equity value; the difference is the market implied credit losses. I have a spreadsheet worked up you can look at if you’re interested, just drop a reply back here.
While I won’t pretend to speak for the insiders and how they invest their money, I will note that Tom Jasper (CEO) has about 500k shares, and the next two top executives both have >50k shares. I’d really like to see a company buyback right now… it would hardly cost anything to take a chunk off the market, and would send a strong signal, IMO.