CREDITS ON THE FRINGE BENEFIT BOND INSURER
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April 26, 1999 01:00 AM

CREDITS ON THE FRINGE BENEFIT BOND INSURER

Karen Pallarito
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    Russ Fraser is looking to saddle up a few good sole community providers and rural hospitals.

    Fraser, a self-styled cowboy and owner of the Double Diamond X Ranch in Cody, Wyo., also knows a solid business opportunity when he sees one. After hanging up his boots as chairman of New York rating firm Fitch Investors Service-now called Fitch IBCA-in 1997, Fraser launched ACA Financial Guaranty Corp., a provider of municipal bond insurance. Fraser's firm serves a specific niche-credits on the fringe of investment-grade status and below. The credits tend to be riskier than those insured by major credit enhancers.

    In healthcare, Fraser is targeting sole community and rural hospitals, certain specialty providers and long-term-care operators-the kind of providers that usually meet their capital needs through bank financing, available cash or bond proceeds tapped at above-market rates. Even though ACA insurance isn't cheap, providers that use it can still lower the cost of capital.

    Fraser couldn't have picked a more volatile time to enter the healthcare market. Even the industry's prize credits are showing the strain of tightening reimbursement and head-to-head combat for market share. On the other hand, Fraser's firm specifically avoids hospitals in markets roiled by the pressures of managed care, labor unions and competition.

    "We'd rather deal with risk than competition," says glib, chain-smoking Fraser. "We're lovers. We're not fighters."

    ACA, the New York-based subsidiary of American Capital Access Holdings, is privately held. Institutional investors with a stake in the company include Aegon USA, GCC Investments, Insurance Partners, Stephens Group and Third Avenue Funds.

    Nearly 40% of ACA's portfolio consists of acute-care and long-term-care credits. That's a higher percentage of exposure than any major bond insurer has. But Fraser says that percentage will likely drop to between 20% and 25% five years from now. The rest of the portfolio is made up of other municipal securities, structured finance transactions and corporate debt obligations.

    According to a March 18 report by Fitch IBCA, ACA had guaranties totaling $3.5 billion as of Dec. 31, 1998. The company wrote $1.4 billion of insurance in 1998. On a net par basis, ACA's acute-care deals represent $683 million, or 33% of the $1.9 billion outstanding.

    ACA's portfolio includes names like City of Hope National Medical Center, a Duarte, Calif.-based cancer-care hospital; Richland Hospital in rural Richland Center, Wis.; and St. Tammany Parish Hospital, a Covington, La., hospital 25 miles north of New Orleans and separated from the Big Easy by Lake Pontchartrain.

    Premiums vary based on the deal, the maturity of the bonds and providers' underlying ratings. But pricing, which is based on total principal and interest, generally ranges from 175 to 300 basis points, or 1.75 to 3 percentage points. David Mabe, St. Tammany's assistant administrator and chief financial officer, says cost was not a factor, because the insurance lowered the hospital's cost of capital by roughly half a percentage point to 5.5%.

    Although St. Tammany had talked to some of the major bond insurers, its options suddenly dried up when Pittsburgh's Allegheny Health, Education and Research Foundation defaulted on $256 million of debt insured by MBIA Insurance Corp. After that, both Armonk, N.Y.-based MBIA and AMBAC Assurance Corp., New York, backed off recommendations to insure Tammany's $64 million deal, Mabe says.

    Fraser also sees a niche for his product in the long-term-care field. ACA has invested mainly in continuing-care retirement communities and assisted-living facilities. "This country can't leave the elderly out to dry," he reasons.

    With its A rating, ACA is a burr in the saddle of investors shopping for yield. Tight spreads between top-notch credits and lower-rated paper have made it difficult lately for portfolio managers to find higher-yielding paper that meets their portfolio requirements.

    "Russ picks away nonrated or low triple-B credits, and all of a sudden they're an A," explains Fred Martucci, managing director of public finance at Fitch IBCA. "He's taken some spread away from the funds, and they hate that. At the same time, he's helped them with liquidity."

    ACA's A rating has increased trading of otherwise speculative credits on the secondary market. It also has enabled funds that buy only investment-grade paper to add new names to their portfolios.

    Love him or hate him, Fraser is likely to become a lasting player in the market if past performance indicates future success.

    As chairman of Fitch, Fraser built the fledgling bond rating agency into a leading provider of credit-rating services now employing 600 people in 25 offices around the world.

    "The people who are loyal to Russ (are) almost like rock groupies," Martucci says, "because he makes money for people, and he shares."

    Yet even Fraser can make mistakes. His firm insured through the secondary market roughly $9 million of debt issued for Cooper Health System, a troubled Camden, N.J.-based credit.

    Cooper recently laid off 400 people to help stem losses, which are expected to exceed $8 million in 1999. It was an atypical deal for ACA, one that in hindsight didn't make sense.

    Fraser admits to messing up occasionally but still remains devoted to healthcare. "I think there's room for it to be a reasonable percentage of your portfolio if you do it right."

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