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I purchased a starter position in an Ambac (AKT) preferred stock last week which seemed to be selling at a ridiculous price level (800 shares @16.71). This AA rated security is yielding around 8.8%.

Ambac is in the financial guarantee business which has been getting hammered lately and has suffered from downgrades recently. Other companies in the industry like MBIA (MBI), ACA Capital Holdings (ACA) and Assured Guaranty (AGO) have also been hit hard. I'm also considering a purchase of the Ambac common stock or a covered call position, but decided to wait awhile longer since the risk level is much higher.

Here is why I like the AKT preferred:

  1. Ambac has a very strong balance sheet- over $1 billion in excess capital. S&P rates this preferred stock as AA, and Moody's as Aa2.
  2. Conduit risk is a non-issue for Ambac. A guarantor company like Ambac does not incur any liquidity risk with conduits- they merely provide credit enhancement to the underlying assets.
  3. Ambac does not face the same liquidity or mark-to-market risk in CDOs or mortgage securities as a firm like Merrill Lynch (MER). Their mark-to-market is based on the price of insurance.
  4. AKT is exchange traded debt (senior unsecured and unsubordinated). I would put the chance of an Ambac bankruptcy at well under 1%. Holders of ABK common would be exposed if the company went bankrupt, but even if that occurred, the AKT preferred (which is bank debt) should still do fine since it would participate in the re-organization of a new improved Ambac.
  5. Good call protection. AKT is callable on 03/24/2008 @ $25 a share. But given my purchase price under $17, I would have no problem if AKT is called away next year.

Source: Why I Like Ambac Preferred