A state regulator's proposal to staunch the bleeding of troubled bond insurer Ambac Assurance Corp. is moving forward after a Wisconsin circuit judge Tuesday denied motions seeking to prevent a deal with banks holding Ambac-insured securities.

Ambac Assurance is a unit of Ambac Financial Group Inc. (ABK).

The Wisconsin Office of the Insurance Commissioner had in March unveiled a plan that would give a group of up to 17 banks $2.6 billion in cash and $2 billion in securities called surplus notes. In exchange, the banks would tear up $17 billion worth of Ambac-insured collateralized debt obligations.

These banks, identified in court filings, include Banco Bilbao Vizcaya Argentaria SA (BBVA, BBVA.MC), Banco Santander (STD, SAN.MC), Barclays Bank PLC, BNP Paribas SA (BNPQY, BNP.FR), Canadian Imperial Bank of Commerce (CM, CM.T), Citibank N.A., Citigroup Global Markets Limited, Commerzbank AG London Branch, Credit Agricole Corporate and Investment Bank, Natixis (NTXFY, KN.FR), Natixis Financial Products Inc., Royal Bank of Scotland PLC (RBS, RBS.LN), Societe Generale SA (SCGLY, GLE.FR) and UBS AG London branch.

But two groups of investors who owned Ambac-insured bonds filed motions seeking to block any settlement, arguing it was unfair and could hurt their claims.

One group of investors includes hedge funds Aurelius Capital Management, Fir Tree Inc., King Street Capital LP, King Street Capital Master Fund, and Monarch Alternative Capital LP and money manager Stonehill Capital Management, who say they own or manage $1 billion of residential mortgage-backed securities backed by Ambac insurance contracts. The other group includes Eaton Vance, Nuveen Asset Management, Restoration Capital and Stone Lion Capital, who say they own a majority of Las Vegas Monorail Project Revenue bonds guaranteed by Ambac insurance. Freddie Mac, which holds $2 billion of residential mortgage-backed securities backed by Ambac insurance contracts, later joined in the motions.

These investors' policies have been placed in a segregated account by the insurance commissioner that hold $68 billion worth of contracts on residential mortgage-backed bonds and other kinds of structured securities. Claims made by owners of assets in the segregated account won't be paid until the court approves a rehabilitation plan, which the regulator expects by September.

The segregated account is capitalized by a $2 billion secured note due 2050, and remaining claims would largely be satisfied by surplus notes from the general account.

In an oral ruling in Darlington, Wis., on Tuesday, however, Judge William D. Johnston denied the motions to stop the settlement with the banks, according to the regulator's office.

Failure to settle with the banks would have increased the amount of claims by more than $8 billion, the regulator said.

"The steps we're taking are aimed at avoiding billions of dollars of losses, and will provide the best way toward a durable solution for all policyholders," said the commissioner, Sean Dilweg, in a statement. "There are very real and dramatic risks, if the orderly process we are pursuing is not preserved."

Lawyers for the investors didn't return requests for comment.

Ambac had been losing millions of dollars a month from the toxic structured securities it guaranteed. In the fourth quarter of 2009, it saw a total net loss and loss expenses of $385.4 million.

-By Romy Varghese, Dow Jones Newswires; 215-656-8263; romy.varghese@dowjones.com
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