January 10, 2012

MGIC Investment Corp (MTG) Investment idea- Buy MGIC Investment Corp 5.375 Senior Notes maturing on 11/1/2015 MGIC senior notes trade 67 and offer a 16% yield to a 2015 maturity. In June the senior notes traded at 90 when MTG stock traded at $6. MTG stock bottomed on October 3rd at a $1.63; MTG senior notes traded down to 67 as the stock hit its lows. MTG stock has subsequently moved up to over $4 last week ($4.10 as we write this). MTG senior debt continues to trade at the same level that it did in October. We believe these levels provide an attractive entry point for the senior notes. "You see the pig has moved through the python in terms of US housing losses." - Kyle Bass on MGIC from November 7, 2011 WSJ article after reporting a 5% MTG stake MGIC Investment Corp is the holding company for Mortgage Guaranty Insurance Corp, the largest mortgage insurance company in the US (see prior VIC write-ups for more background). MGIC has suffered significant losses post the US housing collapse. We believe that the worst is behind them, and there is significant value in MGIC holding company debt securities. While all of MTG debt securities look compelling to us, we recommend the 5.375% 2015 notes for the purposes of this write-up. MGIC debt outstanding is shown below.
Face Value $245 $345 $390 $980 Market Price $67 $61 $50 Market Value $164 $210 $195 $569

Senior Notes (5.375%) due 2015 Convertible Senior Notes (5.0%) due 2017 Convertible Junior Subordinated Debt (9.0%) due 2063 Total
Marks as 1/9/2012

Disclosure: We own the senior notes, the 2063 converts and call options on MTG stock.

Why haven't the bonds traded higher? As our bond salesperson told us today "the bond price is being driven off of perception." We believe that the bankruptcy of PMI Group has weighed on the prices of MGIC debt. Also, Republic Mortgage Insurance Company, a subsidiary of Old Republic, recently was forced to halt underwriting new business after its statutory capital levels were breached. We'd note that subsequent to the PMI and Republic announcements, MGIC senior debt sold off significantly and has not recovered. PMI Group filed chapter 11 on November 24th. MGIC senior notes traded down to 63 at the end of November. We believe that MGIC will continue to be able underwrite new business and will be a survivor in a less competitive industry. We would note that if our analysis proves correct that all debt securities and MTG stock will do well. Our thesis on MGIC is premised on four important components: 1) MGIC delinquent inventory peaked last year and continues to improve. 2) MGIC senior notes have value even in a stressed/run-off scenario. 3) The surviving private mortgage insurers will benefit as the

January 10, 2012 FHA becomes less competitive and PMI and Republic have exited. 4) The US housing market has troughed. 1) MGIC delinquent inventory peaked last year and the remaining book continues to improve. MGIC has underwritten two types of business: primary and pool. MGIC continues to underwrite primary business but halted pool in 2008. Of the $46B remaining risk in force, only $2B is pool.

Table 1
MGIC Primary Delinquent Inventory (# of loans)
255,000 245,000 235,000 225,000 215,000 205,000 195,000 185,000 175,000 165,000 155,000 145,000 135,000 125,000 Q3 2008 Q4 2008 Q1 2009 Q2 2009 Q3 2009 Q4 2009 Q1 2010 Q2 2010 Q3 2010 Q4 2010 Q1 2011 Q2 2011 Q3 2011 Nov-30 2011

As shown in the chart above, after peaking at roughly 250,440 primary delinquent loans at the end of 2009, MGIC's book continues to burn-off. In its latest monthly disclosure, MTG reported 175,691 primary loans delinquent. MGIC also had 33,792 mortgages in default at the pool level at the end of the 3rd quarter. Of the $2B in pool risk in force $770mn maintains aggregate loss limits. The remaining $1,260mn does not have aggregate loss limits but is 2004 vintage and prior and has had minimal losses. MGIC has $379mn of reserves against the $2B pool risk in force. Pool delinquencies have fallen off similar to primary. MGIC's current primary insurance in force is highlighted in Table 2:

January 10, 2012 Table 2:

# of Loans 1,141,442 # of Loans 33,167 45,110 102,617 180,894 Total $ (mns) Avg Mortgage Size $179,000 $156,819

Insurance in Force Default Inventory 3 months or less 4-11 months 12 months or more Ending Default Inventory
* As of Sept 30, 2011

Primary Reserves Total $ (mns) Per Loan $4,403 $24,340

MGIC has reserves of $4.4B or $24,340 per delinquent primary mortgage. The average mortgage size is $157k. MGIC newer business (post 1H 2008) has been pristine. As legacy business continues to burn-off, MGIC will look like a much healthier entity. In the near-term, there is investor concern that MGIC is not adequately reserved and at risk of breaching their statutory capital levels in 2012 or early 2013. MGIC is required to maintain a minimum statutory position of 25 to 1. After downstreaming cash to the insurance subsidiary at yearend, MGIC pro-forma statutory capital levels are shown below. MGIC announced that would be moving $200mn down on the 3rd quarter call. Table 3:
Separate Company Statutory Capital Risk-in-force Stat Capital Ratio 1,479 32,779 22.2 downstream 200 proforma 1,679 32,779 19.5

Combined Statutory Capital 1,580 200 Risk-in-force 37,979 Stat Capital Ratio 24.0 Risk-in-force for stat capital purposes excludes loans in default

1,780 37,979 21.3

While we concede that breaching a 25 to 1 level is possible, wed note that MGIC will have additional available cash to downstream to the insurance subsidiary. In fact, we recommend that the company Tender or buy its senior notes in the open market before 2015 as this would provide more cash available to downstream in a stressed scenario. This would not be unprecedented as the company bought back $55mn face at 94 in Q2 of 2011. Table 4:
Do Nothing Purchase/Tender MGIC HoldCo Cash after downstream 563 $ 563.0 $ 563.0 $ 2015 Debt Outstanding 245 $ 245.0 $ 245.0 $ 2015 & 2017 Debt Interest due 2012-2015 121.6 $ 69.0 $ 69.0 $ Purchase/Tender Price 70 85 Cash Used 245 $ 171.5 $ 208.3 $ Cash Available to Downstream $ 196.4 $ 322.5 $ 285.8 $ *assumes MGIC opts to not pay interest on the 2063 subordinated notes 563.0 245.0 69.0 100 245.0 249.0

January 10, 2012 2) MGIC senior notes have value in a run-off scenario. In the following analysis we attempt to illustrate that MGIC has significant value even in a scenario where they were unable to underwrite new business. While we do not believe MGIC will be put in run-off, we believe it important to stress the model in this worst case scenario. We concede this analysis is anything but perfect, but we do believe that even in conservative scenarios there is ample room to pay the senior notes (and other debt securities). At the end of the 3rd quarter, MGIC had $763mn in cash. MGIC has roughly $563 million in cash at the holding company level after moving $200mn from HoldCo to insurance subsidiary post-Q3 excluding losses in Q4. The key assumptions in this analysis include the default rate for remaining insurance in force (for loans in the various buckets- current, 45 days to 3 months delinquent, 4-11 months delinquent, 12 months or more delinquent), severity of the claim and (as shown in Table 6), the burn-off trajectory of insurance in force.

Table 5:
$ in mns Current Loans (a) Delinquent Loans 3 months or less 4-11 months Subtotal (b) 12 months or more Known HAMP trials (c ) Re-default rate (d) DQ reduction (c x d) Net 12 months or more (e) = Total (a+b+e)
.

# Outstanding Default Rate 960,548 4.20% 43,312 47,929 91,241 89,653 13,900 50.0% (6,950) 82,703 50.0% 75.0% 63.1%

Default # 40,343 21,656 35,947 57,603

95.0%

78,568 176,514 176,514 $50.900 $8,985

Total claims X Average claim ($000s) = Total claims ($mns) Rescission benefit Total claim ($mns) X MTG est. benefit = MTG implied rescission Net Primary Claims Less: Reserves Surplus (Deficit) Pool Risk Default % Pool Claims Less: Reserves Surplus (Deficit) Total Claims (net primary claims + pool claims) Less: Reserves Surplus (Deficit) Cash & Investments Surplus (Deficit)

$8,985 7.0% $629 $8,356 $4,403 ($3,953) 770 70.0% $539 $379 ($160) $8,895 $4,792 ($4,103) $7,125 ($1,770)

January 10, 2012

Table 6:
Beg Insurance in force (IFF) Persistency Run-off Ending insurance in force (IFF) Premium rate Ave IIF Premium earned Claims paid Opex expenses Beg Investment + Net econ profit - Debt repayment - Annual tax payment = End Investment Average Investment Investment rate Interest income Average debt Debt rate Interest expense 4Q2011 179,000 85.0% (6,713) 172,288 0.61% 175,644 $267 $700 $50 $7,125 ($456) $0 $0 $6,669 $6,897 2.50% $43 $980 6.68% $16 2012 172,288 85.0% (25,843) 146,444 0.61% 159,366 $971 $2,200 $50 $6,669 ($1,193) $0 $0 $5,476 $6,073 2.50% $152 $980 6.68% $65 2013 146,444 85.0% (21,967) 124,478 0.61% 135,461 $825 $2,000 $50 $5,476 ($1,168) $0 $0 $4,308 $4,892 2.50% $122 $980 6.68% $65 2014 124,478 85.0% (18,672) 105,806 0.61% 115,142 $701 $1,850 $50 $4,308 ($1,152) $0 $0 $3,155 $3,732 3.00% $112 $980 6.68% $65 2015 105,806 85.0% (15,871) 89,935 0.61% 97,871 $596 $1,375 $50 $3,155 ($789) ($245) $0 $2,121 $2,638 3.50% $92 $735 7.12% $52 2016 89,935 80.0% (17,987) 71,948 0.61% 80,942 $493 $320 $50 $2,121 $158 $0 $0 $2,279 $2,200 4.00% $87 $735 7.12% $52 2017 71,948 80.0% (14,390) 57,558 0.61% 64,753 $394 $285 $50 $2,279 $124 ($345) $0 $2,058 $2,169 4.50% $97 $390 8.09% $32 2018 57,558 80.0% (11,512) 46,047 0.61% 51,803 $315 $165 $50 $2,058 $171 $0 $0 $2,229 $2,144 5.00% $106 $390 9.00% $35 Sum 4Q112018

$4,563 $8,895 $400

$811

$384

Table 7:
4Q2011-2018 Total premiums earned + Investment income Premium & investment income - Interest expense - Operating expenses Net cash inflow/(outflow) $4,563 $811 $5,373 $384 $400 $4,589

To give credit where credit is due, Tables 5, 6, and 7 were piggybacked off the work of Compass Point Research analyst Chris Gamaitoni (we encourage anyone doing further diligence to reach out to him).

In what we consider as a relatively bearish scenario, shown in Table 5, there may be a deficit of $1.8B given the current potential claims. However, even in this bearish scenario, we believe that the significant (undiscounted) cash flows generated from premiums and investment income after interest and operating expenses would far exceed this potential deficit as shown in Table 7. Again, this analysis assumes a run-off scenario and no new business is generated; in our opinion this is the worst case scenario. We believe the senior notes will be repaid in this scenario. 3) The share of the mortgage insurance market underwritten by the private players will grow significantly in 2013 and beyond. This is more relevant to our longer-term view of MGIC (if private players were not to pick up share it would not change our view on the senior notes). 5

January 10, 2012

After the housing collapse the FHA became the main provider of insurance on low-down payment mortgages. Given increased pricing (in April 2010) from the FHA, the private players have captured additional share. As shown in the chart below in the 4th quarter of 2009 and 1st quarter of 2010, the private market maintained only 12% share. As of the 3rd quarter of 2011, that share has doubled to 24%. Table 8:
Private Mortgage Insurance Market Share
90% 80% 70% 60% 50% 40% 30% 20% 10% 0%

Source: FHA, mortgage insurers company reports

While it is unclear when this share will swing significantly back in favor to private mortgage insurers, we believe it will eventually. We concede that given the spreads on Ginnie Mae securities versus Fannie and Freddie securities, the current share mix will probably remain static in the nearer-term. If the FHA were to increase pricing again, additional share to the private players would result and could be a potent catalyst for additional revenues and cash flows for MGIC. Notably, the surviving players will benefit from poorly reserved peers exiting. As mentioned earlier PMI and Republic (subsidiary of Old Republic) are no longer underwriting business after breaching statutory capital levels. We believe this is a positive for MGIC as two large competitors representing 20% of the market are no longer competing for business. Five mortgage insurers remain.

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January 10, 2012

Table 9:
Private Mortgage Insurance Market Share 3Q10 4Q10 1Q11 2Q11 3Q11 2011 YTD United Guaranty 15.8% 16.5% 16.0% 18.6% 25.4% 20.0% Radian 20.7% 20.5% 19.9% 17.9% 22.2% 20.0% MGIC 22.5% 22.9% 22.9% 23.0% 20.3% 22.1% Genworth 16.8% 16.8% 17.4% 15.6% 15.0% 16.0% PMI 16.4% 15.7% 15.2% 14.5% 8.6% 12.8% Old Republic 7.9% 7.5% 6.6% 6.9% 4.3% 5.9% Essent 0.0% 0.0% 2.0% 3.5% 4.0% 3.2% Other 0.0% 0.1% 0.0% 0.0% 0.2% 0.1% Total 100% 100% 100% 100% 100% 100%

In the last three months, MGIC new insurance written has picked up. On MGICs 3rd quarter conference call, management stated they expected $2.5-$3.5B of new insurance written in Q4, a typically slow time for originations. As shown in the table below, MGIC already has written $2.8B in October and November alone. We believe this to be directly a function of peers exiting. Table 10:
Primary New Insurance Written (Bns of $)
1.6 1.4 1.2 1 0.8 0.6 0.4 0.2 0

Nov-10

Dec-10

Mar-11

May-10

What is interesting to us is the revenue opportunity available to MGIC assuming more business trends back to the private players versus FHA/VA. In Table 11 we have run an analysis of the percentage of all mortgages originated that have required mortgage insurance.

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January 10, 2012

Table 11:
1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011E 2012E 2013E Mortgage Origination $1,656 $1,379 $1,139 $2,243 $2,854 $3,812 $2,773 $3,027 $2,726 $2,306 $1,509 $1,995 $1,572 $1,000 $1,100 $1,250 Total MI 20% 26% 24% 20% 18% 17% 14% 12% 13% 20% 32% 27% 28% 27% 23% 22% % Private 56% 52% 59% 63% 64% 64% 67% 76% 77% 77% 40% 15% 16% 21% 25% 30% $ Private $187 $189 $163 $283 $337 $405 $264 $268 $266 $357 $193 $82 $70 $57 $63 $83 % MTG of Private MTG NIW

22% 22% 25% 24% 17% 25% 25% 25%

$58 $77 $48 $20 $12 $14 $16 $21

Source: FHA, Mortgage Bankers Association

This table above shows that in 2011 approximately $1T in mortgages were originated. Of the $1T, more than 27% had a mortgage insurance policy ($269.7B worth had mortgage insurance through October 2011). The breakout between private and government insurance is shown in Table 12 below. Table 12:
New Primary Private Traditional Bulk n/a n/a n/a n/a n/a n/a n/a n/a $282,230 $54,820 $330,790 $73,780 $216,000 $47,830 $183,640 $83,900 $174,452 $91,621 $285,698 $71,445 $190,663 $2,604 $81,568 $132 $69,797 $383 $54,910 $1,897 MI Total $187,450 $188,910 $163,160 $282,970 $337,050 $404,570 $263,830 $267,540 $266,073 $357,143 $193,267 $81,700 $70,180 $56,807 Gov't Insured Lending FHA VA Total $103,164 $42,569 $145,733 $122,284 $49,553 $171,837 $93,110 $22,210 $115,320 $131,240 $35,430 $166,670 $145,055 $41,947 $187,002 $165,330 $66,147 $231,477 $93,662 $35,313 $128,975 $57,527 $24,884 $82,411 $53,730 $24,461 $78,191 $79,543 $25,158 $104,701 $254,173 $40,585 $294,758 $375,791 $74,030 $449,821 $298,136 $68,921 $367,057 $157,909 $55,022 $212,931 Total Primary MI $333,183 $360,747 $278,480 $449,640 $524,053 $636,048 $392,806 $349,951 $344,264 $461,844 $487,992 $531,521 $437,237 $269,738

1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 YTD

YTD = October 31, 2011

Source: FHA

We estimate MTG will write $13.5-$14.2B in new insurance total for 2011 ($12.8 through November 30). If one believes that FHA will continue to rein in their mortgage insurance efforts, the remaining private mortgage insurers would see a spike in new business in 2012 and 2013. See Table 11 bottom right corner for an estimate on the impact to MGIC.

January 10, 2012 4) We believe the US housing market has troughed and is beginning to rebound. We refer readers to the write-up by cnm3d www.scribd.com/doc/64974231/Anon-HousingThesis-09-12-2011 as we feel it is well-done and in the interest of this audience find it unnecessary to reiterate what the analysis underscores. Other key points: MGIC investment portfolio appears clean with no exotic/illiquid investments. Table 13:
Investment portfolio at September 30, 2011 US treasury securities & US govt securities Obligations of US States Corporate Debt Securities Commercial mortgage backed securities Residential mortgage backed securities Debt securities issued by foreign sovereign govts Total debt securities Equity securities Total Investment Portfolio Fair Value 776,254 2,999,632 2,293,106 195,033 49,835 141,661 6,455,521 2,699 6,458,220

MGIC currently has $1.32bn in NOLs. MGIC has already funded a stacked subsidiary with $200mn (MIC) in the event MGIC were to breach the 25 to 1 stat capital threshold.

Risks: A significant jump in employment causes higher default rates than our assumptions Severity rates are much higher than we anticipate Housing prices Conclusion In an environment of zero interest rates, we believe MGIC senior notes yielding 16% over the next 4 years are a compelling investment idea. With MTG market capitalization growing from $326mn on October 3rd to $840mn today, it seems like a dislocation to us that the companys $245mn in senior notes continue to be priced below 70.

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1/6/12 12/30/11 12/23/11 12/16/11 12/9/11 12/2/11 11/25/11

MTG 5 3/8% vs MTG Common Stock

11/18/11 11/11/11 11/4/11 10/28/11 10/21/11 10/14/11 10/7/11 9/30/11 9/23/11 9/16/11 9/9/11 9/2/11 8/26/11 8/19/11 8/12/11 8/5/11 7/29/11 7/22/11 7/15/11 7/8/11 7/1/11 6/24/11 $7.5 $7.0 $6.5 $6.0 $5.5 $5.0 $4.5 $4.0 $3.5 $3.0 $2.5 $2.0 $1.5 MTG 5 3/8% (RHS)

January 10, 2012

MTG Stock (LHS)

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MTG Stock Price Bond Price