NEW YORK (Bloomberg) - Ambac Financial Group Inc. and MBIA Inc., the bond insurers that lost their top credit ratings and saw their shares plunge more than 80 percent, may report a third straight quarterly loss as the mortgage-related debt they guarantee tumbles in value.

Ambac and MBIA are reducing the value of contracts on collateralised debt obligations (CDOs) amid the worst housing slump since the Great Depression at the same time their original business of insuring municipal bonds dries up. Just 24 percent of the state and local debt sold in the first half of the year was insured, down from 49 percent in the same period of 2007, according to data compiled by Thomson Reuters.

"These companies are now marginal in terms of new business," Christopher Whalen, co-founder of research firm Institutional Risk Analytics in Torrance, California, said. "If municipalities keep going to market without insurance, their business is dead."

New York-based Ambac will likely report a loss tomorrow of about $175 million, or 61 cents a share, according to the average estimate of five analysts surveyed by Bloomberg. Armonk, New York-based MBIA may say on August 8 that it lost about $335 million, or $1.23 a share, based on the average of six estimates.

MBIA CEO Jay Brown, 59, and Michael Callen, 68, CEO of Ambac, were hired earlier this year by the bond insurers in a bid to save their AAA credit ratings. In June, Moody's Investors Service downgraded MBIA five levels and Ambac three, while Standard & Poor's cut both two levels.

Ambac, which fell 92 percent over the past 12 months, rose 61 cents to $4.80 as of 9.52am on the New York Stock Exchange. MBIA, which declined 84 percent during the same period, increased 20 cents to $7.94. Ambac spokeswoman Vandana Sharma declined to comment. MBIA spokesman Jim McCarthy did not return a call for comment.

Both MBIA and Ambac began to lose money last year as defaults on sub-prime mortgages started to rise. Ambac posted losses of $3.3 billion in the fourth quarter and $1.7 billion in the first quarter. MBIA lost $2.3 billion in the last three months of 2007 and $2.4 billion in the first three months of 2008.

The second-quarter estimates from analysts range from a loss of 21 cents to $1.17 per share at Ambac, and between 6 cents and $2.76 at MBIA.

"The financial guarantors are something of a black box so when they do report earnings, given the squishy accounting rules for reporting losses, it's always something of a surprise," said David Merkel, chief economist at Finacorp Securities in Newport Beach, California. Merkel is an actuary and former portfolio manager who has analysed the bond insurance industry.

Bond insurers are seeking to cancel some of the agreements that guarantee more than $100 billion of CDOs derived from mortgage securities as prices decline. New York-based Merrill Lynch & Co. said last week it sold $30.6 billion of the securities for 22 cents on the dollar. CDOs package pools of debt and slice them into pieces with varying risk and ratings.

Ambac also said last week it will pay Citigroup Inc. of New York $850 million to tear up a guarantee contract on a $1.4 billion CDO. Bermuda-based Security Capital Assurance said it will pay Merrill Lynch $500 million to cancel eight of the contracts totaling $3.7 billion.

"It's way better for both sides to get the uncertainties off their books as long as there's sufficient capital left to meet other obligations," New York State Insurance Superintendent Eric Dinallo said.

Ambac and MBIA are also losing new business to Bermuda-based Assured Guaranty Ltd. and New York-based Financial Security Assurance Holdings Ltd. (FSA), Ambac and MBIA had a combined market share of 3.2 percent in the first half of the year, down from 42.2 percent in the same period of 2007.

California cities filed lawsuits against the bond insurers, claiming they benefited from a rating system that unfairly assigned municipalities low rankings, forcing them to buy insurance. Moody's and Fitch Ratings plan to change their ratings scale so that their rankings reflect actual default risk, a step that will reduce the need for cities and states to buy insurance.

The prospects for bond insurers dimmed further in July when Moody's placed the Aaa ratings of Assured Guaranty and FSA under review for a possible downgrade.

This "may well be the end of bond insurance as we know it," Matt Fabian, managing director at Concord Massachusetts-based research firm Municipal Market Advisors, said in research note. "The industry's inability to maintain predictable ratings through the current crisis is troubling."