Bond insurer MBIA, which continues to battle Bank of America in court over mortgage bonds insured by MBIA, moved from a steep loss to a year-end profit in 2012 due to fair value changes on insured credit derivatives.

MBIA (MBI) posted fourth-quarter income of $636 million, or $3.26 a share in 2012, up from a deep loss of $626 million, or $3.23 a share, a year earlier.

For the entire 2012 fiscal year, income rose to a profit of $1.2 billion, or $6.33 a share, up from a net loss of $1.3 billion, or $6.69 a share, in 2011.

The firm's CEO Joseph Brown informed investors this week that MBIA also remains confident in the outcome of a four-year legal dispute in which banks challenged MBIA’s decision to transform itself in 2009, essentially creating National Public Finance Guarantee as a spin-off.

Major banks with bond deals insured by MBIA pushed back against the transformation, but Brown told investors he’s confident the transformation litigation is closer to resolution, especially with most of the plaintiffs no longer fighting the restructuring.

"The transformation litigation, originally a challenge by a group of 18 banks against our 2009 restructuring, has now largely been reduced to a lever in our ongoing dispute with Bank of America and its Countrywide subsidiary over their mortgage putback obligations," said Brown. "We believe this will come to a head in the near future as well since our litigation against them is well advanced."

BofA and MBIA have been fighting it out in court over bonds that MBIA insured only to later claim they were tricked into guaranteeing Countrywide loans (now BofA) that contained material misrepresentations about the quality of the underlying loans. MBIA sued saying it was on the hook for the losses, making this one of the most watched reps and warrants cases over mortgage bonds.

Brown told investors a recent court decision against Flagstar Bank (FBC) in a dispute with insurer Assured Guaranty (AGO) may spell good news for MBIA in its current ltigation with BofA.

"Flagstar was ordered to reimburse Assured Guaranty for virtually 100% of their incurred losses plus interest and expenses," Brown said. "We continue to expect rulings and our recovery litigations will substantially reimburse our damages which in the case of Bank of America run to nearly $5 billion."

Yet, Brown noted that both firms have an incentive to settle in his opinion, especially with BofA remaining a policyholder on CMBS deals insured by MBIA.  

"We will continue to be motivated to reach a negotiated settlement because of the potential disruption and loss of value that would be triggered by a regulatory proceeding against MBIA Corp," said Brown on the earnings call. "In addition, I believe Bank of America will also be motivated to achieve a settlement in order to avoid having their CMBS claims substantially diluted and delayed. Settlements occur when the perceived economic values converge, and there are substantial drivers that we think should suggest such a convergence. However, if that is wrong, both companies will be damaged as a consequence. Moreover, as I've said in the past, we will not accept a non-economic settlement."