(Update 1: adds Fitch Ratings downgrade to junk) Triad Guaranty Inc. (TGIC) said Friday that it has entered into exclusive negotiations with Lightyear Capital LLC, a New York-based private equity firm, to create a new monoline mortgage insurance company. Triad CEO Mark Tonneson said on April 11 that the company would look to clone itself in the wake of a recent ratings downgrade, establishing a new mortgage insurer and putting its existing MI portfolio into run-off. An investor group led by Triad would tentatively provide up to $400 million to fund the new mortgage insurer, Triad said, with "certain key members of Triad’s current management and many of its employees" joining the new company. Triad would not initially have a stake in the new company. "We believe the transactions that we are now actively negotiating with Lightyear offer the best outcome for our customers, policyholders, stockholders and employees given the current industry conditions and capital-raising environment," said Mark Tonnesen. "In addition to the benefits to the industry from fresh capital, we believe the new company and our clients will benefit from Lightyear’s deep understanding of the financial services market and its extensive network of relationships in the worlds of mortgage finance and insurance." Lightyear manages roughly $3 billion in capital, and owns a stake in New York-based Athilon Group Holdings Corp., which provides credit risk protection for structured finance vehicles. The private equity firm also held a controlling stake in former home equity lender Deep Green Financial, which abruptly shut its doors in January of last year as the mortgage crisis was just gaining momentum. Fitch Ratings was clearly not amused, however, and downgraded Triad's insurer financial strengh rating to BB from its previous perch at BBB- -- that's junk status -- saying that Triad likely wouldn't have enough capital to meet its policyholder obligations for 2006 and 2007 should it attempt to reinvent itself rather than recapitalizing. "Without the prospects of profitable future business to offset the likely increase in losses created by the 2006 and 2007 vintage years, or a meaningful capital infusion, Fitch believes that Triad's margin of safety to meet policyholder obligations could become pressured if delinquency and loss development continue at a sustained pace," the agency said in a press statement. For more information, visit http://www.triadguaranty.com. Disclosure: The author owned no positions in TGIC when this story was originally published. HW reporters and writers follow a strict disclosure policy, the first in the mortgage trade.