In its March 2009 interim results announcement National Australia Bank disclosed that it had, in part, increased provisions due to its expectation that lenders' mortgage insurance claims for loans written between 2004 and 2006 may not be fully met by LMI providers. Care needs to be taken with this statement. Was NAB saying that it expects that with claims rising in the current economic climate not all will be fully met due to more rigorous assessment, or was NAB expressing doubts about the credit quality of the LMI providers?  Market talk suggests it is the former and that Genworth is taking the opportunity to deny claims on NAB's broker book (through the bank's HomeSide brand). Nevertheless, the latter view is worth pondering, and either way NAB's difficulty with its main mortgage insurer could be quite disconcerting for investors holding subordinated tranches of Australian mortgage-backed securities, which typically rely heavily on lenders' mortgage insurance for credit quality. Standard & Poor's released a report late on Friday, aimed at addressing these concerns.The report notes that lenders mortgage insurance claims will rise significantly in the current economic downturn. This follows a fifteen-year period in which claims were very low, even abnormally so. It is in times like this that the gaps in LMI policies will be exposed and claims will be more rigorously assessed before being paid.One potential problem area is insurance provided under "open" policies, in other words, where the lender writes the policy under delegated authority from the insurer. This generally applies only to bank originated mortgages and not non-bank originated mortgages, and is certainly the case in the dispute between NAB and Genworth.There are also structural features in RMBS that mitigate some of the reliance on LMI, such as excess spread that can be applied to losses incurred and representations and warranties from the mortgage originator and servicer to comply with LMI policies, although the comfort provided by the latter will depend on the credit quality of the mortgage originator and servicer.As for the credit quality of the LMI providers themselves, S&P notes that the Australian entities are distanced from the problems besetting their US counterparts and this is reflected in their credit ratings.