NEW YORK (Bloomberg) - US state and local governments from Alabama to Arizona opted to sell uninsured bonds this week, scrapping plans to use insurance from two firms threatened by Moody's Investors Service with losing their top ratings.

Municipal borrowers sold $250 million, or three percent, of last week's $7.5 billion in fixed-rate bond issues with insurance from Financial Security Assurance Inc. (FSA), Bermuda-based Assured Guaranty Corp. and their competitors, based on preliminary data compiled by Bloomberg News. That is down from about 12 percent on the previous week and around 50 percent in previous years.

Public finance officials who had aimed to reduce their borrowing costs with insurance from Aaa rated FSA and Assured reconsidered whether the policies would help, after Moody's placed the two biggest guarantors of municipal bonds sold this year under review for possible downgrades late on July 21.

"It was a big surprise," said Barbara Malkove, executive director of finance for Mobile, Alabama. The Gulf Coast city had set prices on $91 million of general obligation bonds backed by Assured before Moody's action, then decided to restructure the deal after investors seeking to buy top-rated debt hesitated.

"Several of the AAA bond funds were getting nervous about whether or not we were going to have a clean AAA rated bond insurer at closing" next week, said Louis Cardinal of Montgomery, Alabama-based Thornton Farish Inc., Mobile's financial adviser. "Tuesday morning, that was not clear."

Yields rose this week as investors ratcheted down the value added by the guarantees of FSA and Assured after the bond insurers came under scrutiny.

The Bond Buyer's weekly index of yield on general obligation bonds due in 20 years rose to 4.77 percent, the highest in four weeks.

Tax-exempt bonds are little changed for the month to date, according to Merrill Lynch & Co.'s Municipal Master Index, which accounts for price changes and interest income.

They fell 1.1 percent, for the worst June performance since 1999, after Standard & Poor's and Moody's stripped MBIA Insurance Corp. and Ambac Assurance Corp. of the top financial strength ratings, damaging their ability to insure municipal bonds after the firms stumbled on guarantees of mortgage-linked debt.

From the introduction of US municipal bond insurance in 1971, the percentage of new issues sold with that backing rose to 30 percent by 1992, according to the Association of Financial Guaranty Insurers. Four years later, the insurers' share rose to 47 percent and remained around half of each year's new offerings until this year.