“Someone is not telling the truth…”
-Evan Greenberg
Did I get your attention?
Good evening, tonight we will glance over The Travelers Companies, Aspen Insurance, and Ace Limited, two are very interesting to say the least! But before I start…
Yesterday was an interesting day in insurance to say the least. By now everyone has heard about Warren Buffett’s supposed proposition and everyone is asking, well why would the mono-lines go through with this? Because right now it’s head’s I go bankrupt, tails I go to run-off. At least that’s is what I think. Some smart value investor will be able to extract some value out of each by taking one or another into run-off. The smart folks at PICO holdings have done this before, of course with other types of insurance lines. Mr. Whitman did hint at possible run-off situations, so sure it makes sense.
In fact, Mr. Buffett’s thesis makes a whole lot of sense, right now the mono-lines are too busy trying to distinguish and pay damages for toxic waste they hold in their portfolio. This puts the Municipal bonds (they insure) at the end of the payoff diagram. If Mr. Buffett takes control, he will be able to guarantee what the word insurance entails as opposed to a promise that will go unfulfilled if these mono-lines hold onto them.
The Travelers Companies (TRV)-
-Operating income of $4.5 billion full year, 1.1 billion 4Q2007
-$6.71 per diluted share full year
-Return on equity of 18%,
-NWP increased 3%
-CR of 88.4% in Q4, and 87.4 full year
-$1 billion share buy back in Q4, 4.1 billion since 2q2006
-Repurchased 19 million common shares in Q4, and 8.3% of outstanding shares as of beginning 2007.
-BV at 41.23, Debt-to-Captial ratio 19.4% compared to target of 20%
-Investment portfolio realized gain of 937 million FY
-Commentary
-“D&O, E&O and Fiduciary products are issued on claims made policies which dramatically reduce the latency tail on the business and the ability to stack limits.”
-“On a policy level basis we see it approximately two-thirds above a $5 million retention which reduces our net exposure per loss to $12 million up to an annual aggregate of approximately $375 million” (“Any potential issue would be frequency not severity”)
-“Given that we view this as fundamentally a frequency issue, we think a material variance from our assessment would require systemic changes to the insured litigation environment expanding our exposure to segments that currently appear to have low correlation to the sub-prime environment.”
-“In summary we have thought in a comprehensive fashion about the evolving implications of financial sector stress on our management liability and surety industry exposures. The net conclusion of our in depth exposure analysis at year end 2007 are that the issues are very manageable for us and we’re comfortable by both our diversity and profitability of business in the management liability and surety lines.”
-“90% of construction portfolio is public works spending”
-“Our experience shows us that recessions in and of themselves don’t necessarily cause surety losses. But they do tend to expose the underwriting that took place when times were good, when the economy goes into a recession and I think our position on that is that even in robust economic times our underwriting has not changed and so in a recession it’s not necessarily going to follow that our losses will increase.”
-(Interesting)- “When we refer to a systemic change, we’re really talking about a class of risk not currently identified in any way, not currently associated with in some way being dragged into it…Brian’s comment about frequency versus severity is driven by our limits profile. We have low limits, relatively small limits I think compared to other people who underwrite the business, and so on individual account won’t change much of anything. It would actually take a systemic change in the class of business that was associated with this and for there to be litigation which our policies would respond to…Ultimately, there has to be litigation to the insured for our policies to respond. So that’s what we think could trigger a worst case scenario, but so far there’s no evidence of that.”
-“It’s very important first to remember that in claims made policies defense costs are contained inside the limits unlike tradition occurrence policies where the obligation to defend run outside the limits and so the obligation to defend can simply run on, in effect forever, at least theoretically.”
-“To the extent that defense costs emerge, they emerge first at the primary level. Those who have the primary policy will provide defense. I think one of the things that we take some comfort in – and it’s in the analysis of the 30 claims and notice of claims that we’ve got – is that only five of them are primary, 25 of them are excess so at the moment you see the average attachment points there. It sure feels good in this case to be an excess provider rather than a primary provider.”
-On Acquisitions: “I think it would be irresponsible for a management team to say in the broadest sense that it would never consider an acquisition. I think we have a responsibility to be thoughtful, to see how we can create shareholder value and to use all of the tools that are available to us to do that.
Having said that, our instinct about it is really no different than it was which is that the risk of any transaction is very high. There’s culture risk and balance sheet risk, reserve risk, people risk, financial risk; it’s significant and we recognize it. We’re experienced at it and we recognize that those risks are real. Any transaction that we might evaluate will inevitably be compared to the very high hurdle of the risk assessment that we put into any transaction.
So then I go back to, can we create shareholder value? Can we complete our mission with the tools and skills and the assets that we have? The answer is we’re absolutely convinced we can. So you take a transaction, you evaluate it in the context to accelerate the growth of shareholder value, again evaluating against the risk.
So I think it’s all on the table, Larry. I don’t think that’s any different than it was three months ago or six months ago. Risks are high. They are difficult to do. We have a lot of experience doing them so we feel pretty good about it but the risks are nonetheless high.
There’s nothing in our capital profile that’s driven towards accumulating capital in anticipation of a transaction. We are returning capital as aggressively as we think prudent in the marketplace that we’re in. To the extent that we feel comfortable doing more we will do more.
I think it would be nice to be AA straight with both agencies. We are on watch on upgrade from Moody’s from AA3 to AA2. I don’t know if that will occur or when. We’re currently rated AA minus with Standard & Poor’s I think it would be nice to be AA rated and the financial targets that Jay sets and the ways in which we measure our business are geared to doing that.
But we’re not sitting on $0.05 of capital without a good reason and a good reason is not sitting on it to create a war chest for an acquisition. That’s just really a silly way to run a business and we just don’t do it.” (I just love that response!)
-On EVERYTHING, and I mean EVERYTHING “I’ve been talking for a couple of years now actually at some risk to my perceived sanity, that there’s lots of factors that could cause one to believe that the traditional cycle that we’ve seen in the business may be somewhat different this time. We’ve talked about terrorism. We’ve talked about the management of various companies and how much that’s changed. We’ve talked about the tools and analytics that are available universally in the industry now and the fact that people are not running the business by the seat of their pants but in fact the analytics are really very much improved.
We’ve talked a little bit about the Sarbanes Oxley process that all companies, I believe certainly as we do go through; I mean there are so many people internally here that certify the financial statements that any concern about loss trend or reserve development gets evidenced very, very early and filters up to senior levels of management. I think you can make thoughtful decisions about risk-taking.
I think it’s interesting that virtually every company in the business of any size has been involved now in share buybacks or dividends. If you look back in the ‘90s, that was not the case. There were companies that had programs but there were precious few who were actually in the market returning capital.
The fact that we are this long into the cycle and our guidance would translate to a 13% to 14% return on equity range, even before the impact of any development I think is an indication of the fact that we are believers that it may not necessarily be as dramatically bad as it’s been before. I think there are lots of signals; and again, I’ve said this before. Look at the retentions. The retentions and ours are exceptionally strong but there are other companies that also have had strong retentions. That is a counter-indicative signal with respect to a highly competitive, as you say, stupidity environment.
We were looking at middle-market retentions in the ‘90s that were in the high 60s, and now we’re talking in the mid ‘80s. These are very dramatic differences. Although I’ve worked for people who said don’t ever assume it will be different this time so I think we look to next year and assume that it will continue to be somewhat more competitive than it was this year but I still think there are lots of indications out there that it may indeed be a little bit different. So we’re hopeful.”
-“There should be no confusion by anybody on this call about our aggressiveness with respect to returning capital to shareholders. It’s not transactional, it’s strategic. It is strategic. We do it consistently. It’s part of our philosophy, and it is not limited or driven by any particular dynamic. It’s just the right way we think to run a business.”
My Take: I think Mr. Fishman is a very smart person, very quotable, very informative and they seem to be doing all the right things for a company their size. Moreover, for a big company to stay out of much of the mortgage crisis regarding bonds is even more amazing. Kudos to the management team here and continue doing what you have been doing, because obviously it is working!
Next:
Aspen Insurance Holdings Ltd. (AHL)
-ROE for the quarter of 23.2%, for year 21.1%
-CR for the quarter 79.4%, for year 83% 2007, 82.4% 2006
-Full year net income was $489 million
-BV per share increased by 25% to $27.95
-Net investment income for the year was $299 million, up 46% on last year.
-Asset under management grew from $5.2 billion at start of the year to $5.9 billion at year end.
-Increased allocation to funds of hedge fund from 3% to just over 9%, (These alternative investment produce an 11.4% return for the year.)
-Less than $51,000 of fixed income investments wrapped by financial guarantors.
-GWP for 2007 $1.8 billion was down 6.5%, NWP down 4%
Commentary
-“Towards the end of 2007 our new lines including Excess Casualty and Professional Liability started to contribute to the top line, and we look forward to the contributions that all of our new teams will make in 2008. The property book in particular was reshaped lowering gross written premium by 20%.”
-“Energy Physical Damage insurance- Rate reductions here are averaging 16% and we have non-renewed a number of accounts as a result.”
-“Marine liability account, the experience was similar. Rates were down and in spite of this we achieved an average increase of 5% on our book reflecting loss experience on certain accounts and some exceptionally strong client relationships.”
-“In our new Excess Casualty insurance unit, rate declines of about 5% especially reinsurance division experienced reductions of approximately 3% in average was bigger declines in certain clusters”
-“Moving on to the property reinsurance segment, we are experiencing rate softening in both the
-“On U.S. regional cat accounts, the rates fell by 20% or more rendering many programs uneconomic.”
-“On our facultative reinsurance book, we’ve seen
-“Casualty Reinsurance business, we saw rate reduction of just between 2.5% and 10%.”
-“In
-“I am also pleased to announce today that we have entered into the financial institution insurance market and have hired a highly respected underwriter to lead our efforts…We anticipate that we will write around $60 million to $70 million of GWP in this line by the third year. The emphasize will be on smaller and medium-sized financial institutions with limited exposure to major investment banks. We also tend to avoid the global 100 players. We think we’ve got the timing right on this one given the current market.”
-“We also think there will be some E&O exposures and we think there may be some crime, financial crime involved ultimately as well. Those are all lines of business that historically we have not been writing. So we miss the issue altogether. We’ve taken a pretty conservative approach here. So I would be surprised to see any adverse development. Last thing…I’d say that it is claims made cover and this problem isn’t over yet. Every few weeks we find another interesting headline. So there may well be more claims in the future. I don’t think
My take- Interesting warning by the CEO that the problems are just about to begin for the industry regarding D&O, E&O and even more interesting that they are about to enter the business soon. Overall, can’t say I know this company very well, however their info was great regarding rate changes. So, I will definitely keep an eye on their calls just to get to hear what exactly is going on in the marketplace. CEO seemed pretty candid.
Next up: Ace Limited (ACE)
-Operating income of 2.7 billion, net income of $2.6 billion.
-CR for year 87.9
-Per share book value grew 16% FY
-ROE up 18% for year
-Reinsurance net written premiums declined 31%
-Duration of 3.5 years
Commentary:
-“Inflation and recession can have an impact on property and casualty results, both revenue and claims. Finally the financial and economic conditions are deteriorating in the face of a soft and softening global property and casualty market. In a soft market underwriters tend to minimize or rationalize away risk.”
-“We are not getting paid to take either duration or credit quality exposure. We have kept our power dry for a time we believe we will have the opportunity to take increased risk at attractive returns. In that regard we are entering a period of greater opportunity.”
-“We estimate the size of the US exposed financial institutions market for D&) and E&O to be around $3 billion to $4 billion in premium terms. Ace writes $143 million of net premium. Our average net limit is about $7.7 million for D&O and $3.2 million for E&O. All of the businesses claims made and defense is with the limits.”
-“Prices continue to decline around the world and the rate of decline is accelerating in some classes and staying relatively flat in others. Overall the market continues to be more competitive. For instance, in US insurance property rates were off about 15% for the quarter while for the full year they were off about 7%. General casualty was off about 8% for the quarter and that varies by class and 7% for the year.”
-“For professional lines D&O is off in the quarter 10% to 15% and 10% to 12% for the year and E&O was off about 13% for the quarter and 9% for the year.”
-“We found the reinsurance market to be more competitive that some of the public commentary we’ve been hearing that would lead one to believe.”
-“For AGO our loss represents our 24% share of AGO’s recently reported $300 million negative mark to market loss on derivatives for the fourth quarter. Our relationship with AGO is limited to our equity investment recorded at $392 million…They have emerged as one of the strongest of the financial guarantors.”
-Analyst: “If you pull back big picture is there any other type of D&O or E&O event you can think that parallels this historically in terms of how we may think about it, whether its mutual fund market timing, S&L’s, IPO related stuff, investment banks, is there anything?”
-Evan Greenberg, “You said them all. They are all what you would look at but each one is so specific and so different that this one will have it’s own size and shape to it and it’s own emergence pattern and each one is distinct from the other because it is so fact specific.”
-regarding Financial Institutions “My sense of this is it’s going to play out over the next two to three years, in reserves in the loss fully developing and payments will occur over even a longer period of time. I think ’08, ’09 and depending on the contentious nature on whether it goes to court between even the insured’s and the grieved parties and then the insurers get into it. Those play out over a long time, think of laddering, and maybe give you a good sense. Look at Enron that continues to play out.”
-“In the E&S casualty areas we’ve reduced our exposure significantly because just the pricing and terms are crazy to us.”
-“Here’s what’s happened, we need more price, need more rate. If we are paying to take the risk, we are in the business of taking risk, we are not shying away from it and we are not changing that playbook and as long as we are paid to take it and the terms make sense then we will do that. In the FI world that means rate and that has to be recognized and so far it is ticking up a little bit but the market is very slow to react and us and another, I know a major player, have been attempting to push the market in that regard and others have come into sort of fill the breach because the market has been slow to take it up. We’ve been pulling back a little but we get paid for it we’ll take it.”
-“Our new business writing in the quarter were down about 43% from the prior year and our new business for the year was down 20% from the prior year”
-“Keep in mind the answer is really more the financial institutions and the large ones can buy side ‘A’, they can’t buy ‘B’ and ‘C’, not available to them. They buy it because that’s what they can buy and that’s what’s protects their individual directors and therefore they’ll serve on the board of those FI’s. I think that’s more of the answer from everything we know. Someone is not telling the truth…”
-“The higher the risk the greater the volatility and the more uncertainty the more we want to get paid for that business.”
My Take: I’m starting to like Mr. Greenberg a lot, I think he comes from the perfect genes to run a sound and successful insurance company. He is very candid, he makes sense, he understands the concept of getting paid for risk. New business in the quarter was down 43% from prior year, well that makes perfect sense if you are not getting paid enough for the risk! ACE will be a force if the elder Greenberg has had any influence on the younger. I wouldn’t be surprised.
In conclusion, I decided against talking about Markel even though I have the CC transcript sitting right in front of me. I think I’ll devote a whole post (they deserve it) to them sometime in the next two weeks or so, once I get a glance of the three amigos (FFH, ORH, NB.TO) when they report next Friday (that should be interesting!). Further, I will also write the conclusion to the 2007 Insurance Rundown sometime during the week. Having a full time job really humbles you in relation to finding free time. On Friday, I head to
Take care,
S.K.
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