Ah, yes, divorce, from the Latin word meaning to rip out a man's genitals through his wallet.
Robin Williams
Over the past week or so, I’ve pretty much looked over every conference call transcript of as many insurance company’s I could get my hands on. What can I say? I was curious. A couple were left out, one in particular was MBIA for the obvious reason of probably not understanding what they are/were and will be doing. Considering the fact that Warburg invested X amount and the subsequent 50% cut in business value leads me to one conclusion: put it in the “too hard to understand” section, which by the way seems to becoming a larger section considering my circle of competence is rather small.
I was interested in a couple of things, for example:
-What will XL do with their SCA position? What were they thinking?
-What does an honest management (WTM) think about rates?
-Is RLI adding another banner year to the rafters?
-How does RNR think about Channel Re since they own a large position and since Channel reinsured MBIA policy?
-What does Tom Gayner and the outstanding folks at Markel think? Know?
-What does young Greenberg think about the market?
I found some answers knowing that I would be left with more questions. Next two weeks should be interesting because of more info from the three amigos (
The companies that I am about to shed light on include, Selective Insurance Group (SIGI), XL Capital (XL), White Mountains (WTM), RLI (RLI), Harford Financial (HIG), RenaissanceRE (RNR), The Chubb Corporation (CB), OneBeacon (OB), Travelers (TRV), Markel (MKL), Aspen (AHL), ACE Limited (ACE).
I punished myself through some excruciating reading (well worth it!) to prove a hypothesis: We are currently in a soft market that may be accelerating rather than stabilizing.
So let’s begin:
Selective Insurance Group (SIGI)-
-Combined Ratio (“CR”) of 98.9% (2007), 97% (2006).
-Overall ROE of 13.6%.
-Total investment portfolio increased 4% to $3.7 billion during the year.
-Book Value was up 5% to 19.81.
-Repurchased $5.7 million shares or 10% total outstanding shares at average price of 25.13.
-80 jobs are being eliminated.
-“The improvement in our Workers Compensation book of business is a big success story for 2007”
-“Auto net premiums written grew 15% in the quarter to $12 million for all personal lines states excluding
-“We saw 16.5% rate reduction for our property catastrophe reinsurance treaty and limits were lowered by $25 million to $310 million with retention unchanged at $40 million.
-“2005 was a year of challenges in our industry and in the financial markets.”
-“Pricing on new business was down about 6% in 2007.”
-“In some cases less sophisticated companies that do not have the underwriting tools that are trying to bid a renewal business down. You see that coming across from everywhere and then I just think you see the companies out there just trying to struggle to make premium targets and in particular, in some of the areas going after some larger accounts and that is where we saw that really hit us in the first quarter of 2007 where we talked to a whole group of agents and you find that they lost fifty or seventy or hundred thousand dollar account and in some cases, they lost it at 20% to 30% below expiring and they had no idea where this even came out of the blue and so, part of those efforts with our agents is the fact that that was a wake up call in January of ’07. They are very proactively marketing their renewal inventory.”
-“I think that this cycle will be the difference between the haves and the have nots. I think the have nots are going to wake up in another nine to 18 months from now and realize what they have got and it is going to be devastating.”
My take: Rates are down, poor performance of investment portfolio (could be worse), CR too high for my blood. I don’t really know this company too well, however I wanted to get a feel if the 5-7% rate decrease that I’ve read about from everyone else holds true, and it does based on Selective’s 6% rate reduction YoY. Also, I don’t like the job cuts, insurance companies rarely cut jobs, and I wouldn’t regard this as a smoke signal however. (1 out of 12 so far)
Next:
-Book value of 51.16,
-$471 million net realized losses during the quarter. (side note: this was on the fixed income side, this isn’t supposed happen)
-$57 million charge related to lower rated structured credit.
-Gross premiums written declined 7.4% in the quarter.
-“Reducing certain pressure particularly in aviation and some casualty clauses”
-“Premium growth in European construction and European professional lines”
-2007 full-year retention in high 80% to 90% range for professional, and PnC.
Commentary
-“Unprecedented conditions in the credit markets including the impacts on SCA and our investment portfolio.”
-“I also point out that XL’s guarantee to SCA was put in place at the time SCA achieved its first AAA ratings in 2000. As we have described, this guarantee would only pay if SCA failed to meet its payment obligation on a defaulting exposure, those written prior to SCA's IPO in August of 2006. Given that the large majority of topical exposures are post IPO and that SCA’s claims resources were nearly $3.5 billion as of September 30 of 2007, we continued to consider the probability of having to make any payments under the guarantee remote.” (side note: this right here is what you call tail exposure, could be small could be large)
-“We also continue to review our evaluation procedures. There has been a great deal of market focus on the ABX indices of the sub prime valuation metrics. We've reviewed the pricing of our sub prime portfolio relative to these indices. A lower grade sub prime valuations are in line with the ABX, which is the only source of price transparency, given the illiquidity of low-grade cash markets.”
-“Market conditions in the fourth quarter continue to follow recent trends with insurance premium rates on renewals down approximately 7% for the full year.”
-“In reinsurance, GPM written for the quarter fell by $152 million QoQ…The underlying run-rates, reduction in earned premiums was 11% driven by a 12.8% reduction in the rolling 12-month NPW.”
-Average policy limit for public D&O is $12 million, higher limits written in Bermuda and Europe , and lower average limits in the
-“The magnitude of the sub-prime issue has the potential to be larger than previous events…the attritional loss experience has been quite low in professional lines for the past several years including 2007. Current loss trends continue to be favorable. Industry class action suits filled over the last few years remain below historical averages and the
-“History for similar events has shown that there will be a certain percentage of insurers that will be proven or have caused no wrongdoing and was simply financially impacted by the wave of events surrounding the economic environment.”
-“Percentage of policies issued for our broad definition of financial institutions is 21%, which is very much in line with the financial institutions consent of the S&P
-“The amount of time that it takes to pay out on claims in this whole financial guaranty area make this even if it were to occur on some worst-case scenario, way, way down the road, and we don’t expect that to happen.”
-“Rate reductions (for
Nomination for best question: (unidentified analyst): You’ve got above average-average exposure to credit in your investment portfolio. You’ve got the residual guarantee to SCA, you’ve got some D&O and E&O exposure to FI and short sellers are all over your stock. Can you specially give me the pitch to your long-term investor to stay the course, to tell us where the hope is to paraphrases is repeating, tell me that Larry Bird is actually coming through that door?”
My take: This doesn’t smell good, at all. It is currently at ¾ book, has pretty much lost over 45% of market cap. Why is that important? Well, morale of employees, agents who represent the company, capital adequacy. They don’t disclose IBNR and that is important for reserve estimate for analysts. I don’t understand why they would compare the % of D&O they have to the Financial weighing in the S&P. It doesn’t make much sense if you ask me; it should be based on price adequacy not weightings of an index. Suppose oil and gas were to become 50% of the S&P, are you going to write 50% of your D&O based on the S&P weighting? I’m confused. Why do you need actuaries if you can just base your entire price, allocation to the simplest form of numbers when your whole business depends on price adequacy and raking in enough premium for the risk you take. What you are doing is not insurance here, its portfolio risk through indexing. It makes sense for Vanguard, it probably doesn’t make sense for insurance. I might be wrong, I don’t doubt that. They might need Larry Bird, Kevin Mchale, Robert Parish, Danny Ainge, Bill Walton and the current Celtics squad (Garnett, Pierce, Allen) to come out of the tunnel. Don’t forget coach Auerbach. (2 out of 12 so far)
Next:
-Book value per share of $444, increase of 2.5% for the quarter and 11.4% for the years (including dividends)
-Tangible BV was reduced by $2 for share repurchases.
-YoY comparables seem pretty consistent if you subtract the after-tax gain of $171 million for OneBeacon 27.6% sale.
-January 31, 2008, OneBeacon declared a $200 million special dividend, of which
-GWP down 18% and 20% for the quarter and year.
-NWP down 19% and 15% for the quarter and year.
-Had a 7.6% investment return.
-Back of the napkin calculation, they bought 295 shares YoY
Commentary
-“We had a good year. We avoided the sub-prime mess and continued to generate solid returns in our investment portfolio. OneBeacon and White Mountains Re had good underwriting results. Esurance had strong premium growth but higher than expected claim cost. We remain confident that it is a superior business. Our balance sheet and capital position are strong. We are leaving no stone unturned in our search to add value in these volatile markets.”
-“The market is softening everywhere. We expect reductions in volume across most line throughout 2008, especially in
-The decreases in GWP and NWP “Occurred in almost every line of business, especially property catastrophe exposed business, casualty, and accident and health where pricing, terms and conditions did not meet “White Mountains Re’s underwriting guidelines. Higher ceding company retentions also reduces premium volume.”
-on Esurance, “The fourth quarter results were impacted by seasonal increases in claims frequency as well as increased loss severity…2007 was a challenging year. While our top line growth remains strong, intense competition in the personal auto market increased acquisition costs. We expect that market conditions will continue to put pressure on our growth going forward. Esurance also experienced increases in loss frequency and severity throughout the year. As a result of these higher loss trends, we have taken decisive pricing action in several states."
-on Esurance, “Gross written premiums were $198 million for the quarter and $803 million for the year, an increase of 23% and 34% from the comparable periods of 2006. As of December 31, 2007, Esurance had 485,000 policies-in-force, an increase of 30% over 2006.”
-on Investment Activities, “Equities continued a string of superior performance. We continue to focus on careful security selection and conservative positioning to protect capital in this volatile market."
My take: This is the antithesis of the smell from XL, I like what they did. I will comment on the OneBeacon dividend when I look over their CC next, but getting $146 million to invest in other lines makes sense from WTM perspective. I am not concerned about the near 20% reduction in GWP or NWP AT ALL, I actually like it. If the business is not priced adequately for the risk you are taking, don’t write it. The ceding retentions is what happens during a soft market for reinsurance. Basically, primary writers keep more of the net limits and cede less to reinsurance and that in effect puts pricing pressure on reinsurance rates, not quite simple like that because it’s obviously more complicated than that. The increase in loss frequency and severity is actually a reoccurring theme recently, especially after Sir Buffett confirming this very same view during his visit to
Next:
OneBeacon Insurance Group (
-Adjusted book value per share was $19.14, 2.6% increase in 4Q, 16.2% YoY.
-CR was 92.8% for 4Q and Year (full)
-Total return on investments was 1.6% for the fourth quarter and 7.5% through 12 months. (Similar to WTM).
-Special dividend of $200 million or $2.03.
-Year-end debt to capital ratio at 28.4%, 150 bp’s lower then year-end 2006.
-Repurchased 1.6 million shares at 21.26- $34.6 million spent.
-Increased reserves in WC and Construction defect.
Commentary-
-on Year-end debt to capital ratio, “Special dividend we announced this morning will push that number higher”
-on Soft market, “We continue to operate in the marketplace which obviously is more competitive today than it was at the tip of IPO.”
-“Turning to investments as Mike mentioned, the total return in the portfolio for the quarter was 1.6% and for the full year was an outstanding 7.5%. On the fixed income side as illustrated on slide 13, our portfolio under performed the Lehman index, primarily as a result of being under weighted in treasuries and being shorter in duration. But the real story here is that our fixed income investment managers avoided any exposure to subprime mortgage securities and also to CDOs. That puts them in a fairly select group and as a testament to the quality of their credit analysis and risk selection.”
-“On the equity side, our portfolio managers and prospective partners outperformed the S&P by over 400 basis points for 2007, including notably a positive return of 1.2% in the fourth quarter when the S&P was down over 3%. I could use a number of superlatives to describe those results. But I think, they actually speak best for themselves.”
-“There has been no material change in the asset allocation of our portfolio, which continues to reflect our focus on maximizing risk adjusted total return as opposed to just maximizing that investment income. For your reference, we are now breaking out convertible bonds separately, which we think off and managed as part of our equity portfolio. The fixed income portfolio continues to be high-end in credit quality and short in duration.”
My take: Okay, I’m sort of confused and this is why I think WTM has a lower P/B multiple, they own approximately 71 to 72 million shares of
Next:
-Operating earnings of $157 million or $6.52 per share, $28.3 million in 4Q
-The combined ratio for 2007 was 71.4, for Q4 was 81.7
-Investment income grew 10.6% to 78.9 million
-Fixed income portfolio duration 4.2 years and AAA rating
-Repurchased approximately 1.2 million shares of RLI at average $58.27 during 4Q
-Repurchased approximately 2.3 million shares at average of 58 for 133.3 million for year.
-ROE of over 22%
-Have 85.7 million remaining from the $200 million repurchase program
-Surety is very economy dependent and “license, statutory bonds”, Primary liability as well.
-Surety- “Someone has to get a license and they have to bond themselves to get that license. That doesn’t mean that loss will necessarily flow from that, but certainly as that implodes there would be people that say they didn’t get to close their house, or they didn’t get their escrow money, or there cold be any number of problems that could arise that could affect the bond”
Commentary:
-“Our direct exposure to subprime and mortgage products is less than $10 million. Of this $10 million all are rated AAA, and have been paying as agreed. All of these are fixed rate instruments with no interest rate reset and were issued prior to 2005 and are not currently on watch from any rating agency.”
-“We have a fair amount allocated to municipal bond securities, 25% of our portfolio or $473 million. Roughly 70% of these bonds are insured by traditional monoline insurers. We would prefer buying municipal bonds without this wrapped insurance, but in the marketplace dominated by insured issuance this will be difficult to do.”
-“From an insurance standpoint, we have two product segments with subprime exposure: Surety and Executive products or D&O. It should be noted that our exposure to subprime in these products is minimal.”
-“Another good underwriting quarter and another good underwriting year combined ratio of 82 and 72, respectively. Good news, the market is soft, but as I've said in the recent past, we're coming off very robust pricing, and also we have a very diverse product mix, number of products less susceptible to the softening, for example, our Personal Umbrella product, our Surety products.”
-“Really it's the E&S marketplace, excess and surplus lines marketplace where the real price declines lie, with standard companies invading our space, this is like most cycles, we are there. Also, as you know, our model rewards profit, not volume. With prices under this pressure, selection becomes more important, and the quality of the underwriters is paramount.”
-“In the Surety side, it is a really good story. Gross written premium is up 9% in the quarter, 6% for the year. Less price sensitive, as I mentioned earlier. Although some terms, conditions are under pressure, for example; credit being branded a little more liberally by some. Less collateral required, some personal indemnity not being required. But overall, the Surety segment is in good shape. Jon did mention the surety areas where you could have some exposure to subprime. We have very little exposure, we wrote small, a few small bonds on some very small mortgage brokers. So far, we don't expect any loss out of that.”
-“In the Property segment, we were up 4% in the quarter, down 8% for the year. While the gross written premium for the quarter is driven in large part by our Marine growth. As we build out that Marine product, we would expect the comparisons quarter-over-quarter to be fairly good as we build out that footprint.
-“In the E&S Property side, that was where rates were under pressure. The fire business was off around 5% in the quarter. But that's been coming of less robust pricing.”
-“On the Quake side, probably peaked around January of '07 about 25% or so. Difficult market, a lot of capacity, but we are the premier brand monoline quake in
-“The Casualty side, off 14% in the quarter, 8% in the year, general liability, our largest product, off 8% in the quarter. Fourth quarter is always tough, rates off about 12%. Again, we would expect to see that start to stabilize in '08 as we were off like I said 11% in '07. Again, that's an E&S product so it is under pressure.
-“Transportation off 15% for the year, 12% for the quarter, rates down about 9%. I will say in the transportation area that tends to be the first to soften and the first to harden. We did see our submission activity pick up in the fourth quarter, so we are seeing more opportunities. Again, I would expect to see rates start to stabilize sometime in '08 in this area.”
-“Our personal umbrella product was up 5% for the year, it's our standalone personal umbrella. Again, less rate competition here, less overall competition in this space actually. It has been a very good product for us.”
-“The executive products D&O, gross written premium is off 21% for the year, 30% for the quarter. Rates are off 20% from their peak. We expect this to start to stabilize as well as some of the companies start to experience difficulty in their financial institutions cover. And again, as Jon mentioned, the exposure on the subprime would be in this product most readily. We have very little exposure there as we look at it, it's probably less than $5 million.”
-“So, overall a good quarter, tough E&S marketplace, there is too much capacity in the marketplace it's time that good underwriters thrive. We'll continue to manage our exposures and out select our competition."
-“The rates are not going to firm at any point in time. But I think the decline will start to lessen as the year progresses.”
-“I think rates have declined fairly rapidly over the past 12 months. So, I don't expect that level of declination to continue, or yes, you're right. We will start seeing significant underwriting losses at some point. But remember on the casualty business, it can be a while. Again I think information is better than it's been in the past. I think management has that information on pricing. They are seeing the price level declines, the trends, and I would expect that unless they've got a different way of looking at things, that they all see that these price declines can't continue.”
-On acquisition:
-“I think you all know that it appears that the pricing for, say an insurance company acquisition, that pricing has come down as there has been some erosion in the sector over the last 12 months in terms of price and so that’s true…And it’s based upon obviously what are you are paying for it and what kind of returns you are going to get.” (Sounds like “Price is what you pay, value is what you get”)
-On industry:
-“The profitability of the industry over the last – since the early 2001, we have had several profitable underwriting years in a row or most companies have. One would expect, again all things being equal, that in periods of rising prices that companies tend to make their balance sheets or heal their balance sheets. I know from a generally accepted accounting principles booking basis that's not supposed to occur, but it's a natural occurrence because I think companies tend to underestimate the effects of pricing changes from year-to-year either going up or going down.”
-“And so, for that period where we had multiple years going up, I think probably on a relative basis balance sheet is healed. Now we are entering a period or we have been in a period for perhaps 18 months, where prices are going down, and my belief is that the opposite occurs during that period of time, and that companies tend to underestimate again the effects of the reduced pricing. And so perhaps if you look at this last accident year, you would maybe expect that a company might underestimate their loss ratio.”
-“Now, having said all that, we don't believe that we do that ourselves. When you look at acquisitions, is there more risk or less risk, and you are discounting or believing a current balance sheet say in 2008, versus what that balance sheet would have been in say 2001. Yeah, but you still have to perform an exhaustive study of what they've done in the past, I mean, what kind of business have they written. And there are relative risks in the various lines of business that they've written. I mean, if they have exposures, asbestos environmental exposures and that sort of thing, that probably did not go away, or hasn't gone away just because, we've had good underwriting years here for a few years. But at the same time, you have to look at other things that we know are out there, like construction defect and that sort of thing so.”
-“RLI has been a company that has persevered and thrived in hard markets and in soft markets and we will continue to maintain our disciplined underwriting approach, which could mean some reduced top line growth. We will however pursue other opportunities by either startup. Lift out some teams of people, which we have been successful at in the past. We talked about Marine for example and our transportation division was started as a lift out or even possibly an acquisition, small acquisition.”
My take: You would have thought this was probably the longest CC, it wasn’t. However, it was THE most informative and I think these guys are really up to something special. I like the fact that their retention will be down, I like that they are looking at acquisitions when most insurance is at lower P/B and from their highs. This company is at a higher P/B, but who says it isn’t warranted? Their combined ratio is outstanding, probably best I’ve seen for 2007. ROE? Amazing. Dry powder? Yes they do! Honest management? Sure seems like it. One analyst even said during the CC, “You guys are truly great at what you do.” That’s unheard of in this day and age where you are guilty until proven innocent. RLI is on my watch list and will sell my collectible basketball cards if the price warrants it. That should mean something because I don’t even let my brother look at those basketball cards. (5 out of 12).
This concludes the first portion of three segments dedicated to the named insurance company’s named at the beginning. Next up: The Chubb Corporation, RenaissanceRe, and Harford Financial Services.
I would also like to the producer of all the CC transcripts, Seekingalpha.com.
Helpful Lingo:
-CR: Combined Ratio, GWP-Gross Written Premium. YoY- year-over-year, NPW- Net premium written, FI- Financial institution.
- Side A policies are designed to respond to claims made against individual directors and officers that are not indemnified by the covered company.
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