Arch Capital Group Ltd (ACGLO) 2011 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the fourth quarter 2011 Arch Capital Group earnings conference call. My name is Keisha and I'll be your operator for today. At this time, all participants are in listen-only mode. Later, we will conduct a question-and-answer session. (Operator Instructions) As a reminder, this conference is being recorded for replay purposes.

Before the Company gets started with its update, management wants to first remind everyone that certain statements in today's press release and discussed on this call may constitute forward-looking statements under the federal securities laws. These statements are made based upon management's current assessments and assumptions and are subject to a number of risks and uncertainties. Consequentially, actual results may differ materially from those expressed or implied. For more information on risks and other factors that may affect future performance, investors should review periodic reports that are filed by the Company with the SEC from time to time. Additionally, certain statements contained in the call that are not based on historical facts are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. The Company intends the forward-looking statements in the call to be subject to the Safe Harbor created thereby. Management also will make reference to some non-GAAP measures of financial performance. The reconciliation to GAAP and definition of operating income can be found in the Company's current report on Form 8-K, furnished to the SEC yesterday, which contains the Company's earnings press release and is available on the Company's website.

I would now like to turn the conference over to your hosts for today, Mr. Dinos Iordanou and Mr. John Hele. Please proceed.

Thank you, Keisha. Good morning, ladies and gentlemen and thank you for joining us today.

We're finally closing the 2011 year, which was challenging from an actual cat point of view. It was our worst year ever, surpassing even the 2005 Katrina year for us. Fortunately, we have started the 2012 year with a more positive outlook, as market conditions are showing signs of improvement. Taking all that into consideration, our fourth quarter performance was acceptable. On an operating basis, we earned $126.8 million, or $0.92 per share, which on an annualized basis represents a 12% return on equity. Our investment performance for the quarter, including the effects of foreign exchange, was a total return of 82 basis points, and our underwriting performance was very good, at the 90.1 combined ratio. This was aided by reserve releases from prior years, predominantly from short tail lines. John will give you more of a breakdown in a few minutes. Cash flow for the quarter was $110 million, which on an adjusted basis was slightly higher than the 2010 fourth quarter numbers. Book value per common share was $32.03, a 2.7% increase from September 30, 2011, and it was due mostly of our operating results.

The broad market environment continues to show improvements across the board. From a rate standpoint, most lines of business moved into positive territory. The exceptions were in executive assurance and healthcare, where we're still seeing rate reductions, a bit less than in prior quarters, but they're in the range of 1% to 7% for healthcare, and approximately 6% for executive assurance. Even with these improvements in the rate environment, we believe that significant more rate is needed in many lines in order to achieve adequate returns. In our view, based in part on the level of interest rates currently available for new money invested, the long tail lines require quite a bit of improvement in premium rate to become attractive. We view primary casualty, umbrella liability, excess liability as areas requiring the most significant rate improvement. Workers compensation on an industry wide basis is achieving high single-digit rate improvements, but this is still not enough to bring this line of business to adequate returns. In our reinsurance sector, rate improved significant on a risk-adjusted basis in the property cat area, while all other lines remained basically unchanged.

From a premium production point of view, on a consolidated basis, our gross written premiums were up 5.3%, and our net written premiums were up 5.8%. The insurance group was up approximately 2.5% on both a gross and net basis. The reinsurance group was up 16.5% on a gross basis and 14.7% on a net basis. The increase resulted from new opportunities in UK model based on current operating conditions in that marketplace, an increase in accident and health business, as well as from property cat back up covers due to the storms.

We always are looking for opportunities to expand our underwriting capabilities organically. In the past six quarters, we were successful in attracting management teams in life and accident and health, mortgage insurance and reinsurance, treaty reinsurance in Canada, global crop hail business, as well as title insurance in Canada. All these our investments in talent and capabilities for the future. In some of these lines, we are already producing business, and in some, we're in the process of building the needed infrastructure and obtaining the necessary licenses. While the degree of success of these opportunities in the short-term will be dependent on market conditions, we are confident that over the long-term, these will prove to be successful profit centers contributing to the value of our enterprise.

During the quarter, we essentially did not purchase any of our shares. This decision was influenced by several potential opportunities that were presented to us in the last quarter. This activity was unusual, and if successful, these transactions would have had the potential to utilize a significant amount of capital. These opportunities emanated from the property and casualty sector, life and health reinsurance sector, and mortgage sector. Unfortunately, only one of these transactions has closed. The biggest obstacle to closing some of these deals has been the wide spread between the bid and ask. We continue to work on some of these opportunities and on new ones that we received in the first quarter of 2012.

In general, our philosophy on capital management has not changed. We prefer to deploy our capital in our business first, and absent the ability to do so, to returning to our shareholders. Although the current operating environment is improving, we still do not have clear visibility on the degree of improvement in market conditions or on our ability to close on some of the unusual deals that we have been working on. As a result, we will take a wait-and-see attitude with respect to share repurchases until we have more clarity.

Before I turn it over to John for more commentary on our financial results, let me touch upon and update you on our cat PMLs. As of January 1, 2012, our 1-in-250 year PML for a single event was $881 million, or 20% of common shareholders equity in the Gulf, and $842 million in the Northeast. Our Florida Tri-County PML now stands at only $638 million, which gives us ample capacity for the upcoming Florida renewal season.

With that, let me turn it over to John for more commentary on our financials; and after John, we'll come back and have you ask your questions. John?

Thank you, Dinos. Good morning.

On a consolidated basis, the ratio of net premium to gross premium in the quarter was 73%, the same as a year ago. Our overall operating results for the quarter reflected a combined ratio of 90.1%, compared to 92.7% for the same period in 2010. 2011 fourth quarter included $70.8 million, or 10.5 points of current accident year cat activity, net of reinsurance and recent premiums, compared to $31 million, or 4.9 points, in the 2010 fourth quarter. The 2011 fourth quarter included $60.6 million for the Thailand flooding, where we are reserving toward the higher end of our pre announced range of $35 million to $65 million, corresponding to a total industry estimated loss of $10 billion to $20 billion. In addition, the 2011 fourth quarter reflects an estimated $5.4 million for the Christmas Cay Australian hail storm. The 2011 fourth quarter combined ratio reflected 15 points, or $101 million, of estimated favorable prior year reserve development, net of related adjustments, compared to 6.1 points, or $38 million, in the 2010 fourth quarter. The net favorable prior-year development in the 2011 fourth quarter is comprised 64% of property cat, property and other short tail lines, 20% from medium tail lines, and 16% from longer tail lines. The 2011 fourth quarter net relief in general reflects the better than expected claims emergence that we experienced throughout 2011 across most of our lines. The 2011 fourth quarter current accident year combined ratio, which excludes named cat event and prior-year development, was 101% in the insurance segment, slightly better than the 102.9% in the 2010 period, primarily due to lower expenses.

In the reinsurance segment, the 2011 accident year combined ratio was 83.7%, higher than the 77.9% from the 2010 period, due in part to a change in the mix of earned premium towards medium tail other specialty lines, which generally have a higher booked combined ratio then property lines. The 2011 fourth quarter expense ratio of 33.9% was lower than the 34.6% in the 2010 fourth quarter, reflecting lower operating expenses and incentive compensation charges, which more than offset a higher level of commission expenses related to prior year favorable development.

On a per-share basis, pretax and investment income was essentially flat, at $0.59 in the 2011 fourth quarter, compared to $0.60 for the same period a year ago, and $0.60 in the third quarter of 2011. Our embedded pre-tax book yield before expenses, was 2.98%, in the 2011 fourth quarter, down from 3.09% in the 2011 third quarter, and 3.52% a year ago, which primarily reflects lower reinvestment rates. The portfolio duration was 2.99, down from 3.17 at the end of the third quarter. We continue to be cautious with the duration of our investment portfolio, due to the risks in our global economy. The total return of the investment portfolio was 82 basis points in the 2011 fourth quarter, compared to a minus -7 basis points in the corresponding 2010 period. Excluding foreign exchange, it was a positive 95 basis points in the quarter.

The total return in the fourth quarter benefited from a recovery in equity markets, and stable returns on US treasuries, offset by a negative return on some alternative assets. Our alternative assets include bank loans, global and emerging market bond and multi-asset funds, and energy investments. These alternative assets drove the $14.7 million in net losses in equity method accounted investments. We expect that these funds will have more volatility quarter to quarter, but we also that expect over the longer term we will gain an acceptable return. We continue to maintain the vast majority of investable assets in a very high quality fixed income investment portfolio. Starting this quarter, due to the ever-changing views of the rating agencies, we are reporting the average quality of our investment portfolio from both S&P, at AA, and Moodys, AA-1, and we have a split out our US government and government-sponsored securities in a separate category in our disclosures. In the past our average credit quality was calculated as an average of the three primary rating agencies. In addition, we added an exhibit to our financial supplement on our Euro zone investments, including sovereign debt, corporate, covered bonds and other sectors. Our exposure to troubled Euro zone countries is minimal, and we have no exposures in Greece.

We recorded net foreign exchange gains of $13.2 million during the 2011 fourth quarter, mainly due to the strengthening of the US dollar against the Euro. These gains resulted from revaluing our net insurance liabilities required to be settled into foreign currencies at each balance sheet date. However, this should be compared to the minus-13 basis points total return from foreign exchange on our investment portfolio, which essentially then offset this income statement gain in the equity section of our balance sheet.

For the 2011 year, our effective tax rate on pre-tax operating income was a benefit of 3.7%, and 2.2% on pre-tax net income. The cat activity this year, low investment returns, and the relative mix of income or loss by jurisdiction have resulted in a beneficial net tax position.

Our preliminary estimate of the implementation of the new DAC accounting standard required on January 1, 2012, that we communicated last quarter, is still the same. And the new standard should reduce our book value by less than 1%, and should not have a material impact on operating earnings in 2012.

Our balance sheet continues to be conservatively positioned, with total capital at $5.03 billion at December 31, 2011, up from $4.9 billion at September 30, 2011. In the quarter, we had no material share repurchases. Our debt plus hybrids represent 14.4% of our total capital, well below any rating agency limit for our targeted rating. As we announced last quarter, in the calculation of our target capital position, we have now implemented our version of RMS 11. As of December 31, 2011, our actual capital is in excess of our target capital.

With regard to subsequent events to year-end based on current information, we expect to record a loss of $8 million to $10 million on our investment in Aolis LP, which we report on a one quarter lag and is included in other income. We also expect a loss, net of reinsurance and reinstatement premiums, of between $18 million and $35 million for the January 2012 Costa Concordia marine event, corresponding to a total industry loss of $815 million to $2 billion.

Reflecting on the 2011 full-year results, the after-tax operating profit was $304 million, which reflects the significant level of catastrophic activity during 2011. The year combined ratio was 98.3%. The insurance segment had an accident year combined ratio, excluding cats and prior-year development, of 100.6%, and the reinsurance segment produced an 80.6% ratio. For the year, the operating ROE was 7.2%. Our book value per share ended the quarter at $32.03, up 2.7% from the last quarter, and 6.8% from a year ago.

With these comments, we are pleased to take your questions.

(Operator Instructions)

Mike Zaremski, Credit Suisse.

Good afternoon. Thank you.

Good morning.

Regarding the quote-unquote unusual deals that closed, the one deal that closed in 4Q, was that the UK Motor deal?

Yes. That's the one, yes.

So, what was the size of the UK Motor deal? And I guess can you -- a number of questions around this -- why are the deals unusual? What type of returns do you feel these opportunities offer? And are they similar size to the UK Motor deal?

A lot of questions. Let me start with -- the UK is not unusual. It was an opportunity for us to partner with some people that they have an existing book of business and they're looking to expand the market conditions, they're attractive, for the time being, and we can achieve double-digit ROE's. And the deal size, depends how successful that you are in growing that business, is going to be in excess of $120 million. For the year. It's a 2012 event for us.

Some of the other transactions that weren't as usual, meaning that you might put them in the category of either renewal rights deals with books of business offered to us to pick up underwriting teams and the renewal rights. We had a few of those, we're still working on some. We've seen opportunities in the mortgage space that is a reinsurance behind either bank portfolios and/or building societies portfolios. And the size of these deals can be anywhere from $100 million to $300 million, $400 million in range. And in essence, depending on the line and the capital attraction -- or the capital utilization can be anywhere from $50 million to $250 million. So looking at that, I wanted to be cautious in the way that we were deploying our capital, because you can get in the batter's box and hit a few home runs, or you can get in the batter's box and strike out, but you can always do share repurchase at a future date. So that was what was driving our decision-making.

Okay. That's very helpful. And lastly, the Aolis loss, what drove that, and is $35 million is the maximum loss potential in this investment?

Well, the investment is being a very successful investment for us. We invested $50 million. We received already $67 million in distributions, and we have a carrying value as of the end of the year of $35 million. So when you add it all together, this investment almost doubled our money, independent of the loss that we're going to take in the first quarter. The loss is emanating from the worst cat year in the history of insurance. It's fourth quarter cat losses and it's coming from mostly the floods in town.

Okay. Thank you.

Greg Locraft, Morgan Stanley.

Hello. Good morning, guys. I wanted to just understand on the buyback, just if you could just remind us of the philosophy and your appetite going forward, with the stock at 1.2 book?

If you go on our website, I think we have a grid that tells you as to when we decide and at what level to do the buybacks. Basically it's a combination of what we anticipate the current business ROE to be versus how long will it take for us to recover. And if it's three years or less, because if you're paying above book, you've got a recovery period. If the period is three years or less, then we choose buybacks. If it's going to be more than and we have excess capital and we don't think there is potential in the future to utilize it, we'll probably use some other method, maybe an extraordinary dividend, et cetera. So this has been our philosophy consistent now for the last five years. So no change in that.

John, anything you want to add?

I think the point is that, as Dino said, we're going to wait and see, and we make these decisions when we get there, in that quarter, at that time, what the trading is, what the outlook is for business. So we will make those decisions when we get there.

Okay. And I mean, you guys -- few in the entire industry have been as aggressive as you in returning capital the last five years. And with the share count not moving down last several quarters, I guess what I'm wrestling with it with is do I take the organic earnings -- because you're right at the upper end of that threshold, the chart to which you're referencing. I'm wondering if you're going to any in '12, or if it's sort of --

Listen --

-- over for now?

I don't know. I would like to do none, because the market is so good I'm deploying my capital in the marketplace. So -- but having said that, when I said the bid and ask was -- had a wide spread to it, we were pricing a lot of our deals -- and I wouldn't say all of them at 15% ROE. Some of them it was even at 12% ROE, expected ROE. And even with that, we couldn't get the buyers to agree with us. Some of the buyers, they were looking for us to deploy capital at 5%, 6%, 7% ROE. We're not going to that. I'm not saying we're not going to work on the deals. We're going work, we put a price out that we're comfortable with. It's going to be in the double-digit ROE. That's what we tell the market, that's what we tell the brokerage community, that's what we tell the buyers. But now, do I have clarity if the market will respond to that or not? No. If I had that clarity, I could give you more of a precise answer.

So not knowing that, that's why I said I'm going to have a wait-and-see attitude. We'll continue to work on these deals. Some of them, they have the long leeway. Some of them, they might take two quarters, three quarters, from beginning to end. And if we're successful, it's music to my ears. I'm deploying capital for what I'm getting paid for in our business. If not, then we're going to revisit excess capital, what do we do with it?

Okay. Perfect. Thanks. One last one, totally different area, but just the reserve releases was definitely much, much better than peers. Obviously, your balance sheet continues to be in excellent shape. Can you give us -- you did provide some color in the commentary as to where it came from and stuff. Can you maybe be a bit more granular? And obviously, what we're all trying to figure out is the sustainability of that going forward. So again, any comments --

I thought John was pretty granular. It's 64% of property cat, which means that I think we have a better record in reserving cats than most. And at the end of the day, if they don't materialize -- We're going to be conservative. You've seen what we've done with the Thai losses, too. Because the continuous business interruption is so difficult to estimate, even though we never wrote excess of loss cat business in the country of Thailand, we have no direct, traditional excess of loss cat business in that territory, we are anticipating losses coming from both our insurance group and reinsurance on large industrial risks that are done on a global basis. But because the contingent business interruption is such a difficult measure, we became very conservative. And at the end of the day, I'd rather be on the high end of the reserving range than the low end.

You might say we've done the same in prior years, in '05, in '04, et cetera. And if you look at our history, we had consistent reserve releases from short tail lines. This is not the first year. It just happened to be unusually higher. But on short tail lines, you know what you got. Either you got a loss or you don't, and you don't have to wait for many years to figure it out. Now, the 16% on long tail lines, which is about $16 million out of the total, came from the very good years in the casualty business, '04, '05, '06. This is no reserves from any of the later years. And the medium term, it might be a few years after that. But it's mostly medium term --

It's in the professional liability --

claims made, professional liability business with low limits, that usually within three, four, five years, you know where you are. So any more color --

And Greg, we've seen -- and I think some others have seen in the industry through 2011, trend has been less than we have built in for this year. So that's allowed some of these releases across many of our lines to flow out. Whether or not that trend continues or not, we keep assuming trend is on a long-term basis. It will come back someday to that. We can't tell you when. And we have to look at that quarter by quarter.

Okay. That's really good. And then just one follow up on the short tail lines, and perhaps you actually said this already, but which events did this come from?

Across many. And it's also property, as well as property cat.

From all events starting with '08, and don't forget, '08 was a very heavy year with earthquakes, floods, et cetera. It's all events. It is not just one event.

Okay. Great. Thanks a lot, guys.

Jay Gelb, Barclays Capital.

Hello, everyone. I just want to catch up on a couple points. Dinos, at year end, how would you peg the level of excess capital for Arch?

A little stronger than what we told you last quarter, because we didn't do share repurchases. And our premium growth hasn't been that dramatic yet.

Regarding the premium growth in reinsurance, I think you mentioned the potential for a couple one-time deals. Were they in the reinsurance segment?

Well, the one that we did was in the reinsurance sector. And we said the size of it is about, figure $25 million a quarter. It's about $120 million and is a 13-month deal.

Okay. So that's going to still flow through the written side --

It will flow through --

-- in 2012, not just earned?

It will flow through 2012, yes.

In written?

Written, yes.

Got it. And then on the pace of investment income, which, on the recurring investment income, which has been slowing each quarter, is that $80.5 million, is that right run rate, and then we should take into account lower reinvestment yields going forward, so it might continue to drop?

Well, the reinvestment yield is less. We look to always find opportunities. But also what I want to point out to you, the number that you mentioned is before expenses, right? You said the embedded yield, you said it was what, 2.98?

I suppose, yes.

Well, that's before expenses. So you've got to take -- if you're putting it on your model, you better take out investment expense out of that, too.

Right. So I mean directionally would there be sort of continued --

Yes. I don't think it's going to move more further down, because we're finding enough products with still high credit quality and enough spread from Treasuries to continue maintaining approximately in the 2.5% to 3% yield. And we're going to try to stay there. So I don't expect that to move dramatically.

The yield, Dinos, or the investment income results?

The investment income.

Got you. Okay. And then I just want to understand a little better structurally on the share buybacks. The reason to hold back a bit on share buybacks, is that more because there's potential to become -- to deploy more capital in the business as the market continues to firm? And as well kind of these one-off deals? There still seems to be so much excess capital on the balance sheet --

It was both. The -- I have -- we have the ability to grow the business quickly. If you go back in our origin, '02, '03, '04, we went from zero premium to $3.5 billion gross in three years. So our ability to deploy quite a bit of capital -- as a matter of fact, our first year,on a policy year basis, on an underwriting year basis, our reinsurance group growed $1.2 billion in '02. So you can -- given a market turn that we can sense giving us good opportunities and good pricing, we can deploy capital very quickly.

Now, you put on top of it some unusual opportunities, somebody presenting us with $100 million renewal book of business that we would like to take over. If we take over any one of these deals, you're starting to use big chunks of capital, and why not be cautious in the way you're having -- But if some of these deals don't materialize, that means we'll continue to have excess capital. And I'm even surprised that you guys keep asking questions on how we manage capital, because I think our track record has been phenomenal. We're not trying to hold onto it. We're only trying to deploy it into the market as best as we can, and if we have excess, we're not shy of giving it back to shareholders.

We understand. And then on the transaction -- so you're looking at potential, not just traditional large insurance or reinsurance deals, there is also in the market the potential for renewal rights transactions?

Absolutely.

Got you. Makes sense. Thanks, Dinos.

Vinay Misquith, Evercore Partners.

Hello. Good morning.

Hello, Vinay.

The first question is on the opportunities that you're seeing, are you seeing them in the normal P and C insurance market, or --

We saw them in three sectors, Vinay. We saw them on the P and C sector, we saw them on a new initiative, which is the mortgage space. And then we see them also on a new initiative, which is our life and A&H reinsurance sector. So we've seen them -- and don't forget, you bring powerful teams, good underwriting people with market connections, even though we believe -- at least we believe that we are conservative underwriters, the market is responding and sending us these opportunities. Now it's up to us to find the right ones with the right profitability and bring them home and close.

But I'm an optimist. I'm a patient optimist. Market is moving in that direction. We probably can utilize a little more capital over time. We're seeing these kinds of opportunities. If we hit on some, fine. If not, we'll go back to our '08.

Vinay, this is John. Maybe just want to add that the mortgage is -- the main focus is international, where there's good opportunities there, say, in the UK and some other places, Australia. So there is some proven opportunities there.

And how are you getting these opportunities now? Why are you getting these now? Do you see more stress in the market? Or have you hired new teams that have helped you to get these opportunities now?

Yes and yes. There's more stress in the market, because the traditional players lack capacity and/or ability to do them. And of course, you've got to have the right team in order to get opportunities. So the combination of both is what's presenting us with these opportunities.

Okay. That's helpful. Now, I believe on the auto deal, you said it would be a double-digit ROE? Is that what's --

Yes. We believe we're going to produce double-digit ROE. We have good partners there. We like the people, we have partnered together, and we like the sector for the what's happening in the UK motor market.

Okay. Now, what one other competitor actually put it out of the excessive loss of business for the UK market? I'm just curious as to how you got --

This is not excessive loss. This is a partnership. This is a primary -- it's a primary deal with side-by-side.

Okay. That's great. Just one more if I may, what's your accident year ROE in the business that you're writing right now for your normal P and C business?

Right now on a policy year basis, we think we're still in the around 9% range. That's how we're calculating it. It's -- a lot of that influence comes -- depending if you're going to your own calculations.

I can run you through pretty quickly -- we had -- on an accident year, this is not policy year. On accident year basis, this way you can follow the numbers, we produced 7.2% for the year. The cat losses, there were a couple hundred million more than normal, and then we had about $275 million of prior year reserve releases, so that will bring your ROE slightly below 7% on an accident year basis.

Now, why is my policy year better? First, there is some rate increases that is going to improve the book, and second, I think our mix is changing to higher ROE, so that percentage of business with a higher ROE for the 2012 year, it's a little higher than what we had in the prior year. So when you push that, we're getting somewhere in the high eight and change, 9%. And we do those calculations. That's why I can speak to them, because -- are we happy with it? No. You don't see my comments to be too enthusiastic that hey, we're going to go and write a lot of business, our growth is still predominantly emanating from one-off opportunities, rather than across-the-board improvement. But I more optimistic than I was last quarter, because I think the market environment is moving in a good direction.

That's great. Thank you very much.

You're welcome.

Matthew Heimermann, JPMorgan.

Hello. Good morning, everybody.

Hello, Matt.

A couple questions. Just, I was hoping you could help me understand, if you execute on some of these new opportunities, how would it all affect your ability to write other business if market conditions improve? I guess, can appreciate that it would take up absolute capital, I'm just wondering in terms of how much dry powder do you have left from diversifying type lines, let's say casualty or other things?

I'm having difficulty deploying my excess capital. I'm not worrying about capability, because when you look at the balance sheet, it has very low leverage, 14.4%. I have approximately $750 million to $1 billion of hybrid capacity that I can go out, without having to dilute my common, and raise either debt or perpetual preferreds or whatever form we decide to do. So at the end of the day, the instructions that I have given to all of our operating units is operate in the marketplace as if you have unlimited capacity. I'm not talking from a risk point of view, but from a capital point of view. And once you utilize whatever I'm allocating to you and we need more, I'll go out and find it. We're not worried about -- we're operating with the ability that we have a lot of capacity and a lot of dry powder for us to -- given the right opportunity in the marketplace, to capitalize on it.

That's fair. Just to make sure I'm getting -- fully understanding what you're saying, effectively, if you execute on these things it's more about using the existing capital you have, but --

Right.

-- and then any incremental growth in appetite or business would then be funded by some of these -- by debt hybrid --

That's our first choice, yes, absolutely. I didn't buy all those shares back to go back and dilute my common.

And Matt, is John. We also have the earnings that flow-through, throughout the year, that also creates capital as well.

Yes. Absolutely. I think I snuck in retained earnings on my list. But they're both great.

The other question I had -- one of the other question was around the development. One of the things that's kind of muted the net reserve development you've been showing in the last couple of years has just been a little bit of adverse push on some credit crisis exposed lines. I'm just wondering whether or not you're seeing some of those pressures dissipate as well?

Listen, we do a granular analysis by profit center, by IB in our family, and depending what you wrote either in on insurance or reinsurance, some things will pop up a little bit on one and go down on others, et cetera.

All I can tell you is I've spent as much time with the actuaries to the point that they -- I think they don't like me a lot, because I ask too many questions and I spend to much time with them. I feel that our reserve position today is as good as it was a year ago or two years ago. And that's basically also the opinion of outside people that they advise us, and they do independent reviews on what we have. We have a very good methodology in how we reserve the company, and I think I'll let the track record speaks for itself.

That's fair. And then just one last numbers question. Just on the retention change you mentioned in the surety line, is kind of the magnitude delta we saw this quarter the right way to think about it? I know it's not a huge, huge premium line, but just want to make sure I --

It's not. I wouldn't read too much into it, because let's face it, it's a line we like to grow, you know, cautiously because let's face it, it's a credit line. And in the economic conditions we are, is something that you need to be cautious. But also, it depends how you buy your reinsurance protections on the surety. And we're switching more from a quarter share to excess of loss, which in essence it allows us to retain more of the net premium to us.

All right. Thanks much.

You're quite welcome.

Ian Gutterman, Adage Capital.

Hello, Dinos.

Hello. Ian. We're going to fail you again. You seem to be always in the back of the room.

One of these days I'm going to surprise you and go first.

Go first? Okay. I'll see the sunrise from the West.

(laughter) I guess first on this UK Motor, can you talk a little bit more about what it is? I guess that line, from what I understand, has been a pretty miserable performer for some of the UK companies the past few years. I think there's been some adverse court rulings or regulatory rulings that have caused a lot of trouble. So why is that attractive? I thought it was a pretty poorly performing line these days?

Listen, motor insurance, I don't care if it's auto in the US, or motor -- it's a predictable line. When you under price it, you're going to find a lot of excuses why you're not making money. And when you price it appropriately, you're going to make money. Rates have improved in the last couple of years. Some of the pricing challenges have been resolved. And if you have good partners, and we think we do, don't forget, you also got to look at the partners that you're partnering with. We like the people. We felt it was a very good deal for us to do.

Fair enough. And just in general, these opportunities you're looking at, they sound more like -- are they more opportunistic things that you're in for a year or two, and then you get out? Or are these sort of businesses that you might still be in 5 or 10 years from now?

Listen, we'd like to be in for as long as we can. I don't like to be doing all this work and go in and out. At the end of the day -- on the other hand, we're not going to stay there and take losses. That's not what we get paid for. We get paid to make money for shareholders. So it's that combination.

The reason I was asking is I guess I was wondering if it's something you hope to be in for a while, and that if you were optimistic on the cycle turning soon that maybe you'd want to push these things off and wait and go look to maybe build more longer-term franchises like some of your competitors are doing, hiring new teams to get in front of the cycle, things like that? Is that something on the radar or does that still not make sense?

Listen. Our attitude on talent has not changed. I spent a little time on my prepared remarks, just to tell you what we've done -- usually we don't go out and put press releases if we hire some people, et cetera. But we've done enough that I thought for a lot of the analysts, it would have been important for them to know, because some of them, they ask us -- they hear about this, they hear about that, and they ask us the questions. We will hire talent independent of cycle. We don't care -- if you get a Michael Jordan come knocking at your door, you hire him, right? Now, is the market allowing them to deploy their talent and show a lot of revenue and profit immediately? In some cases, yes. In a lot of cases, no. But we're very patient.

I'll give you two examples. We brought a very strong property fac team. They're doing fabulous. Steve Franklin and his team, et cetera. The market allows them to operate and do well for us and we let them do. We've brought David Markenroy and his team. They're fabulous people, probably one of the best underwriting teams. The market did not allow -- we're patient. We told them, listen, we hire you for your brains. We hire you for your capability. And one day, the market will allow you to display what you can do. So we'll be patient along with you.

So our attitude is, we find the right people independent of cycle, we hire them. We warehouse that. I never saw a company go bust because maybe their expense ratio, it's a point or two above what it should be. But I've seen every single case that you do that, when the right opportunities come, these teams more than pay for themselves. And we're very, very patient about that.

Very good. And then just my last one, some of the lines mentioned that were disappointing, casualty, executive assurance, things like that. It looks like you showed modest growth in those lines. Not anything scary, but I'm just kind of wondering if those lines aren't where your targets are, why are they shrinking as opposed to growing a little bit?

A little bit of growth, it was in the -- in Europe, and it was mostly on small to medium sized enterprises in that sector both in the Europe and US, we liked. So even within a line, even though we don't write the large financial institutions, the larger five business or commercial DNO, it's not in the best of shapes for us to be enthusiastic about significant growth, things are improving, but not fast enough for us. There's other sectors that we do like and there, if we can grow, we're going to grow.

That makes perfect sense. Thank you.

You're welcome.

Mike Zaremski, Credit Suisse

Thanks.

Hello, Mike.

Hello. In regard to the cruise line accident, is $35 million, is that based on a $2 billion loss? And do you think the loss could reach $2 billion?

Yes, and we don't think it's going to reach there. But I don't have to make a judgment yet as to what I'm going to reserve it for next quarter. The industry experts, I'm not one of them, but they think that the loss is going to be somewhere between $850 million to $900 million. There is a good logic around how they estimate that. You've got about half a billion, which is the hull. Then you have the 32 deaths, and then you have the evacuation, and then you're going to have the removal of debris and wreckage, which all of that is going to go on the liability side. The estimates, the $350 million to $400 million, that's not an unreasonable number.

Now, what things can change that is if we have a spill. And then you have an environmental disaster. There is about $1 billion of cover on the liability side for pollution. If they run into some very difficult problem in removing, that might escalate

Now, do we believe $2 billion? No. I'm not sitting here and telling you that that loss is going to be a $2 billion loss. It's probably -- it's a very high probability that it's going to be in the $850 million to $1 billion, and then it will be on the low end of what -- By the end of the first quarter, I've got to make that judgment and put a reserve up. And as we get more information, and more information, we're going to refine that number. But right now, that's our range. $18 million to $35 million.

Understood. Thanks for the color.

You're quite welcome.

There are no further questions in queue at this time. I would now like to hand the conference back over to Mr. Dinos Iordanou for any closing remarks.

Thank you all for attending, and we'll talk to you next quarter. Have a wonderful day.

Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect your lines. Good day.