Allstate Corp (ALL) 2008 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Allstate Corporation fourth quarter 2008 earnings conference call.

At this time all participants are in a listen-only mode.

Later we'll conduct a question-and-answer session.

(Operator instructions) As a reminder this conference call is being recorded.

I would now like to turn the conference over to your host, Mr.

Robert Block, Vice President of investor relations.

Mr.

Block, you may begin.

Thanks, Matt.

Good morning, everyone, and thanks for joining us today.

Last night we released our results for the fourth quarter 2008 and our investor supplement.

Both can be found on the Allstate website under investor relations.

Today joining me on the call are Tom Wilson and Don Civgin who will share their thoughts on our results.

To help us in the Q&A session we have Judy Greffin, Sam Pilch and George Ruebenson.

During the Q&A period we ask that you limit yourself to one question and one follow up so that we can get to as many questions as possible in our time together.

Please note that our discussion may contain forward-looking statements regarding Allstate's operations and that actual results may differ materially.

Please refer to our 2007 Form 10-K, the third quarter 10-Q and yesterday's release for information on potential risks.

Also we'll discuss some non-GAAP measures for which you will find reconciliation from the press release and in our investor supplement.

This call is being recorded and a replay will be available shortly following the conclusion of the call.

Now let's begin our discussion with Tom WIlson.

Tom?

Good morning.

I'll begin with an overview of our results then Bob will cover property liability and Allstate Financial and Don will discuss investments, liquidity and capital.

As always we value our dialog with you so there'll be plenty of time for questions at the end.

Allstate remains financially strong.

Despite what was a tough environment in 2008 we generated $518 million of operating income for the fourth quarter and $1.8 billion for the year, despite a $1.9 billion increase in catastrophe losses.

Our property casualty business had an underlying combined ratio of 86.8% for the full year, and that was better than the range we committed to a year ago and in line with our updated outlook.

Allstate Financial and our investment portfolio were adversely affected by the virtual shutdown of the fixed income markets.

That resulted in $1.9 billion of realized capital losses in the quarter and $5.1billion for the year.

Those capital losses reflect both declining market values and an expectation that the economic recession will create credit issues in the future.

That said, the portfolio generated cash flow of $8.6 billion from interest and principal payments, which was virtually identical to the contractual obligations and our expectations.

In addition, our focus on increasing liquidity resulted in substantially lower investment income as we move to the shorter end of the curve.

As a result of the realized capital losses we had net loss of $1.7 billion for the year.

Despite the challenges of a significant number of catastrophes and tumultuous investment markets our proactive approach to risk management enabled us to be highly liquid and well capitalized.

We have over $20 billion of cash and liquid investments, which provides ample liquidity to cover our relatively modest fixed charges and maturing debt.

Our catastrophe losses on hurricanes Ike and Gustav would have been twice as high without the risk mitigation efforts we instituted over the last several years.

We avoided the losses many others in the industry have experienced by exiting our variable annuity business in 2006.

On the fixed annuity side, fixed annuity sales were down 29% for the quarter.

During the year we moved in and out of the markets as we maintained pricing discipline in order to get acceptable returns.

On a longer-term basis fixed annuity sales in 2008 were about half of our peak volumes in 2004.

Finally, our 2008 risk mitigation efforts to hedge the equity and higher interest rates generated net gains of about $250 million.

Further, our proactive sales of securities enabled us to avoid losses from the major company failures in 2008 and further market declines.

This proactive approach generated over $0.5 billion in value.

All of these efforts resulted in Allstate entering 2009 well capitalized and financially strong.

We believe we have the flexibility and strength to deal with the continued upheaval in the financial markets and Don will cover more of that in detail in just a few minutes.

Financially it was a tough year and we all paid the price with a significant decline in our stock price.

Our three goals for 2009 reflect our expectation that the economic and business climate will remain difficult.

First, we will protect Allstate's financial strength.

We'll focused on preserving auto insurance margin and reducing catastrophe risk.

Allstate Financial will take the necessary steps to narrow its focus and reduced cost.

It does remain a core part of our strategy, which is to reinvent protection retirement for the consumer.

We will maintain high liquidity and reduce the duration of our fixed income portfolio despite the negative impact on operating income.

Secondly, we will need to increase customer loyalty to provide additional revenue growth.

Acquiring and retaining customers is vital to our success.

Bottom line, we need to serve our customers better than anyone else in the industry.

I am disappointed by the lack of significant improvement in 2008 on customer loyalty and we're highly focused on improving that result in 2009.

Lastly, we will continue to reinvent protection retirement for the consumer by rolling out new products and services.

This is consistent on our focus on delivering value and will continue to differentiate us from others.

Bob will now go into the business unit details in greater depth.

Bob?

Thanks, Tom.

Let me quickly go through the results for property liability beginning with net written premium.

For the year we wrote $26.6 billion, a decline of 2% from 2007.

The combined affect of a competitive marketplace, particularly in auto insurance, and a softening economy in terms of auto and home sales negatively affected the premium results.

Earned premium followed the written trend declining about 1% to $27 billion.

Downward pressure on the top line will continue into 2009 as the economy struggles to regain momentum.

For the fourth quarter total net written premium dropped 3.9%.

Allstate brand standard auto fell 2.9%, primarily due to a drop-off in new business reflective of the reduction in auto sales, as well as a slight decline in retention.

As a result, units are down slightly from September's levels and off by 1.8% from year-end 2007.

On a positive note we have seen a new business pick up in California where we introduced "Your Choice Auto" during the fourth quarter.

Average premium did increase in the quarter as pricing in the market remains fairly rational.

Allstate brand homeowner insurance continues to reflect the downward pressure from catastrophe management actions, as well as the negative economic effects of falling home sales.

Encompassed auto premium written is down significantly as we take actions to improve the margins.

In our emergent business lines we have seen favorable net written premium trends, as efforts to penetrate these markets are bearing fruit.

From a margin perspective we finished the year with a small underwriting profit, despite experiencing catastrophe losses of $3.3 billion.

2008 catastrophe losses were the second worse in our history and were affected not only by hurricanes and wildfires but also one of the most active tornado seasons on record, and these results could have been worst had we not taken aggressive cat management actions over the last several years.

Adjusting for the effects of catastrophe losses and prior-year reserve reestimates our underlying combined ratio for the year was 86.8%.

This was in line with our latest outlook and slightly better than the original range we provided last February.

In the fourth -- for the fourth quarter the combined ratio was 96.4%, an increase of half a point from 2007.

The underlying combined ratio was 91.5% versus 88.6% in the fourth quarter of 2007.

The 2.9 point variance is primarily due to increased current severities for auto injury coverages, higher noncat related losses for homeowners, and half a point increase in the underwriting expense ratio partially offset by favorable auto frequency results.

Auto loss cost trends continue to perform in line with our pricing assumptions.

The frequency results for both property damage and bodily injury were well below the prior-year quarter.

We did see some of that favorable trend erode in the month of December with the onset of winter weather.

Paid severity results for property damage were excellent in the quarter, with an increase of just 0.7% bringing the year to an increase of only 1.1%.

Paid severity for bodily injury moderated somewhat in the quarter to an increase of 4.5%, finishing the year at 6.2% increase from 2007.

The injury severities experienced some upward pressure throughout the year.

As a result we increased our current year's severities targets for these coverages adversely impacting the underlying combined ratio for both the quarter and the year.

Switching to a quick review of Allstate Financial, premium and deposits for the fourth quarter were $1.6 billion, a decline of about 14%.

As Tom mentioned, this decline was primarily due to reduced fixed annuity sales as we seek to maintain pricing discipline to improve returns.

Operating income for the quarter was $89 million, similar to the quarter 2008 but $69 million lower than the fourth quarter of 2007.

The primary reasons for the decline were lower investment income and higher operating expenses, partially offset by favor mortality results.

With respect to the investment income trends, we have kept a significantly higher percentage of the portfolio in liquid assets negatively impacting the overall yield.

We produced a net loss for the quarter of $1 billion compared to a slight profit in the fourth quarter of 2007.

We had an after-tax net realized capital losses of $611 million and unfavorable DAC unlocked after-tax charge of $274 million and a $219 million after-tax reduction of DAC related to a premium deficiency assessment for life products.

For the year we posted a net loss of $1.7 billion.

The unprecedented deterioration in the financial markets significantly impacted Allstate Financial's ability to produce acceptable returns.

Over the course of the year we have taken several actions to address this: Dramatically increased the level of liquidity in the investment portfolio; we focused emphasis on fixed annuity new business returns versus volume; and have initiated a strategic review to narrow the business focus and lower expenses in the future.

This review will target annual savings and operating expenses approximating $90 million and anticipates a reduction of around 1,000 workforce positions over the next two years.

For 2009 operating income for Allstate Financial should come in around $300 million, as spread compression, lower asset balances and high levels of liquidity will put pressure on the bottom lane.

Now I'll turn the conversation over to Don.

Thank you, Bob, and good morning.

I'd like to dive a little bit deeper into four areas: First, some additional details on investment income; second, the biggest drivers of our net loss for the quarter; third, the status of our unrealized loss position; and fourth, capital and liquidity.

Allstate's consolidated net investment income was $1.33 billion for the fourth quarter of 2008, a decline of $298 million from the fourth quarter of 2007.

This decline was across both operating subsidiaries and was due to lower average asset balances, reduced investment yields and increased short-term investment balances reflecting proactive liquidity management.

While much of the decline reflects overall market movement our conservative management of liquidity is responsible for approximately one-third of the decrease and was done intentionally to protect our financial position.

Our net loss for the fourth quarter was driven primarily by net realized losses of $1.9 billion and DAC-related charges of $759 million, both pre-tax numbers.

Our net realized losses for the quarter had several large components; $652 million of impairment write-downs, $585 million of net losses on the settlement and valuation of derivative instruments, $357 million of net losses on sales, and $241 million of change of intent write-downs.

Our impairment policy continues to be consistently applied as in previous quarters.

We record impairment write-downs on individually identified investments in instances where the fair value of the investments has declined below the cost basis and we conclude that the decline in fair value is other than temporary.

For the fourth quarter of 2008, these policies resulted in $652 million of write-downs.

$467 million of the impairment write-downs were related to fixed income securities, and while we recorded these charges, 80% of those securities are currently performing in line with anticipated or contractual cash flows.

The derivative losses primarily reflect $448 million in valuation losses on interest rate swaps used in our asset liability management activities.

These hedges worked as intended, but an offsetting benefit is in the fair value of related liabilities, which is not recognized on the income statement.

Of the $357 million of net losses on sales, the majority reflect the execution of tax planning strategies, primarily with our equity portfolios, in order to proactively realize capital loss carry-back benefits.

These strategies, along with refunds related to 2008 estimated taxes, will result in over $1.1 billion of cash refunds in 2009.

Change of intent write-downs were primarily the results of being proactive with our risk management and return optimization programs.

Tom mention that this had program had substantial economic benefits for Allstate throughout 2008 by allowing us to get ahead of the game in being able to manage our portfolio, but we incurred an accounting cost in doing so.

During the fourth quarter we also took substantial charges against our deferred acquisition cost balance.

After a comprehensive review, we took a $274 million after-tax charge for DAC unlocking resulting from realized capital losses on both actual gross profits and expected future gross profits.

We also reduced deferred acquisition costs by $219 million after tax related to premium deficiencies resulting from changes in mortality and its impact on annuities with life contingencies.

We view the DAC unlocking charge to be the product of the credit crisis, while the premium deficiency charge is viewed as nonrecurring.

The combination of the substantial net realized losses and DAC-related charges were the primary drivers of the net loss of $1.1billion for the fourth quarter.

During the quarter Allstate's pre-tax net unrealized capital losses total $8.8 million, mostly from fixed income securities, which was comprised of $2.5 billion of gross unrealized gains and $11 billion of gross unrealized losses.

The increase in our unrealized position is something we watch carefully.

There are three important things to note.

First, we intentionally have created a strong liquidity position in order to meet our cash obligations, which insulates us from having to liquidate assets in an unanticipated fashion.

Second, the vast majority of the fixed income portfolio in unrealized loss position continues to provide cash principal and interest payments in accordance with the contractual terms.

And third, 93% of the fixed income portfolio with gross unrealized losses is rated investment grade.

During 2008 both the high level of catastrophes and turmoil in the investment markets has created a great deal of invest in capital and liquidity.

You should know that we have been and will continue to be completely focused on these two priorities with the goal of protecting and enhancing the financial strength of Allstate.

At year-end 2008 Allstate held $12.6 billion of capital of which we held $3.6 billion in deployable invested assets at the parent holding company level.

We have fixed charges at the parent company relating to dividends and interest.

These amounts during 2008 were about $1.2 billion.

And we have $750 million of debt maturing in December of 2009.

Having said that, we have substantial earnings capacity of the operating subsidiaries and unused lines of credit of $1 billion.

I said last quarter we have a healthy respect for our and everybody else's inability to predict what the markets will do.

Our job is to proactively position Allstate to protect and enhance our capital decision and we are committed to doing exactly that.

One of Allstate's successes during 2008 has been the way we have defensively built and maintained our liquidity levels.

The result is that at year-end 2008 approximately $20 billion of our investment portfolio is invested in cash or other liquid investments that are saleable within one quarter without generating significant additional net realized capital losses.

This represents over 20% of our total portfolio.

We have developed a well thought0out cash forecasting process which helps us stay current with future anticipated needs and limits our exposure to having to liquidate assets unexpectedly.

In this financial environment we believe that strong liquidity is an absolutely critical component in protecting Allstate's financial strength.

As Tom said, 2008 was a tough year.

The proactive way in which we managed throughout the year protected Allstate and positions us to build on that strength in 2009.

Thank you, Don.

Well let me summarize our results before we open for questions.

The underlying combined ratio for 2008 beat our commitment set a year ago.

For 2009 we expect the underlying combined ratio to fall within 87% to 89%.

We had operating profit of $1.8 billion, despite significant catastrophe losses, lower investment income and the cost of substantially increasing liquidity.

Our high-quality and diversified investment portfolio enabled us to avoid large discrete individual losses, but we were not able to outrun the market and incurred $5.1 billion of realized losses.

As a result we had a net loss of $1.7 billion.

Our proactive approach to risk mitigation served us well.

Our stock price declined significantly in 2008 and we entered 2009 financially strong and highly focused on maintaining our financial strength and positioning Allstate for long-term growth and profitability.

So, Matt, why don't we start the dialog portion of this call.

Thank you, sir.

(Operator instructions) Our first question from Jay Gelb from Barclays Capital.

Your question, please.

Good morning.

I had a question on the capital position.

With the significant erosion in book value, with investment losses accelerating and S&P cutting the rating, to what level of comfort -- or what level of comfort do you have that you won't need to raise fresh equity capital in 2008 -- I'm sorry, in 2009?

Then I'll have a follow up.

Jay, we feel comfortable with where we are with our capital position today, and then maybe take those in reverse order.

While S&P reduced our rating it will have no impact on our business, and they cut it to AA-, so that's not exactly a terrible rating.

Secondly, with respect to the things that could effect our capital position, as Don went through, if you look at our -- the two things that impacted us in 2008 it was significant catastrophes, and we've talked at length about our risk mitigation programs there, the reinsurance activity.

And then, in the investment portfolio we are obviously maintaining high liquidity so that we can continue to realize the cash that comes off that portfolio.

I wanted to be very clear about something.

In the portfolio we collected $8.6 billion of cash last year, which was $3 million, not three -- $3 million less than we thought we were going to get.

And when you look at the amount of cash relative to the market value -- or the carrying value of those securities it;s relatively high.

In total it's about 12%, but when you look at some of the securities that have been marked down the most -- like you take RMBS -- we received 42% of the market value of that in cash in 2008.

So we feel like we have good strong cash flow, we have ourselves positioned so we don't have to sell anything and we have the strength of our auto insurance operations continuing to generate a good return.

So we feel good about 2009.

And then on the Allstate Financial business I believe the target RBC ratio is 300%, can you give us a sense of where that is as of year end?

We would be close to what we consider our target.

I don't want to give you the number because I've been told that that's -- we're not allowed from a legal and regulatory, regulatory in particular, to be throwing that around in terms of selling.

But we're at our target, how about that?

Okay.

Thank you.

Our next question from Josh Shanker from Citi.

Your question, please.

Yes, thank you.

I'm wondering if you can give any clarity into segmenting the unrealized loss for the quarter and maybe for the full year.

We have some of the data for the full year, but how much of that is in securities that are -- that have a liquid market that you can feel very comfortable, A, in your ability to sell it and, B, the extent to which you're confident that recovery value is not even questionable?

here's a number of pieces to that, l t me see if I can go back to -- first, as Don pointed out, we have over $20 billion of securities we could sell within one quarter that would not have a -- do not have an unrealized capital loss on them.

So if you're worried about do we have to sell things and that unrealized comes into the income statement, then we have $20 billion in terms of liquidity.

In terms of the -- where it comes from we've broken it out in detail in the thing, of course most of it's fixed income so i you go to the investor supplement -- I'm not sure --

Well, we have annually, not really for quarterly, though.

Oh, you want the quarterly?

Yes, the book value --

Okay, I can get you there, Josh.

The change in the unrealized in the fourth quarter was $4.7 billion, okay, so that's how much it went up.

$1.6 billion of that was corporate, which large -- which reflects both spreads and credit impairment.

$1.2 billion was CMBS, which largely reflects spreads.

The spreads just went through the roof on CMBS after they changed to TARP program in September.

About $900 million each from munis and asset-backed securities.

Munis was a spread issue as was -- asset-backed securities had both spread and credit impairment in.

Does that get your question?

That helps a great deal.

And it;s not really a foll -- unrelated question.

If you'd talk about the dividends a little bit?

A lot of interested investors.

The dividend -- as you know we approved the dividend for the fourth quarter, which we kept at the same level we had throughout the whole year.

We will look at that dividend every quarter.

We will look at it again in February.

As the Chairman of the board I reserve the right for the board to do whatever they want to do every quarter, and those people who tell you they can predict it for the whole year are not, in my opinion, approaching it from a corporate governance standpoint the right way.

As you said, solely the responsibility and right of the board, which I lead.

All right.

Well, thank you for the answers.

Sorry,

Next question is from Dan Johnson from Citadel Investment.

Your question, please.

Great, thanks and good morning.

One balance sheet and then one just operating.

On the operating side can you talk a little bit about what's going on in personal auto pricing?

I don't think we've got the same data in the press release that we used to have, but just looking at the average earned premium for PIF and standard auto it looks reasonably flat for most of last year, including the quarter.

Okay, Dan.

This is George.

I thought you were going to ask the second question before I --

No, I'll hold off.

Thanks.

That's okay.

Two things.

We took modest rate increases during the course of 2008.

Our goal is to keep within the margin that we've given you, the combined ratio of 87% to 89%, so we react to the rate needs as quickly as we can and we've been fortunate because we did not get out of whack with the target so we don't have to catch up.

So we took modest increases in 2008.

One thing that has been happening, though, because of the deteriorating economy we're seeing consumers making changes that basically engineer their premiums down.

Specifically they're dropping collision and comp, they're going to higher deductibles, they're going to lower limits.

We're seeing a change from a lot of Platinum sales in our Your Choice Auto to more of value and more endorsement changes where people take a lower premium policy, but we still believe that we're adequately priced.

Our competitors, on the other hand, have had to take increases much more severe than we've had.

At the end of last year we noticed that people were taking many more rate increases than they did decreases and many more -- positive changes than they did earlier in the year.

That has continued throughout '08 and actually in the last quarter we've seen a significant number of our competitors having to take rate increases much more severe than we've had to.

Given that most of the consumer issues of 2008 were seemingly September and beyond -- not that the rest of the year was great -- but would it be fair to say from an earned premium point of view we really haven't seen that sort of buy down mentality just yet?

I'm not sure.

I can't predict what the economy's going to do on consumer behavior.

I think that people will be rational in their purchase of the product.

The one thing I want to remind everybody is that, in a recessionary environment typically auto insurance does very well.

It is not something that people can do without, so there will some movement, I think, in the average premium, but again, it's all embedded in our pricing.

So again, go back to the margin guidance that Tom gave.

87% to 89% we did better than that in 2008 and we think that that's a reasonable range for us in 2009.

Great.

And then the follow up was on page 10 of the supplement, where you break out the DAC data.

The $3.25 billion of incremental DAC this year from realized gains and losses, help us with conf -- to get some sort of confidence that that's actually like real shareholders equity given that we've seen some DAC write-offs already and I think you've mentioned that there is a limit to which you can keep putting the DAC back up on the balance sheet.

Thank you very much.

This is Sam Pilch.

With respect to the limit there is a limit.

You can't capitalize more than you originally incurred.

Secondly, the DAC that appears in the unrealized is subject to the same testing that was conducted in the DAC on locking and therefore the coverability of the DAC has already been determined.

The way the accounting model works is that we put up the unrealized the DAC such as it will occur should we realize the losses.

So there's limitations and interactions that go on between OCI, other comprehensive income and net income.

Is one way to look at that, that if the unrealized losses all go away, meaning positively, then this $3 billion goes away?

And if it -- if these realized losses -- unrealized become realized, that the $3 billion needs to be adjusted downward, as well?

Dan, maybe we could take you through all the potential alternatives off line?

No problem.

Thanks for taking the questions.

Our next question is from Matthew Heimermann from JPMorgan.

Your question, please.

Hi, good morning, everybody.

Hey, Matt.

Hi, quick question.

You mentioned in the press release that your dividend capacity in the P&C company in '09 is $1.3 billion, but I guess my question is do you intend to actually take that dividend this year?

That is a decision we'll make throughout the year.

As Don pointed out, we have $3.6 billion of cash and capital of the holding company, so we have plenty of capital for pay any of our fixed charges and cover any obligations we'd have at the parent company, so we'll see where we go throughout the year.

But our philosophy in to -- usually has been take maximum dividends out of the insurance company so that it gets up to the parent company so it has the most financial flexibility.

It'll just depend on how the year goes.

Okay.

And then I guess -- related it out I guess what I was struggling with was it seems like a bunch of the capital in the P&C sub now is somewhat cross credit with ALIC, so given that dependence has increased, does that diminish maybe the capital flexibility that you would have to take that out relative to past years?

Well, not because of the stacking of corporate subsidiaries that you described.

Obviously the requirement to put more capital into our life insurance company has reduced the capital flexibility we have at the total corporation, whether or not we take it from Allstate Insurance Company and put it down there or we take it from the parent company.

But when we look at the capital of Allstate Insurance Company we look at it on a stand-alone basis excluding the Allstate life investments.

Okay.

And then I guess if I could sneak one more and this is just kind of related to the DAC issue, as well, which is just if -- how sensitive is that asset going to be?

Time is an important element in terms of the recoverability of that asset, so let's say we have -- investment marks don't change at all this year can you give us a sense of what the write-down might look like if there is one in that type of scenario?

I know otherwise I can't think of a easier way to get arms around it than just asking in a flat market situation.

Sam can answer but my guess is it really less to do with the marks than the cash flow character.

That's correct, Tom.

There is assumptions for losses but as you noted that the -- assuming that there isn't any additional losses the DAC would continue to be recoverable and there should not be an unlock for that purpose.

Okay.

And so -- but if we do see a transfer of -- per the press release then I guess it just depends on the magnitude of any realization out of the unrealized, even if the market doesn't go up or down?

I think what Sam said, if the market doesn't go up or down we have the right amount of DAC and that will amortize off over the course of receiving the cash and income from those investments.

Okay, I'll follow up offline.

I was just confused because it seemed like the press release implied that if there were additional realized losses there there would be DAC ramifications.

Okay, thank you.

Thanks, Matt.

Our next question is from Gary Ransom from Fox-Pitt Kelton.

Your question, please.

I had a question investment income, whether the fourth quarter investment income we saw reflects fully the impact of moving to more cash, or whether -- is there more to go as we move through '09, is there more movement to shorter duration and lower yields?

Well, let me maybe make a first comment about the whole year and then either Don or Judy can jump in on our outlook for '09.

The lower yields hit -- I think Allstate Financial had lower -- about $400 million worth of investment income lower just because of the yield, so that dropped from the 3% range into the zero land.

It had a huge impact on our profitability this year.

So obvious -- we're obviously been in that position for awhile.

Do you -- anybody have any further clarification in terms of --?

I was just looking at the fourth quarter itself.

Is the fourth quarter run rate reasonable, or is there more reduction coming?

Well, I guess what I would do is go back and look at what happened to the -- if you look at short-term rates in the quarter they were pretty low throughout the whole quarter, so I don't -- and that's really where it came.

So while we don't have variance analysis on that specific question, Gary, I think I would just say that it's -- short-term rates have been down all quarter.

But you're not also planning to shift more of the assets into short term and having a bigger proportion in short-term assets?

No, we will probably shorten the total duration of the portfolio in 2009 reflective of the -- from a risk mitigation standpoint reflecting the potential for rates to go up as opposed to go down any further from here.

Okay, thanks.

And just one quick follow up on the expense ratio.

I realize it was up a little bit versus a year ago but it's also quite a bit higher than the run rate rom the first part of the year, was there anything unusual about the expense levels in property casualty?

Yes, there were several one-time payments that we had.

We had a technology write-down.

we had the funding of the profit sharing, and we had a couple of unusual things in the quarter.

The number in the quarter is not an indication of what we expect for the duration of 2009.

Okay.

Thank you very much.

Our next question is from David Lewis from Raymond James.

Your question ,please?

Good morning, this is [Ben Higher] for David Lewis.

Just have one question on the investment portfolio.

Do you have any exposure to some of the European hybrid securities?

We do.

We do have some exposure to the European hybrids.

The overall -- our overall exposure to hybrids at market is a little over $1 billion with some exposure to UK and other European institutions.

We manage them closely and we have monitored the situation in terms of the actions that have been taken by the governments' to prop up the banks.

Thank you.

Our next question is from Ian Gutterman from Adage Capital.

Your questions, please.

Hi.

I guess just to keep going on the capital front can you just talk a little bit about cat management in the year and in the context of -- I guess in the past earnings when we were buying reinsurance largely we concerned about earnings predictability and it was never really going to be a capital event, where it seems this year, given the uncertainty about dividending money up to the parent and what the life company might need and so forth and the operating leverage is higher in the P&C subs than in the past, that if there were a large cat that maybe becomes -- that it could have a significant impact on your capital flexibility, maybe as much as any future realized losses that may or hopefully don't develop.

So, are there any changes you're making in your reinsurance buying to -- so that everything you have planned out doesn't change because we have a cat and you have a $1 billion or $2 billion loss and you have to raise capital for that even though you've everything right on the investment portfolio side from your planning?

Ian, let me make a couple of comments and George might want to jump in here.

First, our catastrophe management program was really around our desire to exit from the business of insuring for modeled catastrophes called hurricanes and earthquakes.

Of course we're almost totally out of the earthquake business except for a few dangling participles and in terms of the fire following in California and a little bit in Kentucky.

So the program was really designed around saying we don't think that's a good bet and so we don't want to be.

So we have, as you know, reinsurance really in individual states all along the coast from New York all the way around to Texas -- we call it sort of wall of protection -- so it was done for an economic reason first and it does have the benefit of stabilizing earnings, as well.

Then of course we -- in line with that idea that we didn't want to be in that risk we bought $2 billion -- over $2 billion, which is really a capital management protection, that's not an earnings thing.

Right.

So after the first $2 billion we have the other $2 billion covered so that was a big driver there.

The $1 billion to $2 billion cat loss you talked about, I would point out we had $3.3 billion this year and we still made money and we had -- we made money in the year when we had hurricane Katrina, as well, although we had investment income.

We didn't have the negative investment results in that year.

So the challenge for us this year has really been nonmodeled cats, which are wind storms, tornadoes and as we talked about in the second and third quarter, that was a big driver of losses for us, and George's team is working hard to decide how to appropriately do that.

But buying reinsurance for coverage at that level, I believe, George, you've looked at and decided it's noneconomic.

Yes, we have spent a fair amount of time trying to find out whether there were any significant changes in the climate, as we did with looking at the hurricane prediction.

And with hurricanes we found out that the water was getting warmer and because of that the intensity of the hurricanes would be greater.

On the other hand we've looked to see if there's any changes in climate that would increase the number of tornadoes specifically, and there is nothing that we've been able to find out.

In addition, we looked at what our exposure was over the years and it is fairly consistent with what our homeowner writings have been.

So it's been problematic for us during the last year but we don't see where there is a necessity to make any changes.

In addition, if we would buy reinsurance to get down to the very low level that you would need on some of these it's just not economic for the company.

Okay.

I guess if I can ask it a little bit different way, maybe the way I should have phrased it is, Tom, as you said the $2 billion -- extra $2 billion was to protect capital but when it was put on you had more excess capital and you had a AA rating across the board where when now if you'd go from a AA- to an A+ that's more significant, the operating level is higher.

I'm wondering is -- would you -- would it be better to have $3 billion Ex to $1 billion so you don't have to wor -- if $2 billion was the amount you could tolerate in the past when you were -- had lots of excess capital, now the capital's tighter is $2 billion still a good retention or should that be lower?

Of course you can never predict the future, Ian, but we're comfortable with $2 billion over $2 billion.

Okay.

And at some point you get -- on the upside to that the size of the program you get to limits in the marketplace as to how much can actually place.

And in terms of lowering it then you start looking at, well, what will happen with nonmodel cats with model cats.

We're comfortable at $2 billion over $2 billion plus we have programs everywhere else so --

Know exactly.

-- we're not (inaudible) any other coverage.

Exactly, okay.

And then just my last question is the unrealized losses to gross and realized losses where their at less than -- the market value's less than 70% of amortized costs -- I believe that was a $6.7 billion number -- cand you just talk about -- there's always lots of questions about, well, if these things are less than 80% or less than 70% why aren't they impaired?

And I know it's not that simple.

Obviously a lot of things maybe have only been there for a short period of time, but can you give us some comfort that -- why the great majority of that $6.7 billion recovers because if I only do 15% that, that's $1 billion, that is a big realized loss.

So I understand most of it should recover, but how do I get comfortable if 99% recovers and not 75% because that's a big difference, obviously?

I guess I would start with -- if you just look at our valuation process rather than jump into the numbers, our valuation process is comprehensive, complete.

We have -- a number of different people look at it.

Sam's people are all over it, Judy's got several different teams that look at it.

We look at both external and internal marks.

We always put down what we think the value is and then we have strict rules around when it's impaired.

We haven't gotten behind on that one and I don't think this process will let us get behind.

That said, if things continue to deteriorate we take the approach of writing it down when it is and that's why, in fact, you see our realized capital losses.

We always do what we think is economic.

If we want to sell something even if it is -- and we have to put it in no longer intend to hold to maturity and take the loss on it we've done that and then we just -- we do what's economic, based on our view of the valuation.

So it's very important for us economically to have the valuations right and we feel good about that process.

If you want to go through we could -- I think offline Bob can take you through the different pieces of the below 70%, 70% to 80%.

We can actually take you through it by asset class, if you'd like.

Okay, that'd be great.

Thanks so much guys.

Our next question is from Meyer Shields from Stifel.

Your question, please.

Thanks, good morning, everybody.

Hey, Meyer.

I'm just trying to get at two data points from the press release and your commentary where you talked about companies taking bigger ratings in the fourth quarter but in the press release you talk about competition being an impediment to net premium growth?

I'll give you a little perspective and George might be able to add on to that.

If you go back to 2007, you remember in the -- really, I think it was the first and second quarter of 2007 a number of our competitors were taking price decreases when we were holding prices relatively flat or taking small increases.

Then in the second half of 07 they started to take more increases than decreases and that has really continued on for the last year or so.

So it's the -- the way that business works, of course, with six months policies and writing it, it takes awhile for all that stuff to work through the system so I would say that we feel like our strategy of -- George calls it small and frequent, is better than dramatic and rapid and big ups and downs.

We think it's better for our customers.

We think it's better for long-term retention.

That said, we have become less competitive in the higher-risk drivers as a result of the decreases people took in 2007, but we think we're working our way back.

So it's -- we're not trying to blame anything on the market.

The biggest thing we can do to drive growth right now is get customer loyalty up.

George, you want to --?

Yes, we're still very competitive in the better IS scores.

The problem that we're having is there is fewer people in the better IS scores.

And also with the economy as difficult as it is, there's just not as many cars being bought, which is again one of the triggers when people find out what the price is.

So it's difficult to expand during this time when the economy is bad and cars are not selling.

Tom talked about the competitive position.

That's simply our price competitive position.

What we're working on is the value of the product and making sure that our service improves dramatically so that people realize that Allstate is affordable and that our service is even better.

We've never been a pure price play.

What's happening, though, is because the margins of our competitors are worse than ours they are taking increases we do not have to take right now, which should help us a little bit more in the future.

Okay.

If I can ask a follow-up on that.

Does the deterioration you're seeing in insurance scores that, I guess, is a ramification of a weak economy, is that a predictor of worse loss experience?

No, because what we have is pricing for the correct score.

Okay, I see what you're saying.

And can you talk a little bit more about the steps that you're taking -- or steps that didn't work to improve customer loyalty over the course of 2008?

Meyer, is that your third question?

(LAUGHTER) I'm just kidding.

I'll give you a quick answer because I think it's important and it is a very good question and I would like to talk about it.

We obviously have a number of programs we've talked about before in terms of call back, getting the agencies engaged on it, but there is something that we haven't talked to you about before that I think is very important.

We have a 401(k) savings plan that is part incentive and part retirement for our employees.

It has typically been -- the payout, of course, is determined based on -- there's a guarantee and then there's some upside to it.

Traditionally we have done that around operating [ratings].

In 2009 that will be on customer loyalty and so we're telling all of our employees that we can and must do this and you will be rewarded for it and it has a high priority for us as a Company and I think that's very important.

George also has a number of operational activities going on down to the individual employee and agency owner level that those people who do not treat our customers well and do not deliver customer loyalty will no longer be part of the Allstate family.

Okay, thank you.

That's helpful.

Our next question is from Brian Meredith from UBS.

Your question please?

Thanks, good morning, everybody.

Just a couple of quick numbers questions here.

The first one, what impact was the increase in the BI severity in the quarter loss ratio?

I'd have to get back to you on the specifics of (inaudible) About half of the increase or so in total was due to the increases in current year severities.

Okay, terrific.

Thanks, Bob.

And then second one, do you have the stat surplus for the PC operations and the life operations?

We haven't closed the DAC books yet.

But you gave us what you're dividend capacity is so I figured you've got --

First it's an estimate and a lot of it's based on prior-year earnings.

Okay, great, and then the last question.

Any -- it didn't seem like there was much activity on the commercial whole loan portfolio and [the core risks] as far as write-downs or anything.

Can you talk about what's going on there?

In the commercial --

The $10 billion loan book, yes.

You're talking about the $10.6 billion of commercial mortgages?

Yes.

Judy, do you want to talk about it?

Sure.

The portfolio we've talked about it before.

It's a well-diversified portfolio, we've got about 1,000 loans.

Minimal write-down activity in 2008.

The commercial real estate market is weakening.

We expect it to weaken throughout 2009.

The portfolio, though, is in pretty good shape.

We've seen some deterioration in LTVs throughout 2008.

I think we've quoted about a 57LTV.

We're currently looking at closer to 66, but manageable within, again, a very well diversified portfolio, plus the portfolio at this point continues to cash flow, Our debt coverage ratio is about 1.8 times and we continue to see good -- the activity around the leases within the properties continues to be strong cash flow within the properties.

Okay, I was just -- because some of the banks, obviously, have taken some hits on the commercial loan book.

I figured you may have to take one.

We feel okay with what we've got.

Remember the size of the loans.

Right.

Okay, great.

Thank you.

Our next question is from [V.

Davis Keith] from Credit Suisse, Your question, please.

Hi, good morning.

How much of capital has a downgrade from AA to AA- -- to AA- [free up from you from the S&P], and would you also be willing to go to a single A?

Well, it doesn't free up capital, their choice is what their choice is.

We run our capital based on what we think economically we need.

We look at both economics risks, which is -- we've got our econom -- enterprise risk/return model in it.

We look at the regulatory requirements and we look at their views, but it doesn't really free up any capital for us.

We feel well capitalized where we're at.

Going from AA to AA- doesn't really impact our business much at all.

We're not really doing much in the institutional markets these days in fixed annuities and the rest is retailing.

I think the key point is we want to stay financially strong so we don't have an objective of lowering our rating

Do you have some pressure unrealized losses?

Would you be willing to take it down to the eighth level?

We continue to manage our Company so we have the right amount of capital.

What the rating agencies do is their choice and it doesn't really have a great impact in our business, so I'm not -- our goal, our number one goal this year is to protect Allstate's financial strength, so I'm going to continue to do that.

All right.

And the follow up is, how are the rating agencies and the regulators looking at the $700 million of additional stat capital that you generated from the accounting changes?

So one was, I think, for the before tax assets and you also had another accounting change that did about $350 million worth of gains on your stat books?

Your question was how do the regulators look at it?

They look at it favorably because it's indicative of this (inaudible) the company but they're also involved in it so they're informed as we do things.

My point being that you have $700 million worth more of stat capital, does it really benefit you or do the regulators look through it saying this is a noncash item therefore we'll look through it, both from the regulators and from the rating agency perspective.

I think, as Sam said, the regulators are involved in it and aware of it and approve it.

The rating agencies you'll have to ask them how they view capital these days.

They keep adjusting for changes in the external environment (inaudible), but we feel comfortable with where we are on capital.

All right.

Thank you.

Next.

Anybody?

Next question is from Paul Newsome from Sandler O'Neill.

Your question, please.

Good morning, thank you for the call.

Just one quick question.

I was hoping you could talk a little bit more about the life insurance DAC write-down with respect to the traditional products.

It makes sense to me that you would write something down on the interest-rate sensitive, but I think you said that you also were changing mortality assumptions when you unlocked the DAC and I haven't seen a mortality-related charge of that size in a while?

What was behind the change in thinking on the mortality business?

This is Sam.

With respect to the analysis of our DAC we group our products into the investment products, which is the FAS 97, and then the insurance products, which is FAS 60, that's what we're talking about..

With respect to it we have both annuities, as well as life insurance in there.

We've been monitoring the mortality experience that we've been incurring on the annuity book and starting in 2007 going into 2008 we commenced the study, and as a result of it concluded that the individuals covered by the annuity program were expected to live longer.

And as we finished the year we did the evaluation of future cash flows and concluded that the DAC was no longer fully recoverable and therefore we wrote it down by $336 million.

That's indicative of the additional annuity costs that we're going to incur over the next 20 to 30 years.

But usually you see, because you've a fair amount of traditional life products, death protection business, that well offsetting that.

Is it just your mix of business that changes and why now?

It's been awhile since I really spent time on this, but my understanding is you haven't really seen an acceleration the last several years of mortality improvements like you did in the '90s.

No.

Well, what happens is that the -- we haven't seen the growth in the life insurance business sufficient to offset the developing deficiency in the annuity business.

With additional growth and focus on insurance products that situation will be abated.

Okay, Matt, can we do one last call -- or one last question?

Our final question's from [Allison Jacovawitz] from Banc of America-Merrill Lynch.

Your question, please.

Hi, thanks, just two questions.

Just wondering with the weaker economy with your focus on retention, are you seeing an increase in shopping?

I know you talked some about people being more rate sensitive, but I was wondering about that.

And then also with the review of the life business, how far -- I don't think I heard an answer to this.

How far are you willing to take it?

Might you consider exiting the business altogether, and if not, why not?

Let me see if I can answer the question about increased shopping.

People are obviously more price sensitive and if you look at our current advertising campaign the tag line at the end is "Call Allstate First." What we've found is that if you can get people to call you first and you can save them money -- and with our new pricing we've got SRO 6, the sixth iteration of our pricing -- we can save a lot of money for a lot of people.

And look at the ads when Dennis Haysbert talks about we can save you $518 versus GEICO and then he goes through a series of other people, so if we can get people to call us first and work on our service so they do consider us we can then do a better job of acquiring new customers.

Obviously, the thing that we have to be sensitive to is the value of the service we provide to keep our customers.

But there is more shopping going on, yes.

On the second question, we're reducing expenses by over 20%.

At Allstate Financial we're adjusting for the reality of their profit stream and where we have the business positioned today.

We are narrowing its focus but we are not going to get out of that business in total.

Part of our goal is to reinvent protection retirement for the consumer.

Middle income people need life insurance protection and retirement savings even more now than they did a couple of years ago.

That doesn't mean we can do it the old way, it means we just have to find a new, more profitable way to do it.

There are portions that company which are highly profitable and earn great returns.

We've avoided the V.A.

downfall, obviously, but we were not able to avoid the increase in spreads, which has of course crushed current year profitability.

So we're going to do what we need to do to make that business profitable, but we still believe that there's great opportunity to cross sell our existing customers.

Let me close with a summary of where we have been and where we go before you all sign off.

2008 was a tough year.

Nobody likes to lose money and not our shareholders and not this management team.

In our business model the capital and management were all tested over the last 18 months and the results show that the strength, resiliency and flexibility of our business model are strong.

Our results show our management team has the capability, aggressiveness and willingness to act and act in way that's necessary to succeed.

We remain financially strong despite a terrible year of catastrophes and the meltdown in the investment market.

We earned $1.8 billion of operating income by being good and disciplined in our auto insurance business.

Our conservative and proactive approach to business has served as well and we entered this environment with a high-quality, highly-diversified fixed income portfolio that still generated $6.6 billion of cash last year, which was almost exactly equal to what was owed and expected.

In the face of declining valuation we put an expansive risk management program in place in the middle of the year that created $0.5 billion of value.

Over the last three years we proactively reduced our catastrophe exposure, and as a result our losses on hurricanes Ike and Gustav were cut in half.

We sold our V.A.

business in 2006 because we didn't like the risk profile.

This avoided creation of a huge liability when equity values declined this year.

We reduced the size of our fixed annuity sales by more than half over a four-year period.

In response to drops in profitability at Allstate Financial we're narrowing our focusing, cutting our costs by 20%.

To preserve capital we cut our 2008 share repurchase program in half from 2007 and then we stopped it all together in the middle of the year.

Despite this near-term focus on operational excellence and risk management our shared vision is alive and well.

We have over 50,000 [Allstaters] that are engaged in our customer-focused strategy of reinventing protection retirement.

Our first effort out the box [George Weiss Auto] has sold over 4.6 million policies, which is more than most companies have in total.

Focusing on value is the right long-term strategy for sustainable growth and profit.

Our four operational priorities of operational excellence, customer focus, and a price risk management, capital strength have not changed and have continued to serve our Company well and will be a strength for us no matter what the external environment is.

So thank you for your interest in Allstate.

We'll see you next quarter.

Ladies and gentlemen, thank you for participating in today's conference.

This concludes the program.

You may now disconnect.

Good day.