AXIS Capital Holdings Ltd (AXS) 2004 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by, and welcome to the AXIS Capital Holdings Limited Teleconference to discuss financial results and related matters for the third quarter ended September 30th, 2004. My name is Carlo, and I'll be your coordinator for today. At this time, all participants are in a listen-only mode. We will be facilitating a question-and-answer session at the end of this conference. (OPERATOR INSTRUCTIONS.)

It is now my pleasure to turn the presentation to the host for today's call, Linda Ventresca with Investor Relations. Please proceed, ma'am.

Thanks, Carlo. Good morning, ladies and gentlemen. I am happy to welcome you to our conference call to discuss the financial results for AXIS Capital for the quarter ended September 30th, 2004.

Our third quarter earnings press release and financial supplement were issued yesterday evening after the market closed. If you would like copies, please visit the investor information section of our website, www.axiscapital.com.

We set aside an hour for today's call, which is also available as an audio webcast through the investor information section of our website through December 3rd. An audio replay will also be available from approximately 11 a.m. Eastern today through November 19th. The toll-free dial-in number for the replay is 888-286-8010. And the international number is 617-801-6888. The passcode for both replay dial-in numbers is 44948767.

With me today in our Bermuda headquarters are John Charman, AXIS Capital's CEO and President; Andrew Cook, CFO; and Michael Butt, our Chairman.

Before I turn the call over to John, I will remind everyone that statements made during this call, including the question-and-answer session, which are not historical facts may be forward-looking statements within the meaning of the U.S. federal securities laws. Forward-looking statements contained in this presentation include information regarding our future growth prospects, investment strategies and financial results, and our expectations regarding pricing and other market conditions. These statements involve risks, uncertainties and assumptions which could cause actual results to differ materially from our expectations. For discussion of these matters, please refer to the risk factors section of our latest prospectus. We undertake no obligation to update or revise publicly any forward-looking statement, whether as a result of new information, future events otherwise.

In addition, this presentation contains diluted book value per share information, which is non-GAAP financial information within the meaning of the U.S. federal securities laws. For a reconciliation of this item to the most directly comparable GAAP financial measure, please refer to our financial supplement, which can be found on our website.

With that, I'll turn the call over to John.

Thank you, Linda. Good morning, ladies and gentlemen. The investment community, amongst other, have indicated that major losses, such as those that have occurred over the last three months, would provide an opportunity to assess the risk management capabilities of the new Bermuda companies. I'm pleased that I can report that we at AXIS have delivered for shareholders and clients on this front. AXIS has weathered the storms, and I'm delighted to be here to report positive net income of $6.3 million for the quarter, and $314 million for the year to date. This achievement is in spite of the now estimated $30 to $40 billion of damage caused by this season's unprecedented number of hurricanes and typhoons.

We were not only able to achieve net income for the quarter, but also were able to increase over the rolling 12 months ended September 30th our shareholders' equity by 15 percent and our diluted book value per share by 14 percent. To achieve all of this in the face of substantial and widespread industry losses is a great credit to all of our staff and their disciplined underwriting.

One of our founding goals was to create high quality global insurance and reinsurance businesses that were soundly diversified by both product line and geography. We have now achieved substantial market share in both businesses. Our strategy has been to build this diversified portfolio with a significant portion of the portfolio comprised of business that can provide near-term comfort regarding ultimate financial outcome as defined by patterns of loss reporting. This necessarily means that a significant portion of our book of business is exposed to natural perils around the world. These risks are identified and aggregated daily, and managed appropriately.

We have in my view successfully dealt with our first big industry test, for our direct insurance operations in our U.S. and global insurance segments we mitigate volatility through the purchase of reinsurance, and tend to keep the severity in our reinsurance segments. Suffice it to say that for the series of four major hurricanes which struck the U.S. and the Caribbean, the ingredients of our risk management performed as expected. We kept losses within quarterly earnings in a period of exceptional event frequency. We achieved appropriate protection from large individual risk losses in our direct insurance segments and from the adverse cumulative impact of clustered events through reinsurance protections.

Our announced range of preliminary estimates for the net financial impact to AXIS of the four hurricanes was $190 to $210 million, including losses, inbound and outbound reinstatements, reinsurance recoveries and impact of tax.

Last, we have established reserves as of the September 30th net of reinsurance recoverable of $227 million. We anticipate ultimately to stay within the announced range.

This has been a hurricane and Pacific typhoon season notable for its frequency characteristics. Many of you have heard, and I will reiterate, that the reporting characteristics of each of these hurricanes are presenting challenges for insurers. Ivan and Jeanne came in quick succession, and stretched claims-adjusting capacity. Also, the application of deductibles remains uncertain.

There are new developments every day with respect to our loss estimates for the four hurricanes. We are comfortable that our approach in determining the net loss position was, and remains, both conservative and realistic.

Because each of these hurricanes was a smaller event relative to Hurricane Andrew, modeling losses becomes more difficult as large individual risk losses within an overall loss can skew any estimate significantly. Knowing this, we did not rely solely on modeling to derive our loss estimates. In our insurance segments, the majority of our losses came from commercial risks where we relied heavily on advices from clients, and we put ultimate reserves up on those contracts based on our embedded experience and judgment.

In our reinsurance segments, we first models the events and determined that initial reserve, based upon the high end of our model distribution of losses. We then added reserves for individual contracts where we judged modeled or reported claims may be inadequate.

With respect to the typhoons and the earthquakes in Japan, we expect minimal losses, if any, as these were largely retention events for the Japanese insurance industry.

I'd now like to spend a bit of time giving you some sense of market conditions as we see them at AXIS, and what to expect going forward. We continue to be satisfied with the underlying fundamentals in each of our segments, and that these fundamentals continue to increase shareholder value. As I noted earlier, we have increased our shareholders' equity in a challenging quarter for the industry. We believe that our long-standing and loyal clients, as well as prospective new ones, will rely on the quality of our capital, reputation and the stability of our operations to meet their buying needs.

Overall, I expect that the recent cat activity will impact industry pricing positively, particularly for property cat exposed business, which comprises a significant portion of our business.

I also expect that recent market dislocation will accelerate the flight to quality primarily in the reinsurance market. We expect that the market, as we enter 2005, will remain broadly healthy. Our insurance businesses remain substantially affected by the competition, from the continuing fundamental issue of poor and inexperienced underwriters at other companies being disconnected from their managements. Our fundamentals, however, remain strong and we work harder each day to avoid being adversely affected by that sector of the market.

In our specialty lines in the global insurance segment, pricing, terms and conditions in the main are at or above our adequacy levels. We expect the cat activity of the third quarter to have a positive impact on pricing. As an example for the energy account, which has been under pricing pressure, we are expecting stabilization of pricing, particularly for those accounts with adverse experience related to Hurricane Ivan. Our current view is that here will be continuing pricing pressure on U.S. large account property business, which we will continue to resist.

However, we have not seen much Fortune 500 commercial property business with significant Southeast wind exposure come up for renewal since the recent hurricane activity.

The fourth quarter is a critical quarter for our aviation business, and we currently see renewal pricing down somewhere in the region of 7 to 8 percent from last year. But our pricing still meets our technical requirements. We remain extremely disappointed in the rating inadequacy of the Marine lines where there continues to be substantial naive capacity operating in this line of business.

In our U.S. insurance segments, submissions are up across all lines. However, our overall hit rate remains below 10 percent. This is the critical first step in driving expansion of the pool of opportunities to which we can apply our risk selection expertise. Even with submissions up, there are some areas where it has been difficult to get comfortable with the pricing. Overall, in our DNO book, renewal rates were down on average around 17 percent. We walked away from a substantial number of excess DNO renewals where the competition has been fierce, and inappropriate in my view. We are expecting some stabilization in rates, particularly in financial institution business, due to anticipated claims stemming from the New York attorney general's investigation of the insurance industry. This in our opinion may introduce adverse loss experience beginning in the fourth quarter. However, the market doesn't seem to be responding to this, even as I speak. Whilst in its early days yet, we believe that for our financial institutions professional lines book we have very manageable exposure.

As we pull back in DNO, our diversification in transcillary lines seems to be paying off. Policy count has grown in these products, which include fiduciary liability and employment practice liability. We are seeing excess in surplus lines cash business largely flat quarter over quarter. Generally we are not experiencing excessive capacity in this area, which affords us ample opportunity. But this of course varies class by class.

Our impression of the global reinsurance marketplace following Baden-Baden is that the general mood is positive. Clients are seeking better security and diversity in placements with reinsurers. And players like AXIS will stand to benefit from this.

In our U.S. reinsurance segment as an example we have seen good flow in our professional liability reinsurance book, which makes up a significant portion of the book of business of this segment. We did not renew almost 50 percent of that book, but found ample attractive new opportunities that made sense to us, and fit our strict underwriting criteria. In this segment, as well as in our global reinsurance segment, we have been able to participate in new business and increase our participation on some treaties following (convariance) rating issues.

Where we may have expected to see rate decrease in property cat treaty business before the cat activity in third quarter, we are now expecting pricing that is flat to modestly up with greater increases in portfolios with Southeast wind exposure.

Property pro rata and per risk businesses are more experience-driven. Some contracts will have losses from the hurricanes, and for these at a minimum we expect stability in pricing.

On the demand side, we expect not only requests for higher limits, but also significant interest in new structures, including lower-layer additional backup coverage. And we expect that many companies will be interested in buying down retentions.

Now I'd like to take this opportunity to share with you some organizational changes we're effecting at the Company, as we continue to challenge ourselves and evaluate all aspects of our operations, including the optimal organizational structure of our various business units.

Our current organizational structure is based on the chronological build-out and development of each of our operating units. Each has now reached a point where its infrastructure and skill sets clearly lend to the establishment of a more integrated global insurance business and a more integrated global reinsurance business. We are in a stage now where we believe it is in the best interests of the Company to realign our organizational structure in order to achieve our objectives, which include leveraging the strengths and size of each of the insurance and reinsurance businesses to create a stronger brand and an even more recognizable market position for each; also, operationally integrating our insurance and reinsurance businesses to maximize efficiencies and take advantage of economies of scale, while simultaneously building a clear link to central support services; and enhancing the coordination, cooperation and connectability of our key executives as we strengthen our brands at each of the global insurance and global reinsurance marketplaces.

As we continue to strive to be market leaders, we believe we will achieve the aforementioned objectives by making the following changes effective from January 1st of 2005. We will create two distinct global underwriting platforms, AXIS Insurance and AXIS Re. Dennis Reding, currently CEO of U.S. Insurance, will be named Chairman of AXIS Insurance. And Jack Gressier, currently CEO of Global Insurance, will be named Deputy Chairman. Jack will also continue as CEO and President of Global Insurance. Marshall Turner, currently President of U.S. Insurance, will assume the additional role of CEO of U.S. Insurance. Both Jack and Marshall will report directly to Dennis, as Chairman of AXIS Insurance, and we'll coordinated the activities of AXIS Insurance globally.

I will assume the role of Chairman of AXIS Re. This is in addition to my current role as CEO and President of AXIS Capital. The three leaders of our reinsurance units, Bill Fischer, Karl Mayr and Mike Morrill, will report to me and coordinate the activities of AXIS Re globally.

Underwriting management committees for the two newly-formed global underwriting platforms will be announced shortly, and each will include myself and Michael Butt. These committees will be responsible for driving the underwriting business plans of these integrated businesses forward. Their activities will include, but not be limited to, underwriting, risk management, client services, and marketing for each of the underwriting platforms.

We anticipate a strong positive reaction to this reorganization from our clients and our intermediaries. Having founded AXIS to be a modernizing influence on the industry, I look forward to effecting these organizational changes to continue to drive shareholder value by maximizing the underwriting expertise, efficiency, and global infrastructure at AXIS.

Before I turn the call over to Andrew, I do want to spend some time discussing with you one of the more timely issues facing the industry today. That is the New York attorney general's industry-wide investigation of questionable practices among insurance brokers and insurance companies. As we disclosed at the beginning of September, our U.S. holding company received on August the 26th, 2004, a subpoena from the New York attorney general seeking more information regarding incentive commission agreements between its insurance companies and the insurance brokers. We have been cooperating fully with the New York attorney general since we received that first subpoena. Since then, the New York attorney general has sought additional information as the scope of his investigation has widened.

Events that have transpired since our receipt of the first subpoena are as follows. On September 20th, 2004, our U.S. holding company received two additional subpoenas seeking information regarding bid rigging. On the 21st of October 2004, our U.S. holding company received a further subpoena seeking information regarding tying all conditioning of direct insurance on the place of vendor reinsurance.

As I stated previously, we have cooperated fully to date and we intend to continue to do so.

Consistent with long-standing and widespread industry practice, we have since our inception entered into incentive commission agreements with brokers. As a result of the New York attorney general's investigation which has called the into question, we have ceased entering into, and suspended making payments under incentive commission agreements throughout the Company. We do not believe we have engaged in the improper business activities investigated by the New York attorney general.

To confirm that our employees have not engaged in any of these improper business practices, we are conducting an internal investigation, led by our outside counsel, Skadden Arps, to examine the issues raised by the attorney general. The investigation team is reporting to management, and we'll report to our board of directors, and is seeking information from all those who touch the underwriting process at AXIS worldwide. We believe this investigation is in the best interests of the Company, our shareholders and our employees. We are in the initial phase of our internal investigation, and it is ongoing. Therefore, I will not discuss the detailed investigation further on this call.

Operationally, all of this means business as usual at AXIS. My colleagues and I have worked diligently over a long period of time, a period predating the establishment of AXIS, to establish ourselves as leaders in our respective markets, and have held ourselves in these matters, as with all matters, to the highest standards of ethics, integrity and professionalism in our business, with intermediaries and our clients.

Peer review at AXIS, which entails participation of senior members of management, before binding any business, has been embedded in our underwriting practices throughout the Company since inception, and provides us appropriate checks and balances in these processes.

To the extent any of you have questions about Marsh & McLennan's involvement in our establishment and the share of our business access through Marsh & McLennan subsidiaries, Marsh and Guy Carpenter, I would like to remind you of the reality of AXIS Capital's ownership structure and its business. The largest founding shareholder of AXIS at this time is Trident II. Trident II is a private equity fund that currently holds an economic ownership in AXIS of 9.4 percent on a primary basis, and 18 percent on a diluted basis. Marsh & McLennan's direct economic ownership in AXIS represents less than 5 percent of our ownership on both a primary and a diluted basis. Andrew will present further detail with respect to Marsh & McLennan as it relates to AXIS, including ownership positions and transactions involving Marsh & McLennan entities and AXIS Capital.

AXIS is an independent company, which has held itself from inception to the highest standards of good corporate governance, and has been managed to increase value for all of its shareholders. We have differentiated ourselves since our founding as a diversified global specialty insurance and reinsurance company, and one which currently deliberately outsources its distribution to the global broker network. Therefore you will find that our premium distribution is appropriately diversified among brokers in the markets in which we operate, and that premium by broker, taking into account the fluctuations introduced in the quarter due to the seasonablity of business, is largely representative of each broker's global market share. We pride ourselves on knowing where the business we want is, when it becomes available, and our determination and success in getting it.

We have relentlessly pursued real underwriting profitabilities since our inception, and as such have not only properly managed risk across our portfolio and business, but also driven acquisition costs and other expenses to what we believe are industry leading low levels for the portfolio we assume.

My colleagues and I analyze and manage acquisition costs in their totality, and therefore we have to date disclosed acquisition costs in their totality. However, you surely are interested in framing your thinking on this, as many brokerage firms and insurance companies, including ourselves, have announced the discontinuation of PSAs. As a matter of fact, I have overseen the negotiation of PSAs through AXIS since our inception, and where possible we have introduced caps in total acquisition costs paid to individual brokers. In 2003 we paid $39.1 million in PSAs globally, or 1.7 percent of 2003 gross written premiums. Of this, $18.1 million was paid to Marsh. Part of the balance was paid to a host of specialty regional brokers who we have been deliberately positioning to represent a larger proportion of our expanded U.S. distribution network.

Finally, I would like to say that all of us at AXIS have been dismayed by the findings of the New York attorney general's investigation, and do not condone this type of alleged behavior. My colleagues and I came to AXIS knowing that a transformational period had been ushered in by the tragedy of the September 11th, when the industry faced the consequences of huge inadequate risk aggregation. While such industry issues, including legacy issues, have been ones of poor management and underwriting to date, we are now entering a period where the balance of pure industry economics and regulation is being severely tested.

Following the New York attorney general's investigation, I believe this industry's future well-being lies in eradicating all potential conflicts of interests, not merely disclosing them. In order to help achieve this, the market should work together to ensure that the brokers over time solely receive their compensation from their clients. We believe that AXIS is designed for a free marketplace as we offer the highest standards of client service and represent financial strength by virtue of our freedom from legacy issues, our extremely conservative reserving, and our strong risk management, which continues to protect the balance sheet which we put forward for our customers.

Thank you, and now I will hand the call over again.

Thanks, John. Good morning, everyone. I would like to provide some further detail on the items John commented on earlier on the call, and then move on to a discussion of our financial results. I will start by reminding you that we are not, and never have been, a subsidiary of Marsh & McLennan, and that MMC does not direct any of the activities of the Company. AXIS does, however, have a broad commercial relationship with Marsh & McLennan, which should not come as a surprise to anyone who is familiar with the commercial property and casualty landscape.

We have disclosed in our offering documents and other public filings all ownership, relationships and related party transactions involving MMC. MMC directly owns 7.4 million shares in the Company, which equates to approximately 4 percent ownership on a diluted basis. Trident II, the private equity fund managed by MMC Capital, owns 14.5 million shares in the Company, and holds 17.9 million warrants, resulting in an 18 percent ownership on an as-if-converted basis. Trident II and MMC are independent legal entities. Furthermore, under the terms of our bylaws, the voting power of these shares is limited to a position well below their actual economic interest. Only one board member out of 14 is an executive at MMC. Under a founders service agreement, which ends in 2006, MMC Capital provides advice and services to the Company for an annual fee of $1 million per year.

As of September 30th, 2004, Putnam manages approximately $603 million of our invested assets, which equates to 11.8 percent of total cash and invested assets. We pay them a weighted average fee, based on assets under management, which is currently around 12 basis points, and is competitive with the fees paid to our other investment managers. In 2004, we paid Mercer $53,000 for HR-related consulting projects.

With respect to brokerage for the nine months ended September 30th, 2004, MMC affiliates acted as intermediaries for 31 percent of our gross written premium. When you analyze this on a segment-by-segment basis, we believe that the premium distribution for each segment is generally consistent with Marsh's market share in those marketplaces. Further, we also believe that this relationship between AXIS premium distribution by broker and broker market share generally holds for Aon and Willis as well.

Moving on to PSAs and MSAs, as with everything I just noted, we have included these commission dollars in our overall acquisition costs since our inception. Each of the agreements we have in place is strictly volume related.

There have been a number of public statements regarding suspending, abolishing or eliminating these agreements. Once we have more clarity on these issues, we will make the necessary adjustments, if any, to our acquisition costs. As of the date of this call, we have not made any payments under the 2004 agreements.

Turning to results, needless to say, this quarter was particularly active with respect to catastrophe loss activity. However, we are extremely pleased to report net income in the quarter and accretion in diluted book value per share of 14 percent over the rolling 12 months ended September 30th. I don't want to get caught up in the typical insurance industry habit of saying "but for the losses," because that is the industry we are in, and as far as our clients are concerned what we are here to do.

John has already given you some color on how we view our risk management in light of the cats in the quarter. Having said that, in order to help you discern the underlying trends, I will provide a clear description of how the hurricanes impacted our results for the group and by segment.

Net income, including realized gains, was $6.3 million for the quarter, or 4 cents of diluted earnings per share, versus $147 million, or 90 cents per diluted share during the third quarter of last year. We continue to drive shareholder value, ending the quarter with nearly $3.1 billion in shareholders' equity and diluted book value per share on an as-if-converted basis of $19. Our performance not only underscores our robust global book of business, but also the benefit of a short duration, high quality investment portfolio in the face of an unstable interest rate environment.

Our combined ratio for the nine months ended September 30th was 86.4 percent, as compared with 74.3 percent for the same period in 2003. The hurricanes accounted for 15.4 percentage points in the year-to-date combined ratio. Our combined ratio for the quarter was 109.7 percent, as compared with 69.2 percent in the third quarter of last year.

As stated earlier, net losses for the four hurricanes were $227 million, or 43.6 percentage points of the quarter's combined ratio. Our gross losses of $474 million, offset by reinsurance recoverable of $247 million. Please note that 98 percent of the recoverable balance is rated A or better.

Also in the quarter, inbound reinstatement premiums for the group were $9.8 million, and outbound reinstatements were $9.9 million. Apart from these results, our combined ratio continues to be driven by a continued diversification of our portfolio of business, ongoing conservative reserving, better than anticipated profitability in non-cat exposed short-tail lines, and our focus on driving down our overall expense ratio. Gross premiums written for the quarter were more than $688 million, and represented a growth rate of 8.5 percent over the corresponding quarter in 2003. Net premiums written for the quarter were $562 million, growing 5 percent over the corresponding quarter in 2003.

Our global insurance segment continues to benefit from its diversification by product and geography, and the ever-increasing concern regarding the financial strength of the industry participants. As we have noted previously, there will always be changes in the mix of business from quarter to quarter, based not only on the evaluation of the relative opportunities in the given period, but also on timing issues for certain classes of business.

There's one particular accounting item that we would like to draw your attention to within this segment. If you remember, last December we adjusted certain of our commercial property accounts to an as-reported method, in order to be consistent across all of our segments. The impact of this adjustment is a year-over-year variance of $34.5 million. If you look at page 5 of our supplement, you can clearly see the impact on the fourth quarter of 2003 when we made the adjustment. Throughout the course of this year, we have written $15.5 million of this business, so it in effect becomes a timing difference. If you take this adjustment into account for this quarter, premiums written in the global insurance segment are essentially flat year over year.

The hurricanes had the following impact on the global insurance segment. Reinstatement premiums zero, net losses $61.1 million. Growth in global reinsurance was primarily driven by organic growth from the Bermuda property pro rate and per risk book. This growth was augmented by new business from our European credit and bond and motor liability books. We did not renew some workers compensation contracts where terms and conditions were not acceptable to us.

The hurricanes had the following impact on global reinsurance segment. Inbound reinstatement premiums, $9.8 million; outbound reinstatement premiums, $6.1 million; net losses, $91.6 million.

Our U.S. insurance segment continues to increase its market penetration, and we are very pleased with the quarter-over-quarter growth of 21 percent. As a reminder, the third quarter of last year included cancel rewrite premiums totaling $4.2 million, related to our renewal rights transactions for professional lines. These were one-time premiums not repeated in the third quarter of 2004. After taking these premiums into account, our growth in professional lines has significantly slowed from that of prior quarters as we have walked away from clients where pricing is not acceptable to us.

The hurricanes had the following impact on the U.S. insurance segment. Outbound reinstatement premiums, $3.9 million; net losses $47.6 million.

Our U.S. reinsurance segment continues to perform well, with gross premiums written in excess of $82 million. Please note that a comparison with gross premiums written in the third quarter of 2003 does not tell the full story. The third quarter of 2003 included one contract with a 17-month term that won't come up for renewal until 2005.

The hurricane had the following impact on the U.S. reinsurance segment. Reinstatement premiums, zero; net losses, $27.1 million.

Getting back to the group's overall performance, our total net premiums earned for the third quarter of 2004 have increased to $522 million, or 31 percent over the same quarter last year. Net premiums earned for the nine months ended September 30th were $1.5 billion, an increase of 43 percent over the same period last year.

The quarter also included favorable reserve development of $49.6 million for the group. By segment, this breaks out as follows. Global insurance includes a release of $16.6 million, or 8.3 loss ratio points from the 2003 underwriting year. Global reinsurance includes a release of $27.4 million, or 16.4 loss ratio points, again from 2003. U.S. insurance includes positive development from the 2003 property account, which returned $4.6 million or 5 loss ratio points.

As always, these releases only related to short-tail lines. We have maintained the same high standard of conservative reserving using the same methodology every quarter, including this one. As of September 30th, 2004, this philosophy has resulted in nearly $2.2 billion in gross loss reserves, of which 81 percent is related to IBNR. Included in this balance is $294 million, related to the hurricanes.

For this quarter, our expense ratio came in at 24.3 percent, an increase of 1.4 percentage points over the same period last year. The increase is reflective of the ramp up in our underwriting infrastructure in Zurich and the U.S., coupled with costs of Section 404 compliance. Operating cash flow continues to be exceptionally strong, as demonstrated by the $478 million generated during the quarter. We ended the quarter with total cash and invested assets of approximately $5.1 billion.

Total pretax income on our investment portfolio for the quarter was $40 million, which increased from $33.3 million last quarter. As everyone on the call is aware, the first nine months of 2004 have been rather unpredictable in the fixed-income markets. We have been, and continue to be, overweight cash as we opportunistically move cash into longer-dated securities. We believe that our very conservative strategy with respect to the positioning of our portfolio limits our downside during periods of rising interest rates, as we experienced last quarter, and still allows us to take advantage of rising rates by increasing our portfolio yield as we experienced this quarter.

As we discussed last quarter, we have started to diversify some of our investments away from U.S. high-grade fixed-income securities to enhance investment returns and reduce asset class correlation to interest rate movements. We will continue to evaluate opportunities in this area and expect to make more investments as we identify attractive opportunities. To date, these investments have been limited to collateralize loan obligations and floating rate medium-term notes. As of September 30th, 2004, these assets represent less than 2 percent of invested assets.

Other insurance related income was $7.2 million in the quarter. As discussed in previous calls, this amount principally represents the mark-to-market movement in the value of a portable risk contract, accounted for risk derivatives, and during the quarter emerging market spreads rallied, somewhat driven by strong oil prices.

As always, we suggest you refer to our financial supplement posted on our website, www.axiscapital.com, for further detail with respect to our financial results.

That concludes our prepared remarks, and I'll now turn it over to the operator to take your questions.

Thank you, sir. (OPERATOR INSTRUCTIONS.)

Vinay Saqi with Morgan Stanley.

Good morning. Two quick questions. One for you, John. In terms of DNO pricing, you mentioned that you saw a 17 percent decline, but you expected to see some stabilization, assuming that there are some losses in the fourth quarter. However, you're not seeing those signs. Why do you think that's the case, that we aren't seeing such signs?

Second, for Andrew, if we look at the combined ratio for the Company, and X-out the hurricanes and look at the combined ratio, it was much better than it was in the second quarter of this year. Is there anything specific going on there, or is that just reserving activity, or what's actually causing it to go down? I believe it was down some 8 or 9 points from the second quarter, excluding the hurricane.

Okay, thank you. As far as the pricing is concerned, I'm staggered that the market has not reacted positively by pricing to the potential losses that will evolve from DNO policies, DNO and some fiduciary liability policies. But you know, Vinay, I keep on trying to say that in a number of companies globally that write not only this type of business, but also specialty lines of business, that there is a fundamental disconnect between the underwriters who are trading on a daily basis and the management of those companies. And this is sort of a transitional stage, and I hope that the underwriters might actually work out that they could be facing significantly claims activity from these lines of business. The competition is still fierce and unrealistic in my view in that area.

Vinay, on the second question, I want to make sure we're very clear on the fact that for all our non-cat exposed lines we continue to reserve using the exact same methodology we've used in prior quarters, and there's been no real change to those loss ratios. The bottom line really gets down to the fact when you back out all the hurricanes there really wasn't what we would call other normalized cat activity. So that's really the differential, apart from the hurricanes normalized cat activity was exceptionally low during the quarter, and that's what really reflects the difference.

And Vinay, just coming back to my point, it's even more absurd when you consider the unresolved issues of fundamental underreserving for those lines of business, for claims emanating between 1997 and 2002, which people collectively estimate to be somewhere in the region of $20 billion. And therefore if you impose this particular situation on top of those numbers, this sort of what I consider to be irresponsible and unprofessional competition is illogical.

Let me just ask it a different way, or perhaps take a different side of it. Has pricing been so good that it can come down this much and the business still be profitable, or is it just a flawed assumption?

No, I don't think -- the fact that as I said to you before that the overwhelming losses that are still yet to emerge between 1997 and 2002 I should think will show that the markets actually made no money from that line of business. And so these excessive rate reductions, huge fluctuations in pricing, I believe have no foundation. There's a difference between technical rating based on experience and understanding of the business than actually just grabbing revenue.

Great. Andrew, just coming back to your point, was there additional cat loss activity in the second quarter that was higher outside of -- obviously in the third quarter there were hurricanes, but was there cat activity in the second quarter that was higher that would cause some of the disparity?

No, I don't think so really. It's going to fluctuate, Vinay, on a quarter-to-quarter basis. There was definitely cat activity in the second quarter that we've reserved for, but that's what -- I guess getting back to my point, you can't sort of just completely back out the hurricanes and assume nothing else happened. It's really -- I guess the point I'm trying to make is there is a normalized cat load that would happen, and part of the storms that occurred would be what we would expect to be normalized cat activity in the quarter.

Adam Klauber, Cochran.

The reorganization of the business lines, I assume, John, that means that you'll be spending a lot more time in the reinsurance business as opposed to the insurance business. And what was the major driver of this reorganization?

I think that I will be able to focus more clearly. It doesn't mean to say that I'm going to be any less involved in the insurance business, but I will be more involved in the reinsurance side. We believe that we will be able to really make a great deal of market penetration over the next two or three years, because of the strength of our capital, the expertise we have, the reputations we have, and the consolidation that continues to occur in the reinsurance industry. And I think it's imperative -- we all think it's imperative -- that we establish a global brand name, which actually will have an integrated business behind it. We see a substantial opportunity over the next two to there years, which is at variance to what some other people do. You know we've said before about our views within Europe, and benefiting from a dislocation that is occurring there, and a reevaluation of business relationships. And also the fact that my background, if you don't mind me saying so, has also been oriented towards the insurance side. So I'm going to do a little bit of learning along the way as well.

Okay, different question. There's obviously a lot of opportunity in Florida related to the hurricanes. Do your risk models allow for significant expansion, given an already decent sized position down there?

I think that the risk models that we -- obviously the models are going to be adjusted in any case post-events. And I think that we will look at those carefully. But we don't only rely on our modeling. We embed over our modeling what I would consider to be appropriate underwriting expertise. And if we see extra opportunity from a pricing point of view because of the extra demand that's naturally going to come from Florida, and if that pricing fits our models, and our requirements in terms of earnings, we will take greater exposure there. But it will be balanced within the overall portfolio that we are taking.

Okay, and finally, could you give a breakdown of the reserves for the hurricane between case and IBNR?

Yeah. And, sorry, before Andrew does that, I think if you look at the, just coming back to the balance of our portfolio, Adam, if you look at the losses that we took from the hurricanes, the reality is it's pretty well -- it's not far off where we would expect them to be in our market share. It's certainly, as I said in my commentary, our modeling indicated losses to us at that scale. But also if you take our market share, it was a bit below our market share. So whichever way we look at these sort of losses we tend to be pretty comfortable in the way that we've come about.

Adam, a breakdown of the losses on a gross basis, as of 9/30, 5 percent is paid, 34 percent is case, and 61 percent is IBNR.

Dave Shushi with J.P. Morgan.

A couple questions here. On the reorganization side, have you changed your allocation of capital or how you think about what the underlying capital needs are on the businesses, on the reinsurance versus --

Could you speak up a bit? Sorry, excuse me.

Sure, it's just on the allocation of capital going forward as you see it in the next several years, reinsurance versus insurance. Have you made any significant changes across the pool of capital?

No. Dave, I mean, as we've said on prior calls, we've got a very detailed cap allocation model, and at the end of the day the organization is not really -- the reorganization, I'm sorry, is not going to lead to a wholesale reallocation of capital. We've got the tools available to us. And I think as John said on the last question, but opportunities we'll allocate capital to the opportunities we see as opposed to one particular segment over another.

Okay. And on a follow-up on the reorganization side, do you expect any additional expenses to commence beyond to deal with this?

I think the point is not only to operationally become much more efficient, much more effective and penetrate in a much stronger way, we'll be able to drive efficiencies through the two platforms now. So I expect it to be substantially positive in terms of our future business activity, as well as greater efficiency coming through.

Okay, and I guess finally on the formal commentary you mentioned on the U.S. specialty side you non-renewed about 50 percent of that, the incoming business.

That was on the U.S. reinsurance.

Okay, was it the U.S. reinsurance? Could you add a little bit of color around that side of your comments?

That was pretty well the professional lines reinsurance business that we had, and we didn't like the way that the renewal terms were coming in for a large number of the programs we were on, and we let them go. But they were replaced by other business that actually fit our underwriting criteria. We didn't soften our criteria at all. So it shows you that this business can move around quite a bit. But we are still penetrating the market quite strongly. But it has to withstand the requirements of our underwriting model.

What's your overall assessment in terms of terms and conditions on the underlying contracts today versus three months ago?

Are you talking about financial institutions or --

The specialties.

Professional lines or -- specialty lines. I -- you know, don't try and wear me about too much, but I promise to be very good this quarter, because Bob Newhouse is sitting in the corner watching me. But I do find it irrational that we live in a free marketplace and competition is healthy. What I find very difficult to accept is that within companies that operate throughout the U.S. and throughout Europe and internationally, there is still this absurd competition which has no professional basis to it whatsoever. It is where weak underwriting businesses that had little management are still under the influence of strong brokering pressures. And it has a substantial impact on the industry overall, and it is very difficult, because it's uneven. But we have to deal with it on a daily basis. So it's not confined to any one product line, and it's not confined to any one company. It varies across the book, but we try and work around it. I hope that their financial statements will begin to show this type of what I would consider to be irresponsible competition.

Josh Shanker, Smith Barney.

A couple questions, mostly regarding your use of reinsurance. I notice that reinsurance retro captured about 40 percent of the gross loss associated with the quarter's losses, I assume mostly being hurricanes. Is it going to be harder for you guys to find retro insurance perhaps or reinsurance? What do you know about the cost to the market that is going on right now? And has your strategy changed at all in terms of thinking about how you buy reinsurance?

Our strategy hasn't changed at all, Josh, from the very first day we established AXIS. The fact that we -- all the business we have taken at the front end must be able to stand up on its own right. As I have said quarter by quarter, we have different buying requirements within the individual businesses. On our reinsurance businesses, we run them largely net, although we do buy IOWs, and we were able, fortunately, during '04 able to buy some reasonable limits for loses that weren't first and second event but were for second, third and fourth events. And then if you look at our insurance businesses, and we break those down to U.S. insurance, Dennis Reding has long-standing relationships with his reinsurers. It tends to be more for the book overall. It has been on a settle basis. And don't forget we spend north of $500 million a year on reinsurance as a company. But Dennis's program has been utilized effectively, but in normal circumstances it wouldn't be.

As far as global insurance is concerned, I said in earlier quarters that we have been able to -- we are in the market every day, and we try to -- it's like putting together a jigsaw puzzle, and we've been more successful this year, fortunately, than we were last year. So the effectiveness and the efficiency of our global reinsurance program has been much greater this year than it would have been last year. But we're not dependent upon it. Our reinsurance buying does not drive our underwriting activity. And, a very important point, we separate the buying from the underwriting. It is a very important feature of AXIS that was established clearly from the very beginning.

In the global reinsurance segment you received a recovery of about $72.5 million. Is that a limit that you blew out or anything, or is that just coincidentally just a round number like that?

We don't blow out limits. We buy reinsurance coverage and if they're utilized they're utilized. "Blowing out" sounds, if you don't mind me saying so, it's just not an expression I would --

Very good, John, very good.

We pay good money for reinsurance security, and if we happen to -- you're talking about losses of between $30 and $40 billion. Underwriters charge rates, and they expect claims when losses are that high.

Absolutely. Additionally, earlier in the call you spoke of the fact that all the reserve favorable sum has been in short-tail lines. In terms of your portfolio, how do you differentiate between a short-tail line and anon-short-tail line, since I know you eschew longer-tail lines.

Well, I guess just -- I mean, simplistically, the reserves at least we've had so far have been either on cat reserves we put up for prior years where the events haven't attached to our limits; or, as an example on the global insurance side of things, where we have marine, aviation and war risk, where they have not attached, or the events haven't happened. So it's either the event happens or it doesn't is kind of how we would define short-tail. And then on the medium-term reserves, as an example on some of the professional lines we're writing, we have no intention of releasing any of the reserves we put up for those for the foreseeable future until we see exactly how those underwriting years develop.

So are you defining as medium-tail as a 4- or 5-year line?

Yeah, it's not far off that, you know, whether it's 4 or 5 or 6, but it's in that region.

Jay Cohen, Merrill Lynch.

Yeah, a lot of my questions were answered. Just one other issue. Capital management. Can you talk about where your thoughts are going into this year? Obviously you've cited the competitive environment, ROE is still very high, so you're generating a lot of capital. What's your feeling on capital management?

Sure, Jay. I mean, I think as you've noted, and we've talked about it on several calls, and it came up earlier today. We've got our detailed capital allocation model, we've got our recreation of the rating agency models to see how they look at the various capital opportunities. I think where we're positioned right now our capital is going to support our plans for 2005. But I think realistically, based on everything that's happened in the marketplace, we have to see how 1-1 shakes out, and the capital we need to support our underwriting operations post-1-1.

And I think, Jay, that if you don't mind me saying so, because looking at growth quarter by quarter can be difficult. But undeniably our underwriting business is still growing, at different rates quarter by quarter, but all of our operating units are growing, and we expect that to continue next year. We're very cautious about it. It will be in the same disciplined and focused way that we go about our business. But we are still growing. Obviously we're not going to achieve the growth that we had for the first couple of years, because we're becoming more mature. But at the end of the day we're still in a growth phase.

Good clarification. Just one other follow-up. I'm assuming that the presentation of your financials will now sort of coordinate with --

Sorry, Jay, can you -- we've got a bit of a bad line here. Could you speak up a little bit, please? Sorry about that.

That's okay. I wanted to just make sure that the presentation of your financial results would sort of align with your new operating structure.

Yeah, Jay, I mean I think from our standpoint we certainly pride ourselves at being at the forefront of transparency in the information for our investors. And certainly as we work through the mechanics of the reorganization, I think I can assure you that we will continue to present transparent financial statements with all the information you need to analyze the Company.

Robert Raiffe (ph), Centurion Investment Group.

I believe you guys actually answered most of my questions. I just had one question about disclosure that Jay kind of alluded to. In terms of any inquiries you get and so forth, I notice that you got an inquiry on October 21st, and you waited a couple of weeks, till yesterday, to disclose it. And I trust anything material that comes up you guys would disclose right away.

Absolutely, Bob.

Ron Bobman, Capital Returns.

I was wondering on the topic of contingents, at the end of the day -- hopefully that's sooner rather than later -- do you expect your acquisition costs to be about the same level they were pre this whole storm for presumably your insurance business? Thanks a lot.

For the insurance business? I think that the whole industry is really reevaluating, trading positions that have been established for 300 years. As I said to you in my commentary, that we look at acquisition costs in their totality, and we have -- we believe we are at the lower end of the industry scale, and we will continue to do that. And if you look at the scale as we reported for 2030, which is well under 2 percent, you can see the materiality of it is not excessive. So, yes, we will continue to look at our acquisition cost risk by risk, product line by product line, and business by business. But we are unsure yet as to how the new relationship between the intermediaries and the carriers will work through. But I suspect you won't see much difference.

All right, thanks a lot. Continued good luck and success.

Thank you very much.

(OPERATOR INSTRUCTIONS.)

Okay, well thank you all, ladies and gentlemen, for joining us today. Hopefully we've made a little bit of sense. And I very much look forward to speaking to you again in three months' time. Thank you.

Ladies and gentlemen, we thank you for your participation in today's conference. This concludes your presentation, and you may now disconnect.