CNA Financial Corp (CNA) 2007 Q4 法說會逐字稿

Good day and welcome to the CNA Financial Corporation fourth quarter and full year 2007 earnings conference call. Today's call is being recorded. At this time I would like to turn the conference over to Nancy Bufalino. Please go ahead.

Thank you, Dana, and good morning. Welcome to CNA's fourth quarter and year end 2007 financial results conference call. Hopefully everyone has had an opportunity to review the press release and financial supplement which were released earlier this morning and can be found on the CNA website. We will be referring to the specific information found in the supplement during the call.

With us this morning to discuss our financial results are Steve Lilienthal, Chairman and CEO, Craig Mense, CFO, Jim Lewis, President and CEO of PNC Operations, as well as other members of our senior management team. Before we get started I'd like to advise everyone that during this call there may be forward-looking statements made and references to non-GAAP financial measures. Please see the section of the earnings release headed forward-looking statements with regard to both. In addition the forward-looking statements speak only as of today February 11, 2008. CNA expressly disclaims any obligation to update or revise any forward-looking statements made during this call.

This call is being record and webcast. During the next week the call may be accessed again on CNA's website at www.cna.com. Following the conclusion of today's prepared remarks by CNA senior management, we will open the discussion to questions from the investment community. And with that, I'll turn the call over to CNA's chairman and CEO, Steve Lilienthal.

Thank you Nancy, and good morning everybody. Thanks for joining us today. 2007 was a very strong year for CNA from both the financial and operational stand pont. Our balance sheet is in excellent condition and CNA's strategic position in the commercial insurance marketplace is quite strong and sustainable. And without minimizing the challenges ahead I would submit the following: CNA is delivering solid financial results that reflect our sustained focus on the bottom line. CNA delivery of repeated years of profitability validates our assertion that we have skilled technical people, quality data and the requisite tools to sustain our profitable course. Our core PNC portfolio is highly diversified and very well balanced and we feel this is a significant advantage in navigating through the market cycle. And, lastly, operationally CNA is efficient and effective. Before I turn this call over to Craig and to Jim for more detail discussion of the year and the quarter, and what we see going forward, I would like to highlight a number of key results.

Our 2007 net operating income of $1.060 billion was a virtual mesh to last year's record operating earnings even after $108 million, after tax, impact of the Hancock IGI settlement (inaudible) operations and despite of a accelerating softening market. Net operating ROE of 11% was consistent with 2006 and much improved from the previous five years. Net income of $851million was down the prior year and was obviously impacted by the issues related to the subprime crisis and credit (inaudible) widening during the year. Based on your past level of interest and questions, you will notice that we expanded the disclosures in our financial supplement regarding our structured securities and related underlying collateral.. Craig will provide more color and detail on this in his remarks.

Book value per share increased $1.33 above 4% for the year on top of a $4.77 or 15% improvement in 2006. We declared our first dividends in 30 years and increased it six months later. Despite falling financial insurance markets CNA received an up great to A, rating from Fitch Ratings during 2007. And, with respect to our core property and casualty operations we continue to perform very well. PNC ops' combined ratio for the year was 94.8 continually improvement over the past few years. We did benefit from a 1.8 points of favorable development during 2007. Production metrics were consistent with selected underwriting ina softening market. Net written premiums were down 4% for the year. Retention held up well coming in at about 81%.

New business was appropriately reduced to 18% of total production in response to market conditions. We continue to get a nice lift in cross sell that is selling more CNA products to each and every customer. The PNC ops' expense ratio continued to stay below 30% for if year, but was pressured by a declining revenue base. Expense issues were addressed during the year by a way of reorg and reduction in staff during the third quarter, and Jim Lewis will provide more details on this in a moment. By the way, we are also prepared to discuss the insurance related exposure to subprime by way of our specialty products. Jon Kantor, General Counsel and head of our strategic claims, is with us today and will answer any questions you might have.

To date we will characterize claim activity as manageable. All in all 2007 was a very strong year, a very solid year for CNA and built quite nicely on equally strong, solid year in 2006. Quality earnings. a strong balance sheet, operational effectiveness and efficiency and a strong strategic position are key bench marks in our business and CNA delivered strong performance across the board. 2008 will present significant challenges as the market continues to deteriorate and the weather will not always be our friend. Going forward our emphasis will be strong performance in our core property and casualty operations through portfolio optimization, data driven underwriting, cross selling, claims excellence, cash re-exposure management. Containing the risk associated with our run off businesses, continuing to manage our expenses persistently aggressively and even more urgently, in the face of top line pressure and finally, but always, an unwaivering and relentless focus on the bottom line. In summary I feel good about what we accomplished in 2007. Many, many challenges remain, but I am confident that CNA can and will rise to the occasion and continue to deliver quality results. Craig.

Thanks Steve. Good morning everyone. I'm pleased to share our fourth quarter and year end results which I will describe as solid and reflective of our disciplined response to pressures from both the insurance cycle and financial markets. Fourth quarter net operating income was $223 million and continue to reflect solid performance of our core property and casualty operations business in spite of increasing market pressure. Operating return on equity at 9% for the quarter and 11% for the year was respectable, but on the low end of our targeted range.

We continue to increase book value which is up slightly from the third quarter and up 4% for the year, which is a continuation of the positive trend in the last few years. We're also pleased to continue to return capital to our shareholders via the quarterly dividend which we first initiated in the second quarter of '07 at $0.10 a share which is now at $0.15 per share. Finally, we remain focused on continuously improving the operating and financial fundamentals of the business which really is the key to our ability to successfully navigate the market cycles. Now I'd like to give you a bit more detail on the financials. For the fourth quarter net operating income from continuing operations was $223 million or $0.82 per diluted share compared to $248 million or $0.91 per diluted share in the prior-year period. Net operating income from core property and casualty operations was down $6 million and our noncore segments were down $19 million.

Net income for the quarter, which includes the impact of discontinued operations as well as realized investment gains and losses, was $164 million or $0.60 per diluted share compared with $329 million or $1.22 per diluted share last year. The drivers were lower net operating income as well as net realized investment losses which I will discuss later. Property and casualty operations produced fourth quarter net operating income of $269 million compared $275 million in the prior-year period. The decrease was primarily driven by lower net investment income and higher current (inaudible) year losses. We believe we are responsibly increasing loss ratios in response to rate decline. Speaking of PNC ops, I want to remind you that the results reported today are on the basis of our revised PNC segment. We revised the standard and specialty line segments to conform to a realignment of management responsibilities during the fourth quarter. There is further detail in the 8-K we filed in January and also additional detail in the 10-K to be filed later this month.

With respect to noncore segments, life and group produced a fourth quarter net operating loss of $17 million compared to a loss of $1 million in the prior-year period. Drivers were decreased results in the life settlement business and unfavorable invested margins in the pension deposit business. Corporate segment had a fourth quarter net operating loss of $29 million. Roughly comparable to a $26 million loss in the prior-year period. The 2007 results include unfavorable net prior year development of $70 million related to mass torts, after tax impacts adds approximately $45 million. 2006 results were also negatively affected by a similar amount of mass tort adverse development. Pre-tax net investment income in the fourth quarter was $574 million which compares to $690 million in the prior-year period. For the year, investment income was approximately $2.4 billion slightly ahead of 2006. You can see the details of that on page 14 of the supplement.

During the fourth quarter and the year our fixed income portfolio continued to produce steady results and we also benefited from lower interest expense on funds withheld. These positives were more than offset by two factors, significantly lower results in our trading portfolio and reduced limited partnership income which was unusually strong in the prior-year period. You'll also recall that the trading portfolio results are largely past on to contract and policy holders. Our invested assets grew by over $300 million in the course of the quarter and are up $1.1 billion for the year reflective of continued positive cash flow. Net realized investment losses were $61 million in the fourth quarter compared to $108 million gain in the prior-year period. The decrease was driven by increased impairments caused by the decline in credit market conditions including significant credit spread widening as well as our exposure to subprime collateral. After tax impairment losses were $188 million in the fourth quarter of '07 as compared to $56 million in the fourth quarter of '06. Write downs in this quarter related to subprime investment accounted for $90 million of that total.

We fielded numerous inquiries about our investment portfolio over the past few months either at investment conferences or on your individual calls to us. Almost all those questions have centered on our structured securities portfolio. We want to be responsive to those questions and we trust that the expanded disclosure in our supplement, which is you'll find on pages six through nine, will provide you with improved insight as well as what we hope is improved understanding of why we are comfortable with the portfolio. I'd like to take sometime now to actually walk you there the supplement disclosures so you may want to pull it out for reference as we talk. While you do that, I'd like to spend a few minutes talking about our tax exempt municipal holdings.

We own approximately $7.7 billion in municipals. You can also see that on page five as well as page six of the supplement, which is 18% of our invested assets. Of that amount $3.6 billion or slightly under 50% are issues wrapped by bond insurers. As with other parts of the portfolio, we always look through the enhanced rating to the underlying credit when making investment decision. The overall credit quality of our insurance enhanced tax exempt municipal holdings on that look through basis is A plus. The overall credit quality of our total 7.7 of tax exempt withholding is AA plus with the insurance enhancement. Our look through basis, the average credit quality would be AA minus. We are comfortable holding these investment and do not expect any meaningful negative impact from possible bond insured downgrade. I also don't want to engage in accounting seminar, but before we start into the supplement I would like to remind of you of our rigorous disciplined impairment process. The judgment as to whether impairment is other than temporary, incorporates many factors including the likelihood of the security recovering the cost and, as importantly, our intent to hold until any anticipated recovery.

The majority of our OTTI losses were driven by that lack of intent to hold until the anticipated full recovery to cost or maturity. I'd also like to remind of you another important characteristic of our portfolio. That is, our investments are separated into two distinct portfolios. The larger portfolio approximately 76% of it, or $29 billion of our fixed securities support the PNC incorporate segments. A smaller but significant portion, approximately 24% or $9 billion, are investment segregated to support long term liabilities primarily in the life group noncore segment such as annuities, structured settlements and long term care products. The primary objective of each portfolio is to optimize investment return relative to under line liabilities, returnable cash flow and liquidity needs. The effective duration of the investments matched in the live (inaudible) segments was 10.7 years at 12/31/07. The effective duration of the remaining 76% of our fixed income investments was 3.3 years and the overall total duration fixed income-- duration of the fixed income portfolio was 5.1 years. Turning your attention back to the supplements.

The investment disclosure starts on page five of the supplement with a simple presentation of our invested assets which have a total fair value of $41.8 billion. The expanded disclosure follows on pages six to nine and is intended to provide additional insight into our structured investment which has a total fair value of $11.4 billion at year end. You can see that subtotal in the box at the top of page six. You'll also note that we are providing book value comparative throughout the investment disclosure in addition to fair value. The bottom of page six gives you a breakdown by type and quality surrounding the $11.4 billion of total structured investment holdings and again offers comparative book and fair value. At year end the $11.4 billion of fair value in structured securities held reflected an unrealized loss of $367 million which is only 3% less than book value. You'll also note that 88% of our structure investments are either rated AAA or issued by a U.S. Government agency. In addition, you should note that the below investment grade portion of the structured investment is only $44 million or less than 4/10 of 1% of the total.

Page seven provides you with a detailed break down of our subprime and Alt-A investments. Again you can see the subprime security tell had an unrealized loss of $109 million at year end which is about 9% under book value and the Alt-A securities had an unrealized loss of $46 million which is less than 4% under book value. 63% of the subprime positions are rated AAA, and 97% are rated A or better. You'll look at the same comparisons on Alt-A, you can see that 90% of Alt-A positions are rated triple A, and 98% are rated A or better. A couple of other points that aren't detailed on the disclosures which I think you'll find important, are that we do not own any subprime Alt-A or commercial mortgage backed loans directly. All the exposures are through an investment vehicle. The weighted average life of the securities held with subprime exposure is 1.7 years and 55% of our subprime exposure has a weighted average life of one year or less. As I indicated in the third quarter call, we view these markets as opportunities to find value through disciplined investment practices. During the fourth quarter we increased our position in subprime exposures by over $200 million net, based on market opportunities to acquire structurally advantaged securities with short average-weighted lives at attractive prices. Now if you turn to page eight, you can see details on our MBS and CMO holdings. The MBS are all government sponsored, agency issued. If you'll look at now to the CMOs you'll see that the majority of our Alt-A investments and a small portion of our subprime investment are underlying collateral in the CMO holdings. You'll also note that $5.8 billion or a vast majority of (inaudible) are backed by high quality prime credits.

Now if you turn to page nine, you'll note that there's a total exposure of a $1.077 billion in commercial mortgage backed securities. You need to add both the asset backs and the CDOs for that. This represents less than 3% of our total invested assets and approximately 9% of all structured securities. You'll also see that 80% of the commercial mortgage backed collateral held is rated AA or better. Only $10 million, meaning 1% of the total commercial mortgage backed, is graded less than investment rate. Page nine also details remainder of the asset backed holdings and incorporates the majority of the subprime holdings discussed earlier. Let me end the investment presentation by re-emphasizing that we continue to find opportunities in the market with the requisite analysis certain distress asset backed securities. Turning for a moment to expenses, the PNC ops expense ratio was 30.7% for the fourth quarter and 29.5% for the year. We were disappointed to go over 30 in the fourth quarter but remain very competitive with peers and you should expect us to sustain our emphasis on expense management, but recognize that market pressures will make it a challenge and beyond on this score in '08. With that I'll turn it over to Jim.

Thank Craig and good morning everyone. PNC Operations had a good quarter and a very good year. Four more quarters of a combined ratio under 100%, expense ratio under 30% for the year, very strong performance from specialty lines and for the progress by standard lines on operate and fundamental. This is our second consecutive year of very strong results. We benefited from the light wind but we didn't rely on (inaudible). Instead we continued to play from our strength, underwriting disciplined, a diversified portfolio and a strong market franchise. And in spite of the pressure from the market cycle, I like our prospects.

Property and casualty operations as managed through two years of softening rates and we are well positioned to stay the course. We continue to refine our data driven approach to underwriting. We continue to optimize our portfolio shift in our mix to maximize risk adjusted returns. We continue to sell more to every customer by cross sell and we continue to invest in our people and infrastructure to further sharpen our competitive edge. In short, we continue to execute on a strategy that guides us through the softening market and positions us to be in a great shape when the market turns up. Now let's turn to a few of our key operating metrics, starting with premium. Net written premiums were down 3% to $1.6 billion for the quarter and 4% to $6.8 billion for the year. Standard lines decreased 11% for the quarter and 9% for the year while specialty lines was up 4% for the quarter and 2% for the year. Overall our premium bottom reflects a discipline response to rate pressure on our renewal book and stiff competition for new business. This is not to say we are hunkering down. Selective growth the key dimension of our overall strategy for improving the profitability of our portfolio. Our diversified portfolio is a major advantage in this regard.

In specialty, we continue to find niches and shift our book toward more profitable small and mid size risk. In standard which tends to be on the leading edge of a softening market, selective growth is more challenging. We have a strong franchise in middle market construction. We are building similar positions in our targeted industries and also sustaining our focus on small business and the small end of middle market. Overall we continue to maintain an active intelligent presence in the market and we continue to see opportunities for profitable underwriting. Now let's turn to rate and retention. For our businesses as a whole, average rate decreased by approximately five points in the fourth quarter and four points for the year. In standard and specialty lines average rate changes were in line with the overall book. As for retention, property and casualty operations came in at approximately 81% for the quarter. Standard and specialty were in the same range. For the year standard line retention was 79%, specialty lines was 83%. These figures are consistent with a normal level of turn over and a quality book of business. Overall our rate and retention figures reflect our patient, intelligent approach.

In addition to focusing on smaller and mid size accounts, which tend to be less price sensitive, we have built our business around high value products and services that give our customers a reason beyond price to stay with CNA. Another key measure of our renewal book relates to quality We continue to track the book using a measure we call renewal efficiency. This is the spread between the incurred loss ratio of renewed business versus nonrenewed business. Renewal efficiency and another measures tell us that our underwriters continue to retain the right business. Now let's turn to new business and cross sell. We wrote approximately $269 million of new business in the fourth quarter and $1.2 billion for the year. This represents approximately 17% of total production for the quarter and 18% for the year. Overall our new business continues to be right where it should be and where we said it would be under current market conditions. With all our competitors working very hard to hold on to their quality renewals, writing new business is more challenging than ever and requires a disciplined data-driven strategy. I already mentioned our quality metrics for renewal business.

We have similar measures for new business quality such as variance (inaudible) for new and renewal pricing. Cross sell continues to benefit new business quality and volume. For the year cross sell premium amounted to $458 million approximately 38% of our total new. That makes more than $1.5 billion of cross sell business in the last three years that otherwise would have been left on the table. Net loss ratio. Our fourth quarter net calendar year loss ratio was 67 versus 68 in the prior-year period. The standard lines loss ratio was 71 while specialty lines was 63. The fourth quarter loss ratio benefited from approximately three points of favorable development in standard lines and three points in specialty lines. There's more information on the impact of development on page ten of our financial supplement.

On a full year basis PNC operations net count loss ratio came in at approximately 65. A two point improvement over prior year largely driven by favorable development of 1.8 point. Turning to accident year the exit accident year loss ratio for profit and casualty operations was up approximately three points to 67. This increase reflects our recognition of a change in the rate environment and we also had the impact of a few specific losses. These factors underscore the importance of our strategies for protecting our loss ratio. I've already mentioned a few of them segmentation, (inaudible) improvement underwriting and higher value products and services. To these I would add the following: a disciplined set of underwriting controls, referrals and audits, ongoing improvement of our predictive modeling tools, claims operation that directs routine claims to an express center while more complex claims go to our experienced adjustors and finally we continue to adjust our mix to optimize total profitability. Our loss ratio is our most important operating metric and we will continue to refine our strategies to protect it. Now let's turn to combine. In the fourth quarter we came in at about 98%. Our eighth consecutive sub 100 quarter and one point better than the prior year.

For the year, our combined ratio was under 95, 94.8, the best four-year performance since I joined CNA in 2001. (inaudible) came in at approximately 100%, specialty came in under 90% Our combined ratios benefited from the favorable development I mentioned a moment ago, but this was largely offset by the higher accident year loss ratio. We recognize the challenge contained in these results. In particular further improvement on the standard side remains a key priority. We will continue to shift our standard portfolio toward small business, small in the middle market , industry-specific programs business and other attractive segments. Meanwhile we will continue to grow selectively in our profitable specialty business. We will also continue to squeeze out expenses, processing an IT efficiencies are key drivers of our small and middle market strategy including endorsement and renewal process and upgrades this year that will improve service and reduce cost. On the claims side we have already made substantial improvements in service and efficiency with more opportunity for improvement in '08 and beyond. These and other measures to come, even more urgent going forward, for a disciplined underwriter and a softening market, pressure on the expense ratio comes with the territory.

Before I wrap up I'd like to comment briefly on the outlook for 2008. The market is getting tougher but we continue to manage through and build capabilities that will serve us well regardless of market conditions. Segmentation is already shaped our business portfolio and specialty in standard and continues to sharpen our competitive edge. And, our middle market book, for instance, we continue to segment and subsegment by industry, account size, geography and gradation of risk. We have dedicated underwriters by segment and our distribution strategies are even more closely in line with our segment appetite. With our predictive (inaudible) tools which directly enable our segmentation strategy, we continue to mine additional sources of internal and external data. And the same thing our segmented specialized claims operation enables us to apply a wide level of efficiency and expertise to individual claims. So overall, without under estimating the pressure of the soft market, I like our outlook and feel we are well positioned for the challenges of the market cycle. In summary property and casualty operations had a very good year. We feel very good about our performance. We continue to improve our fundamentals and we expect another solid year in 2008. Operator, we are now available for

(OPERATOR INSTRUCTIONS). We'll go first to Bob Glasspiegel with Langen McAlenney.

Good morning. I just wonder if you guys could give us a little bit more color on the mass tort reserve increase in the fourth quarter and also just on the life year-over-year deltas.

Yeah, I'll take that. This is John, John Kantor. Really, good news bad news story, I'd say, on the mass tort. Our frequency is decidedly down (inaudible) down by 30%, newly reported down by over 40%, disparity is down. The bad news is defense costs really are rising much more than indemnity cost. As indemnity cost come down, defense costs are rising, but there is actually a good story embedded in that because what that is telling us is corporate defendants are defending more of these cases. They are trying more cases.

It is expensive in the short-term, but I believe much less expensive in the long term when you look at asbestos where many of the corporate defendants rolled over, the result was a 30 year claim debacle and I don't think that corporate America intends to repeat that mistake. So, I think-- I'd say that's really what is coming from. In general, we've had a number of small adjustments in the context of our annual account by account review, but that would be the one theme I would pick out of it.

Is this a pay as you go on this? Is this the fourth year will have (inaudible) on that?

I don't think so. Our gross reserves are now up to a pretty nice level. $293 million. We have a pretty good reinsurance on that. Our growth survival ratio I'll take one year as 4.4. I'm doing that because there are a couple of large --

John, just to cut you off-- I was asking you on the legal defense, not on the overall reserve.

What is your question then?

On legal defense is that sort of pay as you go or is that-- you've got it reserved up for the future-- the defense cost booked into the reserve?

It's booked into the reserve.

So it's not pay as you go on the defense component?

That is correct.

Okay. I guess I'll follow up on that later, then. Go ahead. Give me your survival ratio story too I'm interested in that.

It's 4.4 on a gross basis we have $293 million gross reserve on that basis, the net reserve is 205. The survival ratio is 3.7. I'm taking a one year survival ratio because we've had some large settlements which would distort the three year. If you want to three year survival ratio it goes 3.3 and 3.0 gross net respectively. But, as I said-- I think what we are-- we are pretty well into our-- our (inaudible) reserve is pretty well our actual range and we're not-- we are encourage by the fact that the frequency and the severity are down. Frequency particularly.

Okay. And, on the life side?

This is Craig, Bob. You wanted some more color on the life side?

Yeah.

Relative to the $17 million loss?

Yeah.

You recall in the life group run off we had a viatical settlement business.

Right.

And it was a debt benefit revenue for this quarter. It was the lowest it been for seven years-- it's only $2 million. Normally it averages 10 to $15 million of death benefit revenue. Then the pension deposit business that I referred to there is--- we do have a product that we sell to large institutional pension funds that guarantees the return on the S&P 500 plus 25 basis points and our operating income there is derived from the net investment earnings in excess of the hedge costs, our investment strategy there is the hedge-- the index performance as well as again-- so our earnings are whatever we earn in excess of the hedge cost and the 25 basis points guarantee and just the market conditions in the fourth quarter led to operating loss on the product which is really the only second one we've had in the history of the product. Like a $3 million loss which compares in the prior quarter to a $9 million earnings impact..

So if all stays high that will be an ongoing pressure, perhaps of a modest amount or--.

No, I think a small amount. Remember it's an index 3500 product, so we're giving the investors the return on the index 500. If there's pressure on the 500 that goes to the contract holders.

I was talking about volatility, the hedging cost would be higher if the market is more volatile, no?

No, not really.

Okay, last question. Looks like if I map up your page six last quarter from page seven this to see where you bumped your subprime up, it seems like it's in the '06 year and I just want to make sure-- confirm that that is purchases rather than downgrades that fell into that bucket.

They're purchases.

Okay. So the 224 for 73 or 508 I wasn't sure whether that was fair value or market a year ago-- a quarter ago but that would be mainly purchases.

They are mainly purchases and, as I said,we saw attractive opportunities in very short duration securities to get a very attractive yield. at a very high quality.

Thank you very much.

(OPERATOR INSTRUCTIONS) And we'll go next to Chris [Nesfor] with Goldman Sachs.

Hi. Good morning. Apologies if you have already addressed this, as I had to jump off the call for a minute, but could you just discuss how you are thinking about CNA's exposure to the fall out from the mortgage crisis from a DNO and an ENO perspective. What types of business you guys typically insure for in that market and then what sort of claims you've seen today? Thank you.

This is Jon Kantor again. I'd be happy to address that. The exposure is going to be concentrated in the financial institution's book. Where CNA was really not a very big player at all. Last year CNA wrote $72 million of premium for financial institutions which was 2% of our specialty book and as a result at 12/31 we had only 16 claims in financial institutions.

The other point would be, within financial institutions we underwrote pretty carefully. Post. Enron, we made a conscious decision not to write ENO on investment banks or money sent to banks and the only DNO on them we would write would be A side. And we reviewed that again in light of recent events and the exceptions to that rule are extremely rare. So that at 12/31, half the claims that I mentioned are actually A side DNO policies. which, as you know, seldom pay anything. Also in general, we wrote high excess and for low limits so that on the open claims that I mentioned the average attachment point, that is the underlying insurance with the retentions, is over $120 million.

In addition, the limits are non A side claims average about $8 million. So that's the financial institutions book. There are three other potentially exposed areas, none of which we think are going to be material, but I'll mention them. The first is the nonfinancial institutions DNO and ENO where we have a just a couple of claims. And significantly here, we avoided home builders. There's a very minor amount of premium that -- very few exceptions to that rule. The second area is mortgage broker ENO, but there we stopped writing mortgage brokers in April 2007, and I think the gross premium in 2007 for mortgage brokers was about $1 million. The subprime phenomenon has had no meaningful impact on the book. The third -- the third part of this was the surety, which is of course, as you know, we have a publicly traded company, CNA Surety, which we own 64% of. there's been no losses to date there and we really don't see this becoming an issue. The subdivision bonds or--- when a subdivision project gets halted, the municipality has the right to call and the surety to complete the infrastructure, but they almost never do it because they don't like to have infrastructure completed when there's no tax base to support it.

In any event, the loss ratios on those books are traditionally in the low single digits and I don't see that as becoming an issue. I should let you know A side DNO, just so folks are on the same page, A side DNO is really a situation where the policy will get tapped only where you have derivative claims where those claims are not under the particular state law allowed to be indemnified by the company or you have a bankruptcy situation. So in our view, if you want to construct the worst case scenario, our A side exposure will get tapped only, I believe, where there is a massive waive of derivative claims, or a massive wave of bankruptcies deriving from the subprime crisis. We think that's a remote contingency.

Great. Thanks for the color.

(OPERATOR INSTRUCTIONS) we'll go next to a follow-up with Bob Glasspiegel with Langen McAlenney.

So where the expense ratio may drift up into '08 and clearly, the message from Wall Street is to not write bad business to keep expense ratio down and let that go up. But how much tolerance do you have on that ratio?

Bob, this is Craig and I'm sure Jim and Steve might have something to say on that too. We don't have a particular tolerance or we haven't set some floor or ceiling that we let it go up. I think that we should take from our comments are that we are mindful of the pressure from top -- from the top line on the ratio itself. We are also mindful of making sure that we are making long term decisions about the long term health of the business so we are going to continue to make investments in technology and people. We don't want to mortgage the future. No upon intended.

So we'll be -- we're-- but have--- given all that we are going to aggressively manage expenses to keep it in a reasonable range, but I don't have a number (inaudible) necessarily, I think you can expect us to be as thoughtful as we are and have been in the past and we'll continue to be thoughtful about it. Jim talked about how he acted in the third quarter to try to get ahead of the curve on that. You can expect us to keep doing that. but, it's going to be tough with the market pressure and our desire to not ride on profitable business. We'll be less focused on the ratio than we are what the bottom line NOI numbers are, I guess maybe is a shorter way of answering the question.

I think that is an excellent way to answer. This is Jim Lewis, Craig. We do not have a set number but we know that with what we are seeing from the top line pressure whether that be rate or what we seeing with new business and the like thereof, that there is going to be pressure on the top line. We did address that within the PNC operation in the third quarter when we reorganized our PNC operation, we flattened the organization structure, eliminated the layer of management which was our regions that we had in place, but now it's just a home office and a branch structure.

At the same time we also right sized the organization based on what we are seeing as far as top line drop through the third quarter and what we were also anticipating early into '08. So there will be pressure on expense. We are obviously very mindful of this and we are constantly looking at ways to improve the overall operation. We do still want to invest in places that impact the bottom line, but as we look at doing that, I think there's still-- it's been (inaudible) that we can get and be a lot more efficient. So we are taking a look at our middle market part of our book doing an end to end analysis of process and efficiency. We are going to get efficiencies in our small business side of our operation. We'll have the ability for an automated renewal capability for endorsements and renewals on all of our small business in the second quarter. And quite frankly, that is going to be a significant benefit for some of the expense side and efficiency within our small business arena. And we are taking a look at our claims operation from an end to end process and how we really do business, so that we become more efficient. And our overlaid on that then will be as we've made our end to end processes more efficient, we'll be also then to overlay technology to help drive additional expense savings.

Thoughtful answer. One other quick follow up. Craig, where are you on capital going into '08 and the top line is going to be contracting more. I suspect you'll be generating more excess capital the dividend has been sort of the primary use of excess capital. Is buy back at all a consideration on the plate for '08? I recognize the float issues and liquidity, but --

Well, I think that's important to consider in terms of float issues which-- and liquidity which we think a buy back would be-- we're afraid would hurt the stock. So we didn't think that was really necessarily at this point in time not something that is high on the list of options for us. We do think that we have a fair amount, a significant amount of excess capital. We don't have any particular and specific plans for that right now to share with you.

One thing we have done with it, given our improved flexibility, has been to get some debt that matured in January $150 million which we paid off. There's some more debt that comes due in--- not until December. So we are going to pick the right spot and the right opportune spot in the market to refinance or to not. So we do have significantly enhanced flexibility in the capital side from previous years and we've been focused more in the immediate term with just improving the cash at the holding company level so we can improve the number of options we can consider going forward.

Today's sharp correction wouldn't change the dynamics of that decision materially? It's down -- at some price may be buy back becomes quite economically satisfying.

Well, you are right. At the price that it was before it's economically satisfying. We are just mindful and a little concerned about the impact-- the negative impact that would have on flow.

Got you.

That may not be the right way to get money to shareholders.

Okay. Thank you.

Bob this is Steve Lilienthal. I didn't want to let you go with maybe just picking up another comment on the expense question. One of the things I just want to remind you that we at CNA have truly demonstrated a willingness and an ability to deal with expense issues over the past couple of years not just the recent restructure and re-sizing that Jim did in the third quarter. This has been a regular part of our culture and we are at it all the time. So that's the first thing.

The second thing, we look at the expense initiatives and expense issues as not something that you can expense your way to success. You can certainly find yourself expensed into a competitive disadvantage but we don't look at that as the be all and end all. We look at it as a very important part of our business strategy, but as Craig mentioned, and Jim mentioned, we are-- we look to and really need to make strategic investments going forward particularly in the predicted modeling area and some of our claims infrastructure.

And the last point I would want to-- and frankly we would prefer to be dealing with what we look to be a short-term issue on the expense side than a longer term issue on the loss side. So to build-- or to build up a book of business that we would feel that not meet the hurdle rates or deliver the same profitability that we have delivered over the past several years, we think would be a long term problem and something that that would be extremely difficult for us to work out of. And undoing all the work that we've done in the last couple of years. The very last point I would make, is that if you look at all our peers, people that you compare us to, you'll find out that we stack up really, really fine based on outside data that says we are right at and right in the neighborhood of all of our major competitors. So.

Fair answers. Thanks, Steve.

We'll go next to Richard [Greenberg] with Donald Smith and Co..

Bob just answered-- asked my question on the stock buy back. We would be-- just so you know, we would be very supportive of that. I don't see what you possibly can invest in-- your stock is currently at 75% of book value. I don't know what could provide a better return. There's no real academic evidence that flow matters in pricing stock. And kind of, who cares. If you are buying something that is so cheap and under the underlying value, that's what's really important. You are building long term book value and long term shareholder value. That would be the point there.

Secondly I think I needed a little bit more clarity on your valuation of your security because it does appear that, for example, on your subprime portfolio you are not really relying on the ABX index to pick one specific example on your alt A, if you look at page seven, in 2007, for example, on the triple A you are evaluating your --- the book value is basically equivalent to the fair value. Actually you are showing a higher fair value. And, when you look at some people that have done some really thoughtful analysis on this, somebody like [Bill Acwit in Pershing], and his recent work showed that a 2007 vintage would have at least an 11% hit evaluation and could be as high as 40%. So if you can just clarify a little bit how you do value your various securities that would be helpful.

All right. I appreciate your comments about the stock as well and understand that we haven't really thought about the buy back at the level-- the levels we've seen this morning. To make one comment. But as far as our pricing, you should know that all of our pricing is third party. It's majority of it is from IBC, and none of it is internal pricing. So these are market prices and market pricing and we are very mindful of making sure that we have both accurate and going to sources that are are really historical sources that we have found to be very credible.

So you can get market prices on all these securities for example?

Yes.

Okay.

And you have to look really at the collateral that we are holding relative to ABX.

Right. Okay. That's great. We really do appreciate the breakdown you guys have done and all this increased disclosure. Thanks a lot.

You're welcome.

We have no further questions. I would now like to turn the call back over to Nancy Bufalino for any additional closing remarks.

Thank you, Dana, and thank you all for joining us today. Once again I call your attention to the disclosures concerning forward-looking statement and non-GAAP measures in the earnings release. A tape replay of today's conference call will be available for one week immediately following until February 18. Please see the earnings release for replay details. We appreciate your participation today and thank you again.

That does conclude today's conference and a replay of this call will be available to you by dialing 888-203-1112 or 719-457-0820. and entering replay passcode: 3629040 followed by the # sign We thank you for your participation, and you may now disconnect.