Everest Group Ltd (EG) 2008 Q3 法說會逐字稿

Good day, everyone and welcome to the third-quarter 2008 earnings release of Everest Re Group.

Today's call is being recorded.

At this time for opening remarks and introductions, I would like to turn the conference over to Ms.

Beth Farrell, Vice President of Investor Relations.

Go ahead.

Thank you, Mark.

Good morning and welcome to Everest Re's third-quarter 2008 earnings conference call.

Joining me today are Joe Taranto, our Chief Executive Officer; Tom Gallagher, our President; and Craig Eisenacher, our Chief Financial Officer.

Before we begin, I will preface our comments by noting that SEC filings include extensive disclosures with respect to forward-looking statements.

In that regard, I note that statements made during today's call which aren't forward in nature, such as statements about projections, estimates, expectations, and the like are subject to various risks.

As you know, actual results could differ materially from current projections or expectations.

Our SEC filings have a full listing of the risks that investors should consider with such statements.

Now let me turn the call over to Joe Taranto.

Thanks, Beth.

Good morning.

Normally on the quarterly calls, we go right into what is happening in the insurance world, and I will shortly ask Tom to do just that and have Craig follow with the financials.

However, there seems to be little that is normal about this quarter as the central issues seem to be more of the chaos in the worldwide financial system.

It is easy to get down when you consider meltdown of the system, the destruction of value, the loss many companies that were household names, and the many economic woes that are still to come.

Perhaps there are many excesses that needed to be wrung out of the system.

I trust they have been and we can now move forward.

At Everest, despite the blood on the Street, we have remained strong with our client base intact, our employees committed, and our ratings among the highest in the business.

Going forward, I expect the world will be very different and that these changes will work to our benefit.

As a reinsurer, we are a capacity provider.

Well, many our clients are suddenly in need of more capacity.

We will try to help.

As a reinsurer, we mitigate our clients' risk.

Again, many of our clients as most of the world will be more risk adverse and looking for more partners to share in their risk.

Again, we will try to help.

As a reinsurer and an insurer, we have extremely strong financials and financial ratings.

Well, again, the world is looking more closely at the credit quality of its partners than ever before and paying more for credit quality more than ever before, which works well for Everest.

Some of our competition has lost strength and as a result will lose business.

There will be opportunities for us to pick up business, people, and perhaps other companies.

Much of the money that so easily came into our space from hedge funds and other sources has dried up.

The staying power of many of the smaller companies in our sector will be questioned more than ever.

Again, this will work to the advantage of Everest.

The insurance market has been softening.

In past cycles, it had taken many years of deteriorating rates and conditions before the market turned up.

At the beginning of the quarter, I thought we had years to go before better days appeared.

Now I see that timeframe dramatically reduced and expect portions of the reinsurance and insurance market to improve by the 1/1 renewal season.

In summary, it has been a rough three months, but I see change coming, and much will work to our company's benefit.

Tom?

All right, thanks, Joe.

While I'll continue what Joe said about the comments, it has been quite challenging the last nine months, but as Joe said, we are entering a changed world, and we are well-positioned to take full advantage of these changes.

Let me make some brief comments on each segment of our portfolio, which is a reflection of where the overall market has been in the first nine months of '08, recognizing the third quarter has continued to perform generally as it has in the first six months of the year.

Our International business, including London and European ops, represent almost 38% of our worldwide portfolio.

We continue to see the treaty reinsurers being disciplined in their approach.

Proportional programs have remained stable with some price reductions on excess programs with good results, both for cat as well as per risk, and increases in areas where losses have impacted programs such as China, Chile, Australia and Peru.

We have been able to increase our premium volume through new business as well as increased participation on existing programs in Latin America, Asia, Middle East, as well as Brazil due to the recent opening of the reinsurance market in that country.

We continue to benefit from our strong long-term relationships, with ceding companies, and our solid financial strength ratings, which has allowed us to obtain preferential signings.

Our US renewable business, including business written at our Bermuda operation.

This area represents 32% of our worldwide business, with property being 22% and casualty 12%.

The market conditions in these segments continue to be the most stressed, with pricing pressure both on property and casualty lines as well as ample capacity even at reduced prices.

Although there has been limited treaty activity in the past quarter, our assessments of these investments are based on feedback from our clients, our audit observations, and our facultative staff.

That is that the overall price continues to decline.

But the rate of decline has seemed to have slowed down.

The only increases have been where losses have emerged such as property per risk business and financial D&O and E&O sector.

It is the market that needs the most attention, and we don't expect major movements until January as Joe said, and those adjustments will vary by market segment.

But change is on the horizon.

Our focus continues to be the same, maintaining our most profitable relationships and growing with clients that are key to our success.

Our specialty reinsurance book represents 7% of our worldwide book and includes accident and health, marine, aviation, and surety.

We continue to experience increased competitive pressure in most of these areas and we have pared down our portfolio over time to key core programs and are comfortable with where we are today and we don't anticipate much change for the remainder of 2008.

Insurance.

Our insurance operation represents roughly 21% of our worldwide premium.

It is a US portfolio, and we continue to mainly focus on niche casualty business, though we have extended our writings this year in the property area.

Through the first nine months of this year, we have written some new programs and lost some older programs, and as expected have been impacted by increased pressure for reduced rates and higher retail commissions.

But today, we are very comfortable with our mix of business and continue to see a good flow of new opportunities both in the program area as well as retail business, and would see this area as a key area of growth for us in the future.

That's where we are today.

Now looking forward to the future.

The market is poised for positive change.

The combination of price reductions, recent loss activity of both the cat and risk resulting in increasing combined ratios, plus the current financial crisis has impacted the whole market greatly.

This environment will force all participants in the market to re-evaluate their willing-to-risk position going forward and increase their pricing posture and reinsurance purchases to address their portfolio more in balance with a reduced surplus.

I am sure the plans for change are in the works right now at all companies, which will be implemented in the beginning of 2009 or sooner.

Initially we don't expect change to be dramatic or for all segments, but it will come and take hold throughout 2009.

And I believe we are in an excellent position to respond to these changes very quickly.

Now I will turn it over to Craig.

Thanks, Tom.

Our third-quarter net aftertax operating income was $12.6 million, which includes a $210 million net loss from hurricanes Gustav and Ike.

Net operating income per share was $0.21 compared to $3.68 per fully diluted share in the third quarter 2007.

Catastrophe losses were much less significant at $17 million aftertax in last year's third quarter.

Absent all cat losses from both periods, net operating income was $231 million in this year's third quarter compared to $249 million in last year's third quarter.

So our underlying operating income fundamentals remain quite strong.

The financial markets were front page news this quarter and they affected us.

We incurred $246 million of net aftertax realized capital losses in the quarter.

After these losses, our net result was a $233 million loss, equating to $3.80 per share.

The realized losses broke down as follows on an aftertax basis -- $131 million from other than temporary impairments on fixed income securities, largely financial institutions.

$53 million from mark-to-market losses on our equity portfolio, which is carried at fair value.

And $62 million in realized capital losses on sales of both equities and fixed income securities.

In addition, we suffered approximately $190 million of aftertax unrealized losses on our fixed income portfolio as credit spreads widened significantly during the quarter.

We repurchased 302,000 shares of our common shock early in the quarter at a cost of $25 million and we declared and paid our regular dividends to shareholders.

After all of these items, our GAAP equity declined by $530 million in the quarter to $5.04 billion from $5.57 billion at June 30.

As well, our book value per share decreased by 9% to $82.02 from $90.32 at the end of the second quarter.

I'll talk about liquidity and capital resources in a moment, but suffice it to say that both are strong and we have plenty of capital to support our financial ratings.

For the nine months, net operating income was $383 million compared to $714 million for this first nine months of 2007.

Realized capital losses and fair value adjustments year to date were a loss of $385 million after tax.

In contrast, we had a realized capital gain of $113 million during the nine months of 2007.

Net income then including aftertax realized capital gains and losses was essentially at break even for the nine months of this year compared to a gain of $827 million for the same period last year.

Looking a little deeper at our operating results, in total, our gross written premiums were $999 million for the quarter, 7% lower than in the third quarter of last year.

Year-to-date, our gross written premium was $2.8 billion, which was 8% lower than for the nine months of 2007.

The decline is not unexpected.

It very much reflects our underwriting discipline as markets have continued to soften.

By segment, US reinsurance at $280 million was 14% lower for the quarter than in last year's third quarter.

Most of the decline was in our treaty property book.

Despite good renewal results, increased common account reinsurance protections, particularly on one Florida quota share account, and two nonrenewals of quota shares resulted in 13% decline in premiums compared to last year's third quarter.

At the same time, treaty property's gross written premium was substantially higher than any quarter since the third quarter of 2007.

Treaty casualty was lower than last year's third quarter, but by just 5%, as we have now reduced this book to a group of core accounts in response to the softer market conditions.

US insurance recorded gross written premium of $194 million, and that's down 15% compared to the third quarter of 2007.

Conditions for workers compensation, contractors, and public entity business has gotten increasingly competitive, which has reduced the volume of business which meets our underwriting and pricing criteria.

A little less than half of the shortfall compared to last year's third quarter just from the C.V.

Starr program, where we have lost several public entity accounts because it would not match market pricing and terms.

International at $249 million was 16% higher than in the third quarter of last year.

Approximately one quarter of the growth emanated from foreign exchange.

International experienced strong renewal increases in the quarter and saw higher rates in some markets.

As Tom noted, our long-term relationships and our solid financial strength ratings are definite advantages in the International markets.

Recently, we have obtained preferential signings and in some cases preferential terms and conditions.

We have also seen several opportunities recently to replace reinsurers which offer less solid financial strength ratings.

The Bermuda segment had gross written premium of $221 million for the quarter which was lower than the third quarter of 2007 by 6%.

The London and European book was level with the third quarter of 2007 while the Bermuda portion declined, principally due to the conversion of one large casualty quota share contract to excess.

Gross written premium for the specialty segment was $55 million for the quarter, and that's down 22% from last year's third quarter.

Marine and A&H premiums were each lower, surety was a bit higher.

We had no aviation premium for the quarter as marketplace premium volumes and rates continued to decline.

Now looking at underwriting results, the group combined ratio was 115% for the quarter and now stands at 99.6% on a year-to-date basis.

Hurricanes Gustav and Ike were significant events.

We have estimated gross losses of $40 million and $255 million for the two events respectively.

That's $295 million before reinstatement premiums and $257 million after reinstatement premiums.

There was another $10 million of what I will call noise in the quarter, some ups and downs on older events, so $267 million in cat losses in total.

That is 34.2 combined ratio points on the quarter.

We also had a small amount, 0.9% of favorable development.

No significant movements, just minor ups and downs.

The accident year attritional loss ratio was 55.5%, virtually identical to last year's third-quarter results.

Our commission and expense ratio ran at 27.7% for the quarter, a little better than the 28.1% we had in last year's third quarter.

So our underwriting results continue to be quite attractive on a fundamental basis with a combined ratio under 85 and about on par with last year.

Investment income for the third quarter was $164 million compared to $173 million for the third quarter of 2007.

The $9 million decline was primarily attributable to a reduction in limited partnership income and lower rates on short and long-term bonds.

Of note, although it may seem odd, we had a gain of $15 million on the equity put option contracts on the quarter.

Under these agreements, we have a future payment obligation on multiple contracts settling between 8 and 23 years in the future if a reference index is below a threshold level.

While both indexes fell in the quarter, the valuation model uses a AAA Corporate discount rate which increased by close to 200 basis points.

Given the long dated nature of the contracts, the strongest determiner of gain or loss is movement in interest rates, which provides a bit of a hedge against the impact of interest rates on our bond portfolios.

A little bit of good news among the bad news if you will.

Other expense, principally foreign exchange was $8.2 million in the quarter.

The US dollar strengthened against the British pound and the Euro.

Since we hold investments in receivables in both of these currencies, their values declined in US dollar terms.

Looking at cash flow, cash flow from operations was $375 million for the quarter compared to $356 million for the third quarter of last year.

Excluding income tax received some payments, cash flow from operations was $278 million in this year's third quarter, compared to $463 million in last year's third quarter.

The primary driver of that reduction was premium collections, which were $153 million lower in this year's third quarter than last year's, not unexpected due to our lower volume.

Looking at investments, the meltdown of the global financial markets drove down the values of both equities and fixed income securities.

In the aggregate, our investment portfolio has experienced a negative 2.5% total return for the quarter.

That is made up of investment income of $164 million and realized and unrealized capital losses aggregating $549 million including impairments.

Our investment portfolio has been and is widely diversified, liquid, high quality, and short duration.

The average quality rating of our portfolio remains very strong at a AA2.

The duration was 4.4 years, as of the end of the quarter unchanged from June 30.

We have virtually no exposure to subprime or Alt-A mortgages, CDOs or CLOs.

We have not bought nor sold credits default swaps.

We have virtually no counterparty risk beyond the issuers of our fixed income securities.

By policy, our maximum exposure to any single issuer is $75 million which is 0.5% of our actual assets.

Our actual exposures are lower than that.

Nevertheless, when you experience the devastation we have experienced during the third quarter and continuing into the fourth, no portfolio however carefully constructed will be immune.

To put it in perspective, a AAA corporate with a 10-year maturity lost 15% of its market value between June 30 and September 30 and the S&P Index declined as well by a little over 9%.

While we have been reducing our equity exposure since the beginning of the year, our equity portfolio still lost $127 million in the quarter.

In order to give investors more and hopefully useful insight into our investment portfolios, we have expanded the information in our earnings supplement, which is posted on our website.

We have broken down the categories a little more finely, and we have provided unrealized gain and loss information by category.

Now I would like to talk a little bit about capital and liquidity.

The following comments may be overdone, but given our recent stock price performance and investor sentiment generally, I think it is useful to reiterate what you may already know -- reiterate the obvious, if you will.

We are extremely liquid and we have no current or foreseeable cash needs beyond what is readily available or even close to what is readily available on our balance sheet.

As of September 30, our cash and short terms aggregated $1.4 billion, and that's slightly higher as of now.

All of our securities are mark to market and most have ready markets, so there is significant availability even beyond the $1.4 billion.

We began the year with a significant capital redundancy relative to our financial ratings.

Our capitalization remains strong and comfortably supports our current rating levels.

Our debt-to-capital ratios are well below tolerances expressed by each of the rating agencies.

We have committed an unused credit revolving facility of $500 million which could be used to bolster capital if we felt the need to do that, which we do not.

In addition, our statutory operating companies are well capitalized and can provide about $650 million of additional dividends to the group if that were needed, which it is not.

We don't see or foresee a near-term capital need.

Our capital supports our ratings with a good-sized cushion.

Our debt is longer term, with the earliest coming due in 2010 and that for only $210 million.

Our run rate of operating income is in the neighborhood of $225 million per quarter, and operating cash flow is running at a similar pace.

So the operation is self-sustaining.

The story this quarter is the catastrophic events, both natural and man made.

Significant hurricane losses and financial market losses that have been characterized as a black swan event comparable to winning the lottery twice in a week.

While I don't think I buy into that level of remoteness, I do agree this has been a very unique quarter, nothing like we have ever seen before.

And while our investment portfolios took a hit, it was it was not a devastating one.

Our basic conservative nature and diversified portfolio mitigated against a much larger loss.

We do not feel we need to fundamentally change our investment strategies which have kept us away from major pitfalls.

We have maintained our underwriting discipline and fundamental operating results are strong.

Our accident quarter combined ratio ex catastrophe losses was under 85.

Adding to that, our expected cat losses of 9 points gives you an expected combined ratio in the low 90s, quite good at this point in the cycle.

We have bought back a significant amount of stock over the past 1.5 years, and we are ever mindful of capital management and the potential benefits to our shareholders.

Our stock is very attractively priced in our in our view 80% of book value looks like a bargain to us.

Nevertheless, given the current uncertainty in these financial markets, we think it makes sense to be less aggressive until the environment becomes less volatile.

That doesn't mean we'll not buy in additional shares, but given that we now have less capacity to do so, we will likely be less aggressive than we might otherwise have been.

We continue to have a very strong balance sheet.

Our reserves are solid.

And our capital position is strong with low operating and financial leverage.

We have plenty of liquidity to meet our cash obligations.

We have no issues with respect to debt service or financial covenants in our credit agreements.

Our capital position continues to be redundant relative to our ratings.

We're optimistic that the recent financial market turmoil will hasten a turn in the insurance and reinsurance marketplace, and when that happens, we believe we are and will be in a good position to capitalize on the opportunities.

That concludes my remarks, and we'll open it up for questions now.

Thank you very much.

(OPERATOR INSTRUCTIONS) Take our first question today from Josh Shanker with Citi.

Good morning.

In your opening remarks, you mentioned that the C.V.

Starr business might have appeared underpriced too, that you were receiving -- therefore you were turning it down.

I was wondering if you have any opinions about this.

Is this a business that would otherwise be placed at AIG or what the -- where that business is going and whether it will return back to if things harden?

And the second question and I will get back in line --I was wondering if you can talk a little bit about the outlook on 4Q investment losses.

I can try on the C.V.

Starr.

I mean, my understanding is the biggest part of the decline was the public entity business in the quarter.

And simply that the pricing pressures in the market are such that -- that the business just isn't meeting our return hurdles and therefore we are not writing it.

Where is it going to?

It is going to be a variety of competitors, but certainly AIG would be one, but not the only one.

Tends to be the bigger companies writing that business.

And any comments you can make about equity losses or other investment losses in the fourth quarter in?

Clearly since the end of the third quarter, the equity markets have declined further, and we have taken some unrealized losses there.

As well, both credit and muni bond markets have widened some more and we have taken some losses there.

I think at this point, it is premature to speculate on how much that might be, but it's not a significant amount from our perspective.

I'll get back in line.

Thank you.

Our next question will come from Susan Spivak with Wachovia.

Good morning.

Joe, thanks for your comments on where we are in the cycle.

I wanted to follow up on something we heard this morning from a broker about the pricing in AIG and Lexington.

Basically that AIG is doing everything they can to defend the pricing on this business.

And my question to you is, whether -- do you think this will work?

And will reinsurers be there to provide capacity at low, competitive prices?

Or will we be in a better environment as you alluded to in your opening comments where the clients will need more capacity and the reinsurers will stick to the discipline?

Well, Susan, I certainly would like to think that reinsurers will take a good look at what they are supporting and only support those that are writing at adequate rates.

We have seen certainly that -- that AIG has had some difficulty with obtaining new business and even with some of its renewals given the changes that have happened for them.

And I am certain here and there that they and others have gone to lower prices to maintain business.

Again, we are looking for a different world, not just from them but from the whole marketplace going forward.

A lot of this competition that we are talking about took place in the third quarter, and, again, most people when they put their financials together at the end of the third quarter are looking at different numbers than they were at the end of the second quarter.

So we certainly are hopeful that we will see some improvements across the board as we move toward 1/1, as we move into 2009, from most of the companies out there, because that really is what is needed.

Might you see some short-term distress from those that have been harder hit by the changes?

Yes.

We hope that works its way out.

We hope that reinsurers only support those who are writing businesses at adequate rates.

Okay.

Just if I can follow up, Joe.

It is really the first time in years I have heard you actually talk about an opportunity to pick up other companies.

And so I was wondering if you could just give us some more details of what might make a good fit with Everest.

Well, you are right, Susan.

Historically we have looked to home growth, and still that will be the primary focus, but there are some good companies out there that are suddenly at very attractive prices, and there are some small good companies that may want some added strength to give them better staying power in the current environment.

And so I do think there may be some increased opportunities.

Now our stock is not what it was, but that is the case for many of the public companies out there.

So that might even itself out.

But we -- looking for a better future in the industry and looking at some of the prices on some of the quality businesses out there, we are going to look around and have more conversations than we would have had a year ago.

That's great.

And just one more.

Any premium targets yet for '09 or is it just too early?

Too early.

We put together budgets in the last couple of weeks, but we need to revisit those budgets in light of new circumstances.

Okay.

That's great.

Thanks for the answers.

Next is Jay Gelb with Barclays Capital.

Thanks, good morning.

On the potential for a cycle turn -- could this be a situation perhaps more like after the 2005 hurricane season where there was expectation of perhaps a more broad-based turns and it didn't come about given the amount of capital in the system?

Or just something fundamentally different about it from this perspective?

Well, certainly that could happen.

We can't tell you precisely what is going to happen, but there is certainly less capital suddenly in the system, and that's something that wasn't as much the case, I think, at the end of 2005.

So that would mean that you might see changes that go beyond just the sectors that were hit by the hurricanes in 2005, and certainly we are hopeful that that would be the case.

But we can't guarantee anything in terms of how the world will change.

I think Tom and I believe there will certainly be pockets that will change through January 1.

There will be more changes as we go into 2009.

We don't expect wholesale across the board, every product, every country.

That has happened before.

I mean that happened in 2001.

That happened in 1986.

We don't see that happening, but we certainly are hopeful that as an intelligent industry that responds to the conditions and we do see some improvements.

Just to switch gear on investment income.

The $11 million in partnership income in the third quarter -- any prospects of what that could be in the fourth quarter given dislocations in the market?

That income tends to be fairly volatile.

We had exited some of our public securities oriented limited partnerships.

At the same time, we have embarked on an enhancement, I guess, to our equity management strategy and allocated some funds to some strategic equity managers.

So we have both decreased and increased our exposure to public securities in that sector of our income statement, if you will.

So at this point, we have got about a 25% exposure to public securities in the overall limited partnership bucket.

The project oriented part of the portfolio which is close to 50% -- it is 45% to 50% -- tends to be more stable.

And then we have another 30% that is in -- mezzanine, private equity, finance and that tends to be more stable.

It is a little difficult to tell because you have got operating income.

I guess I should say earned income flowing there on the investments, and as well any mark-to-market gains to losses flow through that as income.

I think it is likely to continue to be quite volatile, given that the financial markets continue to be quite volatile.

Any lag on that from what was reported in the third quarter?

There tends to be a lag.

It can be a month to a quarter.

I will tell you one of our equity oriented limited partnerships did report their September results in time for us to book that in the quarter.

It was a loss.

And we -- as a result, we booked it.

Okay.

And then I think you also mentioned the $15 million equity put option.

Where did that get reflected in the income statement?

That is in derivative income.

It has got a separate line item.

Okay.

Is that included in the operating income?

Yes.

So $15 million benefit.

Yes.

Okay.

Thank you.

You are welcome.

Our next question comes from Tom Cholnoky from Goldman Sachs.

Good morning.

Just two questions, Joe.

Just coming back to acquisitions.

Should we think -- how should we think about you looking at -- from a strategic perspective.

Are you going to be looking at bolt-on transactions potentially or transformational ones?

I guess that's my first question and I will follow up with another one.

And would it be reinsurance versus insurance?

Tom, I think in the last few years, we probably were more interested in insurance than reinsurance, but at this stage, I think that we would open up the -- what we look at a little bit more and I wouldn't rule out either.

Bolt-on always sounds more manageable.

Transformational sounds bolder for sure.

But I wouldn't dismiss either.

Okay.

And then just -- I don't know if there is any updates on Centrix at all or if -- are we still comfortable with where we are?

Craig will give you that.

Very comfortable with where we are presently.

Based upon -- well, we commuted about one third of our exposure with one of the policy holders, and that was as of the end of last quarter and I think we covered that in our call last quarter.

Looking at the actual paid losses this quarter, I think we would have expected about $10.5 million and we have seen $8.5 million.

It is only one quarter, so it's -- I think it is probably premature to get too excited about it but probably the first quarter we have seen in a long time where we have seen actual results better than what we would have expected.

The portfolio continues to decline in value.

Our estimated overall exposure is down another $20 million to $30 million from last quarter.

The portfolio is more mature, 90% plus of it tends to be 60 days or less past due.

Things pretty much seem to be under control there.

Okay.

Sorry, just one other final question.

In terms of the market environment in '09, is it -- my sense correct that perhaps probably more of the opportunities will be on the reinsurance than necessarily the insurance side?

Is that the way to think about it given the way you described the market environment?

I would like to think it would be both, Tom.

I mean, we are certainly hoping that insurance rates reverse and begin to go up, and some pockets that have been hurt like the property side or the D&O side lead the way.

We are also hopeful that there will be increased reinsurance opportunities, especially for companies that have the ratings and the financials that we have as the world wants to reduce some of its risk, and at the same time, get the best quality in terms of the reinsurance that it purchases.

So it is a fluid situation.

We can't predict it entirely.

We will see what happens and take it from there.

But I am hopeful both sides we see increased opportunities.

I know I said it was the last question, but I got one more.

Sorry.

Just going back to acquisitions.

If, in fact, you were to do something on a transformational basis, would we -- should we expect for you to do that maybe perhaps with an equity offering in conjunction with a large acquisition?

Or how would you fund something like that?

Well, again, Tom, every situation would have its own uniqueness.

Let me just state the obvious in terms of our stock.

It is down.

And that's something that makes you less keen to use it, but if you were talking to a potential partner that is also public with their stock down in our sector, well, as I said, that is offsetting and starts to make those transactions more possible.

The cash side of things -- we are all looking to maintain cash at this point, and yet at the same time, you are looking at entities often that are selling below book.

So that is an inducement to go that way.

So it would depend on the situation and the size and what we thought we had in the way of excess capital and what we thought the other entity had in the way of capital.

Every deal would be uniquely molded.

Okay, great, thank you.

Matthew Heimermann with JPMorgan has a question.

Good morning, everybody.

A couple of questions.

First, with respect to the improving pricing conditions next year.

I guess one question I had was the sustainability.

If we suddenly see credit improve and a lot of the damage has been done on the fixed income side, if spread suddenly comes in, how would that affect the sustainability in your mind or the duration of any hardening we see next year?

That is a really good question, and I can't pretend that I know more than you know in terms of the answer to that.

Let's face it, most of us sitting here hoping that the credit situation does improve and that bond values do come back, and if that's the case, then suddenly you have more surplus coming back.

And I can see where that might mitigate some of the transformation we are hoping will take place.

But I will just say to you, you know the dynamics on that as well as I do and you can do your own guesswork.

Probably as good as my guesswork.

Fair enough.

I guess how much of your -- I guess one thing is -- '09 -- I mean my view is there is probably pressure there.

How much of your book renews, let's say, in the first three months of the year where you potentially have maybe higher probability to lock in a better environment?

I would have to say we probably do about 45% to 50% of our business during that period.

Okay.

And then my rough -- I was hoping you could confirm or correct.

My rough math was that AIG was roughly 7% of your business.

And I wanted to know if that was correct, and in particular, how is that going to change given -- I don't know whether to think of them as somebody who potentially needs more of your capacity or because of some of the dynamics potentially you will be looking elsewhere.

It is a mixed bag.

AIG has been and continues to be an important client to us.

We deal with a number of the subs and entities within AIG.

Clearly they are going through some changes, and those changes will continue.

Certainly you could argue that they may look to buy more reinsurance because of the surplus issues they have had.

In addition to that, a lot of these companies may be sold and then they may have some new reinsurance purchasing missions after that.

So far, we have probably seen little change in terms of the reinsurance purchasing that they do.

It has been on that side of the fence for them, it has been business as usual.

But of course if there are sales and other things, that may change going forward.

It is hard to figure out whether all of what they are going through is good or bad for someone like an Everest.

I would like to think that as they go through their changes, we stand there ready to help them, and it will actually be a net positive for us.

Okay.

And then I guess one for Craig.

You made the comment that all your book's mark to market and you have liquid proxies for most of it.

I wanted to drill down on the Muni book.

There is a big difference between where secondary pricing and where primary pricing is on similar new obligations coming to market.

And I was just curious which -- how much flexibility you had in marketing and which price, I guess signal you are relying on.

I believe it is secondary market.

It is interactive data.

Corp does our pricing for us through Deutsche, and that is based on actual trades and similar trades and similarities and issues, and, of course, as you know, the muni market has been under a significant amount of pressure and we think it has been more technical and fundamental and leverage structures are coming undone.

Muni bond funds are in a negative cash flow position, the auction market of course collapsed, et cetera.

So it is a secondary market measure I believe.

And I can verify that to make sure, but that's my belief

Okay, perfect.

Thank you very much, guys.

Your next question will come from Ian Gutterman with Adage Capital.

Hi, guys.

How are you thinking of your cost of capital today versus where it was say a year ago?

What I mean by that is -- if I am an insurer, a client of yours who maybe made some bad investment decisions.

Maybe got hit by the cats pretty hard and the agencies are breathing down my neck a little and I have the choice between raising capital well below book, or given that I have raises my retentions the last few years, coming to you guys and saying maybe I was about to buy more reinsurance this year because the cost of that capital is -- maybe today is 12% to 15%.

Maybe next year even if it is a little over 15%, it's still a heck of a lot cheaper than my alternative.

I guess what I am wondering maybe pricing needs to go up more than you are suggesting, then maybe you should be charging a 20% cost [capital] because these clients don't have a better alternatives, and sheer supply and demand would suggest -- almost a new version of the reinsurance arbitrage.

Not that you are taking bad business, but you're the cheap capital around the world for anyone to access.

Well, we certainly are hopeful that pricing will trend up.

And you probably need to give that speech to all of our competitors.

I hope they are listening.

So do we.

You make an interesting point.

Obviously companies that have dropped below the capital level that they need to run their businesses, it is not an attractive option to go out to the market right now and raise additional capital.

And so one would guess that a better alternative might be increased use of reinsurance, which does get back to our capital usage as well.

So I think we are talking the same thing, and I think we are seeing a dynamic that should play to improvements in our space.

And we certainly hope it does.

Will you have a higher hurdle rate for new business at 1/1 of '09 than 1/1 of '08?

We will.

For certain segments of our business, we will look to have improved conditions.

Great.

That's what I wanted to hear.

Thanks, Joe.

Our next question will come from Vinay Misquith from Credit Suisse.

Hi, good morning.

Good morning.

Looking at the impact of unrealized losses on the capital of companies, can you help me understand whether rating agencies are actually looking at the unrealized losses because of the spread widening and saying you have to hold more capital or are they looking beyond that?

And is management at Everest Re also thinking in terms of the unrealized losses due to spread widening?

Is this is a temporary phenomenon or do you see that more of capital depletion which would make you want to raise rates more?

Okay.

Vinay, I think there are two parts to the question.

On the first -- I guess this may sound a little flip, but in terms of how the rating agencies are viewing unrealized losses, it is probably best to talk to them about that.

Generally the capital models require certain levels of capital to back certain sorts of risks - unless and until they change those factors, the fact that you're in an unrealized or even a realized loss position isn't going to change those factors.

As a result of what's happened in the last quarter or quarter and a half, they may reassess some of those factors, and it may have an impact on the capital that they require at various rating levels going forward, but thus far, we haven't seen that.

We have had discussions, and the discussions that we have had with the rating agencies relative to where we are, they seem to be quite comfortable.

Just to paraphrase, it would be fair to assume that right now at least, the rating agencies are looking beyond the spread widening and saying this is more of a temporary factor and therefore not pressing companies to keep more capital because of that?

And if you could talk about the last hard market that that really happened.

No, I think realistically, the rating agencies look at the required capital based upon the makeup of the income statement, the balance sheet, the reserves, the lines of business, premium growth, all the aspects that they require capital for -- they look at that relative to the capital that you have in your business, and in essence they have a grid that based upon the relationship between their view of the required capital and the actual capital that you have, you fall in a ratings grid.

So whether it's realized or unrealized, I don't think it has a big impact at this point.

Having said that, I would say in the short term, given that we're beginning at least to see a little bit of improvement maybe in the credit markets, they may not be too active in terms of reducing companies' ratings and giving us some time to see what happens, if some companies' capital positions are not as strong as they were.

Fair enough.

The second question would be about the capacity to AIG.

Now we've heard anecdotes in the market about it being more competitive.

Would you be willing to fall back based on if you thought the pricing was not adequate?

Yes, totally.

That's what we do.

I don't want you to single out AIG for us on that.

That's true of any company we'd be trading with.

And sometimes we just look at a line of business that frankly we see -- we did this the last soft market.

It got to the point where many lines of business, we didn't like what anybody was writing the business at, and so we pulled back from the entire market.

So I think no one has done that better in the past than we have.

Frankly, when you look at our numbers through nine months, you can see that even though we have great credit, we've been doing less business, as we really have pulled back from certain areas.

We'd continue to do that if we thought rates were inadequate.

One last question if I may.

Have you actually seen clients become more rating sensitive?

Because I've often heard the argument during a hard market that clients go to better rated reinsurers, and of course you are one of them, but have you actually seen that happen this time?

And as you talk about the last hard market, did that really happen?

I think we are seeing it internationally probably more so than domestically.

We're hearing that companies are looking to upgrade the overall credit rating of their panels.

They are looking to replace companies whose credit ratings have fallen off, et cetera.

In fact, we have seen some situations where we have gotten preferential pricing and preferential terms as a result of that.

I think there is some shopping going on.

You hear it both on the direct side and reinsurance side where companies -- whether they are actually replacing insurers and reinsurers in their programs, they are at least in the market looking where they think they may have some credit concerns.

So I think from that standpoint, stronger ratings is definitely a benefit in this market.

We see it in the US on the casualty side.

Not so much on the property side, but on the casualty side where it takes years for the losses to play out and you want your reinsurer to be around many years later.

We see a flight toward security.

Fair enough.

Would you say AA rating is a must for the casualty and reinsurance business?

Well, yes, I would like to say that since we're AA.

What various ceding companies do is another matter, and this obviously would be great limitation to the panel if they just use that.

Although there are a few that keep the quality that high.

There are some big companies that really only have five or six reinsurers that they deal with and we just about always are one of those five or six, but there are other companies that want a broader panel.

And certainly if it is property business, they tend to broaden the panel because they are looking at -- that they need the reinsurer to be around for one or two years and so it is a lower requirement than the casualty business.

Fair enough, thank you.

Josh Shanker with Citi has a follow-up question.

Thank you.

I don't mean to have you commenting too much on a competitor, but it is germane to your business.

I want to talk a little bit about what you are seeing in your business with relations to the AIG situation.

Are you seeing resumes?

Are you seeing brokers contacting you for alternative quotes?

And finally are you getting calls from clients who are sniffing around finding out what their alternatives are?

The answer is all of the above.

I mean, I don't want this call to turn into a call about AIG.

It is supposed to be a call about Everest.

I understand.

But some of the things you cited are things that you expect to be happening given the situation that AIG is in.

And so these things are at least in part happening.

Now where they go from here, time will tell.

We know there is going to be a number of sales.

We will see what that does as they do get broken up.

But I just want to talk about it from the Everest side.

Yes, there will be people.

Yes, that will look to do other things outside of what the situation currently is at AIG, because their world has changed.

At the same time, I think a lot of the units within AIG are still looking to band together and still looking to be a major player and still looking to buy reinsurance and still looking to do -- deal with the companies like ourselves that they have been dealing with for many years, even if it gets sold.

In fact if they get sold, they may need us more than they ever have before, because suddenly we are not talking to this company that is $200 billion in market cap, and could very, very frequently tell us we will just keep it net if you don't like it.

So I do think it will make for opportunities for us, but as far as the AIG itself, the things that you mentioned, sure, I mean, that's happening because of what they are going through.

I appreciate it.

I realize you can't give too much away, but thank you.

That does conclude our question-and-answer session.

We will now turn our conference over to our hosts for any closing or additional remarks.

Thank you for joining us this morning.

And certainly as always, if you have any follow-up questions that we did not touch on, please feel free to call me.

Again, thank you.

That does conclude our conference call.

Thank you for joining us today.