Hartford Insurance Group Inc (HIG) 2007 Q2 法說會逐字稿

Good morning. My name is [Renee] and I will be your conference operator today. At this time, I would like to welcome everyone to the Hartford second-quarter earnings conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks there will be a question-and-answer session (OPERATOR INSTRUCTIONS) Ms. Johnson, you may begin your conference.

Thank you, Renee. Good morning and thank you for joining us for the Hartford's second-quarter financial results conference call. As you know, our earnings press release was issued yesterday afternoon. To help you follow our discussion, a financial supplement and slide presentation are available on our website at www.TheHartford.com.

Participating in today's call are Ramani Ayer, Chairman and CEO, David Johnson, our CFO, Tom Marra, the Hartford's President and Chief Operating Officer, Neal Wolin, Chief Operating Officer of our P&C company, John Walters, Chief Operating Officer of our Life company, and Alan Kreczko, General Counsel. Liz Zlatkus, Co-Chief Operating Officer of our Life company would have been here today, but unfortunately had a prior engagement. Following the prepared presentation we will hold our usual question-and-answer session.

Turning to the presentation, on page two, please note that we will make certain statements during this call that should be considered forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. These include statements about The Hartford's future results of operations. We caution investors that these forward-looking statements are not guarantees of future performance and actual results may differ materially. Investors should consider the important risks and uncertainties that may cause actual results to differ, including those discussed in our press release issued today -- issued yesterday, our quarterly report on form 10-Q for the quarter ended June 30, 2007, our 2006 annual report on form 10-K, and other filings we make the Securities and Exchange Commission. We assume no obligation to update this presentation, which speaks as of today's date.

The discussion in this presentation of The Hartford's financial performance includes financial measures that are not derived from generally accepted accounting principles, or GAAP. Information regarding these non-GAAP and other financial measures is provided in the Investor Financial Supplement for the second quarter of 2007, in the press release issued yesterday, and at the Investor Relations section of the Hartford's website at www.TheHartford.com.

Now I would like to turn it over to The Hartford's Chairman and CEO, Ramani Ayer.

Thank you, Kim. Good morning, everyone, and thank you for joining us. Today I am going to briefly cover our financial results and operating highlights for the second quarter of 2007. David Johnson will follow with an update to our guidance and then Tom Marra will host our question-and-answer session.

Turning to slide three, you'll see our results for the second quarter. The Hartford's diversified businesses delivered another strong quarter of performance. Net income and core earnings each rose more than 30% over the second quarter of last year. Net income was $627 million, or $1.96 per diluted share. Core earnings were $2.39 per share, compared to $1.83 in the second quarter 2006.

The fundamentals of our business are in great shape. Life assets under management are up $63 billion, or 22%, since June 2006. Our ongoing Property and Casualty businesses continue to deliver solid underwriting performance with good growth in the more attractive segments.

The second-quarter results also included charge of $0.09 per share for the regulatory settlement we announced on Monday. This settlement with the Attorneys General of New York, Connecticut, and Illinois fully resolves their investigations on market timing and agent and broker compensation in Property and Casualty. In addition, these regulators announced that they had concluded their investigations on a number of other matters without action. We are pleased to have these matters behind us.

Today we are a stronger company with tighter compliance, improved business processes, and better disclosure practices. Next year we will implement a supplemental commission program for our Personal Lines and standard Commercial business.

We continue to drive excellent returns to shareholders as measured by growth in book value per share and return on equity. As you can see, book value per share ex-AOCI was up 13% over the past 12 months and our return on equity was north of 17%. These results are even more impressive when you consider that we returned $800 million to shareholders through share repurchases and paid out over $570 million in dividends.

Our diversified businesses, strong balance sheet, and leading market positions give us the opportunity to compete from a position of strength. Across the enterprise, we're providing good value to customers and distribution partners while striking the right balance between growth and profitability.

Let's take a closer look at the results from our Life Operation on slide four. Life Operations had excellent results again this quarter, with strong growth in earnings and total assets under management. Core earnings for the quarter were $435 million, 13% higher than the second quarter 2006. These results include a $21 million after-tax charge for the market timing settlement we announced earlier this week.

Total deposits in the U.S. and Japan topped $13 billion for the second consecutive quarter. We reported $4.1 billion of positive net flows.

Trends in deposits and net flows are important indicators of our current market position, but the more insightful measures of underlying earnings power are growth in assets under management and insurance in force. We're seeing excellent results on that basis as well. Total assets under management in our Life Operations rose $63 billion in the last 12 months. Every one of our businesses was a significant contributor to our asset growth.

Total life insurance in force in Individual Life was up 10% over the second quarter of 2006, with continued strong sales momentum in variable life. This business is a protection business where mortality can drive some quarter-to-quarter earnings volatility. We saw a bit of that this quarter. Longer-term, however, we expect earnings growth to track closely with life insurance in force.

Over the long haul, Group Benefits earnings should follow growth in fully insured premiums. This quarter, fully insured premiums were up 5% while net income rose 18%. As we noted in our press release, Group Benefits earnings in the second quarter included a $6 million gain from the sale of our medical stop-loss business and an $8 million benefit relating to a change in current-year claim reserves.

Slide five provides the detail on the second quarter's deposits and flows. The top graphic shows our strong performance in our U.S. Retail deposits in Japan annuities. Total deposits in these markets were over $9.5 billion, 25% higher than the second quarter of last year. The cornerstone of our Retail story continues to be our U.S. annuity business. U.S. variable annuity deposits in the second quarter were $3.5 billion. Variable annuity deposits this quarter were up 9% sequentially and up 10% over the same period last year. We are pleased to see baby boomers and their advisers recognizing the value of lifetime income guarantees as part of their retirement planning.

Net outflows in variable annuities dropped to $419 million and VA assets under management were up 14%. We expect redemption rates in the second half to be similar to what we reported last year. With these redemption rates applied to higher account values, we expect to see net outflows for the remainder of the year.

Retail mutual funds had an excellent quarter with record deposits of $3.8 billion, a 36% increase over last year. Strong net sales and equity market appreciation in the past 12 months drove assets under management up $13 billion to just under $46 billion. The pillars of strength in our mutual fund business continued to be our dedicated wholesaling team and the strong performance of our funds. We have 100 wholesalers in the markets today telling our mutual fund story and building relationships with our distribution partners.

Our fund offerings continue to expand. We added three new funds this quarter, bringing our portfolio total to 54. The Hartford is building a broad portfolio of equity and fixed-income funds so we can attract and retain assets under various market conditions.

Annuity deposits in Japan were JPY213 billion, or $1.8 billion in the quarter, up 42% on a yen basis. We were particularly pleased to see a sequential increase in deposits, since first-quarter sales are typically stronger than subsequent periods.

A few years ago, most competitors in Japan had similar products. Not so anymore. Japan has become a more competitive and dynamic market with rapid product evolution. In February, we launched our new Adagio 3 Win product to address the needs of a different segment of the market. We are now seeing a nice balance of sales between our new Adagio 3 Win product and Adagio V3.

Product development will always be a core strength of The Hartford, but we cannot compete on product alone. We are also expanding wholesaling and distribution in Japan. We added five new distribution partners in the second quarter alone, including the second and third largest securities firms in the country.

Strong net flows drove total assets under management up $4.7 billion in the past 12 months. We now have almost $34 billion of assets under management in Japan. The second graph on the slide represents deposits from retirement plans and institutional solutions. As you can see, deposits for these businesses vary from quarter to quarter, but the general trend is clearly in the right direction.

Institutional Solutions had another outstanding quarter. Record sales of structured settlements along with a few large funding agreements and continued momentum in corporate-owned life insurance generated $2.4 billion of deposits. We have significantly increased our full-year guidance in Institutional Solutions based on a record first half and a strong pipeline of opportunities.

Retirement plan deposits rose 9% over the second quarter of last year to $1.4 billion. Ongoing contributions to existing plans are making up an even larger part of our quarterly flows. Assets under management rose 27% from June 2006 to more than $27 billion.

So in summary, our Life Operations are having an outstanding year. We are competitively positioned in all of our markets. We remain optimistic about our growth outlook.

Now let me turn to Property and Casualty Operations on slide six. It was a very good quarter in Property and Casualty. Core earnings in ongoing operations rose 10% over the second quarter of last year to $398 million. We reported an excellent ex-cat combined ratio of 89.6. Strong operating cash flows, higher portfolio yields, and partnership income lifted net investment income 30% above the second quarter of last year.

Total written premium was $2.7 billion in the quarter, 1% below the second quarter of last year. Our growth rate is certainly slowing and our mix of business is shifting as you respond to an increasingly competitive environment. We are outperforming industry growth rates in both Personal Lines and Small Commercial. Now, these are markets where we still see good pricing and very attractive margins. These businesses now make up nearly two-thirds of our written premium.

Each month, competition for new business intensified in middle market and Specialty Commercial. In some areas we're seeing more aggressive pricing and expanded terms and conditions. Our strategy remains intact. We're working hard to retain customers while pursuing growth in specific geographies and what we perceive as the best risk classes.

So I would say that in every market we're sharpening our underwriting segmentation to provide our very best pricing to the highest-quality risks. At this stage of the cycle, every Hartford underwriter is acutely attuned to customer retention and new business returns. We are continuously monitoring new and renewal pricing and we will act decisively to take advantage of market opportunities or to pull back as needed.

Moving to slide seven, Personal Lines is a good example of a market where we see continued opportunity for profitable growth. In the second quarter, AARP written premium was up 7% and agency written premium grew 4%. If you exclude the impact of the sale of our nonstandard auto business, Personal Lines written premium rose 6%.

Now, our AARP franchise remains the fastest-growing business in Property and Casualty. An expanding membership base, excellent renewal retention, and increased marketing efforts are all contributing to profitable growth.

We believe we also outpace industry growth in the independent agent market. Agency written premium rose 4% over the second quarter of last year, largely due to new agency appointments. In addition, our Dimensions product with Auto Packages is gaining traction in the independent agent channel. This flexible product provides agency customers with a choice of price points and features, an important factor in today's marketplace.

The underwriting margins in Personal Lines remain quite attractive. Excluding catastrophes, personal lines reported a combined ratio of 87.7% in the quarter. That said, loss costs are increasing a bit faster than we expected. This is the second quarter where we have seen higher frequency in auto and increased severity in non-cat property claims.

We now expect to see Personal Lines loss cost increases in the mid-single-digit range for full year of 2007. We have reflected that expectation in our revised outlook.

Our Business Insurance and Specialty results are highlighted on slide eight. Overall, Business Insurance written premium was $1.2 billion, 2% lower than the second quarter of 2006. The lower written premium this quarter was partially due to the effect of state-mandated rate reductions in workers compensation. These rate reductions combined with increased competition in specific geographic markets and lines will continue to pressure the top line in the second half of the year. Business Insurance is clearly a tale of two markets.

Trends in Small Commercial are very similar to Personal Lines. While competition is increasing, underwriting margins are still attractive. Small Commercial written premium grew 1% over the second quarter of 2006. Last December, we introduced a new leading-edge commercial auto product to our Small Commercial agents. Our new product uses data and sophisticated segmentation to refine our pricing for the most attractive risks. We have clearly improved our competitive position for smaller fleets.

In middle market, we continue to see the impact of three years of written pricing declines on our top line and our combined ratio. Written premiums are down 6% from the second quarter of 2006 and loss costs are tracking is expected.

Our strategy in middle market is to selectively target high-quality accounts in states with the best historical returns. We also recently introduced NexGen Auto, our new Commercial auto product to our middle market producers in 40 states.

Specialty written premiums are down 7%. Competition in casualty lines is intense, particularly for national accounts business. In these specialty markets, the quality of our current book is very good. We will work to retain our best customers while competing selectively for new business.

So I would say in summary, our Property and Casualty results in the second quarter of 2007 were very good. While new business slowed, our underwriting performance remained very strong and we grew in the more-profitable markets.

With that, I'm going to turn it over to David Johnson, our CFO.

Thank you, Ramani. Turn first to slide nine. We announced last night we are maintaining our core EPS guidance at $9.60 to $9.90 per fully-diluted share. That is a fully-loaded number. It includes the $0.09 charge for our regulatory settlement and the arbitration loss in our P&C runoff segment that we announced in June. Neither of these items were anticipated at the time we last set our guidance at $9.60 to $9.90.

Luckily, we had some positives in the second quarter to offset those charges, so we were able to leave our guidance unchanged. The positives include stronger-than-expected partnership income and lighter-than-expected cat losses. Of course, we cannot count on either of those to repeat in the second half.

It is very important enough that this guidance range is in zero impact from our third-quarter study of Life DAC and related items. There will be some impact. We will unlock and will book whatever we come up with, even if it is minor. Our 10-Q has extensive disclosure on pages 25 through 27 that details the range of potential impacts on third-quarter earnings for this study.

Barring dramatic downward movement in the equity markets, the DAC unlock the likely be positive. But until a study of assumptions is complete, we are unable to project the outcome. That is why we did not include any impact in our guidance.

As Ramani noted, we have made some downward revisions in our P&C outlook to reflect conditions in those markets and some positive changes in our U.S. and Japanese deposits and net flow guidance to reflect the good news we're seeing there. We also tweaked Individual Life sales down and increased the ROA for Japan and Institutional Solutions.

Slide 10, investors and financial firms are very interested in our exposures to the nonprime residential mortgage market, so I would like provide some additional information. First, we have added some good disclosure in our 10-Q on pages 80 and 81, and I direct you to that. Our investment in subprime residential mortgages, including Alt-A, is almost exclusively through asset-backed securities of trusts that directly hold pools of residential mortgages.

The chart on page 10 shows the book value and the market value of our holdings by vintage year and by the ratings of our tranches that we own. At June 30, the market value of our holdings was about $10 million less than our book value, very little change. We've seen also little change in the mark since then. I think it slips maybe about $10 million more in July. None of our securities were in the tranches recently downgraded by S&P, Moody's, and Fitch, though we do have about $4.3 million on negative watch. So, so far, so good.

As you can see, we were very cautious in the 2006 vintage year. Our investment was relatively small and virtually nonexistent in the below AA tranches. After the sector repriced in 2007 and after structural protection materially improved, we did a little bit more, but this will continue to be a rather minor asset class for us.

We, like the rest of the insurance industry, have vivid memories of losing a lot of money in mortgage investing in the early '90s. We also lost a lot of money in asset-backed securities in the early part of this decade. We learned that in asset-backed investing, you cannot rely on the ratings. You have to look through to the collateral and make your own assessment as to how to position yourself in these structures given the collateral and the enhancement available. That is why this chart shows a lot of movement in our tranche selections each vintage year. We formed an independent, ground-up view each time.

Now, that being said, I expect our portfolio will not come out totally unscathed in the end, but I think we're pretty well positioned to weather this particular storm. We'll keep you posted.

That's it for me. Now over to Tom for Q&A.

Thank you. Good morning. I will be quarterbacking the Q&A session and I just want note outright that Liz Zlatkus being absent from this call will mean that I will handle the PVD and international questions that she would normally handle. Also, Neal Wolin and I being about a month into our new jobs, we will probably pitch to Ramani from time to time on Property/Casualty questions.

So we're ready to go, with that. Renee, let's open it up for questions.

(OPERATOR INSTRUCTIONS) Andrew Kligerman, UBS.

David Johnson, just a quick clarity. you said the quality, 86% of subprime ABS are AA or AAA. Something you were saying afterwards, is it below investment-grade? Just a little more color, I think I missed that part.

Of our holdings that are listed in the slide, 86% are AA or AAA. As you can see, the vast majority below that is A or BBB. It is very small BB or below.

Great, and then Ramani had mentioned earlier a supplemental commission program. Could you clarify the little bit, how that works?

Let's have Neil take that.

We're going to introduce starting on 1/1/08 a supplemental commission program for Personal Lines and our Standard Commercial Lines. We expect that some of our commission programs are well understood by our agency brokers, as we've talked to them, very well-received. We settled just this week, so we will be firming up our plans with respect to exactly how those programs will look and be communicating with our agency brokers over the next months. But we expect to remain very competitive with our agents and brokers with the programs that we have in development and in mind.

Okay, then just lastly on the P&C side, this is I guess the second time in a row or the expectation for written premium keeps coming down overall in P&C. What is your best guess as we look into '08? Are you looking at a decline? Are we seeing an acceleration of declining prices, such that we could probably look at the next year or two and expect premium to actually come down?

Let me starts, Andrew. It's Tom and then I'll just kick it to Neil. Obviously we're trying to play this market selectively and pick our spots and stay very much in the market, but recognize that we have to be very selective and we have got to underwrite properly. So, Neal, you have immersed yourself for the last month and probably have some an insight and maybe Ramani as well.

Andrew, it is obviously competitive out there, but we continue to grow on Personal Lines. We should expect to continue to do some of that and as well in Small Commercial you see [pifcom], for example, up in both of those segments. As you get further up the scale, middle market and the specialty lines, obviously competition is stiffer there and as Ramani said in his opening comments, we're going to pick our spots. We're going to look carefully at the underwriting.

There is still a lot of attractive business out there that we're going to continue to chase after, but I think there, obviously, the top line, as we've adjusted our guidance, suggest is going to start to come down a little bit more and we will obviously pick our spots. But I think there are still in the Personal Lines in Small Commercial segments lots of attractive growth opportunities and we will be very focused on those.

The only thing I would add to everything that has been said is our diversified business platform gives us a lot of opportunity to direct capital to where we think there is growth opportunity. This is the time in the underwriting cycle where you got to watch were the opportunities are for profit and we will play this game quarter by quarter by really understanding the opportunity very clearly. This is one of execution.

Ramani, then if it is not urgent that you have to grow written premiums every year, if it is not there, it is not there and you can move the capital elsewhere?

That is exactly how we think about these things.

Great.

Tamara Kravec, Banc of America Securities.

If you can just talk little bit more in detail about how your products are doing in Japan? You talked little bit more that is competitive, but do you have any more products in the pipeline? Are you kind of set for this year with your Adagio products?

We have two now. This is Tom. They're pretty evenly balanced right now. The 3 Win product, which came out in February is doing very, very well, as is the Adagio V3. We like where we are. We are always building new products and the market is heating up from a product perspective, which is not surprising given all the players fighting for share now. But we are feeling good about the quarter, obviously, and we're going to keep building products and hopefully we will be extending product lines, probably in looking at '08, so that'll give us another platform to grow from. But clearly we're pleased with our VA, but we cannot rest. We have to keep building product.

Where are you seeing the most competition right now?

In Japan?

Yes. Is it just the domestic companies?

No, in fact the global players are very much alive and well. It is a pretty populated place right now. It is a good market and a lot of folks are competing hard, as are we.

Do you see the domestic companies being able to, at some point, compete with you on these types of products?

Sure, they will compete, but they're not going to kick us out either. We are there to stay. In fact, our brand recognition continues to grow. We just did a study on that. Our brand -- we're actually a Japanese company now in their eyes and very much in good spots. So I think the market is starting to establish itself, and it is going to be a mix of domestic and foreign players not too dissimilar to what we have here in the United States.

We compete in the U.S. with a lot of foreign companies for VA business right here. So I expect it to be similar.

One thing I would like to add to what Tom said is one message that the Hartford has been communicating right through is this is a market where the use of the variable annuity is still an emerging phenomenon. I believe that over the next five years, this could be a $250 billion to $400 billion market, probably more close to the upper end rather than the lower end.

So the use of annuities for retirement planning is very much a developing phenomenon. So we think there's going to be plenty of room for a lot of people.

Okay. Then on the P&C side, in light of your excess capital position and your plans there, do you think that the market is now going to shift to one of increasing acquisitions? In other words, your competitors are looking for growth; everybody is looking for growth. Some may not have the capital flexibility you do in moving assets -- moving equity around to support more profitable growth.

Do you see any opportunities in that type of environment for added block acquisitions or anything along the -- any of the business insurance, personal or specialty?

One of the points that both Tom and I have been making to investors is we love our diversified platform. So to the extent that we see good opportunities that are well priced, we are very eager to add to all sides of our business important areas, personal insurance, small business and property casualty, as well as different parts of our life and investment products business.

So that is one message we always communicate to shareholders. I think Johnson's always said first is organic growth, next is acquisitions. It is only if those opportunities are not available to us when we would reconsider how to deploy our capital, which is deployed out to shareholders.

Okay, thank you.

Gary Ransom, Fox-Pitt Kelton.

I had a question on loss cost. I think on the personal lines you said it was higher, but I believe on the business you said it was stable or in line with expectations. Can you talk a little bit about the differences you're seeing in the commercial versus personal areas?

Gary, it's Neal here. On the personal lines, as Ramani mentioned, we're seeing after lots of quarters of really extraordinary frequency numbers a slight uptick to the positive on frequency. So that is I think really what is going on on the personal lines segment. Maybe a little bit of severity on some of the non-cat homeowners losses.

And then in business insurance, we're still seeing good frequency and view the loss cost environment there as quite benign.

If you look inside the business, is that true in the commercial auto products as well?

Commercial auto, why don't we take a minute. We've got to find out or have --.

Gary, I think there is a little bit of the frequency there, similar to what is going on on personal lines, but overall pretty benign.

Okay, and just one other question. Can you elaborate at all on the subpoena from the Connecticut AG, whether that -- I assume that is just an old reinsurance issue, but can you describe exactly what that is or what the subject matter is?

I will ask Alan Kreczko, our General Counsel, to take that.

Gary, the subpoena as we indicated in our disclosure concerns reinsurance facilities. Those are arrangements whereby a broker is given underwriting authority by a reinsurer or reinsurers. We did participate in reinsurance facilities back in the day, but we exited that business in 2003.

Okay, thank you very much.

Tom Gallagher, Credit Suisse.

I have a couple and then Charlie is going to have something of the P&C side. Tom, some recent press reports have suggested That Hartford is not going to be named a partner with the Japanese post on the variable annuity side. I guess I would be curious on your comments on if we assume that this is correct, do you think the Japanese post is going to be a huge part of the variable annuity market eventually or something less significant? Anything you can give us to elaborate on that, thanks.

Yes, we did bid on that and were not selected. The report is accurate. We were obviously disappointed and we think it has unknown, but potentially significant potential. So unfortunately, we were not chosen.

Having said that, we think the bulk of the business is going to be written the traditional way, through advisers in the banks or broker-dealers where we have created a market. So we're going to continue to try to pick up share in the traditional markets and we were a little disappointed and we were not selected.

Got it. Tom, as you kind of think about the way that may play out in the market, do you see that being a brand-new opportunity for the variable annuity business in Japan, meaning a lot more new money coming out of the postal system into the market, meaning the pie gets substantially larger? Or do you see that taking substantial market share of the existing pie?

I really do not think it will take share at all from the existing pie. It will be a post office internal move to try to reposition assets from their deposit base into variable annuities. We will continue to work our system that has been very effective. So I think it is brand new. It will be incremental to the overall market.

Got it and just one other question from me for U.S. variable annuities. I guess just hearing the way you are describing your variable annuity business today and recalling back to your investor day, it seems like The Hartford is a lot more positive on expectations for net fund flows, not so much for you, but for the entire industry. I am just curious what is driving that. Is that -- are you seeing a lot more new money coming into the Company instead of 1035s? I guess I am just curious about that. Thanks.

This is John Walters. Referring to the presentation that we gave at our investor day where we made the case that the industry sales we think could grow substantially over the next several years and that a lot of that would come from net flow, it is really a question of where the money can come from. We do not see the level of 1035s really advancing at a pace that would drive the kind of growth that we are expecting is possible in the market, but if you look at the pool of retirement dollars that are going to be coming into the market and if you make the assumption that the value of the guarantees of income is going to be better and better understood by investors, better been better understood by advisors and by the media, we think we can get an increasing share of that larger flow of dollars that will becoming into the retirement market.

So we do anticipate that net flows should improve over the next several years as the market grows. And as you may know, the industry had a record May, so we are continuing to see industry growth through the first half of this year. So may is just one month, but we continue to believe that this is a trend that will play out over the next several years. There are some things, as we said in our presentation, that we think could derail it. Certainly very soft equity markets could derail it, significantly higher interest rates could derail it, but in general, we are positive about the trend.

John, fair to say that your expectations for future deposit if you split between 1035 and non-1035, you see a lot more of that coming from non-1035 in the future?

Yes, I really do not think you can get the growth that we are describing just out of exchanges. You have got to attract new producers. You've got to attract new funds into the marketplace to get the growth we're describing. It is just a mathematical issue that I do not think the velocity of transfers is really going to increase. So to get the growth, you got to get out of new advisers and new investors. We think there is a very compelling case for those new people to come to the table because the product today is so different than it has been even five years ago.

Thanks, and Charlie has one on the P&C side.

My first question, I think one of you went through the fact that you were introducing new agents' compensation program. Is this similar to the one that the Travelers introduced January 1 of this year?

I cannot -- in broad contours, we're going to be doing a supplemental program, which we think will be fairly similar to those that have been introduced in the marketplace. But as I said before, we have just settled our matters with the AGs on Monday and we're going to be fine-tuning our programs and communicating with our agents and brokers in the coming months. So far our conversations have been enormously well-received and we think this will keep us every bit competitive in the marketplace.

So the key benefit of this new program is to make your prospective compensation for per agent similar to that offered by selected other leading companies at this point?

No, the key benefit is for us to be able to work with our agents and brokers to make sure that they understand the compensation they will be receiving from the beginning of the year. It is going to be more transparent to them. They will know exactly how this will work and that is, I think, the feature that has caused it to be as well-received as it has been in our conversations with them to date and why we expect it will work out in the marketplace when we put it into place on 1/1/08.

My second question, Ramani actually sounded like Charlie Dickens when he said it is a tale of two markets. Could someone elaborate on why you think you have two very, very different markets from personality standpoint today?

I would rather be Charlie Gates than Charlie Dickens. I believe that in virtually all the areas of our business, we still continue to write new business, so it is not as though we're not looking for new business opportunities. But at the same time, I would like to characterize the middle market business as being more competitive. There is more players in the market playing aggressively for new business. We're starting to see that spread even more compared to what we had reported to you in the first quarter. I am seeing early signs of some competition even in the small-business area. So the competition and competitive forces today in the market are higher than what they were in the first quarter.

At the same time, I feel that if we do a good job of really segmenting our business and pursuing good opportunities, we will continually to see ways to attract more new business out there. I would really overemphasize the fact that there is a definite shift in the competitive levels compared to the first quarter.

My final question, I don't know whether you heard or you saw a transcript of the Selective conference call this morning, but they said on that conference call, they were talking about how they had coverage with some plumber where the premium was $52,000. That is what their quote was and it was taken away at $26,000. To what extent -- in this is my last question -- do you see those kind of antics coming back?

There is, I would say, those sort of anecdotes are more common today than they were in the first quarter, but in the main you've got to remember there is still a lot of business getting renewed at very, very attractive price levels. But the very fact that our new business year-on-year is lower is principally because some of the new business out there in the market is pretty aggressively priced, so you will see some of that.

Thank you.

Dan Johnson, Citadel Investment Group.

The question is on the Personal Lines combined ratio outlook. I think the first half of the year averaged just a little bit under your new range. Should it kind of get to the middle of the range, we need to sort of add a few hundred basis points of combined ratio. I guess that is ex-cats and prior period development. Has there been that much -- or does that represent a significant change on the loss environment or is it a combination of the loss environment and maybe a revised outlook on the pricing environment as well?

Let me take a shot at it. This is Ramani. In Personal Lines we certainly have seen a pickup in frequency. I think it was Neil who answered that question a few seconds ago. Personal Lines frequency definitely is one where we're seeing some pickup and the second half of this year, when it comes to combined ratios, will have the impact of some of this flowing through. I believe you will see some gradual migration up into the range that we have not revised in Personal Lines.

So maybe more -- that sounds like more of a loss cost answer as opposed to some big revision in the way you see sort of marginal pricing going forward?

Yes.

What is normal cat load in that segment, would you say?

I don't know if we disclose cat loads by segment. I do not believe we do. I think the overall company cats are expected to be somewhere in the three to 3.5 that David mentioned last year for the full year. And through the first half we have had a lighter cat first half. On the other hand, remember we are entering hurricane season, so we should not forget that.

Fair enough. A question, too, for David. You mentioned, you referenced market values a few times and felt pretty good about what you're seeing in the subprime or nearing subprime portfolio. How are you determining market value for some of the securities that you consider maybe more of concern to investors these days?

Roughly about 85% of our subprime book is priced through subscription pricing services, so fairly liquid and successful pricing. The balance is in dealer quotes. In general, we're able to get multiple quotes and able to trade on them, which we occasionally test. So we think these are reasonably liquid and well-priced securities. To date, we do not have too many worries in terms of the data quality.

Fair enough. Finally, a simple math question. Why did the shares outstanding actually go up a little bit in the quarter?

Typically that happens as the stock price goes up. The weighted average impact of common stock equivalents go up.

Fair enough, thank you very much.

Jay Cohen, Merrill Lynch.

I have got one question. Ed has got a question as well. On the Property Casualty business, I guess the assumption is that's well-capitalized business currently and according to our model, over the next four quarters you'll earn probably north of $1.5 billion in business. Is it fair to look at that additional earnings and say that is really excess capital that the business generates, given that the premium growth is going to be fairly modest?

Certainly if that is the earnings that is going to contribute to capital now, that we do need capital to back up the business, but, David, why don't you jump in on that?

As you know, STAT, which is the actual capital, is not always exactly the same as GAAP and it tends to be -- usually for one reason or another, it always seems to come in a little bit lower. But yes, I think it is fair to say that the Property Casualty business should be generating significant capital for us over the course of the next year.

I am happy to underline Jay, I would underline David's point here. STAT capital is different than GAAP earnings and GAAP capital, so you have got to be -- David did a pretty good job on investor day trying to help investors understand how to bridge from GAAP to STAT and it is important you make those kind of adjustments in your thinking. I feel investors often miss that step.

With that adjustment and absent a significant change in the risk charge regime, either our own or that associated with the major rating agencies, I think it is quite clear that we're going to be generating very good capital in P&C.

It is Ed and I have one question on VA. John, you obviously sound very optimistic about the industry's sales growth outlook. I don't know that anyone is assuming that your VA flows turn positive anytime soon, but I guess the question is the type of growth you would need to get to positive flows in VA by, let's say, the end of '09 might be kind of low to mid-teens. At least, we calculate sort of low to mid-teens deposit growth on an annual basis. Is that -- giving your optimism on the industry, is that an outlandish expectation in your view or is that a possibility?

Ed, on net flow, we have not at this point indicated when we -- when or whether we expect to turn positive on net flow based on the current size of the book and the current redemption activity. We have said that we do not have to see any reason to expect the rate of redemptions to decrease in the near-term, and obviously with higher asset levels, that means the dollar volume of redemptions will go up somewhat.

But then if you look at what we taking top line to overcome that, I think that you're seeing double-digit growth in the industry right now and we over the last year have gotten double-digit growth as well. I think it is conceivable that continues and if the bull case that we presented at investor day plays out, that is what would be happening and we would certainly want to be an active participant in that growth of the industry as it happens. Exactly how it unfolds and what the timing is and when or whether that gets us to net flow is -- there's a whole bunch of assumptions that would have to go into that, but it is conceivable that if the industry grows as we described, that we would get there over the next several years.

Ed, it's Tom. Just my two cents, we're very well positioned right now and if John's bullish case is right, I think we should get our share.

Thank you.

Jimmy Bhullar, JPMorgan.

I just have a couple questions. The first was for Dave Johnson on capital. To the extent you continue to build excess capital and there aren't any acquisition opportunities, then should we expect you to increase your capital margin or would you actually use the money for either buybacks or for dividends?

Then secondly, on P&C, I think you had a couple of points a favorable development in business insurance. You have had a favorable development there four out of the past five quarters, so if you could just discuss that.

I will start out with the question on the capital margin. We feel the capital margin right now is at the correct level, given our risk and given our view of the risk and our view of how the rating agencies view that risk. So I would only expect it to go up with incremental changes in our risk position growth and assets growth and premium, or vice versa. So to the extent we are able to build more excess capital and at this point, we are still quite comfortable that we will produce at least $500 million of capital in excess of our needs for use in the second half of this year. We're not able to find organic uses and acquisitions. Then yes, it would go to dividends and share repurchase, not to some large secular change in capital markets. Neal?

Jimmy, this is Neal Wolin. I think on the BI, the favorable development is largely been in small commercial and largely been workers comp-driven. I think that is what you're seeing in general.

Okay.

I would add to that, Jimmy, we do not forecast reserve developments, positive or negative, going forward, unless we have something to say about it, in which case we would account for it right away. So (multiple speakers)

Thank you.

Al Copersino, Madoff.

I had question on Japan business. The 3 Win product obviously has done very well, which on the positive side speaks your product development and distribution trends. I wonder, though -- and I think you started to comment on this -- I wonder though if it also means that the velocity of product development is going to have to get faster? And I wonder if the long-term interpretation of this is that the very strong margins in your Japan business will eventually have to get closer to the U.S. business or is that too dire a forecast?

I don't think the margins are likely to be taken over by this product development competitive factor because the fundamental fact is there is still more capital required in Japan and that means we are all going to price for a return on that capital and that is going to mean the bigger margins that we see there. I think it is just going to be who can be innovative, who can offer the benefits are obviously the plays of most competition, certainly investment features are also going to be an area we will focus on, but I don't see all of this being an attack or an expectation that margins will decrease.

That's helpful, thank you. Then on the P&C side, real quickly. I don't have my model open, but just looking at the press release, it looks like the ex-cat accident year combined ratios began to move up pretty quickly this quarter. Is that just simply the factors you already are talking about, the increased competition in mid and Specialty and some increased frequency in Personal Lines? Is that what is driving that?

I think it's what we've said, certainly a little more on Personal Lines and frequency.

One way to think about this, Al, is we had last year's second quarter a favorable assignment from Citizens. In other words, our expense ratio was diminished by about 1.4 points. Really when you take that out from your prior-quarter comparison, the actual difference between this year's second quarter and last year's second quarter is a bit lower. I just want to be sure I reminded you of that. I think it is about 1.4 points, so if you look at your ex-cats combined ratio for ongoing property casualty last year, 86.9, you would have to increase it by 1.4 and then the difference is what you see.

That's helpful. I forgot about that. Thank you and I enjoyed it.

Bob Glasspiegel, Langen McAlenney.

I assume the projections were done at 4:00 yesterday rather than 9:30 relative to the stock market and you factored in all the volatility and changes yesterday.

No, I have to admit most of our projections were done as of June 30, Bob, so you will have to make your own adjustments.

Seriously, we have had some pretty significant stresses to the financial markets in July with respect to volatility, credit spreads. I have utmost respect for Ramani and Tom's portfolio management judgments on when to grow businesses and when to contract. I am wondering on the margin, from a big picture perspective -- and you can take it to the lines of businesses where you think it is most appropriate -- do you view what has happened in July as an opportunity to grow in businesses that require risk capital to back them, let's say like spread businesses? Or are you looking at the environment as having changed sufficiently that maybe we have to be more conservative with respect to risk?

Good question, Bob. It's Tom. The way we run the businesses is they each have to attack their markets separately, so there is a discipline and accountability in risk management within each business. So we first look to them to exploit opportunities or to pull back if they need to, because they are the direct risk managers of their own business and there the opportunists of their own business. So above that, obviously, what I used to do on the Life side and Dave Zwiener on Property Casualty -- now Neil, and John lives on the Life side -- is they look at the businesses as portfolio, smaller portfolio. Then Ramani and I look at them in total.

Certainly at times like this, it is great to have the diversification of businesses that we do. I think that is going to prove to be a real positive for us going forward. I think each are poised and well-managed operations and we will attack markets when the opportunities present.

So there's no business line that you could, say, like fixed annuities, that's a spread business. We think there's opportunities to grow with all the stress that is out there finally. You have been correctly conservative for the most part.

Let me have John take that because that is one we've seen a little pickup lately.

Bob, a couple of points there. One, we're seeing better spread opportunities today than we have in quite awhile relative to our spread-based businesses, whether it is a structured settlement business, the funding agreement business, or the fixed annuity business. You can see a little bit of the uptick in our fixed annuity business in the second quarter and I think as we look out today, we want to be opportunistic about taking advantage of the spreads that are available. You've got to have the right fit of having the spread available and then having a buyer on the other side that is ready to put money to work right now. So it is still going to be a meeting of buyers and sellers in the marketplace, but we are seeing better spread opportunities than we have seen for some time and we're working hard to make sure that we take advantage of those opportunities as we go forward.

The other point, Bob, that I would add to everything Tom and John have said is as, John was saying earlier, the variable annuity with its guarantees really is something that gets showcased in an environment like this, where advisors can really counsel their customers by saying that you must stay in the equity markets if you have long-term faith in the American economy. But at the same time one way to protect yourself from the volatility and downsides of the market is a lifetime income annuity. These are the times when those conversations are actually pretty rich.

Okay, thank you very much.

Joshua Shanker, Citigroup.

My questions involve the disclosure in the Q about FAS 157. It's a short disclosure. I guess it is a $32 million loss. How does that relate to what you think your ultimate FAS 157 disclosure is going to look like?

I think the loss you are referring to actually was an EITF. We have not this point estimated the impact of FAS 157. There is a great deal of discussion going on amongst all the U.S. registrants that are subject to that and who have fair-valued assets and liabilities where there are significant nonvisible market inputs. So we continue to think that adoption there probably will have a material impact on our financial statements, but probably still at least one more quarter of work to do before we're ready to express an estimate.

The $32 million was with respect to a deferred loss that -- okay, got it. That was with respect to a deferred loss that was booked pursuant to existing accounting practices with regard to a derivative trade we did. Then that will be overtaken by events, so to speak, when FAS 57 is adopted. So we were just saying don't fall in love with that deferred loss. It will vanish on our balance sheet when 157 comes.

I understand. You think that you'll have your disclosure ready perhaps around the third quarter earnings release?

I think that is the earliest. There is a lot going on. The FASB in an attempts to be helpful actually just appointed a committee to provide -- try to provide some guidance. Unfortunately it is not scheduled to meet until a time when the guidance would probably not be available for our third quarter earnings release. I think that is the earliest we would be able to provide you with some disclosure. But it might slip, particularly if there continues to be a lot of uncertainty and a lot of still incoming guidance from various folks as to how to approach it.

Great, thank you very much.

Mark Finkelstein, Cochran, Coronia, and Waller.

You have had very good margins in Japan, raised ROA guidance after a couple good quarters. I guess just looking forward, where there any anomalies in the numbers or is this related to the result of good asset growth/scale? How you think about sustainability of returns at this level?

We like mid '70s as a guide, what you're seeing with increased guidance is two stronger quarters in the bank. So that will bring up the average for the whole year, but I think you're better off with mid '70s. We had a few what will call lapses higher-than-expected and the way the accounting works is that tends to front earnings in. So I would guide you back into the mid '70s even though we ticked up. It is really mainly because we had the two good quarters that we already have in the bank.

Okay, then I guess just not huge deal, but you raised deposit expectations in Retail mutual funds, but actually reduced slightly the flow guidance. I am just curious about what you're seeing in terms of asset conservation in that business.

Mark, this is John Walters. In our U.S. mutual fund business, a big part of our recent success in that business has been the sale of a floating-rate bond, which invests in bank loans and that has been an ideal product for us to market. We have been successful with it. In today's credit environment with spread gapping out of bit, there has been some softness both on the top line and in redemption activity in that fund, so that is the difference it is reflected in those numbers.

We're expecting a little higher redemption activity in the floating-rate fund, a little softer top line and the fund due to the recent market environment that we're in. It's still undetermined how this is going to play out of the next several months, but we wanted to reflect that in our guidance.

Okay, that makes perfect sense. Thanks.

Thank you, Mark. Thank you, everybody, for joining us today. We are obviously pleased with the quarter. Continued strong results in Life and as you can see in the Property/Casualty side, we're navigating with the eye on balancing both growth and profitability. We are looking forward to a strong second half of the year. So thanks again for joining us.

Ladies and gentlemen, thank you for your participation in The Hartford second-quarter earnings conference call. You may now disconnect.