Hartford Insurance Group Inc (HIG) 2008 Q3 法說會逐字稿

Good afternoon. My name is Jeremy and I will be your conference operator today. At this time, I would like to welcome everyone to the Hartford third 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). Thank you.

I would now like to turn the call over to Kim Johnson, head of Investor Relations. Ma'am, you may begin your conference.

Thank you, Jeremy. Good afternoon, and thank you for joining us for today's third quarter 2008 financial results conference call. As you know, our earnings press release was issued earlier today. To help you follow our discussion, a financial supplement and slide presentation are available on our website at www.thehartford.com.

Ramani Ayer, Chairman and CEO; Tom Marra, President and Chief Operating Officer; Greg McGreevey, our new Chief Investment Officer; and Liz Zlatkus, CFO, will provide prepared remarks. We'll conclude with our usual question-and-answer session. Also participating on today's call are Neal Wolin, President and COO of our Property and Casualty Company; John Walters, President and COO of our Life Company; and Alan Kreczko, General Counsel.

Turning to the presentation on page two, please note that we will make certain statements during the 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; our quarterly report on Form 10-Q for the quarter ended September 30, 2008; our 2007 annual report on Form 10-K; and other filings we make with 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 third quarter of 2008, in the press release we issued today, and on the Investor Relations section of the Hartford's website at www.thehartford.com.

Now I'd ask you to move to slide three, as I turn it over to the Hartford's Chairman and CEO, Ramani Ayer.

Thank you, Kim. Good afternoon, everyone, and thank you for joining us. Let's begin on slide three.

The third quarter was the most challenging in The Hartford's history. The markets we are experiencing are truly unmatched, with dramatic spread widening in the credit markets and the substantial retrenchment in the equity markets. These elements factored heavily on our third quarter investment portfolio performance and earnings results.

Realized losses of $2.2 billion, mostly from impairments, had a $932 million DAC charge, drove our net loss of $2.6 billion or $8.74 per diluted share. The core earnings in third quarter were a negative $422 million or $1.40 per diluted share. In addition to the DAC unlock, core earnings were hurt by catastrophes and negative returns on our alternative investments.

We're clearly very disappointed by our third quarter performance and we intend to focus this call on several key investor issues. On the issue of investments, we announced our new Chief Investment Officer, Greg McGreevey, earlier this month. Greg joins the Hartford from ING, where he oversaw much of their investment operations for the Americas. We're very pleased to have him onboard and he will be a key figure on our investor calls.

Greg will talk about our third quarter performance, but I do want to make a few comments.

It is clear that overweight positions in financial services and structured securities hurt us in the third quarter. Over 70% of our third quarter impairments came from financials, and we took real economic losses in some high profile names, like Fannie Mae and Lehman Brothers.

At the same time, it is critical to note that $1.5 billion of our $3.1 billion of pretax impairments were primarily caused by price declines in financial services holdings, not defaults. We still expect to receive all payments of interest in principle from these highly rated quality issuers.

In our CMBS and subprime portfolios, we have stress tested our holdings and impaired those securities, where the cash flows weren't projected to hold up in a severe recession scenario.

On the issue of capital, we closed the $2.5 billion Alliance investment earlier this month. The investment strengthened us at a time when capital is critical. Our resources continue to be tested by the global markets, but even at today's market levels, the Hartford remains well-capitalized. Liz will provide additional color on this issue a bit later.

On the issue of liquidity, investors have recently shown more interest in the liquidity profile of the insurance industry. Insurers with long-dated liabilities are more insulated from liquidity pressures as compared to other financial institutions, like commercial banks. With over $10 billion in cash, short-term investments and other highly liquid holdings, I feel good about the Hartford's liquidity position.

In terms of The Hartford's core business operations, our Property and Casualty business is doing very well. Markets remain competitive, but there are signs that commercial pricing declines are moderating. While it's too early to call a bottom, we're optimistic that we will see more attractive markets in 2009.

In our Life operations, our Mutual Funds Retirement Plans and Group Benefits lines all showed healthy sales growth. Our investments in these lines have continued to pay off, even in the face of difficult market conditions.

In our Variable Annuity business, sales and earnings suffered from the global decline in equity markets. This extended period of market volatility will lead to changes in product and pricing in VA guarantees of The Hartford. There will continue to be strong consumer demand for living benefits, and we certainly don't expect markets to remain as volatile as they are today; but we definitely believe the retooling of product features and pricing is warranted, and we have begun that process.

With that, let's go into more detail on these important issues. Tom will begin with an overview of our business results. Tom?

Thanks, Ramani. Please turn to slide four. Our Property and Casualty results for the quarter were strong, especially when you take into account the heavy storm activity. We reported core earnings of $156 million. Catastrophes had a significant impact on the quarter. The total impact from current year CATs was $356 million pretax. This covers all CAT-related costs, including $325 million or 12.7 points in claim losses, as well as reinstatement premiums and estimated state mandated assessments.

On an ex-CAT accident year basis, our ongoing operations' combined ratio was 91.8, a little more than a point higher than last year. This is an excellent result at this point in the underwritings cycle, and reflects the discipline we are exercising.

In personal lines, our ex-CAT accident year combined ratio was 88.3, down slightly from the prior year. We are benefiting from mid-single-digit negative auto claims frequency, and severity is virtually flat. In small commercial, underwriting profitability was excellent, with an ex-CAT accident year combined ratio of 87.7 for the quarter. Low single-digit declines and expected claim frequency across most lines continued to contribute to our strong results.

Total net written premiums were $2.6 billion in the quarter, 1% below the 2007 level. Markets remain competitive, and with the exception of personal lines, pricing continues to fall. We are balancing underwriting profitability with growth. In summary, our Property Casualty operations had another very good quarter. Neal and his team have done a great job staying focused on day-to-day execution.

Now, please turn to slide five for our Life results. As you would expect, our Life businesses were heavily impacted by equity markets in the third quarter. The DAC unlock and negative returns on alternative investments reduced core earnings. With AUM down, fee-based revenues also declined.

Our US and Japan VA results were hurt by the slide in equities. Product competition in these markets remains intense and global markets are still struggling. We expect US and Japan VA sales and flows to be challenged until we see some stability return to these markets and we have reduced our fourth quarter guidance accordingly. Also, as Ramani has said, we have began a process to revise our product and pricing strategies in the VA area in light of the market turbulence we are experiencing.

Our Retail Mutual Funds, Retirement Plans, and Group Benefits business showed a lot of sales resilience in these markets. Mutual Fund deposits were solid at $3.6 billion, and net sales remained positive, even as redemptions increased in September.

Sales in October have continued to be good, but like many others in the industry, we are seeing higher redemptions. Based on what we are seeing so far, we are guiding to a range of $2.5 billion to $3.3 billion for mutual fund sales and $1.3 billion to $1.8 billion in net outflows for the fourth quarter. We believe we have a strong mutual fund franchise and are well-positioned for growth in this business when markets stabilize.

Our Retirement Plans group had another quarter of great execution. Deposits were $2.3 billion, up 67% over the prior year, 13% on an organic basis. Group Benefits had outstanding results this quarter, producing $100 million in core earnings for the first time. The record earnings were driven by favorable morbidity and good expense control, combined with steady premium growth.

Finally, with revenues down across the Company, particularly in the Life businesses, we are taking a hard look at our expense base. We are taking actions in the fourth quarter and we are working on additional plans that will be implemented throughout 2009.

At this point, we expect to reduce our 2008 run rate by an estimated $250 million by the end of 2009. This will not come all at once, but will be worked in over the course of the year, and be fully in place by the time we enter 2010.

With that, I'd like to turn the call over to Greg McGreevey to cover investments. Greg?

Thank you, Tom, and good afternoon. In the time I have today, I'll cover the asset categories that had the largest impact on our third quarter results, our investment in financial services, and structured securities. I will also share some of my near-term and longer-term priorities.

If you could please turn to slide six. As the slide indicates, the crisis in Financial Services had a significant impact on The Hartford's third quarter results. Dramatic spread widening combined with declines in Financial Services' preferred stock drove $2.3 billion of pretax impairments in the quarter. You can see a breakdown of the impacts of fixed income and equities on slide six.

Fully $785 million of the $2.2 billion in impairments were true credit defaults, including institutions you already know, like Fannie Mae, Freddie Mac, and Lehman. The remaining $1.5 billion were impairments primarily because we were not able to assert that they would substantially recover their value within two years.

The two-year time horizon may be an area where we differ from others. A specific price recovery period is not prescribed in the accounting rules. In other words, $1.5 billion of the impairments we took this quarter were on high-quality institutions where we have limited credit concerns. We feel this is a conservative view on the prospects for near-term recovery within Financial Services.

At the end of September, we had $10 billion or about 11% of our portfolio in Financial Services. Virtually all of the third quarter mark-to-market changes in equities were recognized as realized losses this quarter. The net unrealized loss of about $800 million in Financial Services represents temporary price declines on high-quality institutions. We have included a listing of our top 25 financial holdings in the appendix of today's presentation.

On slide seven, we can take a closer look at our structured securities. The CMBS and RMBS markets have remained incredibly challenging. We are seeing the effects of both fundamental economic trends and a very high premium for illiquidity factored into pricing for these securities. Each quarter, we stress test the cash flows on our subprime and CMBS securities to determine if and when we expect them to recover. This quarter, we worsened our loss assumptions for the severe recession scenarios for both subprime and CMBS.

Average home prices, for example, are down 20% since their peak in the summer of 2006. Our stress test assumed home prices nationally will decline an additional 20% for an overall decline of 40% from peak to trough.

For CMBS, we are now using assumptions for defaults and severities that are approaching the worst commercial real estate environment recorded in the US since 1980. As a result of our stress testing, we impaired roughly $500 million pretax, primarily in CRE CDOs and lower-rated recent vintage RMBS.

As you can see on the chart, we have about $3.5 billion of net unrealized losses in CMBS and RMBS. We expect no loss of principal or interest on these assets, using our severe recession scenario test, and we have the ability and intent to hold these securities until they recover.

Looking ahead, the pace of economic recovery is uncertain. Credit markets, as we all know, are still quite volatile, and spreads have widened further in October. We are optimistic that the aggressive steps being taken by the Treasury and Fed will eventually help to strengthen financial institutions and, in turn, stabilize real estate valuations.

We have taken significant impairments over the past four quarters in subprime and CMBS. In the appendix, you will find three slides that show our current investments at par, book, and market value, based on original rating. I think you'll find this additional data provides greater clarity on our pricing for these securities.

I'd like to close with a few comments on The Hartford's investment portfolio and next steps. From an asset mix perspective, The Hartford has a broadly diversified fixed income portfolio. That said, and as Ramani indicated, we are overweight securities that are exposed to the real estate market -- CMBS, home equity and financials.

I am planning to take a series of actions aimed at repositioning the portfolio in light of current economic outlooks. First, I intend to enhance the overall credit quality of the general account. Today, we are investing in treasuries and high-quality securities, and maintaining higher than average liquidity. This is not a long-term strategy. We are looking for markets to stabilize, and when they do, we will put risk back on the table. Our investment decisions will seek to balance risk, returns, capital and earnings.

I also intend to continue to decrease our exposure to credit derivatives, shrink the securities lending program, and reduce exposure to certain capital-intensive and volatile asset classes, like hedge funds. I don't want to suggest that we can make wholesale changes in the portfolio near-term.

It's not economically prudent or feasible to sell severely depressed assets at the height of market fear. Over time, however, we will make prudent portfolio decisions that effectively optimize investment performance, capital, and earnings stability.

With that, I'll turn it over to Liz. Liz?

Thank you, Greg. Good afternoon, everyone. I would like to walk you through our updated 2008 guidance, so please turn to slide eight.

As you saw in our press release, we have lowered our core earnings guidance range to $4.30 to $4.50 per share. The range assumes an average of 315 million shares outstanding, which gives effect to the Alliance investment. The new range reflects actual performance for the first nine months of the year, including the third quarter DAC unlocked.

You will recall that we've provided an estimate of the market impact relating to the DAC unlocks of $330 million to $640 million on the second quarter call. Now, that was based on separate account performance through June 30. As you know, market subsequently fell sharply in the third quarter with the SMP 500 down 9%. We incorporated all of that market impact into the unlock.

Our guidance also includes a fourth quarter charge resulting from about $3 billion of VA assets in Japan that triggered an account value floor. This charge relates to the [three win] product. This is a variable annuity with an accumulation benefit rider sold in Japan. The rider includes a floor benefit, which is triggered if the account falls 20% below the amount of the original investment. Then, the policy holder has two options -- one, to withdraw 80% of their original investment with no surrender charge; or two, to recover the entire original investment through a 15-year payout annuity.

The severe global sell-off in equities and bonds in October caused virtually all of these policies to hit the 20% threshold. This will impact the fourth quarter by $185 million to $225 million. Most of this charge reflects a DAC write-off.

Our guidance also reflects a loss of about $90 million from limited partnerships and other alternative investments in the fourth quarter. Returns on these investments continue to be poor.

Finally, you will note in our press release that we've provided guidance on fourth quarter ROAs in Life Asset Management businesses. This is a slight change from the past, but with three quarters and a significant DAC unlock behind us, we felt guiding on the fourth quarter alone would be more useful.

I also want to comment on capital and liquidity. The Alliance investment announced in early October supplemented our capital resources with an additional $2.5 billion. Of course, much has changed since the beginning of October. We have seen dramatic declines in the markets across the globe. The S&P has dropped nearly 20% this month, and volatility levels have hit all-time highs.

Given the current markets, projecting a year-end capital margin is extraordinarily difficult. Credit spreads, currency rates and interest rates are fluctuating day-today, and the sensitivity of these various assumptions in our capital models is much more acute in the tail. In this environment, we are not comfortable providing a forecast of our year-end capital margin.

However, what we can say is that as we sit here today, The Hartford is capitalized at levels that are consistent with the standards that rating agencies have historically used for AA minus level companies.

The difficult market conditions have resulted in heightened concern among the rating agencies. While capital is a key factor for the rating agencies, they consider a number of other factors in their ratings determinations. We have implemented a number of actions to enhance our capital position and are working on other alternatives that could reduce the amount of capital that we are required to hold. As Greg indicated, we are reducing our exposure to certain higher risk asset classes. We are also looking at ways to maximize the capital efficiency of our reinsurance programs, including the potential for captive reinsurance.

Finally, the Canadian regulators recently made changes to their capital requirements, given the extreme and rapid market declines we are experiencing. We also understand the ACLI is exploring the possibility that the regulatory capital requirements in the US could be similarly modified. We would support these efforts. Of course, changing the rules will take time and there are no guarantees it will get done.

Over the past few quarters, we have increased our holdings of cash, short-term investments and treasuries. We built those resources to $7.8 billion at September 30, not including assets we hold as collateral in connection with derivatives transactions. With a $2.5 billion cash infusion in October, that's over $10 billion of liquidity. When you evaluate this against our potential cash requirements, I feel good about our liquidity position.

You also note that we have supplemented our 10-Q this quarter with additional disclosures regarding sources of short-term liquidity as well as potential uses.

Finally, I'd like to give you an update on The Hartford's GMWB Hedging Program. Our program continues to perform within our expectations. Of course, the capital markets in the third quarter represented a real challenge for any dynamic hedging program, as equity fell and volatility soared. These factors contributed to a GMWB loss of $133 million pretax in the third quarter.

Most of the third quarter loss was incurred in September, when markets really fell. In October, market conditions have continued to deteriorate, and we clearly have seen higher losses to this point than we did in September. Some of that would be expected to unwind, should the market's volatility subside; so, at this point, we can't forecast a full quarter impact.

Now, three issues are driving most of the losses in the quarter and month-to-date. First, we have been underhedged for Vega or volatility for some time. We felt ball prices were unreasonable and decided not to chase it upwards.

The second driver is basis risk, where the performance of our VA Mutual Funds differs from the indices. This has been a negative for us. And finally, transaction costs increase when markets become more volatile.

But it is important to note that our hedging program is just one aspect of our overall equity risk management. We dynamically hedge only about 44% of our US GMWB account value. Market risks relating to the remaining 56% of the block have been transferred to third parties through reinsurance and custom-aided long-dated derivatives. We are pleased with this prudent approach, which has allowed us to lock in equity risk protection when costs were much lower.

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

Thank you, Liz. We'll begin the Q&A session in a moment.

Given the volatility of the market environment, it is really impossible for me to predict when some normalization will occur. In the meantime, there's several areas, as you've heard, that we are focusing on.

First, we're going to stay focused on executing in a disciplined way in our insurance businesses; second, we're going to review our VA business and rethink our product to pricing strategies in light of what we have seen over the last few months; and finally, we have begun the process of repositioning our investment portfolio under Greg's leadership with an emphasis on higher credit quality, and greater capital and earnings predictability.

With that, Operator, you may now open the call to questions. I'd ask each caller to limit himself or herself to two questions to allow us to get to as many callers as possible.

(Operator Instructions). Nigel Dally, Morgan Stanley.

Liz, with capital, should I be reading from your comments that it's unlikely that you will be needing additional capital based on where you stand today?

And also, if you can perhaps comment on whether you'd be interested in participating in the Treasury TARP, if that opportunity were provided to you?

Good afternoon, Nigel. As we stand here today with market levels, we feel very well-capitalized. But in terms of would we access the CPP Program if it's available, we certainly think there are favorable terms as we see it and we would look to do that.

Josh Shanker, Citi.

I'll give you an easy question and a hard question. The easy question is -- the market indicators in the US are down about 20% since the beginning of last quarter. I'm wondering in terms of the DAC charge we saw for the third quarter, would you be waiting to the third quarter of next year before current -- before the market results beginning October 1, 2008 would be incorporated into your analysis?

And the second question, thinking about all the money that you've spent in your hedging for the past few years that we've talked about at great, great length, do you feel that you've gotten anything in terms of protection on your income or protection on your capital from putting that money to work?

Okay, so let me first take the DAC question. We would plan to do a study, as we always do, in the third quarter. So we would plan to do that next third quarter. As you know, if markets would deteriorate, we'd have to look at an unlocked off-quarter.

At this point, we're about half-way to that point, so -- and the markets are down significantly. So we're not looking to that; but you guys can certainly look at the 10-Q and run the numbers in terms of looking at market levels and thinking about the impact.

In terms of the hedging program, I think it's worked as we expected it to work. These are the most extreme conditions I think we've ever seen, and the level that the asset has risen has been quite dramatic. Just in the month of October alone, the asset has -- on the non-reinsured part of it has risen over $2.2 billion. And so that goes directly to help impact -- that goes directly to benefit our statutory surplus position.

So, on a mark-to-market basis when you're marking the liabilities to market and the asset under GAAP, you're seeing some of the slippage. But from a statutory perspective, the whole asset value of the hedge goes directly to benefit DAC.

Let me add one point to Liz's point, Josh, I think she expresses on DAC. There's some information in the 10-Q, but basically, markets have deteriorated substantially from here, so -- for us to have an off-cycle unlock. So, we're not anywhere near that yet. So there's still a lot of room in that from that standpoint.

Dan Johnson, Citadel Investment Group.

I've got a question and a follow-up. The question first -- I remember in a slide presentations sometime ago you walked us through stat reserving requirements for the Life Company under -- I want to say it was 10% and 30% decline markets or 15% and 30% decline markets; maybe that was a year ago or so.

If we did that again today, and used the assumption again of 15% from here or 30% from here, what sort of statutory capital requirements would be created?

This is Liz. One thing I would tell you is that those slides were back at market levels that were much higher than they are today. One of the difficulties in being able to give ranges when you're in the tail already is that as you get farther into the tail, a lot of other factors start to really have a bigger impact -- like currency levels, interest rates, world/global market indices. So, to be able to say what happens if the S&P drops 100 basis points or 15%, what's the impact on your capital margins?

A couple of things -- number one, that capital margin was trying to be a number above the rating agency requirement, and in these kind of market levels, those numbers are swinging. So what I would say is, as we look here today, we feel very adequately capitalized at a level for a AA minus company.

We have had impacts to our statutory capital for sure, because of the VA requirements, which expect you to not only take the market level you're at, but it expects you to then shock it down another 30% to 40%. So you can see why this is a very extreme measure.

As a reminder, that capital call is not cash. So as markets recover, that money would come back in terms of reserve releases or capital releases. But to be able to give a number from this point when you're really in the tail is very -- it's just not practical.

Andrew Kligerman, UBS.

Okay. You know what? I just want to -- before I ask mine, I just want stay with Dan's question. Maybe you could just help us extrapolate a little bit. The market was down 9% in the third quarter and we had extreme volatility. How much excess cap -- I mean, what was the impact on your capital position as a result of that? Just your VA business -- how much was it hit in the quarter? And then I want to go into the questions I was going to ask.

Andrew, it's just difficult -- I mean, obviously, we had an impact on statutory offset by our hedged assets. But we don't -- the numbers are only year-end numbers, so we are always forecasting. We don't do CTE or C3 Phase II calculations at the end of the quarter. It's always a projection of year-end, so that test is a year-end test. And so we have to forecast again what swap spreads, interest rates, volatility levels, et cetera, would be at the end of the year.

What I would say is with markets deteriorated as much as they have since the end of the quarter, it definitely has impacted our capital. We feel well-capitalized today. We feel we can take further market declines, but being able to give a specific number is not possible. Again, it's a year-end projection number.

Edward Spehar, Merrill Lynch.

I guess I want to stay on this too, because, Liz, I guess I don't understand how you can say you feel comfortable with your capital position. And yet you say you can't give us any idea what the number is. I mean, I think at this point, it's impossible to say those two things, in my view.

So, I'm just -- I really want to keep on this and hopefully, we can get some more hard numbers on this. Because I find it very hard to believe that The Hartford doesn't have an idea about what the statutory capital impact is from an equity market decline. And I guess if you don't, it's very hard for us to sort of be comfortable about what the risk profile is in the VA business.

So, I mean, I understand all the factors and I'd appreciate it if you'd just give us a little bit more than just what are all the different inputs that affect the number, and try to get us to some number.

That's a fair question. I mean, obviously these are complicated formulas. So here's what I'll say.

When I talk about how we feel good today it's because I'm looking -- trying to stop the clock today. If I wanted to look at a 30% decline from 9/30 market levels, which was 11.65 on the [SNT], we think that our NAIC risk-based capital number would be in the 300 range. So why am I saying that that's the number that we can kind of look at versus rating agency margins? Well, it's because the rating agency formulas -- there's four them, and as I said in the extreme tail, all of the formulas are very different. And all of these different currencies, et cetera, impact that. Those things also impact [RBC], but I feel we can say something like that -- 300% RBC with a 30% decline.

Just to clarify, it's a year-end calculations, Tom, and -- so assume that the S&P ends up 30% down from quarter end. And that's the result you would get, the 300 RBC. But.

The reason when we talk about capital in the quarter, the impact on actual statutory capital for the quarter via hedging was not that significant. What I think you're really asking is what is the capital impact relating to VA hedging on, for example, rating agencies or the amount of capital you would want to hold. That's where it gets a little bit more difficult. But again, a 30% drop from 9/30 -- we think we'd be in the 300% RBC range. Does that help?

Bob Glasspiegel, Langen McAlenney.

A couple of questions on hedging. How much collateral do you have with Lehman currently regarding sort of in the money positions? That's -- I guess that's the first question and then I have a follow-up.

I believe we have written off all our Lehman stuff, so we don't have any residual. And the last bit of collateral that we had with Lehman, we had transferred that to another counterparty. So we do not have any existing Lehman collaterals, is my best understanding. Is that correct, Greg?

That is correct.

Tom Gallagher, Credit Suisse.

Two quick ones for me. Liz, I guess just to beat a dead horse and go back to the variable annuity-related pressure on capital, and overall, just the capital margin as you see it. So, when you'd preannounced results and announced the capital raise, at that point you had a $3.5 billion capital cushion -- or sorry, capital margin.

If we stopped the clock today, based on where equity market levels are, I can appreciate that you don't want to give an update to that because things are fluid; but how much of that margin gets eaten away by the variable annuity statutory capital requirements, whether it's C3 Phase II or [Carvum]? That's question number one.

And then I guess a question for Greg. Just in terms of your impairment methodology, I just want to understand -- if you will continue to stick with the two-year recoverability test, even as illiquid and as depressed as the fixed income markets are, or whether you're potentially going to ease that rule. Because I would assume, if you stick with that, then more of the CMBS portfolio potentially gets impaired. But maybe you could just comment on that. Thanks.

Greg, you want to take the first one?

Yes, I mean, it's a very good question. I mean I think that's something that we're looking at very closely with the SEC literature and guidance that's coming out there. There's no question that we've seen unprecedented spread widening. And obviously, we are seeing default levels that go well beyond historical levels or any recession that we've seen in the last 30 or 40 years.

We, at the end of September, however, had a very -- the decision we made was based on, at the time, the accounting literature that was out there and our view of the two-year recovery. And as I said in my opening comments, we'd probably deviate a little bit from others who may be looking at the same issue, but we took that view, albeit somewhat conservatively -- in light of some of the stuff that has come out since then. So I think that's something we'll look at this quarter in light of a multitude of factors.

Liz, you want to --?

Yes. In terms of we wanted to look at a 900 market level and I would say all NBA related changes, if you stopped right there, it wouldn't be that material. It's as you start to go down into the lower market levels. So I would say you'd have -- the problem I'm having is the rating agency models are changing, so if I try to look at more of a risk-based capital number, you'd have over -- you'd be in that $2 billion plus range over that.

What's difficult is trying to assess what the rating agencies are really looking at right now. There's a lot of changes that are going on. And that's one of the reasons I'm -- it's more difficult to be able to project a year-end number and even project what the rating agencies are going to do.

Eric Berg, Barclays Capital.

Yes. I'm sorry, but I'm still -- I suspect, like others, am confused in the following sense -- it looks like notwithstanding the favorable activity in the market yesterday, that the S&P is down very significantly in the month of October, whether it's 20% or 22%. Now, how could it be that we've had a 20% decline in equities and this is -- if I understood your last answer correctly -- this is not having a material impact on your regulatory capital, given the increased -- pardon me, yes -- given the increased reserving requirements for variable annuities with guarantees? How is that possible?

Well, it's clearly having an impact. I mean, as you go down into these market levels, the VA, the impact from VA in terms of both the reserving requirements as well as the additional capital you have to hold under C3 Phase II does rise dramatically. There is an offset, of course, with our hedged asset and our reinsurance program, so that certainly helps protect the books. So, as all levels have screeched up dramatically, our hedged asset has also gone up by several billions of dollars.

So I'm not at all suggesting that these markets aren't having an impact on our capital. I'm trying to get at is, we certainly still have -- at a 900 market level, we have additional capital measuring how much above a certain rating agency is difficult. And so, as I said, if we looked at a 30% decline from 9/30 levels, and if I just look at an RBC ratio, because that's something that's a little bit more factual than trying to determine different rating agency models, we'd be at a 300% RBC range.

And the 30% off of 9/30 puts you --

At about an 815 S&P level. (multiple speakers) But again, I'm giving you a little bit of a range there because it depends a bit on what interest rates are and what currencies are, et cetera. So -- but I think that 300% range is something I feel comfortable with.

So, again, it's definitely impacting us; we have some offsets with our hedged assets, with our reinsurance programs. I mean, obviously we have -- we've got $2.5 billion from Alliance, so all those things allow us to be able to make that statement.

Darin Arita, Deutsche Bank.

Two questions. One is going to stick with this capital margin question again, if I may. Could you just walk through how we get from $1.5 billion capital margin at the second quarter of '08 to the $3.5 billion estimate at year-end per the pre-announcement.

And the second question is -- with respect to the GMWB, the hedge breakage there of $133 million, does that include any FAS 157 items in there?

Let me take your second question first. So I think what you're getting at is how much did the recent change in the FAS 157 valuation techniques impact the quarter hedge slippage? And I would say really immaterial. Most of the change in the liability was due to market movements. That would be the first question.

In terms of the second question, trying to figure out back in time where we were at any point in time. I mean, things impact our statutory capital. We've had impairments, we have mark-to-market impacts in terms of some of our asset classes that go to statutory earnings. So, trying to go from the $1.5 billion to $3.5 billion, I mean essentially we've got $2.5 billion in from Alliance, so that clearly gave us some uplift. As well as we've made some decisions, some of these reinsurance efficiency programs that we're doing, already has helped us or will help us by the end of the year. But I think I answered your question.

John Nadel, Sterne, Agee.

Sorry, I'm going to do it too. So maybe thinking about getting at the statutory and the variable annuity issue in the capital cushion in a slightly different way. I was thinking about it this way. So you guys announced the Alliance capital infusion on October 6. And the S&P was at about 1,000. And we've had some (multiple speakers) --

[1160] --

On September 6?

[1150].

[1150].

All of our statements of capital margin at that time were referring to the 9/30 market level, which was [1165] S&P.

Okay. All right. Well, maybe we can think about it slightly differently. So, a couple of the rating -- at least one of the rating agencies, Moody's, I believe -- saw something as they -- as you met with them or as you provided them with some information. They saw something, something important enough for them to put the Life Company on a negative outlook. And it seems to me, at least from afar, important enough for you guys to think about going and talking to Alliance about a capital infusion.

And so -- I don't know, maybe you can help us -- sort of to Ed's point -- help us understand some of the sensitivity here around what potentially they saw. I suspect it had to with the VA capital hits with respect to [Carvum] and C3 Phase II and some of the sensitivity analysis that you've likely provided them with.

But maybe you can help us understand that -- a little bit more clearly as well, so we have a better sense as -- what we need to be looking at that's more market sensitive as supposed to any other sort of data point.

So, John, Ramani here. Let me just take a first shot at it, then I'll turn it over to Liz.

One is the conversation with Alliance was not precipitated by Moody's. So I want to be very clear on that because that's an inference I didn't want to leave investors with.

The second thing is, as far as Moody's are concerned, they're looking at not just annuity reserving issues, they're just looking at GAAP volatility in our earnings and other factors like that, that caused them to consider what they did. And I would urge you to talk to Moody's because I'm very uncomfortable representing Moody's view on this call. So that's the second point I wanted to make.

But going to this specific question where we said at the quarter close, before we got where we preannounced, as we said, at [1165] at the point in time, when the quarter closed, we felt, given our conventional approach to looking at rating agency margins, we said we have $3.5 billion cushion.

Part of the reason you find Liz hedging right now is because rating agencies are in a flux in terms of defining how they look at capital and capital margins, we felt it would be more difficult for us to project year-end based on rating agency capital requirements and that is the reason why we're trying not to do that.

And then she also said, which I just want to recap, which is looking at a quarter at [1165] at 30% from there, we feel that -- and that is talking about an S&P that's somewhere around 815 or so -- we still believe we have adequate capital.

The point, though, is what she is trying to bring out to you all is for us to hinge it on one variable, the S&P, as you are playing around in the tail becomes a lot more tricky now, principally because there are other variables like exchange rates, like interest rates, et cetera, that affect the liability modeling. And that is the reason why we're not trying to give you all a specific number to anchor your conclusions on.

So we are trying to give you a sense from [1165], if you were to have S&P decline 30%, we model that. And if that modeling we think our RBC is modeled around 300%, there is obviously variability depending on all the other variables. And that is the reason why we're trying not to forecast a rating agency margin. It is an important distinction. I'm not trying to dodge a question but that is the reason why we're doing what we're doing.

So, I don't know, Liz, if you wanted to add anything to that? No.

I think you said it well.

Tisha Jackson, Columbia Management.

Thanks for taking the call. I was thinking maybe we could do skin this cat a different way --

Tisha, you're cutting in and out -- could you --?

Okay. Sorry about that. I guess I was still on speaker. I was hoping -- thanks for taking my call, and I was hoping we can maybe skin this cat a different way. If we look at the net present value at this point of what your guarantees are, do you have a sense for where that is? Like what the net present value of -- I mean, I'm assuming that's not -- unless that's the number you gave us, if it was in a present value form, but --

0ne of the important things -- and while Liz is trying to think about that answer -- one thing I wanted to really assert here is these capital calls are not capital like you would see in the property casualty business if you were to have a hurricane; the capital is gone from the system. These are capital calls based on shocking the reserve margins -- or reserve models, I apologize -- by another 30% or so, 30% to 40% from year-end close, and that capital comes back.

And so the economic costs of these annuities in the tail is still nowhere near -- it's -- first of all, the payout is not until the very end until all the asset values get depleted. So it's way out in the tail. And therefore the present value of the economic cost is much, much lower. So I just wanted to be sure --

As Ramani says, it's pretty important that the actual claims are not made for years from now -- 12, 14 years from now in most cases. So I know that you all know this, but that is one of the factors. And the capital can spring back as markets springback as well, and we've modeled that enough to know that those springbacks can be pretty pronounced.

Liz, did you want to --?

Yes, I would just say if you want to think about a present value, you can really look at the liability under FAS 157. That is, in fact, some people would say it is an onerous calculation but it is looking at risk mutual scenarios. It's really discounting the future stream of payments out under the current market conditions, which are extremely onerous right now. So at the end of the third quarter, that liability number was about $2.4 billion.

So that's what happens every quarter, you mark your liability to market value, which is essentially a discounted present value number, again, under risk mutual scenarios. And then you mark your asset, which is your hedged assets to market. And it is the difference between the liability valuation and the asset valuation that gets into those gains and losses.

What ultimately will actually get paid out in terms of real claims is --

Anybody's guess.

Yes. And certainly we believe that this is a pretty onerous conditions to assume that if you took a point in time at 9/30 or even today, that that liability valuation is the ultimate claims cost. That is -- we don't see it that way at all. So we think as markets rebound, that liability is going to come down.

And as importantly, separately is the statutory calculation -- is calculated and Ramani alluded to that. That isn't a present value calculation. That is a kind of looking at the worst 10% under extreme market conditions, because you're taking a current market level and you're shocking it down another 30%. You're also shocking policy holder behavior down. You're assuming people lapse less and they optimize their benefit.

So it is a very extremely test and you have to put the capital up. But once again, once those markets recover, that capital gets released. So it is not a cash call in any sense of the word.

Right. And I think what everyone on the call is struggling with, though is -- it may not be a cash call per se, but does this -- I guess two points -- so I guess after the Alliance announcement, it sounded like you'd have $3.5 billion-ish of excess capital, assuming [1165] market levels.

Correct. Clearly things are really different. And now it's sounding like you think you're going to end the year with somewhere -- and again, I understand that this is -- there is a lot of moving parts, and so this isn't hard and fast. But at 300 RBC.

Remember if we ended the year at [1165] --

Oh, no, no. It was 30% down from [1165] or the 815, then it would be at 300 RBC, which actually sounds to me like you are actually in a capital constrained position in that scenario.

Well, I would remind you of is so we did say the 300 RBC range. That does not include any potential benefits -- for example of captive reinsurance programs, which we are looking at. It also of course does not include that we access our continued capital facility. And there is also another variety of options that we are looking at to reduce the capital that would be required. We are just saying as we sit here today, (multiple speakers) the benefit of any of those in because we have to make sure they all work and that it would be a 300% range. We still think that is a very well capitalized company.

(multiple speakers) Right. But I mean if you look at your stock right now basically the market is saying you need to raise capital -- or that is what the fear is, is that you need to raise more capital and that it's going to be extremely dilutive to existing shareholders. And so I think what we are all struggling with is -- how comfortable can we be that you're not going to come back to the trough, basically?

Well, this is a tough question -- we have no idea how to answer that question other than to say we will do what we believe at all times to be right from a shareholder perspective. I think what Liz is saying is even at 815 or so, our RBC is around 300 -- to tell you the honest truth, that is shocking it quite a bit -- I mean [1165] to 815 is shocking quite a bit.

And I think at that to have capital RBC of 300 feels to me like the system is able to withstand a fair amount of market retrenchment. But I honestly can't categorically sit here and say we will or we won't -- you would not want me to say something like that. (multiple speakers) Right? (multiple speakers)

No, I know. I mean I just think that is what we are all struggling with here.

I think also like I said, in Canada, they have already relaxed the rules -- there's a lot of things underway although we can't count on them right now, but there's a lot of things underway that could put some capital relief on these numbers. Because again I think that when you're down at the tail with market declines unprecedented and then you are shocking it down 30%, there is a possibility that we could see some relief. Which is another thing that we have in our quiver, again, I can't bank on it at this point.

Alain Karaoglan, Banc of America.

Ramani, you mentioned that you might be retooling some of the products on the VA business. I assume that is with an idea of either decreasing the risk or increasing the return on capital, given how [year] is capital. And maybe could you comment on what would the intent be and why wouldn't you do the same thing on the property casualty side, if the cost of capital is so much -- is a lot higher today, much more difficult to get, shouldn't you look at getting higher ROEs or being more cautious on that?

And then the other question relates -- want to make sure from a shares outstanding point of view, Liz, for 2009, what would be the shares on a fully diluted basis because the capital injection came at the end of -- in the fourth quarter as opposed to full year?

It's Tom and I'm going to start the first part of the question with and then ask Neal and John to quickly chime in and then we will go over to Liz on the other.

So first of all, on property casualty, we are pretty darn happy with our ROEs, even through the tough cycle. So I am real pleased with the way that business has performed and the way this team has managed it.

On the VA, we just think it is the right thing to do at this point, that we don't think that this is the norm. But we think volatility is going to be up for awhile and we have to look at retooling the product which will mean price and product features.

So, Neal and John, why don't you quickly add to that.

Well, I guess I would just add that as Tom said on the PC side, we're still very focused on writing business with a pricing discipline that delivers strong ROEs, still in the 18% range for the quarter and not taking our eye off that ball.

So there is no question that that's something that we will continue to be focused on. Obviously we want to get that right balance. But we feel like we are delivering very strong business with a lot of pricing discipline in just the sort of way that would deliver that ROE strength.

And I would just add on the annuity product side, I think for some time now, we had been at the lower end of the risk spectrum relative to product. We are very comfortable with that position. We think it has served us well, particularly in this difficult environment.

But we are going to go through a process of rethinking everything relative to the VA product, which of course includes price and are we charging the right price for these products? It's difficult to know what the exact right price is because the markets are so volatile and I don't think you can price to the worst experience the markets have seen. But we've got to come up with what we think is a sustainable price over time and put that out there.

And we have also got to look at the product features and which ones are really important to the client, and which ones are the risk drivers and see what changes we want to make that. But we are pleased that we haven't really jumped into the competition and tried to match everybody over the last couple of years. I think that has served us well and we will continue to take that risk discipline into our rethinking as we go into '09.

In terms of modeling for diluted earnings per share, I mean if we look -- try and estimate the diluted earnings per share for the fourth quarter, that would be about 329 million shares. When you try to go into the next year, you kind of have to estimate what the stock price would be because it impacts the dilution under the treasury stock method. So I would say it would be something north of 328 million. But I can't give you an exact number. But I would use that for modeling purposes and I think that gets you essentially there.

Andrew Kligerman, UBS.

Great, thank you. Operator, please don't cut me off. It seems as both me and -- I and probably many of my colleagues were cut off very quickly. So if I have a follow-up, please do not cut me off.

Now, with respect to my questions, what I really want to understand and you are talking about capital adequacy, you still have three rating agencies despite the capital raise that have kept your financial strength ratings on the insurance subsidiaries of the Life division at either negative outlook or negative watch.

So, the first part -- the first question is with regard to doing this offering at all, why didn't you offer it to the public? I want to understand why you didn't offer this to the public. I feel like there is something that is not being provided here. What am I missing? Or what can we be missing? And I have a follow-up, okay?

Sure, Andrew. Absolutely. Operator, make sure Andrew has an opportunity to ask a follow-on question.

Andrew, we were looking into a market that was extremely volatile. We had not closed the third quarter and we'd have had to have closed the third quarter. If you look at us now, we are talking about October 29th. That's when we would have had to have done this meeting -- waited till then before we confirmed all our numbers, gotten audited numbers, et cetera, et cetera.

And as I talked to our lawyers and others in terms of whether we can do this without audited numbers going public, the discomfort in doing all of that was extremely high. So I sought to use an approach that I felt was swift because I believed the perception that we didn't have enough capital was every bit as important to tackle immediately as well as the substance of what might happen with respect to capital opportunities out here, in terms of the market's receptivity to provide capital. So that is the reason why we did that. I made a judgment call on that, given what I just told you. And that judgment call is what resulted in the approach we took.

It really -- going out without fully audited statements, et cetera, in an environment like this becomes very, very challenging when we are sharing the kinds of numbers we are with you, and that is one reason why I decided to do it the way we did it.

Okay, fair enough. And then just following up, I want to just retrace some steps. On June 10, Hartford announced a $500 million accelerated share repurchase. And current with that timing, Ramani, there were a lot of financial institutions that had discontinued their buybacks. They were having extreme difficulty; some were going under.

And in the second quarter and early into the third, you bought a total of about $1 billion of stock. So I want to understand what was being thought about back on June 10? What was missed at that time that you later realized?

Andrew, very simple -- I honestly missed -- and this is a very clear answer to you -- I honestly missed the degree to which markets have cratered in terms of equity markets, credit spreads widening -- all of which happened in an accelerated way in September/October. I did not see that.

We debated that internally. Liz and I talked extensively about whether we should buy back shares at that time. And I felt when we did the share repurchase, we were doing it in an environment where investors were constantly worried about the fact that we would be sitting on excess capital and not responding to investor concerns when our stock was somewhat under pressure. So that was to respond to that. You can say at that point in time -- how come you guy didn't see what was about to happen? And honestly we didn't see that -- didn't see the degree to which markets got to where they are today.

And you feel good going forward, that with a new Chief Risk Officer, you'll have a better handle going forward?

Well, I want to be very clear -- forecasting in these kinds of markets, even if I have the smartest Risk Officer, is a great challenge, but I am very proud of the Risk Officer we have in place, who certainly is looking at all aspects of risk, including the risk we're taking on the investment side of the House. And so we are comfortable that we're going to do this very rigorously.

But Andrew, if I were to go back and say would a Risk Officer have seen what happened in September/October, I think I still believe -- and I may be wrong; you know, I'm willing to be called as not being clear on this -- but I do believe sitting there and for us to have said we would be in markets that go down as far as 900 and credit spreads widening so much, candidly I don't know if we could have called that then.

Because if we could have, we should have made a whole bunch of different decisions -- not just capital raising. We should have done a whole bunch of different decisions. So we did not see that magnitude of change.

Yes. Well, Ramani, thanks a lot for your candor. I appreciate it.

Terry Shu, Pioneer Investments.

I'm not going to ask the capital question but maybe it is all related. Earlier, I think, Liz, you talked about in deriving your fair value modeling policy holder behavior and you said that you had applied very stringent conditions that -- not stringent, but you had shocked it with much higher withdrawal assumptions and such.

Can you share some of that with us to the extent you can and what recent experience has been? I would think given the unprecedented volatility in the markets and what the markets have done, that their might be a significant change in policy holder behavior. What is currently built into your pricing? And when you say that you test it, how far do you take that?

Okay, Terry, so, let me try and take that in steps. So you want to separate GAAP with stat and actual experience versus what we have to shock. So actually through these markets, we have seen that the policy holder experience has been very consistent with what we might expect and what we price in our products.

I wouldn't say that there is any material difference there. And again, when we think of policy holder behavior, it's everything from asset allocation to lapses to when someone can reset in our principal first product, et cetera. So I would say again, experience is very consistent with what we priced.

(multiple speakers) Are you concerned that there could be a delayed kind behavioral change because this all happened so suddenly?

Well, it's interesting when you say what could happen -- why don't I finish and then I'll answer that question. Because under FAS 157, we not only have to use prudent estimates of policy holder behavior, and again, under risk mutual scenario, which is very low interest rate levels, when you are in the tail, you have to shock that policy holder behavior down. So you have to take your normal estimates and then you have assume that policy holders do optimize their benefit, which would mean they would not lapse, for example. They would move their money into more equities. So that is in the valuation.

If your question is are we worried that people will in fact do that, well, the number one thing is it's sort of already in the FAS 157 to some degree. And then the second thing is, for example, if they started to lapse their policies, that would actually help from a liability standpoint, right, because the guarantee would now be erased.

Obviously, that hurts, though, if markets recover, now we have less policies and we have less future profitability. So it's sometimes hard to decide -- if you have to decide what the impact is on the guarantee for that particular policy holder behavior versus what it is for the long-term in force book of the business.

For statutory purposes, once again, you already have -- you have to take prudent and best estimates, and once again, shock those in the tail. So you're shocking policy holder behavior down to some point, you are assuming extraordinarily low lapse levels, which we have never experienced before. And so far, with markets declined this far, we have not experienced that. (multiple speakers)

We feel very conservative in our assumptions and feel very good that they would encompass policy holder behavior that's much worse than what we have seen or witnessed.

Right. How about usage, though, of the withdrawal benefit? Is that not an important variable?

Well, in terms of us seeing whether or not they are withdrawing -- they take their 5% or 6%; again, it is within -- it's fairly consistent with what we've priced for.

Okay. Is that -- is it very sensitive to that assumption if the usage rate goes up a lot?

That would be definitely something if 100% of the policy holders, for example, decided to start withdrawing that tomorrow, that definitely would have an impact. But we are already assuming a fairly high withdrawal rate and again, it's the policy holder behavior is consistent. I'm going to ask John to add some color to that.

Yes, Terry, just to be clear, we have a dynamic modeling process that assumes that the deeper in the money a particular client's policy is, the more they exercise all of the benefits. One of the benefits being to stay with the policy because they are in the money. Another benefit to be to take more income to exercise the guaranteed income that they have.

And we still believe that those policy assumptions that we've built in, the dynamic assumptions that we've built in the models, are still on the conservative end of what we would expect. We've seen nothing in policy holder behavior to date that would cause us to feel any differently than that. And it's well within our expectations at this point.

It is clearly something we're going to monitor. We monitor it every day. And so it's going to be something that we continue to monitor as we go forward, and if we see a change in that, then you would see a change in how we do our FAS 157 valuation.

Is it similar, the sensitivity, both withdrawal utilizing the withdrawal benefit as well as the last rate? Or are they very different? Is one much more important than the other?

I can't say that one is much more important than the other. They are both important elements of the model, so --

Sorry, John. Terry, it's Tom. Just to maybe add some color to this because I really don't think there is a material risk that policy holder behavior is going to change dramatically. We have been selling this product since '02. And we have seen just about every season you could imagine since then. And behavior has stayed within reasonable boundaries. So I really don't think this is a huge probability.

Okay, one other quick question, on your reinsurance program -- your existing reinsurance program you have -- you show your reinsurance recoverables for the US GMWB. Can you elaborate a bit more on your reinsurance programs? Is there any risk that that can't be continued?

And you said that you were looking at captive reinsurance alternatives, maybe elaborate a bit more on that.

Well, it's a lifetime guarantee for the policies that are already reinsured.

Right. So there is no risk whatsoever?

It's a lifetime reinsurance program.

Yes. And again, we obviously work with high quality reinsurers, so we feel good about that protection -- we feel very good about that protection.

Operator, next question?

Mark Finkelstein, FPK.

Just a very, very quick question. Has the Moody's negative outlook -- and I guess just general concerns over capital -- had any impact on your distribution partners or your ability to participate meaningfully on the shelves that you're currently on?

I'll take that. Yes, Mark, I'll start and then Neal and others may join in. First of all, it has not affected our distribution access at all. So we are still selling in all the places we've historically been selling. We're very pleased with the -- a continued opportunity that we have at our various distribution partners.

We do, as you would imagine, get questions in this environment, just like I think every company gets questions in this environment. And we are fielding those and it has not had a meaningful impact on our sales results.

Mark, this is Neal. On the PNC side, not at all. Our partnerships are strong and if anything, our flows are up in October -- really across our segments. So, no effect.

Okay, I'll leave it at that. Thank you.

Jeff Schuman, KBW.

I'm going to try to squeeze a couple of things in here but hopefully a couple of them are pretty quick. First of all, you've talked a few times about this scenario of the S&P going to 815 and the RBC at 300. I was wondering, behind that, what does that assume in terms of actually distributing the Alliance capital? Did all this go to the Life company? Or how much of it would be supporting that 300?

Second question -- is there some I guess sort of simple straightforward reason why you did not have a big FAS 157 non-performance risk factor impact when other companies did?

And then the third thing, on the [three win], can you review just quickly for us again what the two customer options are? And which one is most likely to be taken? And whether there are additional customers still pending out there that could potentially breach some level and create an additional problem? Thanks.

Okay, so the first question -- I'm going to turn the last one over to John -- but the first question from Alliance, when we're looking at that level -- and again, we are also including additional impairments; we're not expecting that right now, but it's for the market keeps deteriorating, we have to make some assumption about credit spreads continuing to widen, so there's other impacts on our capital other than just variable annuities. But we will be looking at utilizing a majority of that Alliance infusion.

From a credit -- from the non-performance risk on the FAS 157 adjustment, you may recall when we put in this adjustment in the first quarter of '08, that we had a very small adjustment for this of about $4 million. We did not use our own credit default swap for that determination. Rather we looked at what we would consider the probability of default that we would default on our obligation to our policy holders. Obviously that is very low, because we honor our policy holders. So we looked at kind of a rating agency model, how they would view the probability of default on actually paying out to those policy holders. And since that probability was very low, it resulted in a really an immaterial impact.

And so when you go, when you kind of move forward into today's market or even looking at further deterioration in the markets, that number would not change.

So the third question, John, has to do with the three wins -- the election of options. Do you have a sense as to how that's progressing?

Yes. So on three wins, in effect, how this product worked was it had an 80% stop on it. So if the policy was down 80%, you got shifted out of the variable annuity subaccounts and into a fixed account, and then you had in option of either taking your money out at 80% or getting your principle back over 15 years in an annuity payout.

At this point, about 95% of the policies have been stopped out because the market has declined so dramatically. And about two-thirds are taking the annuity payout option and one-third is taking the cash out option.

Dan Johnson, Citadel Investment Group.

The 300 RBC -- is that for -- is that like a corporation-wide RBC? Or are we just talking particularly on the Life company? And where would that number have been I guess maybe at the end of 2007? Thank you very much.

Yes, Dan. So the end of 2007, that number was well in excess of 400% -- and we are talking about the Life company.

I'd just like to make another comment on this impact on capital and the velocity of things that have changed; I think this relates to several of everyone's questions. Just as a reminder, in the third quarter alone, we took $1.7 billion impact into our statutory capital for impairments. So I know we've spent a lot of time talking about VA, but I think it was -- the combination of the speed at which credit spreads widened and the impact on our statutory capital from that, coupled with the impact of VA has obviously impacted our capital.

But as we sat back in that kind of June timeframe when Ramani was talking about, we had very healthy excess margins at that time. But we've absorbed a significant equity market decline coupled with significant charges to our capital due to credit spreads widening and impairments.

Josh Smith, TIAA-CREF.

Close enough. The 300 RBC -- most people have targeted 350 as sort of the AA range. What is the numerator and the denominator on that 300? And would you be willing to take a ratings downgrade if it was at 300 versus 350? And are there any implications of a downgrade in terms of triggers that would set off any kind of redemptions or anything of that nature?

Let me first talk to the second half of the question -- would there be an impact of a ratings downgrade? There is some businesses that will get impacted; the institutional business would. But I would say for instance on the property casualty side, there are more property casualty companies at an A rating rather than an AA rating; there are few at an AA rating. So, my sense is from a pure competitiveness perspective, I think the relative --

No, I was just speaking specifically the Life company, but go ahead.

On the Life company side, the institution business certainly, Josh, that would be an impact and --

But it would be more of a sales impact than it would be any sort of policy holder optionality impact. I just want to be clear on that point.

Thank you, John. And the last thing, the numerator and the denominator, Josh, that would be -- I mean, now you're talking about variables that are both volatile in the numerator and the denominator. And I'd hesitate to give you that kind of answer because I think you're starting to get the numbers that are all estimates. And at some point we start to worry that we're creating more noise than we need --

No, I understand, that's fine. But to Jeff's question, is any of the Alliance contribution -- is it all that down to Life company? Or would some of that be available to shore up if [distressed start through the] 300 RBC happened?

You know, I would say I'm trying to be conservative here, so I am looking at all of it. But again, if credit -- if we didn't have further deterioration in credits, if I didn't assume some additional impairments, et cetera, then I wouldn't have to use it all. So there is a lot of moving pieces, as Ramani said. We calculate it in different ways -- what if this happened, that happened?

No, I mean, when you say that 300 -- I'm sorry, this is -- I'm just confused on this point. If that 300 -- does that assume that all the Alliance contribution is already down there? Or is that before you could put some down there?

It assumes -- well, it certainly doesn't assume all of the Alliance, to the extent we have to hold money at the holding company for dividends and other requirements, but it assumes that we utilize really all excess capacity and move it down to the Life company.

What I was trying to get at is if for some reason the S&P was down, but credit -- as credit spreads narrowed and we didn't have further impairments, then it would be better than that. So there's lots of moving pieces. But yes, I am assuming that the Alliance funds are utilized.

Okay, and then just finally, why isn't 350 the target? Is it because there's support from the parent company or -- other life companies have talked about a 350 target.

I think, Josh, this again goes to I think Tisha's question. At some point, we will -- we have not made any decisions on that. I want to be very clear because I -- but at the same time, I think we will constantly remind ourselves that we have a balancing act.

We've got three things to consider -- how our competitive position stacks up; how we look at it from a shareholder perspective; and third, rating agency margins are all a function of each individual rating agency. So we will take all three into account. I have not made a decision on that issue. But we are not automatically assuming that it will be met with a capital raise at 350. So I just want to be very clear on that.

Edward Spehar, Merrill Lynch.

I just wanted to make sure -- I feel like I'm still confused. Liz, I thought you said that if you had that shock scenario or the down 30 from 930, that maybe you'd have a $2 billion capital margin to it? Did you say that? Or did I not hear that? And I've got a follow-up, so hopefully you don't go to the next question yet.

No, we were talking about -- that was a question that someone talked about market levels today -- not shock down 30% from the end of the year.

From the end of the quarter.

The S&P is above 900 right now. The numbers that I am talking about with a risk-based capital in the 300% range was looking at an S&P of 815 and also assuming a variety of other factors, including like I said, some further deterioration in the credit market.

I guess the thing that seems to be hard to understand here is that you guys have always talked about modeling tail events and early on, you gave us very detailed analysis of different outcomes for the VA book. And I guess you put all that together and you decided initially that it was appropriate to have a $1 billion -- $1.5 billion capital margin or whatever we had.

And then you raise money and you say you're at $3.5 billion. The market goes down 20%, the $3.5 billion goes to $2 billion. You're saying if the market goes down another 10%, it sounds to me like you're saying you don't have anything.

I mean, I know we're down a lot but 10% from here isn't like a -- I mean, that's a day -- that's a week in the S&P the way things have been going potentially. So I mean, I guess I just don't understand the level of capital volatility here. How could we not have seen this?

I'm not asking you to forecast this occurring in 2008. I'm saying how could we not have seen this in our modeling when we are modeling tail event scenarios? We know all these things about shocking the capital when we have the tail, so I'm just curious why we didn't see this.

A couple of thoughts. One is, you're talking about how could we not have seen it, say, going back to the year end '07, is that what you mean?

I just mean see it as a possibility; not see it as a forecast, but see it as a possibility. I mean, we have had markets go down 30%, 40%, 50%. Right? We had from peak to trough in the NASDAQ, we went down 75% earlier this decade. So I mean it's not like these things don't happen.

Right. Not across a balanced portfolio, Ed. This is one of the most severe markets in terms of what has happened year-to-date and modeling at 800. Most of our models do look at a variety of things including what happens in the tail. But we also have seen -- one of the things that we did not see to the degree that it has happened is the remarkable shifts in credit spreads.

The third thing that we have not -- we did not recognize or have not seen as the degree to which our concentration in the -- what do you call it, real estate sector through multiple sources, meaning CMBS, RMBS, as well as the financials is the other piece.

So there were several other variables that interacted with this to create the kind of statutory capital strain. So I feel like an intersection of variables that obviously were not encompassed to the degree that we are facing today.

But, Ramani, I guess just what we're talking about here in terms of the market at 900 and something to saying we've got a $2 billion margin to saying the market down at 815; you know, a 300% RBC with all the Alliance money accounted for, suggests no margin and in fact, it suggests that at least that there's no margin.

And so I'm just focusing on the equity piece. We did see this kind of move back earlier in the decade in terms of peak to trough for the S&P, so I mean -- or worse, I think. So again, I mean I understand this is an unprecedented environment, but that's what tail events are supposed to be.

I agree. But as far as '01 to '02 year-end, I don't think we saw it. But you are absolutely right -- peak to trough, we did see the S&P go to July of, I think 2002, where it declined dramatically.

But going back, the degree of impairments that we have taken, Ed, and the degree to which spreads have widened, are two very important additional factors that affected all of this change. So that is -- those are two other variables that have caused some of this.

And what we're saying is at 800, including the anticipation that if markets go down further, there is a likelihood that there might be more impairments; I'm not saying that there will be more impairments, so we have factored all of that in the analysis and we're making a point estimate on that. That is really what we're trying to do.

Ed, let me clarify -- I think -- I'm not sure the $2 billion might have been trying to estimate, you know, a rating agency today. And again, I don't want to forecast what rating agencies are going to do going forward or what it's going to be at year-end. But if you're looking -- I think what you're saying is how could it drop off so much at 800 or 815?

I gave a range, so it was a 300% range at 800; you'd probably be in the 400 plus range at 900. So it definitely gets more convex when you go farther into the tail. And again, I want to just advise you that's because you're sitting there at an 800 or 815 S&P level and you have to shock it down 30% more; you're talking about an extraordinary decline from [1468] at the end of 12/31/07.

So there is a lot of convexity in that tail. I don't exactly remember the $2 billion I thought was relating to a rating agency, which I was trying to avoid. So, let's just stick with RBC numbers 300% range in that 800 to 815 and [well about] 400% in that 900 range.

If you shock at 800, if you have to shock another 30%, that's another 240 points off. That is sort of like the way that [a CD] reserving calculations work.

And again, we are taking -- we are looking at a variety of opportunities, like I said with that captive reinsurance, I think, Terry, you had asked about that. I don't know if we answered you. That's just -- we're looking and certainly working -- we would be working with the rating agencies to see how they would look through that, but there are some potential efficient ways to reduce your capital requirements with captive reinsurance. So that would be a plus to those numbers if that would work.

Operator, we are approaching 6:30, so we should take one last question. I don't mean to drag this call out because it is pretty late in the day. And so if you will, could you tee up our last question for us, Operator?

Yes, sir. Your final question comes from the line of John Nadel with Sterne, Agee.

Back in -- and thanks for going a little bit longer tonight. I just want to -- just to tie down a couple of quick numbers. So, the 300% RBC ratio, that estimate was based on -- that was based on the market going down to the 815 level, that's sort of the 30% down from the [1165]? Was that sort of -- do I have that right?

Yes.

Okay. What's the starting point if we are at [1165]? What would the risk-based capital ratio be there?

It would be north of 360 or so.

No, it would be north of 400. But what happens is we don't move money from the holding company down to the Life company, you know (multiple speakers) --

Every move in the market, understood.

Yes, so you're looking at an RBC ratio that is related to the life companies. So some of it depends on how much money you have to move down. Clearly at higher levels, we can keep a lot more at the holding company and not have to push it down and still be well above (multiple speakers) --

The rating agency targets, understood. The $1.7 billion of statutory impairments in the third quarter that you mentioned earlier, Liz, was that all in the Life company? Or was that a combination of both the Life and PNC?

No, it was both a combination of Life and PNC.

Okay. Do you have the split?

I don't have it.

Okay. And then the last question was just to go back to the commentary sort of early on, about taking a closer look at the variable annuity business, thinking about retooling, perhaps even repricing. Maybe it's a little bit too speculative and if so, you can just say so but -- should we expect that there would be anything to -- any sort of consideration around repricing with respect to the in force? Or is that a prospective for a new business consideration?

We have the option to do some in force increases, which are fully under consideration as well. Some of them are tied to hire new business for the same product line charges. But John, we're going to definitely look at that as well.

Okay.

Just getting back to your question on the stat impairments relative to Life and PC -- it is about two-thirds/one-thirds [about], $1.1 billion or so was in Life and the remainder was in PNC.

Terrific. Thank you very much. Very helpful. Thanks.

Well, I want to bring this call to a close. I first of all thank you all and I hope we have done a good job of answering your questions. I know the IR organization will be available for additional queues. One of the reasons we advanced this call to the evening before is two reasons -- one is our call was sandwiched between two others and we wanted to give you the opportunity to have time. And the second thing is we know our IR team will be available. And given the complexity of issues, we thought it would be better if we had an opportunity to talk to you directly.

So I hope this was helpful. And we look forward to continued conversations with investors. Thank you again for joining us today.

Ladies and gentlemen, this concludes today's conference. You may now disconnect your lines.