Hartford Insurance Group Inc (HIG) 2011 Q1 法說會逐字稿

Good morning. My name is Tierra and I will be your conference operator today. At this time, I would like to welcome everyone to the Hartford Financial Services Group Inc. first-quarter 2011 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). I would now like to turn the conference call over to your host, Mr. Rick Costello. Sir, you may begin.

Thank you, Tierra. Good morning and thank you for joining us for The Hartford's first-quarter 2011 conference call. The earnings release and financial supplement were issued yesterday, and the slide presentation for today's call is available on the company's website. Chief Executive Officer, Liam McGee and Chief Financial Officer, Chris Swift, will provide prepared remarks this morning, and we will finish with Q&A. Also participating on today's call are Doug Elliot, President of Commercial Markets; Andy Pinkes who served as President of Commercial Markets through last month; Dave Levenson, President of Wealth Management; Andy Napoli, President of Consumer Markets; Greg McGreevey, Chief Investment Officer; Liz Zlatkus, Chief Risk Officer; and Alan Kreczko, General Counsel.

Turning to slide 2 of the presentation, 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 yesterday; our quarterly report on Form 10-Q for the first quarter of 2011; our 2010 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.

Today's discussion 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, including reconciliations to the most directly comparable GAAP measures is provided in the Investor Financial Supplement for the first quarter of 2011 and in the press release we issued yesterday, both of which can be found on The Hartford's website.

Now I will hand the call over to The Hartford's Chairman, President, and CEO, Liam McGee.

Thank you, Rick. Good morning, everyone, and thank you for joining us.

Before I get started, I really want to welcome Doug Elliot to The Hartford. Doug joined us at the beginning of April as President of Commercial Markets, and as you know, he was most recently with Hartford Steam Boiler, where he was President and Chief Executive Officer.

Now as you all know, Doug has a strong and broad P&C industry background. He ran the commercial business at Travelers several years back and has great relationships with the agent and broker community. He's off to a fast start, and we're really excited to have him at The Hartford.

I also want to thank Andy Pinkes and the entire Commercial Markets team for continuing to deliver solid results for the last six months.

The Hartford reported another strong quarter last evening, building on our solid momentum in 2010. In the first quarter, net income increased 60% year over year to $511 million, or $1.01 per diluted share. Core earnings were $588 million or $1.16 per diluted share, an 8% year-over-year increase.

We are pleased with the progress the company is making. As our results over the past five quarters demonstrate, we're building a track record of consistent performance from both an operational and financial perspective. This is particularly noteworthy, given the quarter's tragic events in Japan. Our thoughts and prayers obviously remain with the Japanese people. Our 200+ employees in Japan and their families are safe, and our team there is doing a tremendous job serving our customers, and I thank them for their dedication.

Importantly, even at the worst of the market's reaction to the crisis in Japan, our hedging programs performed well and as designed. Previously, the company did not have the tools needed to dynamically manage the various market exposures in Japan on a daily basis. We have completed the development of these tools and they were effective during the market volatility that followed the earthquake. I'm pleased with the progress the team has made on developing a more comprehensive tail hedge for Japan.

The tail hedge will limit The Hartford's downside risk under severe capital market conditions, while preserving some of the upside should markets improve. The tail hedge will take advantage of the company's existing macro hedge positions, and the implementation cost will be reasonable. We remain very confident that the risk in Japan is manageable.

Our Commercial P&C business had a very good first quarter. We are benefiting from the Hartford's competitive advantages in underwriting, product and distribution, as well as increasing US business activity. P&C Commercial written premiums grew 9% which was better than we expected and was driven by strong retention and improved renewal written pricing, combined with economic exposure increases.

We also continue to see strong results from the integration of our Group Benefits and P&C Commercial sales teams. Their joint sales efforts generated more than $40 million of incremental premium in the first quarter.

Now Chris will talk in more -- in detail about our GBD performance, which remains challenged, but our experience has been similar to the broader industry trends.

In Consumer Markets, the team is focused on its strategy of profitably growing AARP, adding new profitable affinity partners, and repositioning the agency business to a more profitable target customer.

Disciplined pricing and underwriting are driving improvement in the current accident-year combined ratio, and we're pleased with this outcome. But on the other hand, the resulting impact of the top line, frankly, was larger than we expected. Chris will walk you through the drivers and our plan to address the decline.

We are in very active discussions with several affinity partners and plan on signing at least one additional new partner in the second quarter. We have also launched our marketing outreach to members of the American Kennel Club, an affinity partner we announced last quarter. Including AKC, we expect to have the ability to market to more than 5 million new affinity members by the end of the second quarter. Our goal is to generate about $200 million in written premium in 2013 through new affinity partnerships.

Now before I turn to Wealth Management, I want to address the devastating storm activity we have seen in April. Our claims teams are on the ground working with customers. Based on the level of storm activity we have already seen, catastrophe losses in the second quarter may exceed last year's second quarter total of about $200 million.

In Wealth Management, retirement plans, non-proprietary mutual funds and life insurance reported double-digit sales growth. Our strategy of combining innovative product development with a focus on broadening distribution is generating good results.

In product innovation, we recently added the life industry's first longevity rider, which allows policyholders to begin receiving payments at age 90. So in conjunction with our popular life access rider we can now offer protection against all of the customer's major concerns -- premature death, getting sick or outliving one's assets.

The team is also working diligently towards the launch of the next offerings in our suite of variable annuity products. We were optimistic that we would be able to go to market as soon as this week, but our launch was delayed. The innovative nature of the new product features has lead to extended conversations with regulators which are ongoing.

We are committed to the annuity business and to developing a suite of products that offer attractive benefits for consumers with an appropriate risk/return profile for The Hartford.

Since David Levenson took leadership of Wealth Management in July, the team has been investing in the annuity business, adding top talent, spending time with distribution, and revitalizing the product development efforts. And I'm excited about our pipeline of potential new products.

So we are executing on the strategy we outlined last April and are operating with a much improved investment portfolio and capital position. In the first quarter, we took an important capital management action by doubling the dividend, and since the first of the year, we have been pleased to see three rating agencies upgrade our outlook. We are committed to prudent capital management. We are evaluating potential capital management actions and are beginning to have discussions with our key constituencies.

In an environment of global financial and political uncertainty, the first quarter's results are a good start to the year. The team and I are focused on executing the strategy with the goal of delivering sustained profitable growth.

I will now turn the call over to Chris. Chris?

Thank you, Liam. Good morning, everyone. Let's begin on slide 4. As Liam mentioned, we feel very good about our first-quarter results. Net income was up strongly over prior year at $511 million or $1.01 per diluted share. Core earnings were $588 million, or $1.16 per diluted share.

At the end of the first quarter, book value per share was $45.93. This was up 18% over prior year and 3% during the quarter. Diluted book value per share, excluding AOCI, continued to climb, up 2% in the first quarter to $43.09. Core earnings return on equity, excluding AOCI, for the trailing 12 months, was 9.1%.

Now let's move to slide 5 to discuss two of our key financial metrics, adjusted core earnings and the expense efficiency ratio.

Adjusted core earnings were $494 million, a 9% increase over the first quarter of 2010. This calculation excludes two first-quarter benefits, a DAC unlock of $61 million; strong growth in US equity market; and yen weakening more than offset the decline in Japan equities. In property and casualty, net prior-year reserve releases of $33 million.

Our strong first-quarter results benefited from partnership returns, healthy equity markets, and better than expected top-line growth in P&C Commercial. We're also seeing strong margin expansion in Consumer Markets, reflecting the pricing action we have taken. This was offset somewhat by higher non-cat weather in both consumer and commercial lines and increased loss cost in GBD.

Turning to the expense ratio, we've restated the 2009 measure to reflect primarily the completion of the sale of Specialty Risk Services, The Hartford's third-party claims administrator. Due to the nature of the TPA business, SRS operated with a relatively high expense ratio. So the sale lowers The Hartford's expense ratio, but without the corresponding bottom-line impact. The new restated baseline for 2009 is 18.5%.

A significant number of expense projects are underway at the company. We're implementing over $200 million in run rate expense reductions, which will contribute to achieving our goal by the end of 2012.

Now, let's move to a more detailed discussion of our business results, beginning with Commercial Markets on slide 6.

P&C Commercial lines performed well in the quarter with written premiums up 9%. This was the third consecutive quarter of written premium increases. We saw economic exposure growth and improving pricing in the marketplace. Our standard commercial renewal price increases were 3%, up from 1% in each of the quarters in 2010. Retention was strong across standard commercial businesses. New business levels were up modestly, reflecting continued underwriting discipline.

In terms of profitability, current accident-year cat losses were 3 points on the combined ratio. The primary driver was winter storm activity. P&C commercial reported a 94.9% ex-cat current accident year combined ratio. This reflects elevated non-cat property losses as well as underlying losses that were slightly higher than earned pricing increases.

Pricing and loss cost trends remain within our expectations. As a result, we are maintaining our full-year combined ratio guidance.

In small commercial, we grew policy count by 5% over prior year while achieving targeted rate increases. This reflects our outstanding market position, pricing model sophistication, and new product introductions. In middle market, we had solid retentions while exposure growth was also positive.

Pricing in middle market turned positive in the first quarter with 2 points of rate on renewal pricing. New business premiums were off 6% year over year. We are maintaining our full-year written premium growth guidance of 3% to 6%. We are encouraged by increasing pricing and favorable exposure growth we saw in the first quarter. To the extent that these trends are sustained, we would expect to be near the top of our full-year guidance range.

The Group Benefits business remains extremely competitive. Fully insured premiums declined 2% year over year, and first-quarter sales were down 18%. We continued to exercise the appropriate pricing discipline on both new and renewal business. Elevated claim incidences and long-term disability again impacted the bottom line. We are taking selective rate actions on renewals, zeroing in on the accounts that need price increases. As the economy continues to improve and our pricing actions earn in, we expect that loss ratio to improve. This will take time, and the loss ratio will likely remain in the high 70's through this year.

In summary, it was a strong quarter for Commercial Markets with P&C Commercial lines reporting 9% written premium growth and solid underwriting profitability. The Hartford's competitive advantages in product, pricing sophistication and distribution continue to drive disciplined growth.

Now let's turn to slide 7 for Consumer Markets. We continue to improve profitability in Consumer Markets by increasing pricing and refocusing our book on targeted customer segments. We saw an improvement in first-quarter ex-cat ex-prior-year combined ratio, which is evidence we're on the right track.

On the top line, our pricing increases continue to impact written premiums. Competition remains intense and with the economy in its current state, there is greater price sensitivity among consumers. In the first quarter, written premiums declined 6%. New business levels were soft, and retention was down 2% year over year.

We are taking a number of steps to improve new business flow. We are increasing marketing efforts in the most productive regions, refining rate actions, and streamlining the underwriting and sales process. We should see new business growth in the second half of 2011. Even with these actions, we now expect written premiums to decline between 2.5% and 5.5% for the full year 2011.

Overall, Consumer Markets had a mixed quarter. We saw improvement in the ex-cat current accident year underwriting margin, but our top-line results were disappointing. We are on the right track in executing our strategy.

Now, let's discuss wealth management results on slide 8. Excluding the impact of DAC unlocks, first-quarter core earnings were up 24% over prior year. The trends that contributed to margin expansion in 2010 continued -- rising equity markets, healthy investment income and top-line growth in our non-VA businesses.

First-quarter core earnings for Global Annuity, ex-DAC unlock, were $169 million, a 30% increase over prior year. Assets under management were $151 billion, were largely unchanged from year-end, as rising equity markets offset net outflows.

This quarter's 5% rise in the S&P reduced the value of living and death benefit guarantees, and contributed to higher surrender activity. Our new net flow guidance incorporates the impact of increased account values and higher lapses. We are adding an additional $1.5 billion of outflows to our full-year guidance.

In addition, we are increasing our ROA guidance for Global Annuities by 4 basis points to reflect the strong investment income we saw in the first quarter. The life insurance business posted another solid quarter. Ex-DAC unlock, core earnings were $55 million. This is up 12% from prior year, reflecting higher investment income, which was partially offset by elevated mortality.

Individual Life sales were up 13% over prior year, driven by higher sales in our independent distribution channel. The Monarch program we introduced in 2010 continues to be a source of growth. 600 Monarch agents, among the largest independent producers in the US, generated about 16% of total Individual Life sales in the first quarter.

Retirement Plans continues to build on strong sales momentum. First-quarter deposits were $2.9 billion, up 12% over prior year. This brings Retirement Plans' AUM to a record $55 billion. Sales of $1.4 billion were up 24% over prior year. We're seeing good growth in 401(k) sales and increasing traction in the tax-exempt and middle market segments.

While still modest, sales through our P&C agents more than doubled over prior year to $76 million. Ex-DAC unlock, core earnings were $17 million, up 70% over prior year. Key drivers include a higher AUM, stronger investment income, and expense discipline. We continue to build scale without adding additional operating expenses.

Non-proprietary mutual fund AUM hit a record $60 billion, helped by equity market appreciation and strong net flows of $1 billion. Retail mutual fund sales were up 15% over prior year. Core earnings of $27 million were in line with prior year.

The Hartford Mutual Funds posted excellent performance again with 68% of the retail funds outperforming their MorningStar peers during the first quarter. Mutual funds sales rose steadily, and we expect this momentum to continue. As a result, we are increasing our full-year guidance for deposits and net flows in our non-proprietary mutual funds by about $0.5 billion.

In summary, our Wealth Management business had a strong first quarter with healthy sales momentum and improving profitability.

Before we move to the next slide, I want to highlight our investor performance in the first quarter, which was a significant driver of the company's strong results. Net investment income on limited partnerships and other alternative investments was $100 million pretax in the quarter, which reflects an annualized rate of return of 21%. While we are very pleased with this quarter's results, we expect the remainder of the year to be closer to our long-term expectations of 8%. Higher interest rates lead to an improvement in the portfolio of new money yield, which was 4.23%. We expect a gradual improvement in fixed income portfolio yields over time provided we don't see a substantial decline in interest rates or spreads.

Impairments, in addition to the mortgage loan loss reserves, remain low at $58 million in the quarter. Tighter credit spreads drove more than $400 million of improvement in our net unrealized loss position, and we ended the quarter with a net loss position of $161 million.

Turning to slides 9 and 10, let's review improvements in statutory surplus in the first quarter. In aggregate, US statutory surplus was up about $400 million. P&C generated $400 million of capital. The sale of SRS contributed about $150 million. Credit-related impacts were positive $100 million. Spread tightening and mark-to-market assets more than offset impairments and net trading losses.

Non-annuity life businesses generated $100 million of surplus. Net dividends to the holding company were $350 million. This includes the net proceeds from the sale of SRS. Holding company resources increased to $2.2 billion at the end of the quarter.

VA-related impacts were essentially surplus neutral during the quarter. The details of the VA surplus changes are on slide 10.

As Liam mentioned earlier, we are very satisfied with the hedging program's performance following the earthquake and tsunami in Japan.

Let's turn to slide 11. As you would expect, strong equity market returns drove significant improvement across all US net amounted risk measures. In Japan, NARs also declined. Yen weakening, particularly against the euro, was enough to overcome a 6% decline in the Nikkei. The reason why the impact of the Nikkei decline on surplus was so modest is that only about 20% of the separate account assets are invested in Japanese equities. The balance of the assets are allocated roughly 40% global bonds, 20% global equities, and 15% Japanese fixed income. To clarify this for investors, we have included new disclosures on page 68 of the first quarter 10-Q.

Before I leave slide 11, I want to provide an update on our risk management progress in Japan. Importantly, we now have the full set of analytical tools and models necessary to implement and manage a dynamic multi-Greek hedging program for our Japan VA risk exposures. These enable us to rebalance hedge positions daily and to model economic, GAAP, statutory surplus impacts under different capital market scenarios.

These capabilities are similar to the ones we use to manage the GM WB hedging program in the US with the added complexity of multi-currency inputs. We are using these tools to implement a comprehensive tail hedge program for Japan. The objective is to limit the Hartford's actual cash claim payments over the lifetime of the block to a manageable amount in the context of the company's capital resources under severe capital market scenarios. At the same time, the tail hedge will preserve some of the upside potential on the VA block should markets continue to improve.

This approach will also work to limit short-term statutory surplus declines in tail events to acceptable levels in support of our long-term capital management objectives.

We have consistently said that we are not managing our Japan VA exposures to eliminate point-to-point surplus volatility. That has not changed. We are currently holding hedge assets in our US insurance companies for the entire Japan VA exposure. As a result, although we intend to develop hedging capabilities in Japan, initially, you are likely to see more pronounced US statutory surplus volatility when capital markets are volatile.

Our existing macro hedge protection is consistent with the design of the tail hedge program. Therefore, we will supplement the macro hedge with a mix of capital market instruments beginning in the second quarter. As we have discussed previously, putting on incremental hedge protection will cost statutory surplus and capital impacts along with DAC impacts. The actual impacts will depend on a number of factors, including timing of implementation and capital market conditions at the time we purchase protection. In any event, the impact will be modest in the context of the company's balance sheet and capital resources.

As we move forward with the implementation of the program, we will update investors about these impacts and other details about the Japan VA block's overall performance.

A more comprehensive hedging solution in Japan is an important consideration in developing our capital management program. So I'm pleased with our progress on that front. We have also received positive news recently from three of the rating agencies who completed their annual reviews of The Hartford during the first quarter. All of the reviews included upgrades of The Hartford's rating outlook to stable. The transition to stable ratings across the board is an important step.

In addition, in the first quarter, the company grew statutory surplus in its Life and P&C operations. Holding company resources have also increased. All of these are important steps towards potential capital management actions, which we continue to evaluate and discuss with our key constituencies.

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

Thank you, Chris. Before we begin the Q&A session, I would ask callers to limit themselves to two questions to ensure that we can get to as many of you as possible. Tierra, you may now open the call to questions.

(Operator Instructions). Andrew Kligerman, UBS.

First is around rate increases. Maybe you could help out Liam or Chris on the Group business. How much rate increase are you getting? And I know Chris had mentioned the loss ratio would be around 76% to 79% this year, but where does it take you next year on the loss ratio? And then the same question around the commercial property casualty.

Could you give us a little color on where that 3% overall rate increase is coming? I think I heard middle markets is getting 2%. How much are you getting in small commercial? How much are you getting in large and specialty? Maybe a little color around that.

Andrew, I'm going to ask Andy Pinkes with Doug to take that -- both of those questions.

Thanks, Andrew. It's Andy Pinkes. Let me start with Group Benefits. Really, as you noted, it is a competitive environment in the benefit space right now. And we are being rigorous with regard to our approach to price and managing our portfolio's profitability in total.

As we've talked about in the past, really price for us is evaluated on a case-by-case basis. We really use our pricing and scoring models to segment our book and really look at our book across the portfolio to look at where we really need price, and candidly, where can we give up price in terms of how we behave in the market? So it's not a one price, one increase across the portfolio. So we're being very disciplined in that approach. We are being competitive, but it's no doubt competitive out there. You saw our sales come off about 18% in the first quarter. We are willing to walk away from new or renewal business that does not meet our expectations.

That said, we are taking it one month, one quarter at a time. We are confident that we are making sound pricing decisions, and we're going to continue to be thoughtful in our approach.

I think as you know as well, really only a portion of the book really renews annually. Since our pricing actions were initiated in the middle of 2010, those rate increases are going to earn in over the contract periods, which, in some cases, will be multiple years.

Turning to the P&C --

Wait, wait, Andy, so net-net, can you give me a bottom line on overall what you're doing and whether you feel comfortable that that 76% to 79% range of loss can come down next year?

So our guidance -- in our guidance, we are keeping our guidance. We are -- we believe that as the economy improves and as price earns in, we will continue to see some improvement, and over time, we will see that ratio come down.

Right, so you're not going to give me the rate increases then, on average?

Yes; I think it really -- quite honestly, it is so segmented that to give a number would not be useful. The reality is, we are taking a segmented approach across our book.

Okay.

So on the P&C point, what I would say to you there is that we are first, very strong execution by our team in that market. Lots of focus on profitability and price in keeping with our market.

I think in terms of what we are seeing, we have had a consistent track record of using, again, our pricing and scoring capability in the small commercial space to continue to appropriately take price in that market. The middle-market space is certainly a more challenged space and has -- what I can say -- has gone positive really for the first time in some time in terms of price, and so we are very encouraged by that.

And some of the specialty businesses, it continues -- there continues to be challenge and still some negative pricing there. But that's a transactional business. It's a lumpier business, but we are continuing to compete there and feel good about that business.

Got it. And then, Chris, just quickly on the expense ratio at 17.6% in the first quarter, I just want to fine-tune my number. Where do you expect that to get to by the end of '12? Is it 100 from there or 100 bps from there down?

Yes, exactly, Andrew. I mean we still have the 200% overall goal, and all we've done is adjusted the starting point. So 200% remains the same and we've got 100 to go roughly.

Great. Thanks.

Thank you, Andrew.

Jay Cohen, Bank of America Merrill Lynch.

Good morning. Let me ask a question and then I will let Ed Spehar ask a question on the Life side. I guess the question for me was on the accident year loss ratio in the Consumer business in the property-casualty side; which I know you've been working on profitability there, but it was quite a dramatic increase when I would have expected any improvement to be a bit more gradual than that. Can you talk to that kind of quarter-over-quarter increase or improvement?

Andy Napoli, who runs our Consumer Markets, will take that question.

Yes, hi; this is Andy. Yes, we feel really good about our progress here. I think when you go from a Q4 fourth-quarter to first-quarter comparison, we have to note up front that there's a significant amount of seasonality. The fourth-quarter tends to be much higher than any other quarter in the year. So the probably -- the more relevant comparison point is from Q1 of last year to Q1 here, where we observed a pretty significant improvement there of about 2.6 points. So, really the big driver there was earned pricing continued to earn its way into the book as expected, and we expect that to continue.

Bodily injury severity was less than expected, offset a little bit by increasing physical damage frequency, particularly in glass and towing.

One might expect gas prices increases to put some degree of downward pressure on frequency, but we will see how that plays out.

Thanks, Andy.

Chris, this is Ed Spehar; just a question on statutory. The Hartford Life statutory earnings of $100 million, it looks like, in the quarter, is that a normal level or is that a little lighter than you would anticipate, assuming that the markets go up in line with your pricing assumptions?

Ed, thanks for the question. I would say what we put on that slide is a combination of statutory and other non-statutory income-related items. If you look at purely a blue book and see statutory net income, you'll see something higher in the $400 million to $500 million range, offset then by things that don't go through income on the statutory blank. So, I wouldn't say the $100 million is an appropriate run rate for statutory net income for the life company.

What would you say if we sort of think about that kind of dividend-able funds or cash flow for the life company on an operating gain basis after-tax number? What would be closer to normal in your view? Annual number or --?

Happy to try to help you. But I think it's also important to say that we don't really -- our current tentative plan is not to take any money out of the life companies this year. We continue to build capital and surplus, and we feel good about that. We don't have that much dividend-able capacity -- I think we have disclosed in our 10-Q. So whatever the normalized, I'll call it, operating income, and I would put it roughly around $600 million to $800 million of -- I will call it blue book statutory income; but just know the dividend limitations we have there.

Right. That's an after-tax number though, $600 million to $800 million, right?

Correct. Correct.

And then one other statutory or book stat and GAAP. Can you give us any sense of what the statutory and GAAP book value would be for the Japan VA business?

You know, we could think about that and talk to you about it, but I don't have that number handy right now.

Okay, thanks.

Suneet Kamath, Sanford Bernstein.

Had a quick follow-up to Ed's question, and then I have a separate question. So Chris, what explains the difference between the $400 million to $500 million of quote unquote blue book stat earnings? And then the $100 million number you mentioned, you said that it was offset by other items. Can you just -- quickly just walk through what some of those other items might be?

Just really the unrealized hedge impacts, marked to markets, that go through the direct charge to surplus as opposed to P&L. And just to be clear, I think I said $600 million to $800 million of normal life company statutory earnings; that's down from prior years, primarily due to Group Benefits business that is still in life legal entities are having lower statutory surplus generation.

Okay, got it. Then my other question was on the variable annuity product launch. I think there was a comment made earlier about perhaps the approval process taking a little bit longer with the regulators. Just wondering if you could provide any more detail in terms of what is really the issue there.

I'm going to ask Dave Levenson President of Wealth Management to handle that.

Thanks for your question. I would just say that given the distinctive and innovative nature of the new products, it's taking more time than we anticipated to get through the regulatory process. That said, our annuity franchise goes much deeper than any one single product. And as I mentioned on previous calls, we're working toward an all-weather rational portfolio of products in 2012. We have other products already in the lab that we expect to launch this year. And overall, I would say that we remain confident about our proportionate goal of $5 billion in sales in 2012.

Okay. And then just one quick follow-up, so is it fair to assume given that the regulators are taking a little bit more time with this product, that the innovative product design is something that does not exist today in the marketplace?

I think that is a fair assumption, yes.

Okay. Terrific. Thank you.

Chris Giovanni, Goldman Sachs.

Two questions; one on the Commercial Property side. I wanted to see if you guys can comment at all on the reserve releases you guys had there which seemed modest maybe relative to some of the other peers. And then any preview in terms of 2Q annual asbestos review?

Andy Pinkes will take that.

Chris, Andy Pinkes. Let me start with prior-year development. So really the way I think about that is our reserve position remains strong. I think as you know, our carried reserves continued to be greater than our actuarial indications. We have a very robust reserve process. And our reserving actuaries are reviewing the P&C Commercial reserves monthly and quarterly using the most current claim data and taking actions where appropriate. So really that's the baseline I would say that we head into any particular period with.

That said, there's no doubt the last couple quarters, and as you noted this quarter, have had smaller releases. I would say that the pace, if at all, of those prior-year releases will really be determined throughout the year as a result of that reserving process as we move forward.

And yes, we are in the midst of our ground-up annual asbestos review. That's a second-quarter operation, and so we're in the middle of it. And we will report out to you at the end of the second quarter.

Okay, thanks. And then one quick one on regulatory items. The CEO of one of your competitors last week had comment saying Washington keeps excluding the industry from some of the heavier regulations. So wanted to see if you guys could just provide some color on comments you guys may be having on the regulatory front?

Well, Chris -- this is Liam. As it relates to Dodd-Frank, I think generally, the outcome so far, understanding and acknowledging there's a lot more to be done and to be defined, have been generally constructive for the industry. There's more to go, and I'm not sure we can make a definitive statement until we kind of get through the entire process.

Okay. Thanks so much.

Jimmy Bhullar, J.P. Morgan.

I just had one question. A few of mine were already asked. But on -- you mentioned evaluating capital management initiatives. So I wanted to see if you could either give us some idea on the timing of when you would announce something or the timing of when you would know what the various -- the timing of when you would actually know what you were going to do and share that with the market.

And then also, just related to that, what are the things that you are considering in terms of capital management? And how would you view share buybacks versus retiring [awards]?

Well a couple of general comments, Jimmy. Thanks for the question first. The 11% target, if you will, was always meant to be an indication that this management team is very serious about managing capital and using our capital as efficiently as possible.

Secondly, we are very intent upon getting the relationship between our average cost of capital and our returns in the right position. Today they are not. And so we took the first action -- the dividend as you know, last quarter. As we suggested then, Jimmy, we will now begin or have begun to consider a variety of potential actions. As you recall last quarter, I talked about -- could be for the dividend actions. It could be share or warrant repurchases. It could be risk mitigation, and it could be a variety of other things. All I would say at this point in time is that we are in conversations and beginning some conversations with other constituencies around a variety of things we may consider. I'm not really prepared to give you a timing right now, but I can rest assured as we make those decisions, we will let the market know immediately.

And then maybe another one just on your margins and personal lines business -- it seems like you had pretty good severity frequency trends, especially in the order business. If you could just talk about whether you see it as a secular trend or is it more related to fuel prices being high and what you are seeing in terms of frequency, severity and personal lines?

Jimmy, Andy Napoli will take that one.

Hi, Jimmy. Yes, I mean for auto, we expect baseline frequency will increase as the economy improves and miles driven increases. But I think what we have going for us is a pretty significant mix shift to a more preferred mix of business, will largely offset that impact.

In terms of severity, we expect that to increase moderately in '11; maybe a little bit below the long-term historical average. So when you blend that together into a loss cost pic, we expect loss costs for us to be somewhat flat for the year.

Okay, thank you.

Mark Finkelstein, Macquarie.

I guess if I could, can I just expand on, Chris, your comments on the tail hedge? It sounds like you've done the analytics on the Japan VA block. It sounds like you at least have set a strategy. I guess just in terms of some of the details or at least a framework for how to think about it, I mean, I guess how much volatility in Japan capital will this tail hedge allow or even US capital for the reinsured block?

And can you just give us any sense at all in terms of what kind of a cost we should be thinking about and what are the implications, particularly on the DAC balance of $1.6 billion?

Mark, it's Chris. Happy to try to respond. Yes, I would say that we have a good framework, a good strategy, a good I will call it definition of what we're trying to accomplish from a number of different points of view, but the least of which is not unimportant is sort of the deductible or the amount of risk that we still want to retain versus then what we're going to shift off to the market.

So, what I -- we just can't share with you right now because we just don't physically know, just as we build positions, what's the impact on -- completely on statutory surplus and capital in DAC? Obviously from a baking those into the EGP streams.

I think one point of clarification, I would like to point out to you is, again, all these hedging instruments will be in US legal entities, not on the Japan legal entities. So, I think you and I have talked with others we have about $1.2 billion, $1.3 billion of statutory capital in Japan. That is sort of unaffected by this. So all the hedging instruments, at least initially, will be put into the US legal entity. And then over time, we might build out a more direct hedging program in Japan too. But I think we will know more as we build the positions here during the second and third quarter. And we will keep you posted on the impacts on statutory and GAAP.

Okay. I guess just a follow-up on Consumer Markets. I guess, how should we think about a pricing strategy? I mean you are continuing to push rate. The PIF count continues to decline. It feels like maybe the market isn't kind of taking the rate increases. Is there any shift in how you are thinking about rate in the Consumer Markets in terms of stabilizing PIF? And when do you see that PIF count stabilizing?

This is Andy. Good question. As the year progresses, we -- especially in auto, we expect our written pricing increases to moderate. And homeowners -- I think there's going to be continued upward pressure on homeowners pricing, but auto is obviously a big driver here. As that -- the pricing moderates throughout the year, we expect new business growth to turn positive in the second half of the year and retention to start increasing, moderately, by the end of the year.

Okay. Thank you.

John Nadel, Sterne Agee.

Good morning, everyone. A couple quick ones. Just following up on Jimmy's question in a slightly different way on the capital management issue, Liam, just maybe you can frame for us if you -- if The Hartford did not, between now and the end of 2012, deploy capital in a buyback of stock or warrants or other, what is the differential as you look at that 11% RoE objective? What would it be if you are not able to deploy at the same level that you are expecting embedded in that guidance?

John, thanks for the question. Just let's take a couple steps back away. As I said to Jimmy, this team is very focused on managing and utilizing our capital as efficiently as possible. That's what the 11% target is all about, as well as lowering our average cost of capital and getting our RoEs to exceed them.

If you recall, the 11% target if you will is really for the tail end of 2012 to be at that rate. So we do have some time to get there. I will reiterate what I said and I think Chris has said consistently as well, is that it is through a combination of both the high single-digit earnings that we're targeting, which includes that efficiency improvement that Chris just discussed, and we are very confident we will achieve; as well as we believe we will have a variety of levers to pull either individually or collectively around capital management.

So, as we make those decisions and as I made clear in my remarks, and we've been consistent on this, we are considering all those things. We are in conversations or beginning conversations with some constituencies around potential actions, and we will let the market know that.

Chris, I will turn it to you in terms of John's other question about the calculation.

John, I think I understand what you're trying to calculate. I think the simple answer is it just really depends, right? I think it would be unfair to put out any sort of with and without-type calculations right now because there's a lot of moving parts in our balance sheet that we just need to go through; some accounting changes that we'll have to implement. So it is -- really is just very imprecise to even do it with and without calculations, so I'd just prefer not to speculate at this time.

Okay. Understood. I guess just a quick follow-up then on the activities you are contemplating with respect to the Japan tail hedging. It sounds like we've got some incremental costs coming -- I think in your words, Chris, manageable costs. But are those costs expected to be part of core earnings? And does that then -- is that something that we need to contemplate as we think about EPS estimates relative to your guidance as we look out?

Thanks, John. What I would just characterize the incremental cost is directionally and Liz Zlatkus is here too and she can give you more details of the final warrants on the program. But I think what we're targeting is I think in terms of about a third more protection that we will build over a period of time here. As we build it, and again, depending on the form, the nature, price levels, we will incrementally include those in our EGP streams going forward. So I would say that the programs cost at least from our normal core earnings reflection will be reflected in EGPs over a longer period of time.

The mark-to-market positions will still be below the line, consistent with our current practice. And I think, John, you see all the pieces and then you could put it together and make your own determination.

That's great. That's very helpful. Thanks a lot, guys.

Darin Arita, Deutsche Bank.

Was hoping to stick with Japan and if you can give us a sense of what types of hedges that you are planning to put on to supplement the macro hedge? And then also how we should think about the accounting effect of this?

Darin, I think on the hedges, I'm going to ask Liz just to get into a little bit of the details. And then after you hear that, then follow up on the specific accounting applications of really what you mean because I don't think I understand fully what you mean in the accounting implication. So Liz?

Yes, good morning. So first of all, I'm just going to sort of reiterate how we're thinking about this hedge. We feel that our current hedge today has worked very well. It's minimized our losses for statutory. It has allowed us to go through the market turmoil during the quarter and fare very well. And it's also allowed us to benefit from improved market conditions. Going forward, as Chris said, we're going to have a more comprehensive approach that's going to look at economic cash flow, so regardless of where the risk sits, we're going to be able to feel very confident that we can manage the claims level after our deductible to a manageable amount. And, yet we will still be able to share in the upside.

As Chris said, about a third more coverage overall, and it will depend on, certainly, from options versus futures. We will make that determination depending on levels of implied volatility. On average I would tell you that we are very well protected on the currency side, so it would be more on the equity and interest rate protection that we would be adding. And all in, again, I think it's a very good approach because it really gives us confidence we can manage our risks to acceptable levels, and again, still share in the upside.

I guess on the -- thanks, Liz. I guess on the accounting I was thinking in terms of if we're still going to still have the mark to market go through this -- show up as the way it does, I'm wondering how that will -- what sort of volatility that might introduce, given the mark to market of these assets versus how the liability is set up.

Yes, that's a great point and that's what we alluded to and foreshadowed in our prepared remarks is that given in the liabilities for Japan aren't mark to market, we have the one-sided mark gains or losses on the asset side that will be flowing through the -- I will call it the US books on a statutory GAAP basis flowing through the consolidated. So you're right, but that's just the nature of the accounting model there.

Okay, understood. And then I guess turning more towards the US annuity business, we're seeing surrenders go up quite a bit here. I'm just wondering if you are noticing any particular trends on policyholder behavior and the types of people lapsing and how it might relate to the account value being in or out of the money?

So, Darin, this is Dave Levenson. So lapses did increase to 14.4% in the first quarter. That is up from 12.8% in the fourth quarter and that compares to I guess a normal range of 10.5% to 11.5%. So, we have seen an uptick. I guess I would relate the uptick to two specific things.

One is a general aging of the book. Right now, we've got about 57% of our policies that are outside of the CDSC period. But more relevantly, I would say that as the markets are going up, more contracts moving from in the money to out of the money, and as a result, that is causing the lapses to go up. But the -- I guess the upside of that is as markets go up, net-net, that is good for the organization. And we're also seeing about 40% of our lapses come from in-the-money contracts. So we are seeing an NAR reduction.

Thank you.

Thomas Gallagher, Credit Suisse.

One quick follow-up on Japan and then another one on the tax rate. So, Chris and Liz, is the right way to think about this that you are willing to absorb more statutory capital volatility because you have, in your estimation and probably the rating agencies' estimation, more than enough risk-based capital, so when you evaluate this, you're looking at the cost of holding onto more capital, potentially versus the cost of paying up in the capital markets. And then right now you view self-insuring as the better option, and then buying the very deep out-of-the-money protection as what you are implementing here. Is that a fair characterization or not, on the Japan side?

Yes, Tom, it's Chris. I would say precisely. And that -- again we've always said we are balancing the economics. We're running a place on the economic basis, but we will balance GAAP capital statutory implications, and that's exactly the design that Liz and the team have come up with based on our framework.

Okay. And presumably, Liz, this is going to be a multi-year hedge program that more closely matches the duration of the liabilities. Is that in theory the way we should be thinking about this?

Yes, absolutely. But that doesn't necessarily mean all the instruments will be multi-year because you can always roll them. So we will be looking at, like I said, implied volatility levels and price points, but how you should think about it is if you -- eventually stat will equal cash flows, right? So we're looking at it comprehensively on a cash flow basis, ultimate cash claims cost, limiting that to an acceptable level, irrespective of the risk factor. So you can be putting on, if rates move more, you will put more rate protection on -- or if equities you will do that. So it is to look at the long-term claim pattern to your point.

Yes, Tom, I would also just add, again, with the discussions we have with Liz is, remember, the most important part of the exposure period is until annuitization also, so that a lot of the design and the hedging instruments, ex interest rates, which is a longer-term matter, is really FX in equity in the short term prior to people's election on annuitization, is the primary focus of the program also.

And has the reaction from the rating agencies been -- do they understand that you are better matching the economics? Are they willing to let you have more statutory capital volatility and not make you hold onto more capital? Or is there the understanding that you are going to have to run at a higher RBC just because this is inherently going to create more at least short-term statutory capital volatility?

No, it's a great point, and I think as Liam said, we're early in those discussions, and those are important dialogues that will begin to happen.

Okay. And then last question, can you just comment on what the tax rate you are using to calculate core EPS and what should we be modeling for the balance of 2011?

I would just point you to -- it's a little lower this quarter just because the net income is a little lower. Nothing has really changed from an -- I will call it an actual calculation side or the amount of preference items we have, Tom, so think in terms of 22% to 24% effective tax rate going forward.

Okay, thanks.

This is Rick Costello. We don't want to run too long given that we've got another industry call beginning at the top of the hour, so I'd ask that we take one more question, and then we will conclude.

[Eric Byrd], RES Capital.

Thanks very much. Good morning. Chris, I know we have sort of said all along here that the statutory capital volatility will increase as a result of your layering in more hedges prospectively, but why is that?

And the reason I ask is as follows -- my understanding is that you are currently booking reserves under this -- for these GMI, [BMG and DB] benefits in Japan under US statutory capital rules, namely what they call C3 Phase II and VA CARVM. This is something approaching but not actually a mark to market. It's something like that, this so-called CTE approach.

You are now going to layer in the use of additional derivatives that, under statutory accounting will be marked to market, so it feels like, if anything, you will be supplementing your existing mark-to-market of liabilities with the introduction of new hedge assets that will also be marked to market, a move that I would think would lower statutory capital volatility, not increase it. Can you sort of set me straight on this? Because I was not able to follow the discussion as to why statutory capital volatility will increase. Thank you.

Eric, one, it's great to hear your voice. Two, we could go into a lot of detail off-line on this, but I would like you to think about remember, its Japan risk that is seeded into the US entity, so we have some basis risk there. It's not all of it -- it's not all the income that's coming into the US.

And it's really the application of AG 43 and V CARVM and all of that. I mean there's a lot of technicalities that will create some initial -- I'll call it capital consumption that we'll have to assume and consume when we put in these positions. And then there is just volatility in how you run your AG 43 models going forward.

Remember, we have an onshore program. We don't see this -- the offshore captives and we have actual surplus in our White River Re entities that back all these programs. So just our US program is just subject to a little bit more volatility the way we approach it.

Okay. I will definitely circle back to you. Thanks very much.

Thank you. And as there are no further questions at this time, and it is 10.06, this concludes The Hartford's first-quarter 2011 earnings call. Thank you so much, all, for your participation and we do look forward to seeing you soon. Thank you.

This does conclude today's conference call. Ladies and gentlemen, we thank you for your participation. You may disconnect at this time.