W R Berkley Corp (WRB) 2010 Q3 法說會逐字稿

Good day and welcome to W.R. Berkley Corp. third-quarter 2010 earnings conference call. Today's conference is being recorded. The speakers' remarks may contain forward-looking statements, and the forward-looking statements can be identified by the use of forward-looking words including without limitation, believes, expects or estimates. We caution you that such forward-looking statements should not be regarded as a representation by us of the future plans, estimates or expectations contemplated by us will, in fact, be achieved. Please refer to our annual report on Form 10-K for the year ended December 31, 2009, and our other filings made with the SEC for a description of the business environment in which we operate and the important factors that may materially affect our results. W.R. Berkley Corp. is not under any obligation and expressly disclaims any such obligation to update or alter its forward-looking statements whether as a result of new information, future events or otherwise.

I would now like to turn the call over to Mr. William R. Berkley. Please go ahead, sir.

Good morning. We were satisfied with our quarterly results, and we are going to start the call with Rob Berkley going through our operating units, then we will follow with Gene, and then I will pick up and give you an overall overview and then questions.

So first, Rob Berkley.

Thank you. Good morning, everyone. While the commercial lines market remains competitive, there appears to be a growing recognition amongst industry participants that pricing action is required. By example, we are witnessing initial efforts by many carriers attempting to test the market in search of additional rates. The standard market is generally speaking no longer pushing deeper into the specialty lines, and we are seeing few yet growing numbers of standard carriers retreating back to their traditional appetite.

Additionally we are observing some examples of specialty carriers re-examining their strategy and on occasion withdrawing from lines of the business altogether.

Finally, a fully improving US economy is manifesting itself through fewer insurers going out of business, improved order premium activity, as well as increased freight loads over both road and rail in the quarter.

Net written premiums for the quarter were $987 million, up 2% from 2009. The growth during the quarter came predominantly from our younger operations or startups, if you will. This was particularly visible in the specialty and international segment where our startup operations are more concentrated.

The macro philosophy behind these startups stems from our historic and ongoing efforts to strategically position ourselves for what we believe to be an inevitable turn in the market. Much of this activity is focused on parts of both the domestic and international economy that offers strong fundamentals.

As we have noted in the past, growth in this type of environment is something that we are acutely sensitive to. The confidence we have in our management team, coupled with our technical data, as well as our internal controls, give us the needed checks and balances to have comfort in the quality of the business being written.

Our price monitoring indicated the groups' rates were down a mere 0.1% for the quarter and were flat for the month of September. Our renewal retention remains at an acceptable level of 80% for the nine-month period, and the combined ratio of the 95.4% for the quarter was generally in line with our expectations.

Our loss ratio at 61.8% was somewhat impacted by storms, and the expense ratio at a 33.6% was a continuation of the improving trends we have seen quarter over quarter of this year. As discussed in the past, this expense ratio spend is simply a reflection of our startups beginning to mature, and consequently their earned premium is building momentum.

With regard to reserves, as in the past, we continued to take what we believe is a measured approach. The group takes our fiduciary responsibility very seriously, and consequently (inaudible) simply assume past trends will continue in the future. The realities are available investment returns combined with the distinct possibility of inflation at some point in the future, as well as early signs of frequency picking up for the industry in 2009 and 2010, lead us to the conclusion that an appropriate level of caution is warranted in selecting loss [pay].

In light of this, it is our belief that the current accident year continues to run at approximately a 99 combined and with storms roughly a 101. It is true that we have historically outperformed our initial loss tests; however, we maintain the position of not counting our chickens before they hatch. While the current market conditions remain challenging, we are increasingly encouraged that change is approaching, and our organization is particularly well-positioned to maximize future opportunities.

Thank you.

Thanks, Rob. Gene, do you want to pick up about the financials now?

Well, thanks, Bill. Rob covered some of this in terms of the premiums, but I will just go into a little bit more detail. Both the net and gross premiums were up 2% in the quarter compared with the prior year quarter. Premiums for the startup companies were up 36% to $165 million, while the premiums for our remaining businesses were up -- were down 3% to $822 million.

As Rob mentioned, the specialty and international segments account for a large portion of our startup premiums -- actually 3/4 of the startup premiums are in those two segments -- and net premiums for those segments were up 10% and 34% respectively.

The premiums for the other segments were down -- regional by 2%, alternative markets by 10% and reinsurance by 20%. That decline in the reinsurance segment was primarily due to our minority participation in a Lloyd's syndicate.

The overall loss ratio decreased 3/10 of a point from the prior quarter to 61.8%. Weather-related losses were $22 million in this quarter compared with $23 million a year ago. Those weather-related losses were all in the regional segment and added 8 points to the regional loss ratio and 2.3 points to the overall loss ratio.

Favorable reserve development was $51 million in this quarter, up slightly from $47 million a year ago, and the majority of that favorable reserve development in 2010 was related to the specialty and regional segments and to accident years 2005 through 2009.

Expense ratio of 33.6%, up 7/10. But again, as Rob mentioned, our expense ratio actually peaked in the first quarter of this year due to the drag from the startup companies, and since then, it has come down by 1.5% as those earned premiums for those companies has now caught up with their expense base. Some of that improvement has been offset by higher expense ratios for the more mature companies that are still seeing some premium declines. That gives us a combined ratio of 95.4%, up 4/10 of a point from last year.

Net investment income was $138 million, down 2% from a year ago. The arbitrage account had a good quarter with a $14 million profit and an annualized yield of 11%. And, in spite of the year-over-year declines in interest rates, the average annualized yield on the remainder of the portfolio was down just 2/10 of a point to 4.0%.

Unrealized investment gains were $695 million at September 30. That is up [$190] million in the quarter and $357 million for the first nine months. We did report a loss of $19 million from investment funds. That is primarily due to a decline in the estimated fair value of energy-related investments following the oil spill in the Gulf and the ensuing offshore drilling moratorium. Those funds are reported on a one quarter lag. So that decline in value occurred -- that incurred in the second quarter was reflected in our third quarter.

Profits from our service fee business were up $2 million to $4.7 million in the quarter. That is due largely to expense reductions in that part of our business, and interest expense is up $5 million as a result of debt that we issued in late 2009.

In addition, we issued $300 million of 10-year senior notes and repaid $150 million of senior notes in the third quarter of this year. At quarter-end we are holding over $500 million in liquid assets at the parent company.

During the quarter, we again used most of our net income to repurchase stock. We bought 3.3 million shares in the quarter for an aggregate cost of $88 million. That brings us to 12.2 million shares repurchased so far in 2010 or 8% of our outstanding shares at the beginning of the year. Our operating cash flow was $204 million, and our paid loss ratio was the lowest it has been in five quarters at 59.7%.

The impact of foreign currency exchange rates was not significant in either our revenue or our earnings in the quarter. So that adds up to operating earnings of $103 million and an operating ROE of 11.4%, and our book value per share increased 6% for the quarter and 15% for the first nine months to $26.36 at September 30.

Thanks, Gene. So overall we had a fine quarter. I think that there are signs of this market change that I have spoken about for an extended period of time. It is not here at this instant. Prices are definitely flattening out. You still have this every now and then strange behavior where we can lose a piece of business that we have renewed for six or seven years at $500,000 of premium, and someone comes in at a discount of as much as 30%. But we don't have many large accounts left anymore, so it does not happen very often.

But, by and large, as our pricing numbers show, we've gone through most of the year with virtually flat pricing, and in September it was absolutely flat pricing. We are glad to see that. We are seeing lots of movement in the market. A number of our large competitors are acting more seriously as when they look at their pricing, and we are not having this vicious competition with seemingly a lack of knowledge. But there still is on occasion this strange price-cutting that is taking place, and it is hard to understand why. It is almost like a random behavior.

There are some companies that are still being quite aggressive stretching for volume. I don't think that is going to change. I think the big issue that people are focusing on is change in frequency and the potential of deflation. That is giving people hope that lower prices will be rewarded. Our own exposure numbers and experience have told us that frequency has stopped going down for the past 18 months, and while it is not dramatically increasing, it has certainly stopped going down and is slightly increasing, but not significantly. But definitely the time where we could benefit from dramatic improvements in frequency seemed to have come to an end.

As to deflation, we think people are making some bad assumptions about those issues. Number one, clearly medical costs are not going to be deflating. We just think that, and that represents a very large part of the costs of our claims in the aggregate, and I think people are not considering that with enough weight.

In addition to that, we are really not expecting significant deflation. We actually think you will be at a slightly inflation by the time we get to the end of the year, and things will be picking up, not a worry about grade inflation, but I would not want to make a bet on deflation.

So we think those optimistic assumptions probably don't warrant the kind of price-cutting that has taken place. And we've clearly stated our position where the industry is running at probably 110 combined ratio at the moment. And we have consistently run 8 to 10 points better than the industry, and that is what we are booking at, roughly 100 combined ratio. We think we are probably being cautious and conservative, as Rob said. But we are more comfortable on that issue than otherwise because the risk of ultimate inflation when we have long tails of business is more significant and more concerning than otherwise.

Investment income, clearly we have had a decline in rates. The one benefit for us and most players in the property-casualty business is we don't need instant liquidity. So we can invest and play in areas of the market where short-term liquidity is not a critical issue, and there are opportunities to invest at, while lower rates, only modestly lower rates, and they are small opportunities, and there are lots of them around. It is not like we could invest billions of dollars in those small opportunities, but they are there, and up until now, we have been able to invest our cash flow.

In addition, we have invested in a number of common stocks that offered at attractive yields, and where we think for the first time in my investing life, we can get yields on common stocks that are higher than the comparable bond yields for these same high quality companies. So we have begun to invest some amount of money into common stocks on a yield basis that we think are quite attractive.

Overall business is getting a little better. We are getting substantial traction in our startups. People appreciate our candor. They appreciate the fact that as we say we are always in the marketplace. We are always there at a price, and the fact is the distribution channels that we deal with are beginning to recognize when this market changes, they need partners who are consistent and there all the time, and that does not give us lots of business all of a sudden. But they are thinking about what they are going to do as this marketplace changes.

And, in spite of what we all may say, from the Company point of view about brokers and agents, brokers and agents understand how they make money and how they survive and how they serve their customer best, and are always concerned about the future. And, therefore, as this environment starts to change, they are going to be ahead of the environment looking to deal with people like us who will be there consistently, who don't turn away business for lack of capital.

So, with that, I'm happy to take any questions, and we are all sitting here, and we will be pleased to answer any of your questions.

(Operator Instructions). Kevin Walsh, Citi.

Just the first question I guess for Gene on net investment income; it continues to hold up pretty well here. I just want to know how much of the portfolio is being reinvested approximately in 2011 and 2012? What is the gap between the new money and the portfolio yield?

Yes, it is around $1.2 billion to $1.3 billion each year in 2011 and 2012 that would be rolling off and maturing.

But a lot of that is in our short-term portfolio. So a fair amount of that is -- we have a barbell approach to our portfolio, and therefore, a fair amount of that is the short-term side of our portfolio rolling over.

And roughly what is the gap between the portfolio yield and the new money rate today that you are seeing?

I would guess that we are talking about probably 0.05%, maybe 0.75%.

Just maybe to follow up on that, it seems you guys are doing a lot better on new money rates than your competition, which is probably 150 basis points at least of a gap. What specifically -- what is driving that differential?

Well, I think, first of all, understand that one of the problems when you search for small things and things without liquidity is that the markets are small, and it is not something we want to tell the world that we are doing this or that. Because candidly the markets and the opportunities are small, and they would go away if we told the world about them. And it is easy -- it is not like there is this great generic place. But it is private placements. It is finding companies we know have liquidity issues. It is particular kinds of securities -- it is a bunch of people out there beating the weeds trying to find opportunities where you can invest $5 million, $10 million, $20 million, $25 million in high quality securities where you might not have liquidity, and those are the kinds of things we are doing. There is no change in quality, and by and large, the stuff has not had liquidity. I think that if we were in a position where our cash flow was to dramatically increase, it would be a more difficult task. But, as long as our cash flow is as it is, it is probably okay, and we think we can continue to find opportunities.

And then Bill, just a second question, just a follow-up around your price monitoring strategy. I know you guys talk about that. And just on the renewal, the renewals seem to be running at a good rate. But what is the average rate change that a non-incumbent has to come in and take business away from you? What is the differential there between what you put out and what they are putting out? In addition to that, when you take -- when you are growing business right now, what is the rate differential between what you are offering customers versus what the incumbent carrier is offering them?

As far as the first piece of the question, if I understood it correctly, we have -- while there are always outliers, when it's an apples-to-apples situation as far as coverage, so it usually takes more than 5%, and typically, as you reach 10%, that is the breaking point of when business will move.

Having said that, particularly more sophisticated buyers are long-term customers that have experienced the service that our companies bring to bear tend to have a higher tolerance for price differentiation.

When our actuaries tell us our renewal pricing versus our new business pricing, it is virtually identical. We at this point one of the things we learned in the last cycle is our renewal pricing was looking fine, but we were not measuring our new business pricing. We now have our actuaries who measure our new business pricing, and our new business pricing is at the same level as our renewal pricing.

Josh Shanker, Deutsche Bank.

I wanted to talk to you about business that is leaving you and where it is going and the difference in characteristics for admitted carriers versus E&S carriers and whatnot. And maybe you can expound on that a bit and then I will follow up.

I think that I'm trying to understand your question, but I will make a stab and then probably you can sort of redirect me a little bit. I think for the most part, our business is -- that leads in the E&S segment of the market has in the recent past gone to standard markets. That is beginning to change at the moment. I think that the E&S market has remained disciplined, and I think that for the most part that should start to see a return of business to the E&S market going forward beginning this quarter.

There are still some large carriers who are being aggressive price-wise who have their own strategies who have built in a pricing strategy that they feel is such that the long-term value to getting a customer is worthwhile. But, from our point of view, I think we sort of have had an equilibrium now. I think that 80% renewal in a harder market was closer to 90% three years ago. And that 10% is people who close, who move or who change agents; that is sort of the normal friction cost.

In terms of equilibrium, what would be causing admitted carriers to behave more responsibly if they have not yet seen losses?

You know, I think that some of them have seen losses. Some of them have seen the signs of losses. Some of them have same worrying signs of reported claims, even though they have not booked them.

So I think well-run insurance companies -- and I think that that includes lots of companies as far as claims department -- designs and they take a series of steps before they ultimately do what we think they need to do, which is raise prices, but they have a number of steps they take. The first step is withdrawing from the places that they are concerned about. The second step is getting out of businesses that they don't know anything about or seem to be troublesome. And then the third step is raising prices on everything they do. I think we are seeing the first step now, which is selectively people are starting to get out of some businesses.

Do you want to add to that, Rob?

No, I think you have covered it unless Josh had a further question.

The only thing I would add, is there any rule of thumb we can use to think about pricing between business, how it is priced in the midmarket versus how it would be priced in the EMS market?

Well, clearly historically the not admitted market or the MS market has had more robust rates, and perhaps as if not more important, their terms and conditions are such that it translates into perhaps a better all-in effective rate.

But it is difficult to quantify?

Yes, I think the short answer is it is difficult to quantify in general beyond the fact that for the most part historically the nonstandard market has charged higher rates for exposures than the standard market.

Yes. Alright.

Josh, I think if we were to put a number on the value, you probably would say turns and conditions are worth a significant amount. Pricing is worth a significant amount. You would certainly say it with at least a 25% differential.

That is fair. I appreciate it. Thank you.

Vinay Misquith, Credit Suisse.

Your pricing commentary seems to be more favorable than some competitors. I just want to to get a sense from you as to which the lines of business that your writing or what segments of your business is allowing you to get flatter pricing versus some competitors?

This is Rob. I think one should not confuse our comments or observations about the general market versus what we are seeing in our own pricing. Obviously they are related, not that they are necessarily one and the same.

As far as specifics go as to where we are able to achieve rates or for that matter where rates are holding pat, that is typically not something that we get into a lot of detail about where we see opportunities. We just don't think that is in the best interest of our shareholders. So I'm not trying to be coy but --

I think there is a couple of other things, too. And that is as we have said for a number of quarters we have really lost almost all our large account business. So a large account for us today is probably a couple of hundred thousand dollars premium. We have lost all our big business. And, in fact, I think you could probably certainly count in a typical company the number of pieces of business that were very large on your fingers and toes. And we did lose one particular account that brought -- we brought attention to it at a 30% price cut.

So there is still some price cutting that is pretty crazy. But we look at the overall statistical mix of our business, and that is what the overall statistical mix is. And I think that it is very much across the board. There is no one place that is particularly unique or specialized. That is way off that chart one way or the other.

And then on the new business you are getting, would it be fair to say that some of it is coming from the old companies that those teams, but then some of it is coming from the new companies?

I think the way we would characterize it is that the people that are leading some of these new businesses certainly have relationships in the marketplace and with distribution. Where that business was prior to us writing it, that is not something that we could begin to speculate about. But certainly the teams of people that have joined us are accomplished insurance professionals with long-standing relationships, and they have a following of people that would like to do business with them.

And more importantly, in such uncertain times both economic and within the insurance industry, I think you have got to recognize that the smart brokers and agents want to diversify who they do business with. So they are very interested in having new relationships all the time because they don't know what is going to be the outcome of their past relationships. This is a time in the economic world where things change.

Fair enough. And the last question, if I may, is on the debt. You took on $300 million of debt to pay down $150 million. I was just curious as to what you plan to do with the other $150 million? (multiple speakers) [Specific] capital is now roughly near the 28% level.

Right, which is just below what we have said the high end is, and I think that is okay. We thought it was an attractive time to borrow, and we are going to sit with the money. There's lots of opportunities, whether it is buying back our own stock or whatever. We think there's lots of opportunities, and the opportunities to raise debt at an attractive price drove us to do that.

Ken Billingsley, BGB Securities.

I just have a few follow-up questions.

Could you speak a little louder?

I just want to ask about, were there any reserve releases during the quarter?

$51 million.

$51 million? And where those related mostly on the casualty side?

Yes, it was primarily in the specialty and regional segments 2005 through 2009 years in casualty, yes, predominantly the casualty business.

And the international business tends to be -- I look at it on LTM basis -- it tends to be a considerable growing piece of your business. Can you talk about maybe what is going on, maybe a little bit of pricing commentary but just in general of opportunities there? It seems that domestically you might have some more opportunities if the standard line continues to pull back based on your experiences. But how will that impact your plans internationally?

Why don't I let Rob talk about some of the details and I will finish up. Go ahead, Rob.

As far as the international segment goes, certainly the growth rate has been meaningful, but you need to first recognize what the base is that we are starting from. It has not been a huge part of our business historically, but it certainly is becoming more meaningful.

We have been investing in activities outside the United States for many years now. We have been searching for markets where we feel as though there are positive fundamentals that is what we see in a place like Brazil or Australia or Canada. And then obviously in addition to that, we seek out management teams that we feel as though have exceptional talent in writing the business in their specific markets.

So the growth that we have been experiencing this year has been driven, one, by our new Lloyd's operation. Two, we have been getting a fair amount of growth out of South America, particularly Brazil. We have also been enjoying some growth coming out of Norway as we have pushed our European operations into the Scandinavian territories, if you will. And certainly we have found that Australia has been an attractive place to do business as well.

And finally, our neighbors to the north, Canada, has historically been a very insurance-friendly environment.

So we have a fair number of pots on the stove, and they are beginning to get traction. Do we think that the growth rate will maintain at this level over an extended period of time? Well, probably not quite at the rate that it has been, but we think that there is plenty of room to grow.

So I think overall while it is very competitive here and it is modest -- it is less competitive in a lot of places outside the United States, and we are still going to be primarily a US company, but it is an opportunity for us to use some of our -- newly generated resources to expand in places that Rob went through. We are interested in economies that are natural resource-driven that we think are governments that will allow us to make a profit, and we are interested in finding good local management that can fit culturally into where we do business.

Regarding the audit activity that you mentioned in your initial comments, are you actually seeing that audit premiums are above expectations, or could you just put a bit of color on that?

I think what I was trying to articulate or suggest is that the trend has changed from where we were seeing huge erosion early in 2010 and certainly -- in 2009 and significant return premiums based on where payrolls and receipts were, we are seeing that shift in direction, once again suggesting that the general economic conditions and by extension the activity of our insurers is improving.

I think that the bottom line is our order premiums were frequently negative in 2009. They were flat, but not positive at the beginning of 2010. Slightly negative frequently, and at this point they become positive, and we see that as a trend as opposed to a one-off occasion. So we think that is consequential both for our business and also, frankly, for the economy.

Right. The last question regarding the Neal Bill and prospects of taxation on insurers, what are your expectations if Republicans take control of Congress or more?

Well, you should understand it is neither an issue of Republican or Democrat. It is an issue of when our Congress decides they are going to generate taxes to reduce the deficit. And when they take that seriously, we believe the Neal Bill will get quick attention. Up to now, Republicans have not been enthusiastic about new taxes, the Democrats have not been enthusiastic about new taxes, and no one has booked the issue of solving the deficit as a primary focus. We think whoever controls the Congress going forward, the focus on the deficit will become more important, and we think the probability of the Neal Bill or some variation of it is much in hand.

Doug Mewhirter, RBC Capital Markets.

Most of my questions have been answered. I guess my first question, I guess maybe Rob, how would you characterize the organic growth in the international business? I know there is still a lot of new businesses, but I think some of them may have crossed the 12-month anniversary. So is it in double digits or single digits?

It really depends on the operation, but generally speaking it is certainly double digits. And, once again, that is because they are operating off a relatively modest base.

Our view is that these companies are operating in economies that have a fair bit of momentum. And so just as the domestic market here in the United States has suffered as a result of the US economy, when you're operating in a place like Canada or Australia or Brazil where there are economies that have significant momentum, they by extension benefit from it.

Having said that, our view is that there is significant opportunity, but the primary goal needs to be that the growth comes about in a controlled and measured way.

Also, in the prepared remarks, you mentioned that earned premiums are catching up to expenses. Is there still a drag on the expense ratio in the international segment? Is it running where you want it to be, or is there still a little bit of subscale issues in international?

Look, I think the answer is that there still is a modest drag, but the fact is that the earned premium is what I was suggesting or trying to suggest is that the earned premium is building, and we are getting the critical mass where we are able to leverage our fixed expenses.

So do we have a little ways to go? Yes. Do I think over time we will be able to leverage them even further, particularly in improved market conditions? Yes. Having said that, I think we are well on our way.

I mean I think one of the things you have to keep in mind is, because of the environment, the growth in startups is not going to be and has not been and nor do we expect it to have been a quick start out of the box. It is going to be a slow process. It is going to be a three or four-year process, and I think we are just beginning to see that growth take hold now. I would be surprised if it did not continue for a number of additional years.

Okay. Thanks. And my last question, I just want to change gears to the reserve side. At the end of 2009, we looked at how companies had looked at their -- treated their reserves over the year, and it looked like a lot of your competitors had actually had some adverse development in the 2008 accident year. And you still had favorable development, but it was obviously not nearly to the extent of 2006 and 2007.

From the early returns that people have reported so far, including yourself, it looked like -- it seemed as if the 2008 accident year and 2009 for that matter did not seem to be quite a concern. In fact, there was some reserve takedowns. Do you think that that was -- I guess that less favorable treatment of 2008, do you think maybe there is a little bit of backtracking from that because of (multiple speakers) attrition, inflation or --?

I think you have to understand how we establish our reserves. We established our reserves by choosing a year. And each year based on how we see pricing and inflation changing, we establish a loss pick. We establish that loss pick before taking into consideration any subsequent takedowns. So, as each year from the older years results in takedowns of redundancies, that almost automatically means subsequent years will in all likelihood have some level of redundancies.

We try and take that into consideration to some degree as we have those redundancies more visible in each subsequent period of time. So we might consider that in establishing our loss base.

What that really means is 2008 is likely to have been a conservative loss pick in its initial stages. 2009 a little less conservative because we saw more positive developments in 2006, 2007, so we were a little less conservative in 2009. And again, we think we were conservative, but probably closer to right on for 2010.

So it is an evolving process. As we learn more about the first year, if you will, of the waterfall, we can better hone our loss pick for subsequent years. But the bottom line is we think probably we still have some redundancies in more recent years.

Greg Locraft, Morgan Stanley.

I wanted to just follow up on two items. The first is, in the release you mentioned improving returns from this point forward. I wanted to get a sense as to whether or not that was a comment regarding 2011, 2012 or how -- what the timing was and also what the source of that improving return was from a high-level perspective? If it was from the underwriting operations or from the investment operations?

I think it is overall from improving results -- first of all, improving returns meant for our overall business. It reflects improvements in a number of areas. Number one, improvements from our startups where we think they are going to continue to improve their returns as we get more traction, write more business. Number two, we think, as we have said to everybody, we are going to have modest kinds of price increases, but it is not going to be very much for this year. And certainly it will not be much in earned premiums, but we think it will be modest for this year. But it will have more impact next year.

So we think this overall will be higher returns, and we are pretty comfortable with just what is committed to and what we have been able to find that there are a number of opportunities where we will be able to continue to reinvest our money at attractive returns.

When I say attractive, attractive is a relative thing. It is not quite as good as what is coming off, but it is relatively attractive compared to what is generally available in the marketplace.

Okay. So is this a comment -- so do you think the ROE into next year is going up? Or because if the returns are rolling off, investment income does not sound like it will increase. And so, therefore, it has got to come out of underwriting, and so, therefore, we see higher underwriting profits from the startups?

Yes. Since you have already decided what it is, you have answered your question for yourself. There is no sense in me responding.

Okay. Second is alternatives. Can you be more specific with regards to how the $14 million was generated? Because this looks like a record high from this book. Is it a record high, and how sustainable is that going forward?

Yes, it was a change in merger arbitrage. Merger arbitrage had a particularly poor quarter last quarter, and it was a slightly better than average quarter this quarter.

Yes, 11% is not anywhere near a high for that business.

Okay. So how do we think about the sustainability of those returns going forward? Is this a realistic level, or should we -- because last quarter was 1 and this quarter was 14, how should we be thinking about that in our models going forward?

I think that the business is variable quarter to quarter. It has given us, let's just say, an 8% to 12% return over 26 years. It is very high as the 20% plus returns. So it has been a positive return. We don't try to predict that on a quarter to quarter basis, so I cannot tell you how you should.

Okay. Great. So 8% to 12%. Thank you very much. Appreciate it.

Jay Cohen, Bank of America.

Two questions. That reserve methodology that you just talked about a couple of questions ago, I guess that then should explain why if I look at your accident year loss ratio, excluding weather, it has been for the past three years fairly flat. But that would be explained by the process you just talked about whether favorable development from prior years causes you to adjust your current year accident picks?

Yes.

Okay.

It also says that probably one would think that any takedowns probably are somewhat offset by caution in the current years.

I guess you also have the other issue of prices that have been going down, so that would obviously put some upward pressure on that pick, too.

Yes, but -- yes.

And then the second question, the weather, you had over $20 million of weather-related losses. Where did those occur?

One of the things people don't understand is our weather-related activity is not the same as many other companies weather-related activities because we still have substantial Midwest business, which has hail and tornadoes, and it's not necessarily named storms. We can have a hailstorm in Wichita, Kansas that nobody ever heard about, and it can cost us multi-millions of dollars. So it is those kind of things; it's not a bunch of named storms. It is really mainly Midwest storms.

Any exposure to the New Zealand earthquake?

Nothing of consequence.

Meyer Shields, Stifel Nicolaus.

One big picture question and one numbers. First, Bill, if you were to adjust the comments you gave on the marketplace to talk specifically about workers compensation, would things be any different?

I think that in California the market is better, although there's lots of political turmoil there. California has more political turmoil than any state always. But, in general, there is a weaker economic climate, but a better pricing environment at the moment.

I would say overall workers compensation is competitive, and it seems to have bottomed out. But I think that we are cautiously optimistic at the moment. I think that at the moment we are concerned, but we are particularly concerned because a number of new players have entered the excess workers comp market who are using forecasted interest rates that are substantially above current returns, and that's a very long tail line of business. So excess comp is particularly competitive at the moment. Standard markets we thing have sort of bottomed out, beginning to turn around, but prices are barely adequate. And California is prices in a better political environment than economic environment (inaudible).

Okay. Thanks. That is very helpful. And should we incorporate the lower tax rate on investment -- I'm sorry on underwriting income as a reflection of the growth on the international front?

I think that is part of it. It is also some of the things that we are investing in have particularly favorable tax consequences, which is impacting our tax rate. There is a lot of different things going on. Some of the investment opportunities we are seeing are going to have an impact on our tax rate that we're making trade-offs from investment income to get tax benefits instead. There is a lot of stuff going on in that tax rate, and I'm sure that, if you would like, we can talk off-line about some of those things. But I think the tax rate is an issue that is being generated by lots of different pieces.

Bob Farnum, Keefe, Bruyette & Woods.

A couple of questions. You have previously said that if the Bermuda tax advantage is not addressed, domestic carriers will not be able to compete and will be priced out of the market over time. First off, is that an accurate depiction of your opinion?

Yes, sir.

Okay. The question is, if the offshore tax legislation again fizzles out, what if anything will change at Berkley will change to compete with the tax advantage competitors?

You know, I really want to answer this question, and I'm not sure I should. I have a lawyer sitting here staring at me.

The answer is ultimately we cannot survive in this marketplace if the law does not change. We will have to find a way to lead domicile outside the United States or create a vehicle for our shareholders to have an enterprise that does not pay tax. The economics are overwhelming, and I just -- it is hard for me to believe that Congress is not going to understand. I mean virtually all the US reinsurers have already left. That is ultimately what is going to happen. And it is the problem you face that if you generate revenue within this country and don't have to pay tax, you cannot be domiciled here. So ultimately the question is how long is ultimate and how long are we willing to sit and wait and battle the battle? And for now we have been battling it for four years, and we have not gotten much traction. On the other hand, we have all paid for big deficits because they have not done much about solving tax issues.

Right. Okay. So basically you could be a very different company if it does not go through?

I would not say we would be a very different company, but it is certainly an issue that I take seriously, and we will have to give consideration to that. Because yes, I believe ultimately the cost of capital is a long-term driver of a company's ability to survive.

Okay. And the second question I have is a little different topic. The international business, the growth there, you have talked about the different countries. Can you go through what lines of business or types of business you are generating in these new countries?

I think it is different for everybody. So I think in Australia it is mainly casualty business. In Canada it is mainly casualty business. But Australia I might add is reinsurance. It is direct business in Canada. In the UK we have direct casualty business. We have property business through Lloyd's. In Scandinavia we have Marine business.

So not much different from your current, your domestic book. (multiple speakers)

No, maybe slightly more property business, but that is about it.

Larry Greenberg, Langen McAlenney.

You guys have described some characteristics of the market that are typical in a firming market environment -- standard companies pulling away from nonstandard and distribution getting a little bit more discriminating. If this does play out as you see it, do you see a typical hard market -- I mean I don't know if there is a typical hard market but -- or do you see something perhaps more nuanced going forward?

Part of the problem we don't know is we really don't know how what condition everyone's reserves are in. We all talk about it. Clearly there are a lot of people -- what I try to point out to people -- and this is an issue that I have seen before -- we historically have had, let's just say, 8 to 10 points better loss ratio than everybody else, concomitantly better combined ratio, and right now we are booking 6 points worse than lots of other people. That is a 14-point spread. So either we have gotten 14 points stupider or some of the people we compete with are understating their loss picks by some significant amount.

If that is the case -- and I say again because it may well not be the case there is going to be a big price to pay when you start to put that kind of number against the premium volume interest. Those are going to be very large reserve deficiencies, and it's going to require companies to contract. And what is a little different about this, everyone who looks at the insurance business looks at the insurance business in terms of the underwriting cycle. But they need to look at it in terms of the capital raising cycle also, and I think that there is not a lot of people who want to put lots of capital in this business in a standard way. So I think that if all those people end up being short, their capacity to raise new capital will not be so easy, and we could find a very hard market pretty quickly as people try to internally reinvigorate their capital hence.

[Connie Deverwer], [Boston's & Co.]

(inaudible) one question. Bill, in the past you have talked about your predictions for a market turn and specifically given the timing period. I think the last update was for the end of this year. And I know in the prepared remarks you have talked about signs of a change and pricing flattening out, but do you have an update as for when you think the market might turn?

Well, I think, first of all, I have always said to people that my expectation is prices will start to move up in the fourth quarter. And I have also said that we would not run our business any differently if prices change in the fourth quarter of this year or the second or third quarter of next year. I think that there are lots of signs prices are going to change.

The question we face is, when will people's state of mind and reality become aligned? There is no question about what reality is. There is a question about when people's state of mind will get to the point that they say, interest rates are down, investment income is down, the industry combined ratio is give or take 110. When will people recognize the industry as a whole is losing money?

Now everyone is not losing money, but lots of people are not getting adequate returns. And when that realization happens, people are going to start to raise prices. I think there will be modest price increases in the beginning of the fourth quarter.

But if it does not happen until the first or second quarter, our managerial behavior will be no different. We are going to do exactly the same thing. And all we will do is delay when that earned premiums will come through, but we're starting to see some real positive signs. I would expect for us that, while in the third quarter we had -- and September our prices were flat -- I would be surprised if we did not have at least a small amount of price increases in the fourth quarter. But we will have to see.

I think that all the signs are there, but when are people's state of mind going to change? I don't know the answer to that. We are going to behave in the same way whether it's going to change in the fourth quarter or the second or third quarter of next year. It cannot go on for very long with the current economic climate for the industry.

I'm showing no further questions in the queue.

Okay. Well, thank you all very much. We continue to believe that we will be able to continue having adequate underwriting results, and we do continue to seek investment returns that should allow us to maintain that investment income level.

And with that, I thank you very much. Have a great day, and remember, Halloween is around the corner. Have a wonderful Halloween.

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the program. You may all disconnect. Everyone, have a great day.