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The Chubb Corporation (NYSE:CB)

Q3 2008 Earnings Call

October 23, 2008 5:00 pm ET

Executives

John D. Finnegan – Chairman of the Board, President & Chief Executive Officer

John J. Degnan – Vice Chairman & Chief Operating Officer

Analysts

David Lewis - Raymond James

Joshua Shanker - Citigroup

Jay Gelb - Lehman Brothers

Jay Cohen - Merrill Lynch

Paul Newsome - Sandler O’Neill & Partners L.P.

[Al Cooperstino - Manoff Investments]

Matthew Heimermann - J.P. Morgan

Ian Gutterman - Adage Capital

[Michael Vasilio] - John Hancock

[David Small] - J.P. Morgan

Alain Karaoglan - Banc of America Securities

[Unidentified Analyst] - Credit Suisse

[Connie Hubover] – Boston Company

Operator

Welcome to The Chubb Corporation’s third quarter 2008 earnings conference call. Today’s call is being recorded. Before we begin, Chubb has asked me to make the following statements.

In order to help you understand Chubb, its industry and its results members of Chubb’s management team will include in today’s presentation forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. It is possible that actual results might differ from the estimates and forecasts that Chubb’s management team might make today. Additional information regarding factors that could cause such differences appears in Chubb’s filings with the Securities and Exchange Commission.

In the prepared remarks and responses to questions during today’s presentation of Chubb’s third quarter 2008 financial results, Chubb’s management may refer to financial measures that are not derived from the Generally Accepted Accounting Principles or GAAP. Reconciliations of these non-GAAP financial measures to the most directly comparable financial measures calculated and presented in accordance with the GAAP and related information is provided in the press release and the financial supplement for the third quarter 2008 which are available on the Investor Section of Chubb’s website at www.chubb.com.

Please also note that no portion of this conference call may be reproduced or rebroadcast in any form without the prior written consent of Chubb. Replays of this webcast will be available through November 21, 2008. Those listening after October 23, 2008 should please note that the information and forecasts provided in this recording will not necessarily be updated and it is possible that the information will no longer be current.

Now I will turn the call over to Mr. Finnegan.

John D. Finnegan

Thank you for joining us. Our conference call this quarter is occurring against the backdrop of unusually high catastrophe losses, unprecedented turbulence in the worldwide financial markets, and major dislocations in the property and casualty insurance market. In this environment we are pleased with Chubb’s performance and believe that we are well positioned to take advantage of opportunities arising in the market place.

In terms of third quarter results we remained significantly profitable despite losses from what will probably turn out to be the third largest hurricane in US history and the tremendous turmoil in the global capital markets.

On the operating side we generated $431 million in pre-tax operating income notwithstanding $402 million of catastrophe losses reflecting the underlying strength of all of our major business units. Operating income per share for the third quarter was $0.93 compared to $1.68 a year ago.

However, overall cat losses reduced our operating income per share for this year’s quarter by $0.72 versus only $0.10 in last year’s third quarter. Most of the cat losses this quarter were attributable to Hurricane Ike. Based on the $10 billion to $20 billion estimate of total industry losses, Chubb’s cat losses from Ike were within the range of what we would have expected given our market share in the affected areas.

On the investment side our results speak for themselves. Our conservative approach in selecting and managing our assets has given us a high quality investment portfolio which held up extremely well in an unprecedented environment of declining asset values worldwide.

The weakened financial condition of a number of our competitors may lead to significant market dislocation and potentially a flight to quality. Chubb now enjoys an enviable position in the property and casualty segment. Our capital base, overall financial strength in ratings, underwriting excellence and reputation for premier claims service uniquely position us in the current market environment. Having worked so hard to position our company as a market leader, we intend to take advantage of those opportunities which are within our underwriting appetite and meet our pricing parameters.

Now John Degnan, our Chief Operating Officer, will discuss our operating performance.

John J. Degnan

I’m going to start with some details about third quarter cat losses. About $340 million of the $402 million of pre-tax cat losses for the quarter were attributable to Hurricane Ike. Ike impacted nine states although our losses came primarily from Texas with Ohio a distant second. It was predominantly a commercial line event for us then with two thirds of our losses in commercial lines and one third in personal lines.

Now let me turn to the individual business results for the third quarter. Chubb personal insurance net written premiums grew 2% and CPI produced a combined ratio of 100.7 which was 17.4 points higher than last year due largely to the higher cat losses. CPI had 16.3 points of cats in this year’s third quarter compared to 5.2 points in last year’s third quarter. Excluding cats CPI’s third quarter combined ratio was 84.4 this year and 78.1 last year.

Homeowners’ premiums declined 2% and it had a combined ratio of 102.9 including 23.8 points of cats. Excluding cats homeowners produced a 79.1 combined ratio in this year’s third quarter compared to an especially outstanding 68.8 last year.

Personal auto had a combined ratio of 85.7, premiums declined 4%. In other personal lines premiums increased 23% and the combined ratio was 105.8 impacted by hurricane-related yacht losses.

The results of Chubb commercial insurance were also heavily impacted by cats. Although the third quarter combined ratio was 106 versus last year’s 84.4, this year’s quarter included 19.9 points of cat losses compared with only 0.8 points last year. Excluding cats CCI’s combined ratio in the third quarter was 86.1 in 2008 versus 83.6 in 2007. The two CCI lines most impacted by cats were multiple peril which had 28 points of cats and property and marine which had 49 points.

In a competitive market environment CCI’s premiums were flat in the first nine months and down 2% in the third quarter. The ratio of new to loss business in the US was 1.1 to 1 in the third quarter and we retained 86% of US accounts up for renewal with an average renewal rate decrease of 4%. That’s a slight improvement over our rate experience in the last three quarters.

Chubb’s specialty insurance delivered a third quarter combined ratio of 82.3 compared to 76.3 in the third quarter last year.

Professional liability had a combined ratio of 84.3 compared to 81.8 in last year’s third quarter reflecting continued significant favorable development related to accident years 2005 and prior. Professional liability premiums declined 5%.

In the US third quarter renewal retention was 87% and the ratio of new to loss businesses was 1.1 to 1. Average renewal rates were down 2%. That’s the lowest level of rate decline we’ve had in two years.

For surety net written premiums grew 16% and the combined ratio was 65.

So in summary, the market remained competitive in the third quarter with rates continuing to be negative in most commercial and specialty lines. However, the decline in rates in the third quarter was somewhat less than we had experienced in recent quarters. Moreover it should be noted that this improvement was not the result of recent insurance market dislocations which occurred too late in the quarter to have any impact.

This is a perfect segue for me to move on to what we are seeing in the market place and what challenges and opportunities it presents. The answer is obviously in real time but the ultimate answer will develop over the next several quarters.

Events in the property and casualty industry over the past several weeks clearly have the potential to cause a significant market place dislocation which could in turn trigger a flight to quality. As John Finnegan already noted, we believe that Chubb is well positioned to take advantage of opportunities that may come our way as long as they fit within the disciplined underwriting strategy that has characterized this company for many years.

To date we would characterize the transition in the market as being orderly. Mid-term cancelations of policies have generally been limited to those instances in which the customer demands that the producer immediately find a replacement carrier. In the vast majority of cases however, producers are maintaining the existing carrier until policy renewal at which time they are providing the customer with alternatives.

The actual booking of premium is also affected by the normal time lag between quotes and the awarding of business. This has had the impact of phasing in the new business opportunities but we have begun to see an increase in both submissions in quote and even in bound business in October especially in our sweet spots such as high network personal lines, professional liability and certain sectors of commercial lines.

We’re wondering just as we suspect many of you are whether the last few weeks have finally provided a soft market with a reason to turn hard as some industry observers are now projecting. The fact is we don’t know at this point although there are certainly reasons to believe that prices should firm. These include industry-wide trends toward higher combined ratios, reduced levels of excess capital, higher cost of capital and lower investment returns. These trends would seem to argue for higher rates in the industry especially for companies with strong ratings who should benefit from what may be a flight to quality.

However as we’ve said before and as we know now more clearly than a few weeks ago, this is not always a rational market. So we will continue to operate with the expense and underwriting discipline required by a soft market while remaining poised to take advantage of both new business opportunities and a hard market if they develop.

In summary, I appreciate that you would all like more certainty in our projections of the fallout from the market place dislocations underway as we speak but it will take a while for this situation to clarify and all I can give you is what we’re seeing now.

Finally on the credit crisis claim front notwithstanding developments in the financial markets over the past few months not much has changed in our trends. While the number of claims has risen somewhat, many of the new claims are against the same insureds and the same limits that were previously implicated. However the widening nature of the crisis should remind us all that the overall front doors of potential liability are still emerging.

As I said last quarter, the full scope of claims that may arise from it is not yet known. Although the ultimate cost to insurers is uncertain, we are following our customary approach of establishing prudent IBNR loss reserves for current and recent accident years taking into account all recent developments.

With that I’ll turn it over to Mike O’Reilly.

Michael O’Reilly

In addition to positive underwriting in the third quarter property and casualty investment income after tax increased by 1%. Net income was lower than operating income as we had realized investment losses before tax of $113 million which equates to $0.20 per share after tax. The realized losses included $96 million of impairment charges. Of the impairments $53 million was in our equity portfolio and $43 million was in our fixed income portfolio.

During the quarter we also had $539 million of unrealized investment losses. $109 million of that amount resulted from the decline in the equity markets and the balance from widening credit spreads.

In light of the unprecedented financial market turmoil, we thought you would appreciate greater detail about our liquidity and investment portfolio as of September 30 than we normally provide. Total market value of the consolidated portfolios as of September 30 was $39.6 billion.

Our fixed income portfolio has an average duration of approximately 4.7 years. The unrealized depreciation in the fixed income portfolio at the end of the third quarter was $485 million compared to unrealized appreciation of $397 million at year end 2007. 6% or $2.4 billion of the fixed income portfolio consists of highly liquid short-term marketable securities.

45% of our portfolio consists of tax exempt bonds with a market value of $18.1 billion and book value of $18.4 billion. They have an average credit rating of AA2 based on the underlying ratings of the individual securities. Importantly, this portfolio is structured to provide a significant source of liquidity for our insurance operations. We employ a laddered maturity strategy and generally have in excess of $1 billion of maturities in each year through 2017. In addition, the tax exempt bonds throw off over $900 million of coupon cash flow annually.

22% of our portfolio is invested in taxable fixed income securities consisting primarily of treasuries, corporate bonds and mortgage-backed securities. They had a market value of $8.6 billion and a book value of $8.9 billion. They have an average credit rating of AA3 with only $250 million of below investment grade issues. We don’t have any direct exposure to the subprime mortgage-backed securities market or derivative products such as CDOs or CLOs.

17% of the portfolio supports our international insurance business and is invested in fixed income securities outside the United States. The market and book value of these securities was $6.6 billion. These securities are high quality with foreign government bonds representing just over 60%. More than 85% of these securities are rated AAA and around 10% are AA.

The balance of invested assets are in a well diversified portfolio of equity securities and alternative investments representing 4% and 6% respectively of our investment portfolio. Alternative investments consist primarily of private equity and distressed debt partnerships. Based on our approach we account for these holdings on a quarter lag and include their results in realized gains and losses; not in investment income.

While we are still a couple of months away from receiving all our September valuations, we anticipate reporting a decline in the fourth quarter. Based on currently available information we expect the decline to be less than $100 million largely related to publicly traded equities.

With respect to securities lending we have had a program in place for several years. In the third quarter we decided to end the program. At September 30 there were $150 million still on loan. That number has since declined to about $70 million. We expect to be completely out of securities lending by mid-December.

Finally the holding company’s invested assets had a market value of $2.7 billion. This portfolio is liquid and high quality with a AA average credit rating and heavily weighted in short US government agency discount notes.

In addition I would also note that none of our corporate debt matures prior to 2011 so we have no near-term need to access the capital markets to service our debt. As you can see we are in a very strong and liquid position.

Moving on now, book value per share under Generally Accepted Accounting Principles at September 30, 2008 was $38.25 compared to $38.56 at year-end 2007 and $37.12 on September 30, 2007. Adjusted book value per share which we calculate with available for sale fixed maturities at amortized costs increased to $39.14 from $37.87 at 2007 year end and $36.93 on September 30 of last year. That’s a 6% increase compared to a year ago.

Turning now to reserves. We estimate that favorable development on prior year reserves by SVU were as follows: In CPI we had about $15 million, in CCI about $60 million, CSI had about $125 million and reinsurance assumed had about $10 million bringing the total favorable development for Chubb to about $210 million for the quarter which improved the third quarter’s overall combined ratio by about 7 points.

For comparison, in the third quarter of 2007 we had about $150 million or 5 points of favorable development for the company overall including about $15 million in CPI, $20 million in CCI, $85 million in CSI and $30 million in reinsurance assumed.

During the third quarter our loss reserves increased by $125 million. Reserves in the insurance business increased by about $164 million during the quarter. The impact of currency fluctuation on loss reserves during the third quarter resulted in a decrease in reserves of $248 million. During the quarter the impact of catastrophes increased reserves by $268 million and reserves in our reinsurance assumed business, which is now in runoff, declined by $39 million.

The expense ratio for the third quarter was 30.2 compared to last year’s 29.8.

Turning to capital management. During the third quarter of 2008 we repurchased 5.9 million shares at an aggregate cost of $284 million. Under the current authorization as of September 30 there were 3.4 million shares remaining for repurchase. Depending on market conditions our intention is to complete the repurchase of all these shares by the end of the year.

Finally, this is my last earnings conference call because as you know I am retiring at the end of this year. Chubb is in excellent financial condition and I have confidence that my successor, Ricky Spiro, will help make it even better. Ricky is an outstanding individual with over 20 years of insurance and financial industry experience and I have had the pleasure of working with him for many of those years. He’s a terrific addition to our senior management team. It has been a pleasure and privilege to have worked with all of you, and I wish you and Chubb continued success.

Now I’ll turn it back to John Finnegan.

John D. Finnegan

As you just heard, Mike will be retiring at the end of this year after a distinguished 39-year career with Chubb. His achievements first as the Chief Investment Officer and most recently as CFO are evidenced by the excellent financial condition in which he leaves Chubb. We wish Mike well in his retirement and at the same time we are fortunate to have attracted Ricky Spiro to Chubb. Ricky joined Chubb at the beginning of this month and will succeed Mike as CFO after we file our third quarter 10Q.

Let me now move to updated earnings guidance. Based on the high level of catastrophes experienced in the third quarter we are revising our 2008 calendar year operating income per share guidance to a range of $5.45 to $5.55 from the $5.70 to $6.10 range we provided in July. The revised guidance is based on actual operating income per share of $3.99 in the first nine months and a forecast range of $1.46 to $1.56 for the fourth quarter.

The updated guidance assumes 2% points of catastrophe losses in the fourth quarter. This brings our catastrophe loss assumption for the year to 5.7 points versus the 4 point cat assumption in our July guidance. This higher cat assumption driven by the adverse effect of Hurricane Ike losses accounts for virtually all of the downward revision in our calendar year 2008 earnings guidance.

I now want to conclude with a few remarks on our results in the outlook going forward. Briefly stated, I am extremely pleased with our performance in what has been a very tumultuous first nine months of 2008. On the underwriting side we have recorded a 90 combined ratio year-to-date despite an unusually high level of catastrophe losses. This is an excellent result in a challenging market environment and far better than the industry as a whole.

On an ex cap basis we are running in the low to mid 80s which reflects continued strong contributions from all of our business units. Nonetheless this represents a deterioration of about 3 to 4 points from last year reflecting margin compression which is inevitable after three years of declining rates. In the absence of market firming this margin compression trend will continue into 2009 as the impact of lower 2008 rates are earned out over next year.

On the investment side our portfolio held up very well in what was an awful capital market environment. From my perspective the headline of the quarter is that our capital position and credit quality remain extremely strong.

The primary thought I would like to leave with you is that we expect the market to continue to be challenging but believe Chubb is well positioned to take appropriate advantage of whatever opportunities may be presented as a result of any market dislocations.

With that I’ll open the line to your questions.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from David Lewis - Raymond James.

David Lewis - Raymond James

John, I know you pulled back in the D&O financial institutions going back a couple of years ago as you saw maybe some of the troubles coming. Given the improved pricing environment and the issues at AIG, is that some area that you plan to tread back into?

John D. Finnegan

As you know we enjoyed a pretty strong position in that market as does AIG and some other competitors as well. We’ve communicated to our customers, to our brokers that we want to be responsive to the needs as they may emerge in the market place. We’re not a company that’s going to change our underwriting appetite which is a core part of our value structure around here however. At the right price at the right placement on the right accounts we’re available to be of help and are optimistic that we’ll have those opportunities.

David Lewis - Raymond James

Can you give a general sense? Is quote activity picking up fairly significant in your professional liability area? Is it up 20% or can you give us any general sense?

John D. Finnegan

I can’t quantify it but we’ve seen a significant number of increased submissions and quotes in professional liability, in high network personal lines and in some sectors in commercial lines. There was an initial flurry of activity when the problems of some of our competitors first emerged. It’s dampened down a bit since then but what brokers are telling us is that there will be a lot of business available in the market place for folks to look at as renewals come up rather than mid-term cancelations and rewrites.

David Lewis - Raymond James

Do you think greater beneficiaries would be the Berkeley and Ace which took some of those underwriting teams over or do you think that business will still be somewhat liquid?

John D. Finnegan

I’m very proud of our capabilities in those areas and be glad to talk about them. I don’t really want to characterize on our competitors, especially new entrants to the market.

David Lewis - Raymond James

Can you give a sense of your expected favorable development in the fourth quarter under your guidance if any?

John D. Finnegan

I think that what we said in the past it depends on our loss experience. Achieve in an updated 2008 operating income per share guidance or a fourth quarter range would require performance in the fourth quarter, probably require performance in the fourth quarter for professional liability similar to that which we experienced in the first nine months. This would likely continually require a significant amount of favorable development in the quarter based on an expectation of continuing favorable loss trends related to prior accident years.

On the other hand no additional favorable development in other classes is necessary to attain the projected earnings.

So in summary, our fourth quarter earnings guidance is achievable in a number of ways, does not comprehend any specific level of favorable development but probably does an efficient of some favorable development and professional liability.

Operator

Our next question comes from Joshua Shanker - Citigroup.

Joshua Shanker - Citigroup

You mentioned that you’re seeing submission and perhaps some binding for the high net worth individual business. I’m wondering in terms of the competition for that business when you look at your competitors you might be gaining share from, is the pricing competitive or is it an altogether different product you’re offering compared to what they’re offering?

John D. Finnegan

We’re maintaining our pricing discipline there. I think high net worth buyers we’ve always believed and have recently had ratified are credit sensitive. They don’t want their art portfolios or their homes placed with a carrier about whom there’s any doubt not only to their ability to pay but who’s going to be there to adjust the claims and service the accounts going forward. So we’ve seen opportunities that are impressive and we are not cutting price to do it. We are making ourselves more available, turning submissions around on a quicker basis for our producers as the volumes of these things has been indicated to us will increase. But we’re not cutting prices.

Joshua Shanker - Citigroup

In terms of what you’re hearing feedback from the agents and whatnot, when the customer’s looking to move his business from a competitor are you finding that their price is dramatically lower than yours and yet the customer’s still saying, “We’re coming back to Chubb?”

John D. Finnegan

It varies. In some cases in a couple of accounts where we brought the account back, we lost it to one of our competitors at fairly significant price reductions on the part of the competitor. We brought it back not only at the price we had formerly quoted but with some increase. It’s hard to say on a uniform basis that the high net worth policies placed by a competitor are consistently underpriced. Where they are though, it hasn’t been an impediment to our ability to get the business back when we want it.

Joshua Shanker - Citigroup

The investment portfolio has held up outstandingly well compared with a lot of competitors. I’m wondering in light of what you’ve observed, have you been making any changes to the portfolio to even make it more tight and loss resistant in the last quarter or so?

John D. Finnegan

No, not really. We’ve always had a consistent investment strategy which has been pretty conservative. We’ve always considered ourselves to be an underwriting company. We expect that we’re taking a fair amount of risk on the liability side of the balance sheet particularly with some parts of our long-tail liability business so we’ve always really thought about our investment portfolio as an augment and a help to our basic business, not really as a stand-alone try-to-maximize total return at all times. We don’t see any reason to modify it right now.

Would we maybe hold a little bit of extra liquidity? That could be the case and clearly we’re not in a situation here where we’re interested in catching a falling knife trying to pick the bottom in the securities market, but we think the underlying quality of our portfolio and the nature of the securities that we’ve picked will withstand a lot of difficulty. That being said, it’s certainly not immune to credit spread widening which we obviously have seen recently. But we think we’re in good shape and we don’t see any reason to modify it.

Operator

Our next question comes from Jay Gelb - Lehman Brothers.

Jay Gelb - Lehman Brothers

John, maybe you can dive in a little more on the directors and officers and errors and omissions exposure? The situation with the financial turmoil has only worsened so I’m just trying to understand how that won’t lead to potentially worse incurred losses on the D&O and E&O side.

John J. Degnan

I wouldn’t rule out that it will lead to worsening of incurred losses. It would be normal to expect that. But to put it in the context of what we’re seeing on an industry-wide basis, there’s been an increase in securities class actions filings during 2008 driven principally by subprime and credit crisis allegations but primarily in financial institutions. For non-financial institutions actually the number of securities class action cases seems to be relatively flat or down through the year, and our own book reflects that.

Those claims that I’ve categorized in the past as severe which generally arise out of either mergers and acquisitions or restatements have increased in the Chubb book by about 11%. That follows a 43% decrease in 2007 and an 18% decrease in ’06. But the overall specialty new arising claim counts have actually decreased 3% year-to-date.

The way we’re dealing with it is by reserving this book of business on an IBNR basis at a very conservative target for accident year 2008 as the situation clarifies. At the moment we’re confident that the reserve position of the company particularly in light of that conservative number to which we target the business is the right place to be. We’re comfortable with it.

John D. Finnegan

Just to put it in some perspective, no one knows for sure what will come here and obviously it’s a concerning area. But sometimes your question suggests that we’re not on top of it. It’s a difficult thing to predict but put in some perspective our accident here in 2008 we’re running over 100 in professional liability. So it’s a significant increase from 2007 to account the credit crisis and we had some issues in credit crisis in 2007.

So when you look at our premiums written, you look at 102 or so combined ratio and mid-70s to high 70s loss ratio, you’re talking about $2 billion or so of reserves this year of which most will be IBNR. It’s a substantial amount. Now that’s there to cover losses from the credit crisis, losses from other things so obviously it all depends upon how well the credit crisis goes, how well the securities actions goes but it’s a substantial number. No one knows in the end. It’s an evolving situation and it obviously hasn’t been evolving favorably recently but we are reserving pretty substantially for that class of business.

John J. Degnan

And Jay, for you I don’t think I need to go through again the underwriting measures that we’ve effected over the last years in terms of lower limits and attachment levels and getting out of the large money sensor regional bank space and restructuring our FI book. But just as a reminder, that’s going to play out as the losses emerge as well.

Jay Gelb - Lehman Brothers

The effective tax rate and operating income seemed a fair amount lower this quarter. What was driving that?

Michael O’Reilly

On investment income it was 20.4 and other than investment income we had such a low level of other income and there was a couple of non-admitted issues that the tax rate on the rest of the business was actually a little bit higher. So that’s how you basically get to where we’re at.

John D. Finnegan

It’s a mix question of earnings. Underwriting income is less than usual and investment income is higher than usual as a percentage.

Operator

Our next question comes from Jay Cohen - Merrill Lynch.

Jay Cohen - Merrill Lynch

In the homeowners’ business the premiums were negative this quelling pretty steadily over the last two years from 8% now down to -2%. It feels like you might see more opportunity but why the kind of noticeable slowdown and then the decline this quarter? I was a little surprised by that.

John J. Degnan

I think there are a few factors that when we looked at this we decided probably drive what you just described as a lower premium growth, actually a negative in homeowners.

First is the inflation guard roll on that exists in the Chubb policy. For a long time in the housing market while the housing market was in decline, the cost of commodities was stable and the cost for labor. Remember we don’t insure the market value. We insure the replacement costs. So the inflation roll on is calculated as a function of labor and commodity prices. As they’ve gone down, it’s a formulaic calculation, the amount of inflation roll on has also gone down. That partly accounts for a lower growth than we would have seen.

The second is clearly the dramatic decline in upper end housing starts has reduced growth in insured values and we’ve experienced some reduction in the amount of premium increase at renewal of existing insureds from changes in policy coverage as they affect devices that are designed to reduce their premiums. They may take increased deductibles, they may cut back on their coverage.

So all of those factors have combined to impact the growth in homeowners. It’s something that does have the potential of effecting future premium growth. We’re hoping that the quote activity that has increased in September will offset that a bit.

Jay Cohen - Merrill Lynch

On buy-backs you’ve heard from a number of other companies that are given the environment, given potential opportunities and potential risks have slowed down their buy-back activity. Can you guys talk about your own capital management efforts going forward?

John D. Finnegan

I think we’re going to finish our 2008 buy-back program because the amount of shares under the authority left is [inaudible]. We have 3.5 million or something left at quarter end. We have less than that now and it’s not going to have any impact on our capital. The good news is we have a terrific excess capital position.

As usual at year end the Board will make an assessment on our capital management strategy based upon our outlook for 2009 with respect to ratings, premium growth and capital market environment. Again, we’re in a substantial excess capital position which at this point could easily accommodate next year’s premium growth including any new business opportunities.

On the other hand, the capital markets are extremely volatile as you know so we’ll also need to determine the merits and size of any 2009 buy-back program at that time given the current and prospective capital market environment. We’ll come to that and be better informed as we get towards year end.

Operator

Our next question comes from Paul Newsome - Sandler O’Neill & Partners L.P.

Paul Newsome - Sandler O’Neill & Partners L.P.

You talked about the environment pricing and submission. We’ve also heard conversations about teams moving. Do you have an appetite for looking for new people and have you had a lot of phone calls from people looking, not just from AIG but from other places as well in this sort of crazy market?

John D. Finnegan

As you could expect in this market place, there is an increased flow of submissions to Chubb from people outside the company looking to come here. We have a special unit in HR that’s set up and designed to deal with the flow of it. We want to be opportunistic but not predatory. If there are people out there in areas where we have a need, we’re going to be aggressive in making them offers. But beyond that I don’t think I want to comment.

Operator

Our next question comes from [Al Cooperstino - Manoff Investments].

[Al Cooperstino - Manoff Investments]

I heard your comments about the possibility as you were saying for price hardening and the reasons behind that. I’m curious if you would care to comment on what some other companies are saying which is that some believe it’ll be a reinsurance led hardening if there in fact is a hardening? Would you care to comment on that, the reinsurance side versus the primary side?

John D. Finnegan

I’m not an expert on reinsurance and certainly don’t have any particular insight on how they’re going to think about it, but clearly some of them have been impacted by Hurricane Ike so some of their excess capital has been alleviated.

I think they’re also viewing the opportunity to be helpful in some of the market turmoil that’s arising here as to whether or not helping primary companies put out greater capacity or bigger limits or something like that. So I would think that reinsurers are viewing the opportunity here. It’s somewhat on a positive viewpoint and they’re clearly smart people. They’re not going to go and give away their balance sheet any more than the primary companies are at incorrect pricing.

I could see the pricing hardening but I don’t think I can see the overall thing being driven by reinsurance capacity. That’s more of a function of the smaller regional companies that don’t have enough capital per se and they need a lot of reinsurance help. I think for the bigger companies like us, we’re going to determine our own pricing and if we need some reinsurance help, we’ll obviously do what we usually do and that is go to strong reinsurers to help us.

John J. Degnan

I might just add to that that the factors I cited in the opening remarks about higher combined ratios, reduced levels of excess capital, higher cost of capital, lower investment returns; that doesn’t sound to me like just a reinsurance issue. If the market is rational, there are companies on the primary side that need to do something.

[Al Cooperstino - Manoff Investments]

You all have done a very good job giving us something of a tutorial in quarters past on positive changes in federal case law as related to securities and things like that. My question was, what about the state laws, the blue sky laws and things like that? Do they tend to follow the federal case law and so has there been an improvement on that front as well? Is the state law in fact even something we need to be concerned about or not really?

John J. Degnan

On an academic basis I guess you could have a concern about it. In what drives our loss costs and professional liability, it’s extremely rare to see a case based on the blue sky laws.

It was the expectation when the PLSRA was passed in the late 90s that there would be fewer securities class actions based on federal law and maybe some more based on state because the securities class action bar would have been foreclosed from the federal courthouse. In fact the law didn’t work that way. They’re still in the federal courthouses; they’re still arguing SEC litigation based on the Securities Exchange Act. While they do generally follow the federal law, it’s not something we to be honest with you pay a hell of a lot of attention to because the federal law preempts state law and that’s what’s driving our loss costs. Interesting question.

Operator

Our next question comes from Matthew Heimermann - J.P. Morgan.

Matthew Heimermann - J.P. Morgan

Could you give us a sense of how much of your tax exempt portfolio is classified as held to maturity?

Michael O’Reilly

Virtually none of it.

Matthew Heimermann - J.P. Morgan

In terms of pricing, there’s been a big difference between primary pricing for new issuance on GO for example. There’s been a big difference between new issuance and secondary pricing. What kind of benchmarks are you using when you’re thinking about fair value for those securities?

John D. Finnegan

That’s a tough question to answer. There’s always a difference between new issue pricing and secondary market pricing. That new issue depending upon the stress in the market tends to open or close. We’re basically thinking about the normal market environment when we think about how to mark securities; not new issue pricing.

Matthew Heimermann - J.P. Morgan

On the high net worth personal lines business, do you have any constraints from a PML standpoint in terms of the growth you could handle?

John D. Finnegan

If you look at it on the basis of the regions which is how we look at it and you go around the country, we break it down into a lot of different areas. We’ve got the West Coast, Texas, Gulf Coast, Florida, Mid-Atlantic, Northeast and we look at Texas to Maine, so it’s a complicated way of breaking it down. Our PML though at the top is really driven by the Northeast.

If you noticed on past calls when we’ve talked about our cat program, we’ve got some extra reinsurance help up in the Northeast on the very top of our program which is where the greatest majority of our exposure is. From a pure PML standpoint we could handle a lot more business everywhere else in the country other than the Northeast that’s exposed to wind without really changing our overall PML environment. That’s probably just one way to think about it.

The other way you’ve got to understand is that in Florida for example there’s lots of things going on in Florida that are driving other than PML and it has to do with a shaky financial situation of the Florida wind pool and things like that.

It’s a hard question to answer specifically without knowing exactly what you’re looking for. But we clearly have opportunity on a PML basis to grow our business without doing anything else.

John J. Degnan

And we’re necessary reinsured.

Matthew Heimermann - J.P. Morgan

Anything happening with the surety combined ratio this quarter other than maybe less favorable development or anything like that?

John D. Finnegan

Surety ran at a pretty good combined ratio in the 60s. Last year we had a terrific year and the quarter last year was an astonishing 30 to 35 which meant no losses.

John J. Degnan

There was some reassessment of the loss that we posted in the second quarter that impacted the third quarter’s results but we’re pretty pleased with where it’s going.

John D. Finnegan

Surety’s a business that you can’t reserve in advance for sureties so when you have a loss you simply record it. It tends to be a lumpy business but in general we think of our surety book which is a lot more profitable than most as sort of being in a mid-60s combined ratio kind of business over time.

Operator

Our next question comes from Ian Gutterman - Adage Capital.

Ian Gutterman - Adage Capital

On the D&O, if AIG gets to the point where they really have a hard time writing the lead layer, the primary layer, what is your appetite specifically there to increase your market share? Because on the surface it would seem you could go from whatever it is, the 25% to 30% you are today to 50% but I would assume that would be more than you would want just from a diversification standpoint concentration of exposure in one line. So can you give me a sense of how you would think about that? Is your thinking you want to expand through new clients, increasing line size with existing clients? What’s the ideal way for you to grow the D&O book especially to lead by your book?

John J. Degnan

We’ll all of the above I guess in a modest appetite. For example, you could come into the primary layer at a lower limits level and then play at additional higher layers in the program if you wanted to contain your exposure to the primary side. We might be willing to do that in an account that we’re comfortable with at the right price.

There are other opportunities to play both in the traditional program and in the Side A coverage that increasingly D&O large accounts are buying. We do have some increased capacity to do that because of the different dynamics that come to play in a Side A only coverage. If it’s an account that we’ve known for a long time and are comfortable with, and again if the pricing is right, we do believe we’ll have an opportunity to provide a solution to a void that might be created by other players in the market place who would no longer be desirable from the account’s point of view or who priced to a primary play that’s in the interest of the insured.

We’re going to be opportunistic in the market place but again we’re not going to change our fundamental underwriting strategy in the company, which is that we’re going to produce every year in every line of business an underwriting profit. We want to take advantage of opportunities but not at the risk of creating longer-term problems.

Ian Gutterman - Adage Capital

If I recall, you stopped maybe a couple years ago buying reinsurance for the D&O book. Might it make sense to increase line size to win some of these accounts and then buy reinsurance to bring the net line down?

John D. Finnegan

We’ve always taken the posture, at least we have in the last several years, that reinsurance is a function of price and availability so if the reinsurance economically makes sense and it is better than keeping it on your own balance sheet from a capital standpoint it’s more efficient, we’ll use some more reinsurance.

A couple years ago when we cut it way back, we really felt that the reinsurance was too expensive from an economic standpoint; we really didn’t need it. We also had a strategy at that point that we were going toward lower limits and less exposure to the lower layers particularly for the big financial institutions. The use of reinsurance is really a function of what your underwriting strategy is going to be and how you want to support that. That’s either a function then of using your own balance sheet or getting some reinsurance help.

But unlike a lot of companies, we don’t really try to take a bad risk and turn it into something good with reinsurance. We want to take on good risks at the right price and we’ll use reinsurance help if we need it.

I guess just one more thing which is probably more than you needed to know, but recently for our financial institutions book we have purchased some reinsurance specifically for the Bermuda market place where we can offer a little bit more capacity and it will supplement what we’ve already one in the United States. So this is really in the excess market and we think that’s going to be a help to us. That was in place before the recent crisis. We think it’s going to help us now.

Ian Gutterman - Adage Capital

To be honest I’m not suggesting you should like you said write bad risks to [inaudible] reinsurance book. I was just thinking if there were times where your client might demand more capacity than you want and do it as a combination.

Anyway, my final question is just a broader question on the potential for a market turn. I think someone else alluded to this in their question. The early feedback we’re hearing from the brokers community and from broker community and from risk managers is that AIG is aggressively trying to defend their books of business across many lines and when we do hear about business moving, it’s moving at existing prices, not at higher prices.

Everything guys you said and others have said about pricing needing to go up makes 100% sense to me and I agree with it. I guess my concern is I don’t want to have the next conference call and hear at 1/1 everyone sort of lost their resolve because AIG or someone else didn’t play along and we took it as expiring because that was the best we could get. Can you help me feel better that we’re not going to hear that three months from now?

John D. Finnegan

Let me say one thing and then John Degnan can talk to it. What our comments on rates today were suggest there are good reasons for market hardening. There are always good reasons for the insurance company nine out of 10 years for market hardening. Unfortunately it only happens two out of 10. We’re not projecting that it’s going to happen.

We’re not forecasting that and we’re not running our business that way. We’re operating with the same underwriting and expense discipline that we need in the soft market to put us in a place to take advantage of the hard market when it comes. We are not forecasting that. It hasn’t happened yet. We’ve seen slight, slight improvement in pricing this last quarter but nothing to get excited about. I just want to make clear, to that point we are not forecasting it. There are a lot of good reasons. The industry’s supposed to run at 103 this year and probably not getting better next year. That’s good reason enough one would think. But having said that, it’s far from certain.

Let me ask John to talk about the AIG situation.

John J. Degnan

Let me give you a little perspective. We’ve seen the same articles and comments about pricing conduct in the market place. Clearly we’ve seen some erratic and inconsistent behavior on the part of a couple of our competitors. It is not consistent, I would stress that, but where pricing has gotten aggressive it generally relates to the carrier’s own renewal book. It’s clearly an attempt on their part to protect their own book rather than to grow the business.

It doesn’t by and large, at least on our experience to date, flow over to our renewals given what we consider to be an enhanced competitive position based on a flight to quality environment. And in the context of the weakened financial strength ratings of certain of our competitors. They’re not in a position to take new business when it comes or certainly not in a position to take business from us. So we don’t feel any increased pressure to reduce rates in our own business and as I’ve said a couple times we’re not going to relax our pricing requirements and underwriting discipline in new business that we do want.

Ian Gutterman - Adage Capital

To be honest, I think your comment there that certainly your competitors don’t’ have the capacity to participate is frankly the reason it would seem to me at least that this should be one of those two out of 10 years combined with the amount of shopping that’s going to go on just because so much business isn’t going to renew with the incumbent possibly would seem to be an opportunity where you could be more of a price setter - not that you’re ever a price taker if you will - but more ability to influence the market rather than have to follow the market. Is that fair?

John J. Degnan

As [Ed Kot] used to say, “From your lips to God’s ears.”

Operator

Our next question comes from [Michael Vasilio - John Hancock].

[Michael Vasilio - John Hancock]

I was wondering if you could give me a little information. That $539 million of unrealized losses, that’s a net figure right? Is that also the gross figure so you’d have no gains?

John D. Finnegan

No. That was spread widening and market decline. This is in the unrealized category.

[Michael Vasilio - John Hancock]

What is your total gross unrealized losses on your investment?

John D. Finnegan

Gross unrealized losses?

[Michael Vasilio - John Hancock]

Right. For the current quarter.

John D. Finnegan

I’m not sure I’ve got that number. Obviously we’ve had spread widening in general going on in the fixed income markets in everything but treasuries. Everything that you own in a fixed income portfolio other than a treasury had spread widening so it went down in value, and some of those were at a gain before the quarter started and some of them would have been at a slight loss.

Overall at the end of June we were in a gain position. I should say, at the end of the year we were in a gain position. Obviously the same thing has gone on with equity. In equities it’s a little bit different. Some of your equities have gone up in value; some of them have gone down in value. Obviously in a bear market more will go down in value than anything else. But the net position was $485 million in unrealized losses at the end of the quarter.

[Michael Vasilio - John Hancock]

Do you have any information about maybe the percentage figure of those unrealized losses that are trading below 80% of their original value or like any kind of a percentage value?

John D. Finnegan

First of all, you’ve got to realize that we took a lot of impaired securities in the quarter which I mentioned in the script. Those would be under the category that they were impaired and they had been selling at a significant discount to book value for a period of time, or there was something going on fundamentally in that security that we thought made it impaired. If you think about the rest of the spread widening, we have a $35 billion fixed income portfolio so if you had less than $0.5 billion of unrealized losses that’ll give you some idea on a percentage basis that very few of them would have been selling at those kinds of discounts to cost.

[Michael Vasilio - John Hancock]

Do you have any kind of a target or an idea of what you RBC ratio might be at this point?

Michael O’Reilly

No, not off hand.

[Michael Vasilio - John Hancock]

No color on that?

Michael O’Reilly

No.

Operator

Our next question comes from [David Small] - J.P. Morgan.

[David Small] - J.P. Morgan

Could you just let us know which accident years the favorable development came from?

John J. Degnan

Professional liability was 2005 and prior, which would be the CSI amount. In PTI or CTI, they’re basically shorter tail lines so it’s probably ’07 and ’06.

Operator

Our next question comes from Alain Karaoglan - Banc of America Securities.

Alain Karaoglan - Banc of America Securities

Three questions, the first one John, is there anything on the legal environment that has happened that is of concern in terms of update or has it been the same? The second question relates to the surety business. In a weakening economic environment that we’re likely to face next year, are you doing anything different in managing that business or is that of concern to you? And the last question John, on the trends of the duration of combined ratios ex caps, I just want to confirm, did you mention I just wanted to confirm did you mention three to four and you expected this to continue in ’09?

John D. Finnegan

The accident year number reported number is deteriorating by about five points. Reported has deteriorated about three to four points and that was in line with our initial guidance. The accident year is a little bit higher because we had the big one-time surety loss and we’ve had a little bit higher than expected non-cap large losses in both commercial and homeowners’ this year.

As far as 2009, we haven’t come up with guidance. What I will say is that it would seem to me that just looking at the price decline this year, those have to earn out over next year. In the absence of a rate change they’re going to be continued margin compression in this business, it’s certainly not going to turn around. Now if there was an usually high level of caps this year, that might be different but the margin compression will continue unless there’s a change in the rate environment.

John J. Degnan

To answer your other two question, on the legal environment one case I didn’t point out that I’d love to talk to at length but won’t is the Ohio Supreme Court last week reversed the Appellate Intermediary Court and affirmed the tort reform in asbestos and Ohio was a problem jurisdiction until then. This is good news.

On the securities front, I’m not willing to call it a trend yet but I’ve been surprised by the number of decisions, particularly in the 9th Circuit on in California, dismissing some of the credit crisis securities class action cases that have been brought. There are five or six including one just last week that dismissed these complaints based on what I predict in a few quarters ago was the increased fleeting standard around knowledge.

That opinion in the Supreme court preliminarily at an early stage to be having a positive impact early on in these cases which is where the people who are litigating them and the insurance companies that are defending them would like to see them be concluded before we spend $10s of millions of dollars on defense. So, I’m going to watch that closely, if I see something emerging by way of a trend then John Finnegan will give me time on the agenda here I’ll get it to you.

On surety, as Mike said we have a lot of confidence in our surety book and in this line of business. Over the last 17 years it’s operated pretty much at that 65% combined ratio that Mike has targeted with only two or three exceptions. Capacity will be an issue in surety going forward, credit sensitivity is very high in the surety book of business. So between reduced ratings and perhaps lower capacity the stronger players are going to have better leverage.

That said, given what’s going on in the commercial contract marketplace, you wouldn’t expect to see a huge growth in business. What I think we’re going to do is along with a couple of other established respected carriers in this that are similar to us and with whom we often co-surety is we’re going to be able to pick our accounts carefully and look very closely at what bids we’re going to back up for them on a surety basis.

I’m optimistic about how we’re going to perform but you wouldn’t expect in this economic environment a huge growth in new construction other than public infrastructure work which could if the democrats come in to power next year as some of us would hope, be a major effort. I guess one of us would hope.

Operator

Our next question comes from [Unidentified Analyst] - Credit Suisse.

[Unidentified Analyst] - Credit Suisse

My perception of the greatest opportunity for you is in the high net worth segment where the clients are less price sensitive. Could you give us a sense for how the quarter’s going for the other segments and what sort of percentage of business you’re winning within the commercial lines?

John J. Degnan

We clearly can’t do that for this quarter. First of all, as I mentioned earlier, there’s a lag time between submission and quote and there’s a lag time between quote and binding it and there’s a further lag time between binding and actually booking the premium. Frankly, we couldn’t give it to you if we wanted to and we don’t generally give indications of how the quarter is going. Tune in again at the end of the year and I’ll be glad to summarize it for you, but I’m sorry.

[Unidentified Analyst] - Credit Suisse

Would it be fair to assume that the client’s are less sensitive on the high net worth side as on the commercial side?

John J. Degnan

I think I’ve said earlier that we’re actually finding that behavior in the marketplace. We’ve been surprised by the number of accounts who on a credit sensitivity basis have urged their brokers and agents to look for alternative coverage for them. Now, we’ll see whether that continues to play out or not and we’re not making any predictions but we’re certainly seeing behavior in the marketplace that ratifies our operating assumption which is one of the reasons we’re in this business, that high net worth insureds on a personal lines basis care deeply about their property and making sure it’s protected.

[Unidentified Analyst] - Credit Suisse

Then in the case of AIG have you seen clients who were soft to move but when they brought a high quote from the other players decided to stay with AIG?

John D. Finnegan

Sure. In all business segments that happens today. That happens quite often.

Operator

We’ll take our last question from [Connie Hubover] – Boston Company.

[Connie Hubover] – Boston Company

Just one follow up, you mentioned something in your opening comments about pricing declines improving in commercial and professional lines. Can you just describe what’s driving that and how the competitive environment looks in those lines?

John D. Finnegan

I think that we don’t want to overstate it, what we’ve seen in professional liability is it is still a decline in prices. Ian and are aren’t declaring victory on this one yet. We’ve seen a 2% point decline in this quarter, it was three last quarter. That’s probably insignificant but it is a lower decline than we had in any of the quarters in the last two years where a few of them were a little bit higher.

To some extent it’s being driven by the BFI book that’s getting price increases as a result of the credit crisis. But, we’ve also seen a little bit of improvement in other lines. But again, it’s still in decline. Commercial, a point better, a little bit better than a few quarters. Again, the good news is it looks to have plateau and maybe it’s even improving a little. But, the bottom line is that it’s still negative and we’re operating with the assumption that it’s going to be a tough environment going forward. But, we’re hoping.

Operator

Mr. Finnegan that’s all the questions we have at this time. I’d like to turn the conference back over to you sir.

John D. Finnegan

Thank you very much for joining us. Have a good evening.

Operator

That concludes today’s conference. We thank you for your participation and hope that you have a wonderful day. You may now disconnect.

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