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Executives

Robert Rosenkranz - Chairman & CEO

Bernie Kilkelly - VP of IR

Don Sherman - President & COO

Mark Wilhelm - EVP, Safety National Casualty Corporation

Larry Daurelle - President & CEO, Reliance Standard Life

John Csik - CFO of Safety National Casualty Corporation

Analysts

Beth Malone - Wunderlich Securities

Ryan Krueger - KBW

Paul Newsome - Sandler O’Neill

Mark Finkelstein - Macquarie

Mike Grasher - Piper Jaffray

Randy Binner - FBR Markets

Eric Berg - Barclays Capital

Alec Ofsevit - Credit Suisse

Delphi Financial Group, Inc. (DFG) Q3 2010 Earnings Call October 27, 2010 11:00 AM ET

Operator

Ladies and gentlemen, thank you for standing by and welcome to the Delphi third quarter 2010 earnings conference call. At this time all participants are in a listen-only mode and later we will conduct a question-and-answer session and instructions will be given at that time. (Operator Instructions). . And as a reminder this conference is being recorded.

I would like to now turn the conference call over to our host, Mr. Robert Rosenkranz, Chairman. Please, go ahead.

Robert Rosenkranz

Thank you and welcome to Delphi Financial’s third quarter conference call. Our earnings release was distributed last evening and posted on the company’s website along with our third quarter financial supplement. This call is also being broadcast live on our website at www.delphifin.com.

Participating in the call with me this morning are Don Sherman, Delphi’s President; Nita Savage from Finance; Bernie Kilkelly, Investor Relations; and Vincent Kok and Rich Waldis from Investments. We are pleased to welcome Vincent who recently joined Delphi’s Investment team here in New York. We are also joined on the call today by our colleagues at Reliance Standard Life, Safety National and Matrix.

Now Bernie will read a Safe Harbor statement.

Bernie Kilkelly

Thanks Bob and good morning everyone. For those listening to a replay of this call that is being held on October 27, 2010. It contains time sensitive information that is current only as of this date. Statements made in this call relating to the future operations, performance, goals, and expectations of the company, as opposed to historical facts are forward-looking statements under the federal securities laws. These statements are based on assumptions and estimates by the Company that are subject to various uncertainties and contingencies.

Discussions of these risk factors can be found in our third quarter 2010 earnings released yesterday, our second quarter Form 10-Q and our 2009 Form 10-K. These factors could cause the company’s actual results to differ materially from those expressed in any forward-looking statements made during this call and should be considered carefully. The company specifically disclaims any duty to update forward-looking statements made in this call.

In addition, certain non-GAAP financial measures will be discussed on this call. The comparable GAAP financial measures, along with reconciliations to such measures are contained in our third quarter earnings release and financial supplement accessible on the company’s website.

Now, I’ll turn the call back to Bob.

Robert Rosenkranz

Thank you Bernie, Just as an overview, Delphi achieved strong operating performance in the third quarter. We are pleased with top line and favorable loss ratios in our insurance businesses. We had solid investment results as well and reported net realized investment gains for the first time since 2007. Shareholders equity and book value per share set new all time highs. Book value per share is up 20% since the end of 2009 and just reached $29.28 a share.

We continue to strengthen our balance sheet and deliver value to our shareholders through a 10% increase in our cash dividend. This morning we are going to cover four main topics: first, Don we will review the performance of our insurance and asset accumulation businesses; and I will discuss investment results, I will review our balance sheet and capital position; and finally I’ll comment on our outlook for the remainder of 2010, and longer term.

After our remarks we will be glad to answer question. So at this point, I would like to turn it over to Don Sherman

Don Sherman

Thanks Bob and good morning everyone. Our insurance businesses performed well in the third quarter. Core group employee benefit premiums were up 4% which was our first increase in four quarters in this week payroll economy that we have had. We also achieved strong production in our three main insurance products group disability, group life and excess workers comp, which combined, were up 18% over the period last year.

Looking at Safety National, core premiums were up 11% in the quarter. Assumed workers compensation reinsurance premiums were up 29% over 13 million. Pricing in this line remains firm and we were pleased with the treaty opportunities in the July renewal period.

Premiums in Safety’s largest product line excess workers compensation for self-insured employers were up 8% to 74 million for the quarter. Excess comp premium growth was boosted by a 23% increase in production which included new sales up from the important July renewal period. Safety continues to capitalize on and expand its leading market position. The market for excess comp remains stable in the quarter and renewals were at record levels.

We had a 2% increase in the average self insured retention which offset a less than 1% decrease in the average price. The self insured retention is the important point at which risk ships from the employer to us and our average attachment point is now over $530,000 on that book of business. As you know, excess comp is a very long tail line of business.

With interest rates moving lower we are looking at adjusting discount rates for excess comp, as well as for our other long tail line of business which is the long turn disability book at Reliance Standard Life. We may need to adjust the pricing for these insurance lines in the mid single-digits range as we move into 2011 to make sure we maintain our targeted returns. We are not the only company facing these challenges of interest rates so we expect our competitors will be taking similar action in this regard.

Turning now to Reliance Standard Life, core premiums rose 1% which was the first premium increase at RSL in five quarters. We benefited from our strong competitive position in the small case market for our two main insurance lines, long-term disability and group life.

Voluntary products continue to be a main growth driver as employers seek to control costs. Reliance Standard’s voluntary premiums were up 9% in the quarter. This includes premiums from our limited benefit healthcare product, basic care which rose 24% to $10.2 million. We also had a strong contribution from our integrated employee benefits program for larger companies. Production of insurance sold to IEB clients was up approximately 20% in the quarter. We continue to have a competitive advantage with these value-add services that we offer to our Matrix Absence Management subsidiary. So we were pleased with the top line trends in the quarter.

Now looking at underwriting margins, our group employee benefit combined ratio varied slightly from our expectations primarily due to a higher expense ratio. Our expense ratio in the quarter increased 130 basis points. There are two components to the expenses, the first being commission and the second being operating expenses. On the commission front, commissions at RSL were higher than expected in the quarter due to a change in product mix. Most of our premiums are coming from voluntary products including basic care where the commission rates are somewhat higher, as well as from larger cases in our IEB program.

From Safety National’s perspective commissions are amortized and those expenses were slightly higher due to strong premium growth. For the operating expense component we continue to have higher expenses at Safety National from the ongoing investment we have made in the growth initiatives there. On the loss ratio front our loss ratio for the quarter improved by 10 basis points over last year to 68.1. Continued solid results of Safety National were offset by higher than expected claim incidents in long-term disability at RSL. We have talked on previous conference calls about not experiencing any impacts from the recession on disability claims, incidents, severity or termination rates.

Termination rates and severity trends were unchanged in the quarter but the higher claims incidents is something new that we saw for the first time. Claimed incidents was not concentrated in any industry sector or geographic region but overall we have seen more soft tissue and muscular skeletal claims which are the most common type of LTD claims. We are of course monitoring this very closely and we think it’s too early to say whether there is anything other that a one time quarterly variation here. We continue to believe that RSL’s small case focus and our placing an underwriting discipline will enable us to maintain favorable disability loss ratios.

Before I turn the call back to Bob, I would like to review the results of our asset accumulation segment at RSL. Third quarter operating profits in this segment were $10.6 million which was down from last year’s third quarter. That comparison is due to lower investment income in comparing to a very strong quarter last year which Bob will discuss in a moment.

Annuity sales rose sharply to 154 million from 58 million in last year’s third quarter. We benefited from market disruptions in our wholesale distribution channels as certain competitors had ratings downgrades in the quarter. Annuity sales for the first nine months were $270 million, well ahead of the full year total for 2009. Funds under management are up 15% since the year end to over $1.6 billion. We continue to achieve our targeted spreads of 150 to 250 basis points in this segment, and can be opportunistic on new sales opportunities as we believe we have low overhead to carry in this area.

Now, I will turn the call back to Bob to talk about our investment results. Bob?

Robert Rosenkranz

Thanks Don. Investment income in the quarter was inline with our expectations despite lower prevailing interest rates. We benefited from strong growth in invested assets which increased 7% during the quarter, and are up 14% since the beginning of the year.

The year-over-year investment comparison was difficult as last years third quarter was boosted by exceptionally high returns on our alternative investments. The annualized return for alternatives in this year's third quarter was about 13% compared to 20% last year. At the end of September, alternatives were around 4.5% of total invested assets.

We were able to invest approximately $400 million of cash longer term during the third quarter, and achieved new money yields in the 5.5% to 6% range on a tax equivalent basis. We continued to put new money to work in our traditional asset classes, such as high quality, municipals, corporates, and mortgage backed securities.

Long dated Muni's continue to be an attractive asset class for Delphi because Safety National can take full advantage of the tax benefit, and can get attractive tax equivalent yields.

Our fixed income yields continue to be constrained by a high short term position. Short term investments were $360 million or about 5% of invested assets at the end of September. We feel we need to remain patient in seeking attractive niches in an environment where rates are low and spreads are narrow.

Turning now to investment gains and losses, we realized $800,000 of after tax gains in the third quarter, after writing down $4 million of other than temporary impairments. This was the first quarter that we reported a net gain since 2007, and was consistent with our expectations given the turnaround in economic activity and the normalization of capital markets. With the credit cycle turning and the recovery in the bond market this year, we now have an unrealized gain position in our fixed income portfolio of a $147 million, after taxes.

Let me turn now to our balance sheet and capital position. Both continued to improve in the quarter, shareholders equity and book value per share up 20% since the end of 2009. Shareholders equity reaching an all time high at $1.65 billion at September 30 and book value per share were also a record $29.28.

We retired more of our higher interest rate debt to reduce interest expense. In September we completed a partial call of $50 million of our 8% notes. We've retired $75 million of those notes this year, which should result in annual savings around $5 million in interest expense.

Our debt to capital ratio at the end of the quarter was 18% and holding company financial resources where at a comfortable $71 million.

On the ratings front, we were pleased to have more positive developments in the third quarter. Similar to the news we had in June from Moody's and September S&P affirmed its ratings and raised its outlook to stable for Delphi and for our operating companies. S&P recognized our consistently strong operating performance, and strong competitive position in our market niches.

We currently have more than sufficient financial flexibility to support our growth, and we continue to look for ways to use our capital to deliver value for shareholders. We’ve raised our cash dividend by 10% in August, and have an outstanding authorization to repurchase $1 million in our common shares.

Now for our final topic I want to discuss our outlook for the remainder of 2010. In February, we gave operating EPS guidance in the range of 320 to 350. Our strong performance in the first nine months of the year puts us on track toward the mid to upper end of that range.

Looking beyond this year, we are currently in the midst of our planning and budgeting process for 2011. We don’t anticipate improvement in employment growth or pricing trends are a sell in the short-term. We are also cautious in our outlook for the availability of attractive investments.

As we've said on previous conference calls, we believe Delphi’s insurance businesses can sustain operating EPS growth rates of 10% to 12% with employment growth at historic levels. However, unemployment rates remain high and interest rates remain at historically low levels, achieving these growth rates will be more challenging.

We plan to follow our usual practice and provide guidance for 2011 when we report year end 2010 results in February. Regardless of the external environment, we are confident that Delphi will benefit from the strong franchises and market leading positions of our insurance businesses in their niche markets. We will continue to use our strong balance sheet and capital position to build value for shareholders.

So in closing, we are pleased with Delphi’s strong operating performance in the third quarter and the first nine months. And at this point, we’d be happy to take questions. Operator could you open it for questions, please?

Question-and-Answer Session

Operator

(Operator Instructions). And we do have a question from Beth Malone from Wunderlich Securities. Please go ahead.

Beth Malone - Wunderlich Securities

First question is on the excess workers' comp premium rise in the third quarter, that was definitely contributed to the overall increase in premiums, and I just wonder, is that due to the new bundled product you are offering or is it demand improving because the economy? What's the basis for that growth?

Don Sherman

Perhaps our colleagues at safety would like to comment on that. Mark?

Mark Wilhelm

There are a number of reasons that contributed to that growth. One of them being the large casualty that you referred to, having that auto and general liability capability has opened up a lot of opportunities for us. Submissions in that area are up like 67%, and the written premium so far this year is up 32%. We are also seeing great opportunities in the excess field; there is still no irresponsible competition.

Hit ratio is about 29% which is outstanding. We continue to pursue underwriters from other carriers that come with loyal followings. We continue to improve our client services that has helped increase that hit ratio to the level it is. We have opened an underwriting office in Los Angeles recently.

There still continues to be a flight to quality, we think. One of our repackaged competitors is in the process of changing carriers, so that always adds some uncertainty into the market. And in the Assumed Re area, we continue to reap benefits of that, the hire of our Senior VP that we did a year and half ago, and continued to build on our franchise in that area.

Beth Malone - Wunderlich Securities

A question on investments, in the table that you all provide in the release now, certain investment portfolio, it indicated that there was a double digit increase sequentially among the subprime, RMBS, as well as the Alt A lower quality, RMBS. And I'm curious to know is that due to just appreciation in those types of assets quarter-to-quarter or are you making more investments in that kind of an asset?

Don Sherman

Beth we have made a few selected purchases in those asset categories, but the change you are looking at is much more driven by the appreciation in the investments we hold than any purchases.

Beth Malone - Wunderlich Securities

And then I will just ask one more question and get back in line and that is on the annuity block, the success you have seen in the annuity sales, you mentioned that some competitors were disadvantaged during the quarter, but are you also offering more competitive rates than others in the marketplace and that's why we are seeing the operating profits lower year-over-year but the sales are going up?

Don Sherman

I think the operating profit comparison you are looking at for quarter-to-quarter is more driven by the comparison on the investment income side. As Bob mentioned the third quarter last year had an exceptionally strong performance from alternatives. So the operating profit is more driven by the income side. On the pricing on the annuity books, we monitor our pricing very carefully in comparison to market numbers, the treasury market, other markets as well as our competitors and we think we have been very aggressive about maintaining a constant margin and lowering rates consistent with the drop in the prevailing market rate. So, we don’t think that the increase in the production has to do with unusually aggressive pricing on our part.

Beth Malone - Wunderlich Securities

But what are the rates that you are offering? Can you define those?

Don Sherman

Well, it of course varies by product and term, but many of our new rates if you look at them over, the expected life of the product are in the mid threes right now.

Operator

And our next question comes from Ryan Krueger of KBW. Please go ahead.

Ryan Krueger - KBW

Don, you mentioned that higher deck amortization this quarter was driven by the stronger premiums at Safety. Is it reasonable to expect it to continue at a similar percentage of premiums going forward if the production levels kind of continue to grow at this pace or is there anything we should expect to change going forward?

Don Sherman

I think Ryan, given the primacy, your question about product levels, I think we will continue to see some higher level of amortization, perhaps not quite as great as what we saw this quarter, but I think it will be with us for a while for as long as we have the high grade problem of lots of production.

Ryan Krueger - KBW

And then yesterday Bill Berkley expressed some concern about competition in excess workers' comp. He said that several new players had entered the market and they're pricing business using optimistic interest rate assumptions. Your comments seem to suggest a much different, more stable environment in that business. Have you seen new players enter the market, and if so, are you concerned about the pricing outlook?

Don Sherman

I think I will let our colleagues at Safety comment on that. Mark?

Mark Wilhelm

Sure Don. No, we haven’t seen any new competition in our sector for a very long time. So that’s not an issue. Don quoted our pricing parameters that we are not seeing degradation in pricing. So, I am not sure what Bill Berkley is referring to but our pricing remains pretty firm and we continue to get increases in the deductible level. So, I am at a loss for an explanation about that.

Robert Rosenkranz

This is Bob Rosenkranz. I would jump in, it’s just to reiterate Don’s point that with declining interest rates there is a long tail line and obviously we are going to have adopt lower discounting in the future and that should lead to higher pricing. I mean obviously every company in these longer tail lines of business has the same calculus. They are going to be earning a lot less on invested assets and have to price accordingly and we are going to try to do that. Our hope is that the market will follow.

Operator

Our next question comes from Paul Newsome of Sandler O’Neill. Please go ahead.

Paul Newsome - Sandler O’Neill

I would like to actually follow up on that. Could you remind me or tell us what the discount rates that you're using across your businesses are for the life insurance business, as well as could you talk about what amount of the property casualty business is discounted and what type of discount rates you would use on those reserves?

Don Sherman

I think on the LTD side on the discount rate we are currently using 4.75 for LTD reserves and that’s the only material block that has discounting in that area and on the workers comp side we are currently using up 4.9% discount rate. Now our typical pattern is take a look at these discount rates as we go through the planning process and then early in the year look at a new discount rate. So of course those will be the things that we’ll be looking at during this planning process and entering early next year.

Paul Newsome - Sandler O’Neill

So if you do change the discount rate, it will be first quarter 2011 that we would see the effects?

Don Sherman

It would mean we look at these every quarter but the hardest stare is coming into the new year and yes it would probably be in 2011, Paul.

Paul Newsome - Sandler O’Neill

How does the trigger work? Do you need your portfolio rate to go below your discount rate to trigger a significant DAC revisit or are you expecting typically a spread before you have to affect your DAC?

Don Sherman

We typically look at it with some level of spread and we don’t wait for some line to cross to look at DAC, we evaluate the DAC every quarter to be sure we are maintaining an inline and appropriate relationship. So, we would typically look at it for some spread and we would definitely revisit the DAC quarterly.

Operator

Our next question comes from Mark Finkelstein of Macquarie. Please go ahead.

Mark Finkelstein - Macquarie

I want to go back to just the fixed annuity sales as a starting point. I guess I was a little surprised by the sales levels. On the one hand, we're saying that we're cautious with cash and we are holding high levels of short-term. On the other hand we are essentially raising cash through fixed annuity sales, and so I'm trying to figure out why is looking at it that way incorrect and how should we be confident that, with a crediting rate of 3.5% we're still getting our targeted margins?

Robert Rosenkranz

Well, let me jump in and answer that because if you think about what happens in the quarter, we raised $150 odd-million in annuity sales, but we spent about $400 million on investments, and the investments that we did make during the quarter had after-tax yields in the 5.5% area. So, we've certainly, at the margin, added assets that are substantially more lucrative than the cost of our liabilities at the margin. So I think we’ve definitely a corporate value by doing this, and frankly in an environment where a payroll growth is essentially non-existent and a good part of our lines are payroll related. This seems like a useful avenue on which to increase our earnings over time and our returns on capital.

Mark Finkelstein - Macquarie

I guess at RSL, I think you mentioned that soft tissue claims were a little bit higher on the incidents. What are the trends we're seeing in recovery rates?

Don Sherman

I think I will turn that over to our colleagues at Reliance Standard.

Larry Daurelle

We have seen those rates essentially unchanged, the recovery rates.

Mark Finkelstein - Macquarie

And then I guess just a follow-up question, and I don't know if you can answer this or not, but if you move the discount rate say 25 basis points at RSL and 25 basis points at Safety, what would be the earnings metric from that change?

Don Sherman

I think there earnings metric would be pretty similar to where it stood at the year-end 10-K disclosure we had which was 5 million pretax about 3.3 or 4, I forget what the number was now. I’m embarrassed to admit, after-tax. So that impact is still in that same range I think, Mark.

Mark Finkelstein - Macquarie

And that's both RSL and Safety?

Don Sherman

Yes.

Operator

Our next question comes from Mike Grasher of Piper Jaffray. Go ahead please.

Mike Grasher - Piper Jaffray

A question around the production and I mean, it seems to be holding up really well in here given the environment. And I guess separately, if you could address this, between Safety and RSL, when you look ahead and you see the potential for austerity programs at municipalities and school districts, whatnot, how concerned are you about that on Safety’s side? And then over on RSL’s side, what are you seeing or what are your expectations for small business as we look ahead to 2011?

Don Sherman

Well, I think starting from the looking ahead part of your question when we’re looking at 2011 plans as Bob commented, we're thinking that we need to base that plan on not seeing a material bounce back in the payroll economy for 2011. So that’s sort of our guideline that we are looking at.

I think the production has held up very well at RSL in this tough environment. And I think it’s a testimony to the small case focus, and the value add services in the IEB book really helping us drive through this.

On the safety side of the equation, maybe Mark wants to comment on that from Safety’s perspective.

Mark Wilhelm

The third quarter happens to be our biggest quarter when it comes to the schools and municipalities, and we were frankly surprised to see how well the payroll estimates held up on average. They are actually still in positive territory for the coming year, in other words, apples-to-apples growth year-over-year and payrolls in those areas. Again, I say that’s on average if you look down the list of the renewals, the variation is kind of all over the board, but on balance we are still seeing predictions for growth from those areas.

Mike Grasher - Piper Jaffray

And that’s beyond schools and includes municipalities, as well, townships in that?

Mark Wilhelm

Yes, the whole governmental entity spectrum.

Mike Grasher - Piper Jaffray

How much have premium audits impacted or change in payrolls? What are you experiencing there in that regard?

Don Sherman

Our numbers include the impact of the premium audits. And I think it would have been true last year if you looked at premium audits they tended to be on net plus, and lately they have tended to have some modest net minus to them. But that’s all incorporated in premium numbers that we are reporting.

Mike Grasher - Piper Jaffray

But in terms of the rate of change, slowing, speeding up, unchanged?

Don Sherman

You are talking about the level of adjustment in the premium audits?

Mike Grasher - Piper Jaffray

Yes.

John Csik

Just to clarify what Don said on the premium audits, we actually are still having net increases on the audit on balance this year. It’s not at the level we had experienced in the past. I think our average audit we had an increase of about 4% in calendar year 2009, and now it’s about a 2% increase.

So while there certainly is a slowdown that’s reflective of what's going on with employment, we are pleased that it's still is a positive number.

Mike Grasher - Piper Jaffray

Final question then. In terms of buying back more debt, where are the bonds trading today, and do you anticipate that going forward?

Robert Rosenkranz

The bonds that we are buying back are callable at par. So they are trading at a premium for reasons that we find elusive, but in any event they are callable at par, and we are looking at the possibility of calling them.

Operator

Question comes from Randy Binner of FBR Markets. Please go ahead.

Randy Binner - FBR Markets

I guess my first question is a little bit change of subject, but just on Basic Care, the kind of mini med product. It seemingly kind of comes up close to where the new healthcare legislation begins and so just want to get your thoughts on how sustainable that product is relative to the new medical loss ratio requirements and other limitations of the new legislation.

Don Sherman

Randy we were doing that product in both expense reimbursement and indemnity limited defined benefit if you will. Form and the expense reimbursement form is covered by the healthcare legislation, and subject to that requirement you mentioned and cannot be sold going forward. We’ve already are in the process of making the transition on all sales and renewals from September going forward to the defined benefit form of that product, the indemnity form of that product, which we can continue to sell through 2013. And perhaps beyond, that remains to be seen based on the regulations that are adopted in any clarifications that come out on that subject.

Randy Binner - FBR Markets

So on the indemnity product, I guess first question would be, does the shift to just an indemnity product, do you think that will impact the run rate ability, if you will, of those premiums or would there be some setback in the near term?

Larry Daurelle

We started as of September 23 to renew and issue all new policies on the indemnity basis. And on the renewal side, I believe that we have renewed every expense reimbursement product over to the indemnity side. The brokers have accepted the product quiet well, the field force has, the pricing is exactly inline with the expense reimbursement. So we think that we will see no impact going forward for the next couple of years on the production side.

Randy Binner - FBR Markets

Just out of curiosity, so 2013 is a target date. Could you remind us of what the nuances and, I mean, how is that indemnity product different than an AFLAC product, per se, which I believe is totally independent of the healthcare legislation?

Larry Daurelle

Well, the indemnity product is not a group health benefit product under the terms of the legislation. So as of 2014, all the employers were have to turn over and do whatever you have to do to sell the gold, silver, platinum plans et cetera. And then the indemnity just won't fit in into that gross benefit, but as Don said we are looking at the possibility of the indemnity plan being a GAAP filler or a supplemental plan even though it's not deemed a group health insurance plan. So, but the legislation DQs is everything as of the end of 2013.

Randy Binner - FBR Markets

But it could morph into a supplemental product sold around the exchanges I guess is what you are saying.

Larry Daurelle

Exactly, after we hear what the HHS finally says about the minimum loss ratio in the next couple of months, we will start focusing all our efforts on that. Exactly correct.

Randy Binner - FBR Markets

And this product is big enough for Delphi and Reliance to go through this whole effort, right?

Larry Daurelle

Yes it is.

Robert Rosenkranz

Just to add an observation, this line represents maybe 10% or 15% penetration of the companies that are offering the benefit. These companies are all going to need to offer lot more to their employees than they are currently doing. They are going to have to cover everybody, and they're going to have to cover everybody with a fairly expensive product.

Now, whether our position with these clients can be leveraged into something that works well for our benefit in the new post 2013 environment remains to be seen, but we do have a position here that is potentially exploitable.

Operator

Our next question is from Eric Berg of Barclays Capital. Please go ahead.

Eric Berg - Barclays Capital

Two questions. First, pardon me; I certainly heard your comments that you are putting money to work in your annuity business in part because of the weakness of payroll growth in your Philadelphia company. But it's also the case that your profits are down, I believe, on an operating basis both in the quarter and year-to-date. Can you remind us why is that? Why haven't you been able to maintain net interest margins given your focus on asset liability management? And if profitability is down, why is that a good idea to be putting money to work in a business in which you are earning less than you did a year ago. That's my first question.

Robert Rosenkranz

Well, I think the answer to your first question is that the comparison is really against a period that was unusually favorable. Alternatives for example, had returns north of 20% last year, and we're certainly not expecting that this year. And we have some pre-payment income coming in from securities that we bought at very substantial discounts to par.

So I think we are comparing the time comparison as against a period in last year where we did far better than anything we expected to do. And the relevant question for us is not so much how does this business compare to last year, but how does it compare to the opportunities that are available today, and if we can raise money at a three handle and invest in the five handle that’s a pretty good thing for us to do with the margin.

Eric Berg - Barclays Capital

And would you say that your comments about the difficulty or the challenging nature of the comparison, Bob, would you say that would be as applicable to the nine months as it was for the quarter? In other words, it wasn't just a tough year-over-year comparison, but that was true all year?

Robert Rosenkranz

Well, I would say it was true every quarter, but it would certainly have been true for the nine months as an aggregate.

Eric Berg - Barclays Capital

My second question takes us back to the disability question, the disability business, maybe for Larry or another member of his team. Why do you think we're seeing now when the economy, at least according to the government is recovering, has been recovering for over a year, consumer confidence I read this morning improving, why do you think we are seeing disability incidents deteriorating now? I know you said that you are not ready to call it a trend. It may just be a blip, and relatively, given whatever the reasons are, why aren't they having this? What would be your best sense of why those same factors are not having the same effect on recovery rates? Why is this happening now and why aren't recovery rates being affected? Thank you.

Larry Daurelle

The first question is the disability result is essentially on a lag basis. As you recall, you have to be employed to go on disability, so when the economy really remain to the free fall and initially people lost their jobs right off to get-go, so they weren’t employed to have the ability to go on disability. Now I think with the lag that we have seen somewhat before like this, people are employed, they are perhaps thinking that they may lose their job and the best alternative is go on disability, i.e. especially with the diagnosis as Don said that we've seen. So, that’s my hypothesis and I believe it's pretty strong. And on recoveries I don’t know that I have a real strong answer. We haven’t seen any indications one way or the other.

I mean I think overall the clean management here at RSL has got stronger and stronger. We have also talked about best practices, especially with Matrix and the people we’ve hired. I just think that the overall claim operation that the strength of the claimed review has gotten stronger and stronger within the organization.

Eric Berg - Barclays Capital

And just to finish up by developing a little bit more, this incidence issue, I want to sharpen my understanding. You are saying that there was a deterioration in actual to expected incidents during the quarter and that you just don't know yet whether it is a blip or a trend. Is that sort of from an actuarial perspective what you are saying? Things were worse than they had been, but you're not sure what to think about it just yet?

Larry Daurelle

Exactly. Well said.

Robert Rosenkranz

But I think in fairness by pointing to the fact that the nature of the claims are sort so of the self-reported claims that are kind of in a gray area. It gives us concerns that we are not looking at blip, if you had sort of unusual things that were not self-reported that were for example in the case of Safety National, if you have major brain injuries, you know could have blip there and think it’s a blip. But with muscular skeleton, self-reported kinds of injuries, I mean it’s just logical to think that they may well be more related to the economy. So, yeah, I mean, I don't think we've seen enough to say that it’s definitely a trend, but we are signaling that we are concerned about it.

Operator

Our next question comes from Alec Ofsevit of Credit Suisse. Please go ahead.

Alec Ofsevit - Credit Suisse

My first one would be, when you mentioned the discount rate sensitivity, that's to annual, not quarterly earnings, the 5 million pre-tax. Is that correct?

Don Sherman

Yes, that's correct.

Alec Ofsevit - Credit Suisse

Then on a similar topic, can you quantify the impact of higher incidents versus your expectation, was it $2 million in the quarter of higher claims?

Don Sherman

Alec, we don't go into the specific loss trends at the product level, typically but I think I could, I'm confident in pointing out that what we have there was manageable enough that it didn't create a real problem for the consolidated number. So as Bob said, we're concerned about it, we're watching it. At this point, we don't think it requires a rethinking on anybody's point of view about the financial model for the company and how things could run in the future.

Alec Ofsevit - Credit Suisse

And then my last question is just, when you start looking out into year-end stat filings, 2011 planning, I guess what kind of scope do you see for capital management? Clearly S&P has taken a more favorable view. You've bought back some of the higher coupon debt. I guess how do you look at where do you see RBC going in Reliance, what metrics are you looking at in Safety when you are thinking about capital management for next year?

Don Sherman

When we look at the capital management side, we ended in ‘09 in Reliance with a 330 RBC ratio which is up from where we had been and as we’ve discussed in the past, we think in this environment we are probably going to need to maintain it in that increased area. We feel very good and I would make a similar comment about Safety there. Ratio, as you could look at it from a variety of the models that are used by the rating agencies but their ratios were steady to up in ‘09 versus prior year and we are thinking we may need to maintain that as well. In each of the companies and consolidated we feel like we have a lot of flexibility in order to hit those targets. So we are feeling pretty good about where we are from a capital perspective.

Operator

Our next question comes from Beth Malone of Wunderlich Securities. Please go ahead.

Beth Malone - Wunderlich Securities

You mentioned on the excess workers’ comp that the attachment point is now $530,000. And I am wondering how does that compare to say, a year ago and should we assume that as that attachment point rises that the profit margins on excess workers’ comp also rises?

Don Sherman

Beth, the attachment points when we look at them have been going up in the mid low single-digit range. So, that’s probably up in that same zip code from where we were a year ago. I don’t have that number at my fingertips, but it was probably slightly over $500,000. We could get that for you and get it to you. I think from a profitability point of view we typically that about the attachment point and the price increase meeting to be looked at together, and I think we would say where we are now with modest increases in the attachment point and smaller but still existent modest decreases in the price that we think were about even.

Beth Malone - Wunderlich Securities

And then on the assumed workers' comp reinsurance, those premiums are also up quite a bit. Is that due to the fact that that's a relatively new line and so we've got easy comparisons? Or is it the demand is really that strong?

Don Sherman

Well I think as Mark commented on, I mean we have been doing it since 2000, so its not new in the sense of our knowledge but our emphasis on growing has been a newer if you will the last few years. And we made a hire of a senior officer there at the Vice President level who took over that area to really focus on it, and his addition has really brought us a lot more momentum.

Mark do you want to add more color to that?

Mark Wilhelm

We are really continuing Beth to build on the base. The actual new business in the Assumed Re for this quarter aren’t even as high as they were in the third quarter of last year, but we are continuing to build on a bigger base that we build quarter-to-quarter-to-quarter-to-quarter. So yes, we are seeing good growth there. It’s solid growth, but it's certainly very fundamentally profitable growth.

Beth Malone - Wunderlich Securities

And then one last question, you know the big challenge for everybody seems to be where are you going to get yield given the low yield environment. And where do you see opportunities or do you have any optimistic outlook on any parts of the capital markets or the economy that you think and kind of start to replace some of the higher yielding securities that you have been able to fair it out in the past?

Robert Rosenkranz

It's certainly Beth a challenge to find attractive things to do with money in this environment. And frankly you are kind of looking at niches of opportunity, a little back waters things are not all that obvious or all that well understood.

I think the municipal sector though has been a pretty target which area for us because we have longer durations of liabilities than almost any other financial institution. So we can be buyers of quiet long dated paper that don’t fit very well for other folks. And that I think has helped us maintain the kind of after tax equivalent yields that you have seen. But it's frankly a matter of scouting the landscape and finding niches I think the big broad obvious things are not wonderful in terms of rate or in terms of spread.

Beth Malone - Wunderlich Securities

So have you responded to that, with is that where the added talent has come from, to focus on those types of investments?

Don Sherman

I think Beth, one thing I would add to Bob's comment and in addressing in your follow-up question, we typically have had big devotions in our portfolio, the municipal's mortgage backed securities, areas like that. And we think we have a lot of debt in that. And Rick Waldis has done a great job in those areas for us, and the addition of Vincent Kok who is coming to us from Fischer Francis Trees & Watts, a long standing, highly regarded fixed income manager in the institutional world, Vincent has substantial experience in corporates and especially emerging markets and other special sectors.

So we are looking at that as an opportunity to diversify a little bit our range of vision in where we could invest money. So, I think you may see some expansion going forward over the longer term in areas in corporates and emerging market debt where we now feel like we have an even stronger capability to manage those portfolios, and manage managers who would help us on those portfolios.

Beth Malone - Wunderlich Securities

And then just one more final question. On the health product that you are having to kind of retool because of the Health Reform Act, does it have any implications in terms of cross-selling with your group disability product that, you know, if that becomes more challenging, does that affect other parts of Delphi's sales?

Don Sherman

Larry do you want to comment on that?

Larry Daurelle

Beth we have a separate distribution system for basic care, which is our limited benefit medical product. So Beth, we have 12 to 14 people who are just out selling that product. There is a modest amount of referrals from the core production people, but we have decided to set the business model up to have separate distribution systems. So, we don’t think there will be any positive or negative impact from that.

Operator

And there are no further questions at this time. You can please go ahead.

Robert Rosenkranz

I just wanted to thank you all for your participation in the call.

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