Montpelier Re Holdings' (MRH) CEO Chris Harris on Q2 2014 Results - Earnings Call Transcript

Jul.29.14 | About: Montpelier Re (MRH)

Montpelier Re Holdings Ltd. (NYSE:MRH)

Q2 2014 Earnings Conference Call

July 29, 2014, 8:00 AM ET

Executives

Jonathan Kim - General Counsel & Secretary

Chris Harris - President & CEO

Mike Paquette - CFO

Chris Schaper - President, Montpelier Re Bermuda

Richard Chattock - CEO, Lloyd’s Syndicate

Bill Pollett - President, Blue Capital

Analysts

Amit Kumar - Macquarie

Ryan Byrnes - Janney Capital

Josh Shanker - Deutsche Bank

Brett Shirreffs - KBW

Dan Farrell - Sterne Agee

Mike Zaremski - Balyasny

Sarah DeWitt - Barclays

Operator

Greetings, ladies and gentlemen, and welcome to the Montpelier Group Second Quarter 2014 Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. (Operator Instructions) As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Mr. Jonathan Kim, General Counsel and Secretary of Montpelier Re. Thank you, Mr. Kim, you may begin.

Jonathan Kim

Thank you. Good morning, and welcome to Montpelier Re second quarter 2014 earnings conference call and webcast. A press release setting out our results, including a detailed financial supplement, have been posted to the company’s website at www.montpelierre.bm. This call is being webcast live and will be available for replay through August 11, 2014.

Our speakers this morning are Christopher Harris, our President and CEO; and our Chief Financial Officer, Mike Paquette. Also with us are Chris Schaper, President of Montpelier Re Bermuda; Richard Chattock, Chief Executive Officer of our Lloyd’s Syndicate; and Bill Pollett, President of Blue Capital.

Chris will give his commentary on the quarter and then Mike will present an overview of our financial results. We will then be pleased to take your questions.

Please note that during our discussions this morning, we may make forward-looking statements. Any such statements are based on the company’s current plans, estimates and expectations. Actual results could differ materially from those projected in any forward-looking statements as a result of certain risk factors disclosed previously and from time-to-time in Montpelier’s filings with the U.S. Securities and Exchange Commission.

The company undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise.

I would now like to turn the proceedings over to Chris Harris. Chris?

Chris Harris

Good morning, ladies and gentlemen. Thank you for joining us.

Despite a high frequency of smaller industry loss events, we produced solid underwriting profitability with a 77% quarterly combined ratio, reflecting strong contributions from our growing Montpelier at Lloyd’s and Collateralized Re segments, as well as the benefit of prior period development.

All operating segments executed well with combined ratios of 59% for Bermuda, 89% for Lloyd’s and 63% for Collateralized Re.

Fully converted book value per share, plus dividends, increased by 2.8% for the quarter and 19.4% for the trailing 12 months. Net written premiums increased by 4% as compared to the second quarter of 2013 although the trend varied by segment. Net written premiums decreased by 12% for Montpelier Bermuda, driven by reduced property catastrophe writings, reflecting the impact of both rate pressure and exposure reductions.

Reinsurance market conditions remained competitive during the mid-year renewal cycle with an average renewal price index of minus 12% for Q2. Montpelier at Lloyd’s grew net written premium by 27% in the quarter, 16% year-to-date, driven by individual risk business as we continue to expand the breadth of our core property and specialty insurance products we offer within Lloyd’s. The renewal price index for Q2 was minus 1% for Lloyd’s.

Collateralized Re written premium increased 51%, reflecting the launch of Blue Capital Reinsurance Holdings and the overall growth of managed capital. By broadening the range of flexible products we offer to the market, we continue to strengthen our relationships with core business partners.

Excluding the impact of reserve releases and $24 million of catastrophe losses arising from U.S. tornado activity, and windstorm, Ella, the quarterly loss ratio was 49%. The higher run-rate versus last quarter was driven by higher frequency of attritional losses within the individual risk and catastrophe lines, as well as rate pressure.

Favorable prior-period development benefited the quarterly results by $38 million. The release was spread across multiple classes with the largest benefit within property catastrophe.

As noted on page 6 of the financial supplement, estimated 1-in-250 PMLs decreased between 5% and 8% for peak zones from January 1 to June 1 of this year. U.S. hurricane remains the peak 1-in-250 PML at $347 million, which is down 12% versus June of last year.

Our ability to refund quickly to business partners and to manage risk efficiently across our portfolios is a key competitive advantage, and that nimble underwriting approach combined with our flexible capital base and excellent client relationships will continue to serve us well in the current market environment.

I will now hand over to Mike to provide further details on the financials.

Mike Paquette

Thank you, Chris. We ended the quarter with a fully converted book value per share of $31.74, an increase of 2.8% after taking into account our common dividend. Our operating income for the quarter was $36 million or $0.76 per common share and our net income was $37 million or $0.78 per common share, each expressed after preferred share dividends.

Our net income includes $12 million of net realized and unrealized investment gains and $11 million of net foreign exchange losses. Net premiums written in the second quarter were flat year-over-year when adjusting for reinstatements with increased writings within our Montpelier at Lloyd’s and Collateralized Reinsurance segments offsetting a decrease in writings at Montpelier Bermuda. Net premiums earned in the second quarter were up 12% when adjusting for reinstatements.

The loss ratio for the quarter was 41%, which includes $24 million of net losses from known catastrophe events in the quarter, offset by $38 million of favorable prior-year loss reserve movements. The combined ratio was 77% for the quarter.

The acquisition cost ratio for the quarter was 18% versus 16% a year ago. That’s driven primarily by a shift of business mix away from property catastrophe across the Group.

Our recurring operating expenses were $20 million, largely unchanged from those of a year ago. Our incentive compensations were $9 million in the quarter, up from $7 million a year ago. The increase in compensation expense reflects the strong growth achieved in our fully converted book value per share year-to-date.

At quarter end, our fixed maturities had an average duration of 1.8 years, including derivative and short positions and an average credit quality of AA minus. Our equity investments at quarter end comprised 5% of our total invested assets.

For the quarter, our net investment income was $12 million and we further benefited from $12 million of net investment gains. The portfolio’s total return was 0.9% for the quarter.

Year-to-date, we have repurchased $107 million of common shares at an average cost per share of $29.02. The share repurchase activity represents a 7.5% reduction in our common shares outstanding from the beginning of the year.

Our current shareholders’ equity is $1.7 billion and our total capital is $2.1 billion. We believe our strong balance sheet positions us well for the remainder of 2014 and beyond.

I will now turn the discussion back to the operator.

Question-And-Answer Session

Operator

(Operator instructions) Our first question comes from Amit Kumar of Macquarie. Please go ahead.

Amit Kumar - Macquarie

Just maybe two or three quick questions. The first is on the discussion on capital and I’m looking at the PML and the buyback and the stock price and the buybacks you had in Q3 to-date, how should we think about buybacks for the remainder of the year? Should we expect to see additional repurchases in the hurricane season, or does it taper back?

Chris Harris

We always think about capital management in the same risk/reward framework and I think it’s important to look over a longer period than a quarter. If you look at year-to-date, we obviously were a little more aggressive in the first quarter, but year-to-date we’ve repurchased in excess of 80% of our net income, and we think that’s a fairly good proxy for the year.

And as I’ve said before, we view that it’s always cat season, so we don’t necessarily stop for wind season. We’re going to look at a number of factors, what we see as underwriting opportunities, where we sit in terms of PML to capital and then, as you correctly said, what the valuation of the stock is, that will be another key data point we’ll look at.

Amit Kumar - Macquarie

The other question, I guess, is a two part question is, first of all, can you - you separately gave out, I guess, the non-notable losses in the quarter and can you also talk about what exposure you might have to the recent events, and I’m talking about political risk, Ukraine, the two air crashes, maybe the Tripoli airport issue, can you talk about those things?

Chris Harris

I’ll take the second part of that question first. I mean in terms of the larger aviation events that you mentioned that would be a relatively small level of exposure for our portfolio, so and by small I mean $3 million or less for those events in aggregate. If you look at political risk, again, we would not think that’s a significant source of risk for our portfolio currently.

Could you repeat the first half of that question? I wasn’t exactly sure what you meant by non-notable events.

Amit Kumar - Macquarie

You talked about higher attritional losses, right, in the quarter, can you sort of break those out?

Chris Harris

Sure. I’ll take a high level stab, and Amit, I’m sure you’ve heard from commentary on others this quarter, we did see a higher frequency of non-weather losses, which generally tended to be in the individual risk portfolio. That’s something that we tend to look at the trend for those losses over a longer period of time, and certainly you are going to see some quarter-to-quarter volatility, and you just had a case over the last two or three quarters have been exceptionally low for some of those type losses. And we did experience a few of those this quarter, which were primarily in marine and property portfolios.

And then, on the weather losses, I think in my commentary again we said a higher attritional loss ratio there. I think that just reflects the fact that one, there was a greater frequency of events, again they tended to be smaller industry loss levels, but many of them happened in the latter half of the quarter as well, so they tended to be June events.

I think because of that, we probably carry a little bit greater bulk load just given one, the greater number of events and the fact that they occurred much later in the quarter.

Operator

The next question comes from Ryan Byrnes of Janney Capital. Please go ahead.

Ryan Byrnes - Janney Capital

The investment income again was a little bit of like what I was expecting to be. And kind of year-over-year it’s down mid-20%. And clearly you guys are kind of harvesting some realized gains, but how much further do we have for that portfolio mix, the change, should we be anticipating investment income to continue to decline at this pace? So just wanted to see when that should stabilize?

Chris Harris

Thanks, Ryan, this is Chris. I think you can use this quarter as a reasonable proxy for the run rate. As we talked about last quarter, we did have one manager commitment that we transitioned from a separate account to a fund format and we saw some drop off in net investment income because of that. But I think if you looked at the current level of duration and the current run rate for NII, I think that’s a reasonable proxy.

Ryan Byrnes - Janney Capital

And then, obviously you guys shift a little bit away from property cat, how do you guys view loss cost inflation? Where are you guys using it for your reserves right now versus where you guys were taking it today two, three years ago?

Chris Harris

It’s not typically a number that we would disclose, but I think it is important to look at the mix of our reserve base. If you look at the lines of business that we’ve written, we have tended to be more concentrated in the short-to-medium tail lines of business. So in terms of the inflation assumptions you want to use, they are going to have less of a leveraged impact on our reserve base than they might on some others, but I would say we’ve been consistent, we haven’t made any recent changes in those assumptions.

Ryan Byrnes - Janney Capital

And then just lastly, you guys didn’t quite break out what the level of large losses were in the quarter, I guess non-cat weather or non-catastrophe large losses, but I just wanted to see if rate decreases were impacting kind of the underlying loss ratio there as well. I was just trying to figure what kind of impact that rates are having on the underlying loss ratio, if you guys can talk a little bit about where rates are in general for your book.

Chris Harris

I think that was an element that I mentioned in my script, so you have two things going on. One, as you noted, you have seen a shift in our mix of business over year-to-date. We have shifted away from property cat and a little more heavily into individual risk business in London, as well as specialty reinsurance in Bermuda. So that shift would tend to push up the run rate loss ratio.

And then, as you correctly noted, there has been some rate pressure year-to-date and that certainly gets reflected in our initial loss picks. So I think you see both of those factors working into this quarter’s run-rate as well as a couple of one-off losses.

Operator

The next question comes from Josh Shanker of Deutsche Bank. Please go ahead.

Josh Shanker - Deutsche Bank

I’m just a little bit skeptical. If I were to take this quarter and run it through your portfolio a year ago or two years ago or three years ago, do you think your losses be approximately the same or how do you push back on the argument that the pricing environment and the risk environment is causing you to take risk today for lower-level events than you would have in prior years?

Chris Harris

In terms of our overall portfolio, I would categorize it as being fairly similar to a year ago or two years ago. I think if we look at our client mix, one of the strengths of our organization is we do have very good client relationships. We’ve tended to have a very consistent set of clients and a very persistent set of renewals over the years. So, I don’t think you would have seen a dramatic change in that this year.

As I commented earlier, we did pick up some cat losses this quarter, and that reflects the fact that we do have a more regionally-oriented business mix maybe than some competitors and some of those deals will attach lower, but we think the long-term profitability has been strong there.

And the second factor is again just given the number of events that occurred in the quarter and the lateness; we probably had a higher bulk - bulk -- higher bulk in our load than we would have had in some prior quarters.

Operator

The next question comes from Brett Shirreffs of KBW. Please go ahead.

Brett Shirreffs - KBW

The first question I had was - just wondering if you could talk a little bit more about the Lloyd’s growth in the quarter, where there new opportunities there or you just finding the pricing more attractive on a relative basis versus property cat?

Chris Harris

Thanks, Brett. I won’t talk about it, but I’ll turn that one over to Richard.

Richard Chattock

Thanks, Brett. First of all, I think the year-to-date growth is probably a reflection of future run rate to the premium; it’s at 16% year-to-date. The growth in our property individual risk and specialty individual risk sections, this is really - we’ve invested in these lines over the last 18 months, 24 months, and we are beginning to see the fruits.

Here the rates are more durable there I’d say with less rate erosion than we suddenly would be seeing in property cat lines. Some of them are flat and so that’s sort of U.S., ENS and London middle market business we are seeing in the property segment, and then in specialty there is a couple of individual specialties transactions we’ve done this year, which are beginning to flow through. So there are investments we’ve made in the business that we’re now realizing through in the premiums.

Brett Shirreffs - KBW

And then, could you also just talk a little bit about capital management as it relates to some of that, that mix shift as well as the lower PMLs we‘ve seen since January 1, does that free up more capital for buyback going forward?

Chris Harris

As you correctly noted, if you look at it at a high level, we have shifted capital allocation over the course of the year. As I said earlier, we have allocated more capital to the Lloyd’s platform and to some of the specialty reinsurance lines within Bermuda, and we’ve also reduced our property catastrophe PML. If you look our U.S. hurricane PML, it’s down almost 15% heading into this wind season versus last season.

So, we do feel that on the margins. We’ve allocated into some less capital intensive lines, so that gives us some more capital flexibility, particularly when you couple that with the growth in overall managed capital that we’ve had. So, we feel good about our position, and as I said earlier, we’ll continue to evaluate capital management throughout the course of the year.

Operator

The next question comes from Dan Farrell of Sterne Agee. Please go ahead.

Dan Farrell - Sterne Agee

I was just wondering if you could comment on terms and conditions across your book and how they are versus a year or two ago?

Chris Harris

Thanks, Dan. I’ll let Richard and Chris comment on that. Maybe Richard, if you want to comment on London.

Richard Chattock

We’re seeing some price erosion in some areas. I think that is inevitable, but we are where we need to, we’re walking away from that business. Equally, we have seen some areas where the rates have held up quite well and we’ve got a few niche areas where we’re able to grow.

We have seen some pressure on acquisition costs. So, you’ll see that in the run rate as a slight flow through in higher acquisition rates, that’s both as we move to do more individual risk business where we think the rights are better and equally where the brokers are pushing a little bit [indiscernible] on some of those commissions or we’ve accrued some profit commissions.

Chris Schaper

Dan, this is Chris Schaper. We’ve certainly seen some obviously rate reductions pretty much across the portfolio. We’re also seeing some changes in hours clauses that have changed year-over-year and those are the primary areas of change.

Dan Farrell - Sterne Agee

And then, just on the expense ratio, you mentioned it was on the acquisition ratio, particularly you mentioned it was from a mix perspective, should we be thinking about a higher level just for mix on a go-forward basis?

Mike Paquette

I think you should. It’s Mike, Dan, and also keep in mind that we always had an element of profit commission adjustments intra-quarter. So, what I would recommend is take a look at the acquisition cost over a longer period of time than simply a quarter, but I do think in light of the comments said and what we’ve experienced that it will be slightly higher moving forward.

Operator

The next question comes from Mike Zaremski of Balyasny. Please go ahead.

Mike Zaremski - Balyasny

First question, earned premiums grew by a good [click] [ph], it seemed to outpace net premiums written over the last number of quarters, anything going on there that we should be thinking about?

Mike Paquette

Mike, I’ll take that, it’s Mike Paquette. One of the things that you need to be careful in filtering out this quarter is that we had about $3 million of positive reinstatement premium this quarter going through the earned, and a year ago, we had about $3 million or $4 million of negative reinstatement premium going through that line.

So, when you filter that noise out, you are going to see that earned premiums were up about 12%, not the real delta, and I think you will find that to be reasonable based on the increase in premium writings in the last couple of quarters coming from Collateralized Re.

Mike Zaremski - Balyasny

And lastly, you guys talked about some large losses that didn’t meet your cat threshold, would you say this was unusually large number of absolute level of losses or was this kind of within the normal range of frequency?

Chris Harris

Thanks, Mike, this is Chris. I think overall we would consider Q2 as a very active quarter, I mean you saw some events certainly with the U.S. tornado activity, you had also windstorm Ella and I think if we just looked at the number of events overall, it’s probably a little bit higher than we’ve experienced in most quarters.

Operator

Are you ready for the next question?

Chris Harris

Yes.

Operator

(Operator Instructions) The next question comes from Sarah DeWitt of Barclays. Please go ahead.

Sarah DeWitt - Barclays

If property reinsurance prices continue to grind lower, what’s your outlook for the Bermuda business, how much are you willing to shrink that in terms of either at the premium or the PML? And then, secondly on Blue Capital, is it still your plan to raise capital here given the stock is trading below book value?

Chris Harris

Two fairly detailed questions there, but I will try to address them. I think on the first one on the property catastrophe rates, we’re not going to have any change in the philosophy of the company. We think we’re going to be disciplined. We’ve been willing to shrink our PMLs when we’ve seen a tougher pricing environment. So, our plan there is to carry on being selective.

And on Blue Capital, certainly we will continue to evaluate a number of factors before we make any decision on the capital raise. That will certainly include what we think is the valuation of that stock, as well as what we see as the market outlook. A lot of factors will go into that decision and we’ll certainly evaluate that as we get closer to the end of the year.

Operator

There are no further questions at this time. Mr. Kim, please proceed with your closing remarks.

Jonathan Kim

Thank you. That concludes our proceedings this morning. Once again I would like to thank you all very much for your participation and I invite you to join us again at our third quarter 2014 earnings call.

Operator

This concludes today’s conference. Thank you for your participation. You may now disconnect your line.

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