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Genworth Financial, Inc. (NYSE:GNW)

February 10, 2012 10:00 am ET


Georgette Nicholas -

Kevin D. Schneider - President of U S Mortgage Insurance

Martin P. Klein - Chief Financial Officer and Senior Vice President

Dean Mitchell -


Donna Halverstadt - Goldman Sachs Group Inc., Research Division

Geoffrey Dunn - Dowling & Partners Securities, LLC

Jeffrey R. Schuman - Keefe, Bruyette, & Woods, Inc., Research Division

Edward A. Spehar - BofA Merrill Lynch, Research Division

Scott Frost - BofA Merrill Lynch, Research Division


Good morning, ladies and gentlemen, and welcome to Genworth Financial's U.S. Mortgage Insurance Perspective Conference Call. My name is Giovanne and I will be your coordinator today. [Operator Instructions] As a reminder, the conference is being recorded for replay purposes. [Operator Instructions] I would now like to turn the presentation over to Georgette Nicholas, Senior Vice President of Investor Relations.

Georgette Nicholas

Good morning, and thank you for joining us for our conference call on U.S. Mortgage Insurance. We have a presentation we will be webcasting during this call, and I've also posted the full presentation to our website. This morning, you will hear from 2 of our business leaders. Starting with Kevin Schneider, President of our U.S. Mortgage Insurance segment; followed by Marty Klein, our CFO.

Following our prepared comments, we will open the call up for a question-and-answer period. In the question-and-answer period of the call, we ask that you focus your questions on our U.S. Mortgage Insurance business and strategy given the purpose of today's call.

In addition to our speakers, Dean Mitchell, Chief Financial Officer of U.S. Mortgage Insurance segment, will also be available to take questions.

With regard to forward-looking statements and the use of non-GAAP financial information, some of the statements we make during the call this morning may contain forward-looking statements. Our actual results may differ materially from such statements. We advise you to read the cautionary note regarding forward-looking statements in our fourth quarter earnings release and the risk factor section of our most recent annual report on Form 10-K filed with the SEC in February 2011, and our third quarter Form 10-Q filed with the SEC in November, 2011.

This morning's discussion also includes non-GAAP financial measures that we believe may be meaningful to investors. In our quarterly financial supplement and earnings release, non-GAAP measures have been reconciled to GAAP, where required, in accordance with SEC rules. Today, beginning on Slide 2, we will cover a discussion on the portfolio, trends and losses, our assessment on embedded value, claims paying ability and the quality of new business. We will then discuss our capital strategy and provide an overview of the strategic options we have considered for the U.S. Mortgage Insurance business and provide perspectives on why we have chosen the current path we are executing. We will end with an update on the state of the industry and activities in Washington.

And now, let me turn the call over to Kevin Schneider.

Kevin D. Schneider

Thanks, Georgette. And thanks to all of you for joining us today for this extended Investor Update. As you can see, I will be providing some review of 2011 trends and results, along with some of our current expectations for 2012. While we are providing these forward-looking metrics to provide further information regarding our current expectations, please recognize that there continues to be challenging economic conditions pressuring the housing industry, and unfavorable employment conditions are still impacting the ability of homeowners to stay current in their mortgage payments. Thus, meaningful changes in the current trends could have material impacts on our expectations.

So let's begin on Slide 3 where I will provide some perspective on the key messages we are communicating in the presentation today.

First, risk discipline entering the cycle resulted in differentiated portfolio mix with go forward implications. While there are areas we wish we had taken action faster or not insured at all, we are seeing differentiation in the performance of our portfolio when compared to others. Changes in reserve expectations negatively impacted 2010 and 2011 results, and our current expectation is new delinquencies should drive losses going forward. Risk to capital is elevated, but our claims paying ability is sound. New business adds positive economics and benefits claims paying ability. Our new business is performing better than pricing with a 20%-plus return on equity and is contributing very little to new delinquency development. And we have plans in place to continue to write new business. Multiple factors drive return to profitability, and we will outline the key drivers for you. And finally, we evaluated all strategic options for this business and are following a chosen path while pursuing alternatives.

With that, let's begin with a look at a comparison of Genworth's primary portfolio of risk in-force as of December 31, 2011, compared to other private mortgage insurers on Slide 4.

We believe the Genworth portfolio, on a relative basis, is a result of a differentiated risk discipline heading into the financial cycle. And although, we too, have been significantly impacted by the loans insured during 2005 to 2008, the difference in delinquency rates is an illustration of our relative risk appetite. We underweighted our participation in riskier products such as Alt-A loans, bulk and Wall Street securitized loans and short-term adjustable-rate mortgages. In addition, we have strengthened our reserves over the last 2 years to a level that, based on our knowledge, is the highest in the industry.

While these reserve-strengthening actions result in a risk-to-capital level that is above 25:1, we believe we have the comprehensive balance sheet strength and a capital strategy that provides a corridor through which to manage new business writings.

Turning to Slide 5, we have provided a snapshot of our total flow risk in-force as of year-end 2011 by vintage, along with the comparative reserve levels for each book year. As you can see, the 2005 to 2007 book years are still a large part of our portfolio with a disproportionate percentage of reserves. These books have been impacted by several years of home price depreciation, especially in Sand State geographies, as well as underwriting guidelines and practices that were not consistent with today's credit policy and underwriting standards. We view the 2008 book of business as the transition vintage with overhang from the 2007 products and pricing, but better performance for business written in the second half of 2008.

You can also see that the 2009 to 2011 books have very low reserve levels as the delinquency development of these books has been favorable.

Slide 6 shows the composition of our current delinquency inventory by aging category, as well as our flow reserve per delinquency over time. This demonstrates the effects of reserve strengthening in 2010 and '11, as well as the change in aging composition while overall delinquencies continue to trend down.

With that overview of our portfolio, let's now get into a more detailed discussion of loss development and our expectation for 2012 on Slide 7.

At a very basic level, incurred losses are driven by 2 factors: Either, one, a change in expectation of claims on the current inventory delinquencies; or two, new delinquencies. A leading indicator of the need for a change in reserving can be aging, net of cures on delinquent loans. But aging pressure must be assessed as either temporary or permanent prior to making a reserve change.

During the last 2 years, we have made significant changes to our loss expectation driven by our observed loss experience. While we are humbled by the magnitude and frequency of those adjustments, we feel that given prevailing conditions, current trends and the composition of our delinquency inventory, that our reserve levels are adequate. Our internal views on reserves with respect to this existing delinquency population are also consistent with the inputs of various external third parties who have reviewed our reserves and loss expectations.

Therefore, unless permanent trend in claims development exceed our current expectations, losses in 2012 and beyond should be driven primarily by new delinquencies. This view has been supported by loss performance in 3Q and 4Q, following the reserve adjustments we made in the second quarter of 2011.

Beginning on Slide 8, I'd like to provide some additional detail on our view of adequacy of our reserves. During the past year, we have added disclosure on cures by aging category and reserves as a percentage of delinquent risk to provide more transparency into our cure trends and strength of reserves by aging categories.

This slide tracks the static population of December 2009 delinquencies over the past 2 years. As you see, the cumulative cure percentage has trended up over time and continued to grow during 2011. However, it is important to realize that there are still unresolved delinquencies from this year-end 2009 starting point. In fact, 20% of the delinquencies from this population remain unresolved.

Ultimately, we expect additional cures from this unresolved population to build to the current cure assumption in our reserve factors. While this analysis is limited to one vintage as of December 2009, in the aggregate, cure experience continues to support our current reserve levels.

Slide 9 provides an update to the reserve actions we took in second quarter 2011. As you may recall, we increased our reserves at that time by $100 million per experience that we saw on the second quarter and approximately $200 million for our expectation of further deterioration of future cure rates. As expected, we experienced further deterioration in cure rates in the third quarter of 2011, which we estimate utilized approximately $100 million of the initial $200 million strengthening.

During the fourth quarter, cure rates began to stabilize and we used an incremental, approximately $20 million. This leaves $80 million of our second quarter action remaining to be utilized on a go-forward basis. While there can be no assurance that cure rates will not deteriorate more than the remaining $80 million provision, we feel good about the cure activity over the last 2 quarters and we'll continue to monitor them closely.

Finally, as you can see on Slide 10, regarding the adequacy of our reserve levels, loss mitigation has played a significant role in limiting our losses, and we expect that to continue in 2012. As a reminder, loss mitigation benefits are not being driven by an expectation of significant rescissions during the year. As we've publicly disclosed, we do not have any material rescission expectation built into our reserves as the majority of our rescissions already occurred as of second quarter 2010. We have a different investigation process than other mortgage insurers. Early in the cycle, we reviewed delinquent loans for missing documents, adherence to underwriting guidelines and fraud and misrepresentations. And we rescinded those loans that were not in compliance with our master policies.

This is contrasted to the practice of some of our competition where loans were investigated later in the process, in fact, at the point of claims submission. As you can see from the historical view, we exceeded our 2011 expectation of $400 million to $500 million in loss mitigation savings, primarily driven by workouts or loan modifications and claim mitigation activities.

As a reminder, we report loss mitigation savings as the reserve that is released when a delinquent loan is cured through loan modification, rescission or any reduced claim amount through a short sale or negotiated claim payment. While we do expect workouts to continue to drive material savings in 2012, you can see that our expectation is a 28% decline in those workouts from roughly 18,000 to 13,000 expected loan modifications in the current year.

The recent announced extension of the HAMP program through year-end 2013 does have the potential to add additional workout opportunities that had been declining with the previous anticipated wind down of the HAMP program.

Now let's turn to new delinquencies in 2012. Again, because we believe that our current reserve levels are adequate with respect to our existing delinquency inventory, our incurred loss expectation for 2012 is driven primarily by expected new delinquencies. Slide 11 provides the actual delinquency development of 2005 to 2008 books, which peaked in either late 2009 or 2010, depending on the book year.

Since peaking, while the continued burn-out of these problem vintages is slower than we would like, it is clearly evident that these books are producing fewer new delinquencies over time. We expect this burnout to continue producing fewer new delinquencies resulting in improved financial performance on a go-forward basis.

We have been providing Slide 12 to the investment community for several periods to illustrate new delinquency trends and re-delinquency trends in our portfolio. However, as we look forward to 2012, we have added an annual review of these trends on Slide 13 to help further illustrate that our 2012 view of new delinquencies is reasonable and appropriate.

We believe that the new delinquency trends experienced over the last 2 years are sustainable and will continue as macroeconomic trends slowly improve and we get further away from the origination of problem vintages. As a reminder, new delinquency developments normally accelerate during the first 2 to 3 years of a book's life and then declines over time. However, due to the favorable performance and relative size of the 2009 to 2011 books, we do not expect the normal pattern of accelerating delinquencies to have a material impact on losses. Our incurred loss expectation is still being driven by the books originated from 2005 to 2008.

So how does all this influence our view of losses in 2012?

We have provided a historical view of loss drivers from 2010 through 2011, along with our current expectation of 2012 losses on Slide 14. This slide shows the negative impact from reserve adjustments and aging during 2010 and '11. However, experience since our last reserve action in the second quarter, has been in line with our expectations and we anticipate that trend to continue in 2012. Although we do expect seasonal variation in new delinquencies in 2012, our current expectation of losses will be driven, primarily by new delinquencies that are clearly declining combined with an expectation that reserves are adequate for claims on existing delinquencies.

Now, let's transition into our views of Genworth's claims paying resources and the factors that influence our claims paying ability.

Turning to Slide 15. It starts with an evaluation of our substantial claims paying resources of $3.7 billion available at year-end 2011. This includes $600 million of captive trust assets, which are not on our balance sheet. We only record benefits that are supported by captive trust assets, and we expect, approximately $100 million of claims to be paid by those trusts in 2012.

Future claims paying capability is then influenced by the quality of those assets, by our modeling approach and assumptions, by loss expectation and new business levels and performance. Slide 16 provides a more granular view of our investment portfolio excluding the captive trusts. We currently hold approximately $500 million of cash and short-term investments, which represent a buffer of liquidity to meet short-term obligations. Our $1.9 billion investment portfolio consists primarily of investment grade securities with an average yield of about 4%, average effective duration of about 4 years, and no single issuer concentrations greater than 2%. In addition, we hold about $700 million of investments and affiliates. So let's move on to why we believe these claims paying resources are sufficient as we manage through the cycle.

Slide 17 provides an overview of our thoughts on modeling, which starts with acknowledging the volatility and uncertainty in economic conditions and future financial performance. In addition, most deterministic mortgage models have used historical relationships between changes in home prices or unemployment rates to predict future losses. Unfortunately, these historical relationships have broken down in this period of unexpected financial stress and challenged the reliability of econometric modeling. As a result, we forecast an expected range of outcomes using one set of economic inputs that we get from a third-party provider, and then adjust based on our trended view of claims on both existing delinquencies and forecasted new delinquencies to provide ranges around our base expectations. I will reiterate that we have also worked with outside third parties whose own inputs of our loan level portfolio and loss forecast are largely consistent with our expectations.

So let's turn to Slide 18 and talk about some specifics behind our forecast and how we have adjusted them to determine our expected range of outcomes.

We have used one set of economic assumptions in our forecast based on data provided by a third party provider, as a baseline in our forecasting. We actually ended 2011 in a favorable position on HPA relative to this assumption. But we still anticipate an additional 5 to 6 points of further home price declines with peak to trough declines in home prices of approximately 25%, bottoming out roughly midyear 2012. In a similar manner, although unemployment ended 2011 better than the above 9% forecast, we still model a very slow increase in employment with forecasted unemployment at or above 9% throughout early 2013. We have also provided our forecasted slow NIW and how we expect that to grow as originations recover and we build our market share with improved mortgage insurance penetration. We will go deeper into our view on new business later during the presentation.

Our base expectation starts with our belief that current reserves are appropriate for future claims on our existing delinquencies. Another important input is the level of modifications in 2012 of approximately 13,000 modified loans. We have then incorporated claim roll rates on new delinquencies of about 21% or slightly higher than our current experience but improving over time. In developing a range of performance, we then provide for further deterioration and losses and a reduction in new insurance written. We feel this range provides us with a baseline to manage the business, share our expectations with regulators, GSEs and rating agencies, and to develop a capital plan with contingencies within this range of expected outcomes.

Let's discuss important outputs of our modeling and how they are being assessed by key stakeholders. As we have discussed since the second quarter of 2011, we expect our risk-to-capital levels to rise in our expected range of outcome. However, Slide 19 shows the additional metrics and multiple factors that we believe are being considered by a GSE or regulator to determine an acceptable operating quarter. We think it is important to understand that we have provided our financial forecast, including all risk-to-capital, claims paying ability and solvency metrics to our regulators, as well as the GSEs, and have a been in very open discussions with them regarding these potential outcomes.

Based upon our current claims paying resources, our range of forecasted results, which are consistent with third-party input, the quality of new business and discussion with regulators to date, it is our current assessment that we will be able to continue to write new business as we manage through forecasted risk-to-capital and invested asset levels. These discussions have also included the excess of the statutory capital level of GRMAC, our subsidiary that is fully operational and licensed, and will be discussed in more detail later in this presentation. We believe GRMAC provides us contingent flexibility in the possible scenario that our flagship insurance companies, GMICO, is unable to continue to write new business given the elevated risk-to-capital levels, as well as the potential to develop alternative structures for new business writings.

To wrap up the discussion around our forecast, we wanted to provide additional information around our view of embedded value for the U.S. Mortgage Insurance business and its importance as a measure of claims paying capability.

On Slide 20, let's begin with a few conceptual thoughts on how we think about embedded value from both a portfolio and enterprise perspective. We think it is important to define these concepts as there is not a consistent definition for embedded value. As we talk about portfolio embedded value, we are referring to the portfolio discounted cash flows available under a run-off scenario, that is future premiums plus reserves less future claims and expenses discounted at a rate similar to our investment yield.

This calculation provides the excess or shortfall after all liabilities are met and is a consistent approach to a premium deficiency calculation. When we refer to enterprise embedded value, we start with those same portfolio discounted cash flows and then add current equity. Understanding the current equity is not necessarily distributable at this time.

Slide 21 provides actual ever-to-date CTRs or claims terminations rate, which are the number of loans that go to claim per 100 loans, as well as a range of ultimate CTRs expected by book year. As an example, for the 2007 book, approximately 10 out of 100 loans originated have already gone to claim. Our ultimate claims expectations for the same book is between 21 and 23 out of 100 loans. While this elevated claims rate demonstrates the negative effects of product risk attributes and the prevailing economic condition these books have weathered, the results are consistent with what we have seen from other third-party expectations.

For the purpose of calculating embedded value on Slide 22, we have used the midpoint of the ultimate CTR range. Slide 22 provides detail behind our embedded value calculations at a flow portfolio level and book year view that is consistent with the base expectation that we provided earlier on Slide 18. This analysis should give you a better understanding of why we continue to believe in the future financial performance of the business.

While we have taken reserve-strengthening actions, when you add our current reserve balance to the discounted cash flows from premiums, losses and expenses, the result is significant embedded value produced from our portfolio of business. We believe this demonstrates a sufficiency of claims paying resources from our in-force portfolio. When you then step back and add that value to our current equity position, we believe this further supports the sufficiency of claims paying resources. This analysis also excludes the value of profitable new insurance that we had written in 2012 and beyond.

So now let's turn to the profile of our new business writings in more detail. For those that have not closely followed our U.S. Mortgage Insurance operations, we first wanted to ground everyone in how the business model works. Slide 23 provides an illustration of a 90% loan-to-value loan at a rate of 54 basis points over an average life of 4.4 years. In this illustration, the borrower purchases a $200,000 home with a 10% down payment and Genworth would provide 25% coverage for risk in-force of $45,000 on insurance in-force of $180,000.

The originator or investor would hold the remaining 67.5% or $135,000 of the purchase price. This really shows the value of private mortgage insurance. We help borrowers to get into homes with less than 20% down by providing the originator or investor a significant amount of insurance on potential losses if the borrower is unable to pay and ultimately the loan goes to foreclosure and results in a claim. In addition, since all parties involved have skin in the game, interests are aligned to put borrowers in homes they can afford and keep them there should trouble arise.

Moving to Slide 24, let's talk about the business we are writing today and how we have fundamentally changed the business model since 2008.

First, we are discontinuing insuring certain products where we feel that we cannot appropriately price for the risk, such as low documentationary minus loans. The reality is, this is a learning that has widely influenced origination practices in the market and evolving regulations should prevent return of these products in the future.

We have also increased our base prices by 25% to 35% depending on the product. And also apply additional pricing adders when we do ensure loans with certain characteristics such as the jumbo mortgages or cash-out refinances.

Finally, from a capital and risk perspective, we no longer enter into captive reinsurance under excess of loss agreements with lenders and instead keep the associated risk and premium. From an underwriting perspective, we've also moved to a much tighter set of underwriting guidelines and practices and a lower percentage of our loans are delegated to originators.

So what's been the result? Even during these challenging economic times, we are seeing very low delinquency levels from our most recent book years with low loss ratios and expected ROEs above 20%.

Slide 25 provides more detail around the loan characteristics we are adding to our portfolio today versus the loans that are lapsing off of our portfolio. Clearly, there are a lot of differences, as I've just discussed. But I wanted to specifically point out that new business written from 2009 to 2011 has been originated with a 30%-plus price increase at an average net premium rate of about 56 basis points versus those lapsing off at about 42 basis points.

You can also see the improvement in the average FICO of the borrowers today and the percentage of loans that fall into our core categories. Just as a reference, that would exclude any loans that have low documentation, LTVs above 95% or A Minus loans that were approved by GSE-automated underwriting systems. While our overall portfolio is getting smaller due to recent period lower volumes of mortgage insurance originations, the quality of our portfolio continues to improve each period.

Slide 26 provides more detail on the actual loss performance as measured by loss ratio for these recently originated books of business. We have provided a view of a normal loss ratio curve that would be expected on a long-term historical basis and compared that to the actual loss ratios being produced by the 2009 to 2011 book years.

Even though these books are seasoning through a less than desirable economic environment, they are performing much better than our pricing expectations. We believe this favorable performance is a direct result of lender selection and management, improved underwriting practices, credit policy and more robust pricing since 2008. So you can see that even though all of these recent vintages are performing favorably, on a relative basis, they continue to improve from the 2009 book through the 2011 book. It is commonly believed in the industry that these will be some of the most profitable books of business ever written.

So let's move to Slide 27 and go into a comparison of actual performance to pricing on the profitable book with the most seasoning the 2009 book.

When we priced the 2009 book, we assumed persistency of roughly 80%. Due to the low interest rates and home price depreciation, actual persistency has approximated 85%. As a result, we have changed our lifetime view of persistency on this book which should drive, roughly a 36% increase in premium, above our initial expectation when we priced the book.

Our view of losses on this book as we went through on the previous slide is now for an ultimate loss ratio of the book's life of about 10%.

Again, while we expected a relatively low loss ratio, given the type of collateral that was originated, the performance-to-date suggests lifetime loss performance roughly half of the pricing expectation. From an expense perspective, the book is challenged. Since we only wrote about $11 billion of NIW in 2009, which is much smaller than our historical average, we now expect that the allocation of expenses will produce a lifetime expense ratio of 38%. You may recall that we took a hard look at our expense base, along with current market dynamics in the third quarter of 2011 and made hard decisions to rightsize our cost structure based on our expectation on new insurance written and insurance in-force. The result of these line item variances is a levered ROE expectation, closer to 30%, compared to a pricing expectation of 20%-plus.

The next 2 slides will give you the cumulative results of our profitable new books of business and how we think we will maximize profitability with new production going forward. Slide 28 provides insurance in-force and cumulative gross margin on the '09 through 2011 books. You can see that those books have grown to almost $26 billion as of December 31, 2011. And based on our expectation of the 2012 vintage, should represent approximately $37 billion or 28% of our overall portfolio by the end of 2012. The right side of the page shows the cumulative impact that these books are having on gross margin as defined by premiums less incurred losses.

While we wish these books would have been larger, the cumulative financial impact by the end of 2012 will be about $285 million on a pretax basis. As noted on the previous slide, the books are expected to produce ROEs greater than 20% and they're becoming a larger portion of our portfolio.

As I wrap up on our new business writings, on Slide 29, I wanted to provide you with our view on the private mortgage insurance market, Genworth's position in that market, and where we see that heading into 2012 and beyond.

The table at the bottom of the slide gives our expectations that originations will continue to be pressured in 2012. In fact, due to a lower level of refinance activity, we expect originations to decline from $1.3 trillion to approximately $950 billion. Against that smaller market, we continue to see an increase in mortgage insurance penetration, primarily due to a higher purchase percentage that will ultimately result in a larger mortgage insurance market from last year's estimated $68 billion to 2012 of approximately $80 billion.

While we believe we can grow our market share in 2012, remember that in the range of forecast we provided earlier today, we also adjusted our expectation in the unfavorable scenario to a lower share level. However, longer-term, we would expect that the private mortgage insurance market would benefit from a more traditional sized origination of market. About a 12% mortgage insurance penetration market, translating into a Genworth book size of about $27 billion. Clearly, the lifetime net income contributions of these books will have a favorable impact on the embedded value that we discussed on Slide 22.

Now that we've been through 2011 performance trends, loss expectations, our modeling approach, embedded value, claims paying ability and a granular view of our new business, Slide 30 summarizes the drivers of a return to profitability for the U.S. Mortgage Insurance business.

Assuming no double dip in the U.S. housing market or material global economic downturns, these drivers suggest a return to profitability on a run-rate basis sometime during 2013.

We would like to focus the rest of this presentation on our capital strategy. The strategic options that we've betted extensively in arriving at our current path and a quick update on the status of activity in Washington regarding housing finance reform topics.

First, let's focus for a few minutes on risk-to-capital and the capital strategy that we are currently working through. On Slide 31, as a reminder, the regulatory oversight begins with our principal insurance regulator, the North Carolina Insurance Department. 16 states, including North Carolina, require a mortgage insurer to maintain a minimum amount of statutory capital relative to its level of risk in-force in order to write new business. The most common form is the maximum permitted risk-to-capital ratio of 25:1. We have provided our risk-to-capital level, again, for both our flagship Mortgage Insurance company, GMICO, and the combined U.S. Mortgage Insurance entities.

So let's focus on GMICO's risk-to-capital of 32.9:1 as of year-end 2011, recognizing that all our other legal entities are below the 25: 1 regulatory limit, and we expect that they will continue to operate below those thresholds. The risk-to-capital ratio is not a line in the sand test due to the ability to obtain regulatory waivers. Back in 2010, we understood the potential trajectory of our risk-to-capital for GMICO given the prevailing economic condition and the performance of the 20 -- 2005 to 2008 books. So we proactively went to our regulators to secure waivers to allow us to write new business when the 25:1 limit is breeched. The extent of the quarter above 25:1 is not specifically prescribed or defined. But in determining the extent of waivers, we believe regulators take many things into account, including mix of business, delinquency and claim trends, reserve adequacy, solvency and claims paying abilities.

Regulators typically use analysis by the insurer and independent third parties in determining the operating corridor above 25:1. We were mostly successful in that endeavor. And today, we continue to write new business from our flagship in 44 states. We have historically written New York insurance out of a separate legal entity, GRMAC-MC. That legal entity operates us at 17:1 risk-to-capital and has approximately $35 million of excess capital through the regulatory limit.

We feel the capital support previously provided has given us a risk-to-capital corridor that we can manage the business within allowing us to continue to write profitable new business and maintain optionality to go forward. We continue to actively solicit waivers from the non-waiver states. And at this time, we do not have any state waivers with risk-to-capital revocation triggers.

We recognize the risk associated with operating at the discretion of regulatory approvals and continue to work through contingency plans. On Slide 32, our current strategy remains to use our flagship where possible and drop production into our stacked entity as necessary. As a reminder, most of the waivers are concurrent with the term of the waiver granted by the North Carolina Department of Insurance, which runs through January 31, 2013.

As we have also communicated, we have contingency plans in place to continue to write new business using GRMAC, a subsidiary, legal entity of our flagship to write the remaining 5 states where we do not have waivers, and this entity has a risk-to-capital level of less than 2:1 and excess capital of approximately $76 million, or approximately one year of production for all 50 states, depending on production levels.

Now, I will turn it over to Marty to provide perspectives on the USMI business, the extensive strategic options that Genworth has explored relative to this business and why we are pursuing the path that we are on now.

Martin P. Klein

Thanks, Kevin, and good morning. Slide 33 provides details on how we have thought about the different strategic alternatives available for the USMI business. As Kevin discussed earlier, the environment is still uncertain and faces continued pressure. USMI has experienced elevated levels of paid claims and increases in loss reserves especially in the 2005 to 2008 book years, reducing the statutory capital base. However, changes in underwriting and pricing have led to expected ROEs on new business above 20%, and the emerging performance of the 2009 to 2011 books reinforces that view. The capital generation from the continued writing of profitable new business partially offsets the losses on the older books and can alleviate the need for additional capital to pay claims. This benefits both policy holders and shareholders.

As we think about the environment, the competitive landscape is changing with 2 competitors exiting the market. Meanwhile, there continues to be great uncertainty about the future structure of the U.S. mortgage finance system, including the role of the GSEs and the FHA. Regulators are looking at more than the risk-to-capital ratios. They also focus on and have broad powers to supervise solvency in claims paying ability, and the GSEs have considerable influence as well. In addition, regulators of other insurance clients and in other jurisdictions monitor USMI experience and communicate with the USMI regulators.

Let's move now to discussing strategic alternatives. In broad terms, as a multi-line insurance company, we have several options for our U.S. Mortgage Insurance business, including continuance of ongoing operations, runoff, spinoff or sale or merger of the business. There are several key considerations for us in considering these options, including: First, minimizing capital required in the short and medium term; second, maximizing capital flexibility, including capital management actions; third, maintaining liquidity and financial flexibility; fourth, protecting value, reputation, ratings and regulatory relationships in other businesses; and finally, maximizing medium to long-term shareholder value.

The first option on Slide 34 is to maintain ongoing operations and continue to write new business.

While this is the option we have chosen, we wanted to provide the considerations incoming to that choice. First, continuing to write profitable new business with positive returns will add positively to claims paying ability in both expected or stress loss scenarios. Second, even if we were to ultimately decide to put the business in runoff, its claims paying ability will have benefited from this new business, reducing any amount of potential capital support that might be needed under stressed or uncertain market conditions. Third, based on our current expectations, this path limits the potential negative implications for other Genworth insurance businesses. And finally, private mortgage insurance is an important part of the U.S. mortgage finance system, and we think this alternative provides the most option value. It gives us the opportunity to remain a significant player in this market, depending on how the housing market develops and what Washington does. It also maintains flexibility for a different decision in the future if circumstances change.

Turning to Slide 35, another option is runoff. We believe that under the right circumstances, a management-sponsored solvent runoff is possible. However, regulatory approval on the approach in capital levels or support is critical. We also believe such a runoff would not trigger an event of default provisions in our bond indentures and credit arrangements. Runoff would obviously eliminate writing new business and so the potential of capital support in this scenario could be higher under certain conditions without the benefit of having written profitable new business to help mitigate claims. In a runoff, regulators typically require solvency and claims paying ability under stress scenarios that could require additional capital support sooner or that may not be necessary for ongoing business.

In a runoff, the regulator retains authority to require additional capital support at any time. Placing a segment in the runoff without regulatory coordination could cause the regulator to take any of a variety of actions, including requiring capital, shifting claim payments, limiting flexibility or in the worst case, seizing the company. Such regulatory actions could have material adverse implications such as reputational damage with the regulators, rating agencies, distributors and policyholders. In the case of the seizure, they could also trigger default provisions under indentures or credit agreements thereby impacting capital management plans. I would note that we would to seek to change the indentures in advance of such a scenario.

Finally, on Slide 36, in conjunction with our advisers, we have given serious consideration to a potential spinoff or sale. These options have the benefit of truly separating or walling off USMI exposures from the company. Our view is that these options are not viable now due to limited interest from outside investors, as well as the potential requirements of approval and more capital from regulators or investors.

We do believe there may be significant capital available from outside parties for new co-structures given the attractive new business being written. At present, however, that capital is on the sidelines until such structures are approved.

Another consideration is losing the ability to use NOLs and while this factor alone doesn't drive our decisions, it would have a negative impact on any potential sale price. Finally, there are regulatory and capital considerations, in particular the amount of capital that could be requested to infuse or comment for a spinoff likely would be relatively high at this time, compared to our current approach. Based on these evaluations, we remain on the path of continuing ongoing business. We've seen ability to write new business and believe we have adequate claims paying ability in the business at this time. We continue to write that new business without adding capital through waivers and the use of GRMAC. We continue to work constructively with the GSEs and the regulators on creating additional flexibility through alternative structures that support future business, which could be funded internally, externally or through a combination of the 2. We believe that writing profitable new business adds to claims paying ability and the value of the business, and still allows for us to pursue other options in the future if conditions change. The business value has benefited from our mix of business, loss mitigation actions and the layering in of profitable new business.

Looking ahead, we maintain the 4 demanding screens shown on Slide 37, discussed on prior calls, which would inform any future decision to provide additional capital support to the USMI business.

First, execution of other material capital reallocation transactions. Second, additional granular analysis of risk, value and return considerations. Third, improved visibility on the public policy front. And finally, assessment of actions by competitors, GSEs and the regulators. As we outlined, given the alternatives in place and our adequate claims paying resources, we have no current plan to contribute capital to USMI. We continue to weigh all alteratives in considerations on an ongoing basis and will provide updates periodically. And with that, I'll turn it back to Kevin.

Kevin D. Schneider

Hey, thanks, Marty. Finally, no discussion of our U.S. Mortgage Insurance segment would be complete without providing some updates on the key issues relating to housing reform where we remain active policy advocates. Specifically turning to Slide 38, let's focus on the status of QRM and FHA reform and the GSEs.

It is clear that the proposed rule covering QRM is overly narrow and would lead to higher borrower cost for low down payment lending. At the time when the market really needs more homebuyers, much of this demand could come from first-time homebuyers who are challenged to put 20% down.

Low down payment lending did not cause the mortgage crisis. Bad mortgage products and poor underwriting did. And that is why QRM is all about. The QRM legislation galvanizes quality underwriting that consumers, lenders and investors can all depend on. There is a growing consensus across the industry that the promulgation of the QRM provision in Dodd-Frank should be revisited, potentially, requiring a reissuance of the regulator's proposal. It appears that both the administration and many in Congress recognize this imperative. And we trust that the regulators who have this under consideration are looking closely at the data and analytics that demonstrate there is a time-tested way to responsibly originate low down payment loans. This can be achieved from the benefits of the independent underwrite and insurance support provided by the private mortgage insurance industry.

Regarding the FHA, the evidence is clear that their delinquency levels are rising and that the capital position that backs these loans demands immediate attention. There is a healthy tension in Washington between those that want maximum liquidity for a fragile housing market and those who want to begin to shrink the size and imprint of the taxpayer-supported FHA program. The housing finance industry has certainly suffered greatly from the crisis, and FHA is no different. Policymakers and key leadership at HUD are beginning to constructively grapple with this reality. Incremental progress from additional pricing, gradual reduction in loan limits and increased FHA tools to strengthen indemnification rights are all present opportunities to reduce the risks to the taxpayer. While at the same time having the FHA play its important role in a stressed housing market.

Finally, regarding GSE reform. Consensus is a long way away. Our efforts are focused on working with policymakers to demonstrate that credit enhancements provided by private capital in the form of mortgage insurance is a time-tested, effective execution. The transition period from where we stand today to the ultimate resolution of this issue is critical as we must maintain the liquidity of the mortgage market to support housing recovery. There are many constructive proposals in both the House and the Senate and we are working with both sides to make sure private mortgage insurance is part of the solution.

I'll close on Slide 39 with the same key messages that we began this presentation.

Risk discipline entering the cycle resulted in differentiated portfolio mix and with go forward implications. Changes in reserve expectation negatively impacted 2010 and 2011 results. And our current expectation, is new delinquencies should drive losses going forward.

Our risk-to-capital level is elevated, but our claims paying ability is sound. New business adds positive economics and benefits claims paying ability, and we have plans in place to continue to write new business. Multiple factors drive a return to profitability. We evaluated all strategic options and continue pursuing alternatives. We are following a chosen path and are very focused on a transition to profitability. That concludes our prepared remarks, and I'd like to turn it back over to the operator for the question-and-answer segment of today's call.

Question-and-Answer Session


[Operator Instructions] And our first question comes from Donna Halverstadt with Goldman Sachs.

Donna Halverstadt - Goldman Sachs Group Inc., Research Division

Thank you for the deep dive into the USMI business. As fascinating as I find the fundamentals of the business, my questions are going to focus on the options. You say that you've chosen Option 1. i.e. you are maintaining the ongoing operations. And it seems to me that, that presumes a willingness and ability to deploy additional capital into the business. And yet at the same time, you have these 4 screens that you've laid out as hurdles before putting more capital in. And I clearly see how you can say that you've past or are in the process of passing 3 of the 4 screens. But the one screen, i.e. visibility on public policy, won't be passed anytime soon. So when you think about that hurdle, as well as a presumption that you're willing to put capital into the business, why is there -- how is this viewed as a current option, or why do you not view that as a clash of concepts?

Martin P. Klein

Donna, this is Marty. First of all, I'd say we have no current plans to put capital in the business as Kevin outlined, with the waivers that we have and with the GRMAC in place as the stacks deteriorate with the capital write about one year's worth of new business, we don't have any current plans. And as you pointed out, any future capital contribution really depend on 4 screens. As we think about those screens, we need to have a path to having a capital reallocation transaction. We obviously, have some things in the works, but we have not executed those things or are not -- and have a ways to go on those things. The public policy front is certainly one where we don't expect immediate clarity. And let me have Kevin, kind of address that particular aspect of it.

Kevin D. Schneider

Donna, you're right, this going to take a long time to play out. But when I -- I mean, our view is that ultimately, we are starting to see some things are trending back favorably. If you just look at what's going on in overall private mortgage insurance penetration rates, I mean, there's a real positive trend going on right now. We gave you the number, I believe, in aggregate on the chart earlier in the presentation, but the one to me is even more compelling is the purchase penetration number is already trending close to 13%. So when we get a market that starts to revert back and we start to get some borrowers off the sideline, I think that piece is already playing out in front of us. We don't have FHA reform. But it's clear that there is a move afoot in Washington for the government not to have to be the only one supporting the market. The GSE thing is going to be a longer-term play. I agree with that and QRM, although still not resolved, has the potential to even provide, I think, a stronger value proposition for the private mortgage insurance industry, one that would again codify some of those underwriting standards that are the real strong foundation for why the new business is so profitable today. So while this one is not completely resolved, it's going to take time to play out. Part of it is just watching the directional move and how it's starting to trend. And fundamentally, I think, private capital and private credit enhancement is going to be a key part of the solution going forward, and maybe a good place to invest money going forward.

Donna Halverstadt - Goldman Sachs Group Inc., Research Division

Yes. I agree that things are trending the right way, but are you suggesting that you might drop the public policy screen if things get good enough soon enough, otherwise?

Martin P. Klein

No. We're not suggesting that at all. I think it's just something we evaluate along with all the other screens. And as Kevin points out, there seems to be some favorable developments about the things that we'll continue to monitor.

Donna Halverstadt - Goldman Sachs Group Inc., Research Division

Okay. Now question on Option #2. In the past, I think many of us have taken your comments about a voluntary controlled runoff, not resulting in a cross default to the Holdco as a definitive view. And yet on Slide 35, there's the unfortunate use of the word, generally. And I'd like to hear you address the word, generally, and if you're going to tell me that the lawyers made you do it, could you talk about the scenarios, if any, under which you think a voluntary runoff would in fact result in a cross default to the Holdco debt?

Martin P. Klein

It's Marty again. Yes, I don't want you to read too much into the word, generally. It was really meant to convey that. We don't see any issue with a voluntary solvent runoff and coordination with the regulators with our current indentures.

Donna Halverstadt - Goldman Sachs Group Inc., Research Division

Okay. And then the last question I had is back on Slide 19 when you talk about the risk-to-capital corridor. And you have the column right-hand side, which kind of adds in a couple of other things, including parental support. And given your comments that you don't have any plans to put additional capital into the business, does that mean you're getting 0 credit or negative credit in terms of the parental support angle?

Kevin D. Schneider

Donna, I think the -- what that was meant to really convey has been the support that the company provided really over the last several quarters. We -- the contributions, the non-cash contributions that the company made, that bolstered the capital levels of GMICO and our mortgage insurance businesses, was well appreciated by our regulators and the GSEs.


Our next question comes from Geoffrey Dunn with Dowling & Partners.

Geoffrey Dunn - Dowling & Partners Securities, LLC

I just want to clarify, I guess interpretation on a couple of slides. Page 14, is that slide to scale, basically implying kind of a 750 to 800 incurred loss expectation for '12?

Kevin D. Schneider

Geoff, we're not going to give you a specific guidance on it. But directionally, the stuff is to scale. You can -- when you -- a lot of the outcome is going to be based upon what goes on with modifications, and how the claims ultimately come in. So there is a range around what those options could be. But what we're trying to guide you to, what we think the main drivers of losses are going to be. And I think we've been -- we'd done a pretty good job of doing that and laying it up in the rest of the presentation. It's really -- a lot of this is around timing and how things play through from a timing standpoint and so that will yet to be determined. And as it develops, we'll continue to probably provide you updates on it. But I think we gave you some good things to track in this presentation.

Geoffrey Dunn - Dowling & Partners Securities, LLC

Okay. And your comment on timing actually gets to my next question, which is on Page 22. You have a future claim expectation of 3.1. You have reserves of 2.3. So it implies that there is a present value remaining loss expectation of about $790 million on your existing book. So I guess I'm curious if that's comparable to what's implied on Page 14, which seems to suggest you think the majority of your reserving needs on the existing book could be done in the coming year?

Dean Mitchell

Let may take that, Geoff, this is Dean Mitchell. Let me go into a little bit about the portfolio embedded value and how it's calculated. It is calculated consistent with the premium deficiency analysis. And it's intended to measure the future economic value of the in-force portfolio without any additional new business writings. To measure future economic value, future premium, cash flows are added to our reserve levels as you suggested, which are set aside to meet future claims obligations on our existing portfolio. That's compared to future claims and expenses generated from that runoff in-force portfolio. Now the embedded value results demonstrate that the in-force portfolio produce a significant future embedded value. Further, when you look at the positive embedded value on a cohort level whether you look at the '04 and prior, the '05 through '08 challenge vintages or the '09, '10 or '11 book years, what this means is that each cohort is expected to generate positive future margin or positive economic value over the remaining life. I think if you transition to the right-hand side of the page and look at an enterprise's embedded value, when you then add GAAP equity, the enterprise value or embedded value demonstrates significant claims paying resources of $1.9 billion, above those needed to meet future expected claims obligations. And again, in this enterprise embedded value connotation, new business is once again excluded.

Geoffrey Dunn - Dowling & Partners Securities, LLC

Okay. But again, specifically to the question on what you're implying about remaining reserve needs, is that implication of the math I cited, correct? Basically your future claim expectation less reserves, is that your present value expectation for remaining reserve needs on your existing books?

Dean Mitchell

So you're -- Geoff, to get specific, you can look at this on an incurred basis as well, where essentially your future claims payments, your future claims expectations less your reserves represent your future incurred losses. And once again, when looked at on either orientation, the embedded value results in a significant -- or the embedded value calculation results in a significant embedded value figure.

Kevin D. Schneider

And Geoff, I'm not sure we're answering your question. I just want -- I want to make sure we are being direct enough. Our expectation is based upon on current observed trends and where we stand from our current reserving levels that future incurred go forward. It will be driven by changes in new delinquencies going forward.

Dean Mitchell

Yes, and Geoff, on an incurred basis again, if you look at the difference between reserves and claims, you have roughly $800 million of future incurred compare that -- well, add that to the expenses of $330 million and compare that against future premiums of $2 billion, and you get the roughly $910 million of embedded value on the in-force portfolio.

Geoffrey Dunn - Dowling & Partners Securities, LLC

You answered the question. I was completely focused on the incurred and you addressed that.


Our next question comes from the line of Jeff Schuman with KBW.

Jeffrey R. Schuman - Keefe, Bruyette, & Woods, Inc., Research Division

I wanted to come back to Page 22 and address a very high level of confusion that I have and maybe some others do. On Page 22, you do a cash flow analysis under a particular set of assumptions, and it suggests that your reserves are much more than adequate. You have embedded value within the reserves, and then of course, you have additional GAAP risked at capital outside of that. So that suggests a very strong position. But then in your analysis of strategic options, that are Options 2 and 3, one of the challenges is that regulators or buyers or others might feel a tremendous need to require additional capital support in that business. And so I think, it's a little challenging at a certain level to bridge between the concept of $2 billion of embedded value versus under a slightly different lens, a need for additional capital.

Kevin D. Schneider

Yes, Geoff, I think when you think about this, number one, for the purpose of the embedded value calculation, we are really operating that off of our baseline, loss forecast and assumptions, right? And we said we needed to think about it across the range of potential outcomes. We've provided some ways of thinking about some of the additional pressure in terms of incremental roll rates on existing books that might develop, as well as the roll rates on new business going forward. So when you think about the level that our reserves are set, they are completely consistent with our current expectations on future losses. And the extent that you think these assumptions might be conservative from a reserving standpoint, we think that's probably prudent given some of the volatility that exists in this market and in the economy right now. Now, just to add on to the potential -- that the question you had around some of the potential additional strut that regulators or investors might want to see, I mean, regulators might want to see deeper stress-level analysis. Under deeper stress-level analysis, there's certainly the potential where some of that reserve conservatism that you mentioned could be pressured.

Jeffrey R. Schuman - Keefe, Bruyette, & Woods, Inc., Research Division

Yes, but I guess you'd have to have a pretty big difference, right? Because -- I mean, ultimately, you look not only to that reserve margin but then you have all the capital as well. So I mean, it would take -- I guess, how draconian do the assumptions have to be to significantly erode that embedded value?

Dean Mitchell

I think I wouldn't look at the economic assumptions. I would look at the size of the embedded value level that's inherent or that's provided on this chart. If you -- let me just give you -- let me kind of bound it for you. If you go back to the CTR pages on the previous page, that's probably the simplest way to do it. As we said, we'd model it down the middle, in the range of the ultimate CTRs. If on those troubled books of business, sort of the '05 through '08 books of business, if those increased a point, I mean, that's roughly $380 million of incremental incurred pressure. So that can maybe help you bound it and is about as far as I can go.

Jeffrey R. Schuman - Keefe, Bruyette, & Woods, Inc., Research Division

Well, that is helpful. That does give a picture of how sensitive it is. One other question I wanted to ask about was how difficult is it for share repurchase and regulatory flexibility on waivers and using stacks, how is it easier for those to coexist? Because I guess I'm under the impression that waivers were granted -- kind of in the context of regulators wanting to provide capacity to the market when it was a difficult to create capacity. And I'm wondering if it's sort of more difficult to support that sort of thinking at a time -- are in a much stronger capital position or actually releasing capital for share repurchase?

Kevin D. Schneider

I think in addition to regulators desiring to provide capacity, the other reason that played into the regulators' consideration around a waiver was the profitability of that new business that those waivers would allow. I mean, it's just not a capacity thing, it is that business as we demonstrate is quite profitable. And then they look at a lot of the other considerations that we talked about, the strength of the balance sheet, the differentiate of our portfolio, the level of our reserves and where we stand on those. They take all those things into consideration when they evaluate and provide the waivers. I'll let Marty provide some context around the share repurchase question.

Martin P. Klein

Yes, thanks, Kevin. As we'd said on prior calls, as we think about these kind of capital reallocation approaches and certainly what we're looking to do and Australia would be an example of that, really, I think, the way that we think about how we use the proceeds is really first to look at the environment we're in and further build our risk buffers if we that's what we should be doing. We're already -- have been in process of doing that as we've talked about last week. But as we get to that spot, we'll take a look around and see if we need to further build those buffers. And then we'll also look to de-lever to get to a similar spot subsequent to the transaction, like I guess you were before from a leverage ratio. And then we'll look to see what we can do with the proceeds. And again, we do have a bias towards things to help the shareholders. As we've talked about today, we do think that we have a sufficient claims paying ability in the business. And any further capital we would put into the business is what's subject to those 4 screens. So I think you should think about it like that.


Our next question comes from line of Ed Spehar with Bank of America.

Edward A. Spehar - BofA Merrill Lynch, Research Division

Just real quickly, Kevin, could you repeat again what is the 1 point change in CTR? You say it's $380 million, is the number?

Kevin D. Schneider

Roughly. Again, on the previous page, the '05 to '08 books, if you just sort of think about those against the original risk in-force of those books, an incremental point of claim rate would be somewhere in that area.

Edward A. Spehar - BofA Merrill Lynch, Research Division

And that's a pretax -- I mean, is that a pretax number?

Kevin D. Schneider

That's correct.

Edward A. Spehar - BofA Merrill Lynch, Research Division

And that's sort of how -- so an after-tax number is a number we would think about as reducing your embedded value if we wanted to do that?

Kevin D. Schneider


Edward A. Spehar - BofA Merrill Lynch, Research Division

Okay, and then I don't want to be difficult on Slide 14. But your comment that it -- directionally it is to scale, I don't really understand what that means. And I guess, we do get slides from time to time that don't have numbers, which I know is frustrating for everyone. But here is a slide where we do have numbers and then we have a bar with no numbers, but we can pretty easily see.

Kevin D. Schneider

It's to scale, Ed. Ed, it's to scale. I just put the numbers on the page. I'm not going to provide the range around the numbers.

Edward A. Spehar - BofA Merrill Lynch, Research Division

Okay, and then that's -- the related question is when you have, I think it's on Slide 17, when you talk about modeling analytics. Just to be clear, you say you forecast using a single path, then you manage the financial profile and operating metrics across these expected outcomes. Can you help us understand just what does it mean? The points that you're putting forward are just what we're seeing, but that's now how we are managing this?

Kevin D. Schneider

Now let me try and answer it. The point of the comment was these econometric models are largely imperfect and really haven't held up tremendously well through this cycle. On both sides of the cycle, the bad books start performing bad before the economy started going bad. the good books continue to perform really well and superior to pricing expectations, despite the fact that we're still in a difficult economy. What we're saying there is we start with a base line, econometric model output, with -- that has specific inputs from HPA in a unemployment level basis. We think things are shifting more and go forward, employment's going to drive more of the outcome. Everybody gets hung up on, is it going 5, 6, 7 points, 4 points down and what's was the difference if you're off 1 point or 2? I just think the level of precision and the modeling is -- it's so imprecise that it's not a worthwhile discussion. So we're saying we started out, we say we're going to be down about 5 to 6 points. We think that things are going to bottom out. It's about 25 points peak to trough. We got some -- I think reasonable unemployment expectations in here, they're above 9% through the first quarter of 2013, even though we're below that level. And then what we try and do though, to get down to run it from a management standpoint and then provide a little more insight to you is, the things that'll have the quickest reaction to your performance will be what happens on your modification levels, what happens on the merging delinquency roll rates on new delinquencies going forward, as well as your experience does it holdup to the level you have of expectations set for your existing delinquency base. So what we tried to show you here is we're thinking, or if you start to turn those dials and tweak those dials, those will be the ones that will have the most immediate reaction to your financial performance, stuff you can take management action around, and much easier for you to track than you coming back and saying, "Well, Kevin, just now it's at 8.2% unemployment. What's that going to mean? So, that's the context we're trying to provide.

Edward A. Spehar - BofA Merrill Lynch, Research Division

Just a follow-up and I appreciate the models breaking down and that's really the reason for the question is just, when we look at the number that you show us on Page 22, this enterprise embedded value number, and not just looking at 1 point change in the CTR, but looking at all these different variables that you're forecasting, when you think about the range of outcomes around that point estimate, how much does -- do the assumptions have to change for that range of outcomes to be very significant?

Kevin D. Schneider

You could see on the page what the portfolio embedded value level is. We've talked about, as one example, about what 1 point would to on the CTRs. That would still leave you with over $550 million worth of embedded value if that happens. So I would start there. And the point is not insignificant, I mean, particularly given where we are at this point in the ever-to-day cycle of these losses. So I think you're telling me what does stress look like here. I mean, it's really what you're trying to ask and how deep are the stresses we run. We run a lot of stresses and while we understand that the market conditions can change, I think we've provided appropriate frame for people to think about, and we're not going to go a whole lot deeper into that at this time. The last thing, I think if you go through everything we provided today in our presentation, we provided a lot of additional information and transparency, stuff that people can track, all of these build up and bake into this embedded value calculation we have today and so people are going to have to do some of their own modeling, and as they think about what the ultimate outcomes are. We hope we provided more transparency, Ed, but I mean, things could deteriorate the amount of money that's on the page before we challenge from an embedded value standpoint.


We have time for one final question and that's from Scott Frost with Bank of America Merrill Lynch.

Scott Frost - BofA Merrill Lynch, Research Division

First, I appreciate you're directly addressing the subject of default language in the indentures, I think that's very helpful. I just want to clarify my understanding a little here on the subject further. Slide 35, you're saying that management-sponsored runoff, assuming with regulatory supervision, not involving a court order, would not trigger events default but this implies and you said subsequently, that if a corridor approval is given to any regulatory action, an EOD would occur presumably 60 days, hence. So I'm making sure I understand the answer to the question. Why can't what happened to PMI happen to you. And the answers appear to be: a, currently this looks highly unlikely to you, given USMI's financial position; and your actions to date as you've illustrated in Slides 1 through 32, you have and would commit capital if necessary to support a runoff in cooperation with regulators absent a court order. And in so doing, you'd keep regulators from taking such action and you're working on or would expect to get bondholders to agree to amend indentures to carve out USMI subs from definitions of restricted subsidiaries in order to avoid triggering an event of default in the event regulators do something you haven't anticipated. Is that, sorry for that long-winded question here, but the question is, is that accurate? Have I got that right?

Martin P. Klein

Yes, it's Marty. I think you're thinking about it in a pretty reasonable way. I mean, Kevin and his team, have been very active and transparent dialogue with the regulators in a very frequent basis. So that's, I think, obviously, is very important as we work through this. Obviously, there has been a variety of different scenarios that could happen. I think that we do have, as we talked about sound and claims paying ability, so we did think we're pretty far from that more draconian case of a seizure. We feel pretty good about the path we are on, although we're looking at all those other options as circumstances might change. If we did decide that we did not want to continue to write business, we wouldn't work constructively with the regulator and do what we would think as would be a solvent runoff. Obviously, in the worst case, towards a seizure or something like that, that would trigger a default under the indentures as they're currently written. But we think, in advance of that, we seek to work with bondholders and change those indentures. So I think you're about it the right way.

Scott Frost - BofA Merrill Lynch, Research Division

Okay. I want to make sure. I want to ask a follow-on, if I could. What do you think the likelihood is, the bondholders would agree to the amendment? And have you talked to any bondholders yet with respect to this? And another follow-on here, do you see going forward any scenarios where USMI subs would no longer be significant under SEC rules and therefore the indenture language wouldn't imply? I'm assuming they're significant as you see them as significant, and therefore, that's where the trigger comes in. Could you sort of elaborate on that a little bit?

Martin P. Klein

Yes, sure, the -- several of the USMI subsidiaries are a significant subs under the indentures, and there's a variety of different tests that go into that, looking at investments, assets and income level of the subsidiaries. But what's the second part of your question again, the first part, I should say?

Scott Frost - BofA Merrill Lynch, Research Division

Well, the first part is, have you talked about -- have you talked about this with bondholders at all yet?

Martin P. Klein

It's something -- yes, that's right. It's something that we've looked at from time to time. And we've talked about it with our advisers. We think we're far from a -- being in a situation where we'd really want to do that. We're having constructive conversations with the regulators and the GSEs. Certainly there would be costs involved that we don't really feel the need to incur those costs. But we really haven't had those conversations with bondholders.


And ladies and gentlemen, this includes Genworth Financial's U.S. Mortgage Insurance Perspective Conference Call. Thank you for your participation. At this time, the call will end.

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