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Executives

Keith Lennox - IR

Scott Carmilani - Chairman, President & CEO

Joan Dillard - EVP & CFO

John Gauthier - EVP & CIO

Marshall Grossack - EVP & Chief Actuary

Analysts

Matt Carletti - JMP Securities

Ian Gutterman - Adage Capital

Court Dignan - Fidelity

Eric Fraser - Goldman Sachs

Allied World Assurance Company Holdings, AG (AWH) Q2 2012 Earnings Call August 1, 2012 9:00 AM ET

Operator

Good morning and welcome to the Allied World Assurance Company's second quarter of 2012 earnings conference call and webcast. All participants will be in a listen-only mode (Operator Instructions) After today's presentation there will be an opportunity to ask questions. (Operator Instructions) Please note this event is being recorded. I would now like to turn the conference over to Keith Lennox, Investor Relations Officer. Please go ahead sir.

Keith Lennox

Thank you. Good morning, everyone. Our press release and financial supplements were issued last night after the market closed. If you’d like copies of either, please visit the Investor Relations section of our website at www.awac.com. Today's call will also be available through August 15 on our website and as a teleconference replay. The dial-in information for this replay is included in our earnings press release.

Our speakers this morning are Scott Carmilani, Allied World's President and Chief Executive Officer; Joan Dillard, the company's Chief Financial Officer; John Gauthier, the company's Chief Investment Officer, and Marshall Grossack, our Chief Actuary. Also here to assist with questions are several other members of our management team.

Before we begin, I will note that statements made during the call may include forward-looking statements within the meanings of the U.S. Federal Securities Laws. Forward-looking statements are subject to a number of uncertainties and risks that could significantly affect the company's current plans, anticipated actions and its future financial condition and results. These uncertainties and risks include, but are not limited to those disclosed in the company's filings with the Securities and Exchange Commission.

Forward-looking statements speak only to the date they are made, and the company assumes no obligation to update or revise any forward-looking statements in light of new information, future events or otherwise.

Additionally, during the call, management will discuss certain non-GAAP measures within the meaning of the US Federal Security Laws. For more information and a reconciliation of these measures to the most directly comparable GAAP financial measures, please refer to our earnings press release, which was issued last night and is available on our website.

With that complete, I can now turn the call over to Scott.

Scott Carmilani

Thanks, Keith and good morning everyone. Results so far this year are much improved from the first half while we experienced an unusually high frequency of global cat activity.

Operating income for the quarter was $87 million or $2.35 per diluted share and we ended the quarter with diluted book value per share of $88.24. This is up 3.2% from the first quarter and just over 10% for the first half of the year. Underlying our results were the underwriting profits from each of our insurance segments, positive investment returns and the accretive benefit from our shareholder repurchase program.

Gross premiums in the second quarter increased by almost 25% from the prior year. Year-to-date production is up 23% to $1.3 billion for the first half of the year. To put this in some historical context, that’s almost as much as we wrote for the entire year of 2008.

Drilling down into our segments, I am going to lead with our reinsurance segment for a change of order. Here our segment premiums were up $83 million for the quarter to $197 million, a 73% increase compared to our prior period. Much of this increase is driven by the new business opportunities to our global offices, rate increases and our increased participations on our renewal business. We're now more often seen as having an income and status.

About $13.5 million of our increased premiums for the quarter were from early renewals of premiums where we booked in third quarter of last year and now booked in this quarter this year.

As mentioned on the last call, we took advantage of the opportunities in the property cat space. A large portion of our increased reinsurance premiums came from the property lines in the related business.

We performed well on the April 1 renewal season in the Asia Pac region where we participated in the significantly improved rate environment.

While our property cat premiums increased by about $30 million for the quarter, these premium increases outpaced the related exposure increases.

Our Insurance segment, premiums increased from $39 million to $266 million for the quarter, a 17% increase from the prior period. This is the highest production quarter to date for this segment of our business. The growth is spread fairly evenly across most of our lines in the US leading with our Specialty Casualty business. New business continued to be strong in the US and retention ratios remained healthy above 80%.

Premiums in our International Insurance segment were up modestly 3% for the quarter, but has now reported growth for each of the last five quarters. We are achieving this growth while peeling back some of the limits we've deployed earlier in the European general property area where we continue to de-risk and reshape that portfolio where rates are meeting our expectations.

At the same time, the investments in our global capabilities and new products continue to pay off with growth for the quarter coming through our professional lines and international trade credit division internationally.

Let me conclude by making a few comments on the pricing environment and our rate environment as I usually do. Basically for the entire insurance portfolio, our rates were up about 5% for the second quarter. Property is experiencing the greatest rate increases and is up in mid double-digit, 13%, 14% over last quarter. In Bermuda and the US, we have averaged double digit rate increases over the last quarter. In Europe rates are only up about 7.5% which is still really not adequate and why we have pared back some of our exposures there. Our Lloyd's property book, which is primarily comprised of Latin America and Asian risks is up about 17%.

Professional liability lines have seen low single digit increases for the small US professional liability book. They are somewhat flat in Bermuda and the [Logicam] business and they are down about 5% in our European operations.

Finally, casualty rates are starting to see improvement and they are up 1% to 2% in our large account Bermuda book and up in Europe overall, while rates in our US casualty book are starting to move faster and are up almost 10%.

Let me now turn over the call to Joan and where Joan can provide some financial and investment highlights for the quarter. And then Marshall Grossack, our Chief Actuary is also here with us and he will comment a little bit on our Crop book of business which seems to be on everyone’s mind and then update lastly on our PMLs. Joan.

Joan Dillard

Thanks, Scott and good morning everyone. As Scott mentioned results for the second quarter were strong with net income of $96 million or $2.59 per diluted share. For the first half of the year, net income was $315 million or $8.41 per share which is up three-folds from the first half of 2011 where we experienced about $200 million in global catastrophe losses.

We recorded operating income of $87 million or $2.35 per diluted share for the second quarter of 2012. That’s almost double to $44 million we reported in the second quarter of 2011. For the first half of the year, we generated operating income of $178.8 million or $4.78 per diluted share which compares to the $2.8 million of operating income in the first half of 2012.

We had $63.8 million of underwriting income in the quarter and $123 million for the first half of the year. Our combined ratio for the second quarter was 85.1% and that compares to 97.4% for the same period last year.

Our expense ratio for the second quarter improved to 29.2% that’s reduction of 1.8 points when compared to the prior period. This reduction benefited from the uptick in our premiums during the quarter. For the first half of the year, our combined ratio was 85.2% compared to 109.6% for the same period last year.

Our expense ratio was also down on a year-to-date basis to 29.2% from 31.3% in the first half of last year and again this decrease is helped by the increase in our premiums this year.

Our reported loss ratio was 55.9% for the second quarter benefiting from cost to [reserve] development was $41.9 million the bulk of which is driven by reduction in our casualty reserves for the 2006 and 2007 last year. Absent to reserve releases our accident year loss ratio would be $65.7% and 65.8% for the quarter and through June. I would now like to turn the call over now to Marshall to comment on our crop business and PMLs.

Marshall Grossack

Thanks Joan, crop [continuations] for sales across mix in Mid West United States, we are paying close attention to USDA reports and the information by device seeking companies. As you recall our first quarter call, much of our reinsurance growth this year has come from assumed crop and hail business.

Let me point out though that this book represents only about 3% of the company's total production. Our total crop premiums for 2012 are about $67 million which includes $55 million for MPCI share exposures and $4.8 million for MPCI excess loss exposures.

The total limit exposed for our US MPCI crop book were about $168 million. Many of our competitors quote their limits exposed net of share premium which will be a $113 million for Allied World.

There are a number of factors that will ultimately determine the performance of this book including geographic spread, the type of treaty coverages in place, the yield of growing season, commodity prices and various fund designations. I also wanted to provide an update on our PMLs.

As we mentioned last quarter, we are in the process of switching to a blended model approach and incorporating our own proprietary data. Indications are that this approach could potentially reduce our modeled one PMLs by 10% to 15%, using solely the RMS 11 indication, our one in 250 year hurricane and earthquake PML are $746 million and $441 million respectively.

Our one in a 100 hurricane and earthquake PMLs are $603 million and $322 million respectively. While we model our PMLs globally, it is the US southeast wind that is generally driving our hurricane PMLs, California is the driver behind our earthquake PMLs.

Finally, I should mention that we are in the process of finalizing our global triangles and we expect that it will be released in the next few weeks. Let me now turn the call over to John Gauthier, our Chief Investment Officer who will discuss our investment highlights for the quarter. John?

John Gauthier

Thank you Marshal. Good morning all. Our overall results for the quarter also benefited from a 0.6% total investment returns which included $42.5 million of net investment income and $8.6 million in realized gains. There was not a lot of return dispersion between the various asset classes in our portfolio.

Year-to-date the total return of the investment portfolio is 2.6% which we believe is respectable in this low rate, high volatility capital market environment. There were very modest changes to the portfolio during the quarter. We slightly derisk some of the fixed income portfolio increasing government bonds and decreasing some of our corporate exposure.

We added to our agency mortgage-backed portfolio and our bank loan portfolio and we continue to maintain duration of just around two years. With that I will hand it back to Joan.

Joan Dillard

Thanks John. To wrap up, our diluted books value per share in June 30, 2012 is $88.24 which is up 10% for the year. During the quarter, we continued with our share buyback strategy and purchased just over 900,000 with our common shares at an average price of $73.38 per share for a total cost of $66.4 million. This $73.38 average per share price represents a 16% discount to the average diluted book value per share for the quarter of $86.86.

The second quarter buybacks had a $0.35 accretive per share impact. All of these purchases were under the original $500 million share repurchase plan which we've just exhausted in July. Our new $500 million share repurchase plan that was approved by our May shareholders meeting is now in effect. And please note that we do not suspend our buyback efforts during winter season.

So with that let me turn it back to Scott.

Scott Carmilani

Thanks Joan. Last quarter we talked about Allied World operating significant positive momentum and we were very pleased that this remains to be the case today. We continue to build out our operating segments while delivering meaningful value creation for all of our shareholders and we are doing this during a period where we believe the market outlook is improving in our industry.

We remain very optimistic about the company’s prospects moving forward. And with that I want to thank you and turn it back to the operator for questions.

Question-and-Answer Session

Operator

Thank you. We will now begin the question-and-answer session. (Operator Instructions) Our first question is from Matt Carletti, JMP Securities. Please go ahead, sir.

Matt Carletti - JMP Securities

Just had a quick question on a (inaudible) cat-loss ratio in a specifically the reinsurance segment, a little bit higher this quarter than it's been in several of the past quarters, I was just curious if there is anything you point to driving that and I was kind of just trying to feel for how should run you know, going forward?

Joan Dillard

In the quarter while we didn’t have significant capital, with reflecting reinsurance, we didn’t have some weather related losses in the state. We got a trend of bad luck weather through the second quarter and we did put up a small amount, $1.5 million for the Costa Concordia as they're trying to reserve its pattern and sell us the [wreck].

Scott Carmilani

There were kind of tornadoes and hailstorms in the South and Southeast for our regional [3D] portfolio.

Matt Carletti - JMP Securities

Okay, going forward, should we as a six-month number a good number, I imagine its a little high because I think if I call it some Costa Concordia in Q1 or if we look kind of last year, should that be a decent run rate for kind of ex-cat sort of run rate for the book?

Marshall Grossack

Yeah, it's always difficult but it's probably a little bit higher than last year. The crop coming in, we would book at a little bit higher loss ratio there business -- last year?

Operator

The next question is from Ray Iardella, Macquarie. Please go ahead.

Unidentified Analyst

Hi good morning this is [Chris] calling for Ray Iardella. Just curious if you guys might be able to give us some more color on the growth in the reinsurance business; I think I heard you breakout a percentage of what was related to catastrophes, but wasn’t sure if I got the right number on that?

Joan Dillard

Well, Chris you are talking about the premium growth in the reinsurance segment?

Unidentified Analyst

That’s right.

Joan Dillard

Okay. I could give you some number breakdowns on that. We have had some healthy expansion in some of our new regions that accounts for about $33 million of the increase and that’s largely in Singapore, but there was a bit in Latin America. Our specialty business premiums were up about $13 million and that’s about $9 million crop and $4 million in marine. And then property increased by about $24 million and that’s across the board due to some new business as well as rate increases. And then finally Scott did mentioned $13.5 million that last year was in quarter three and this year is reported in quarter two, so that’s in general the bulk of the increase for the quarter.

Unidentified Analyst

Got you, thanks for the color there. One follow-up; does the growth in premiums this quarter does that going to keep you from buying back stock in the third quarter or exhausting the buyback program over the next couple of years.

Scott Carmilani

It shouldn’t.

Unidentified Analyst

Okay, great. And then one last follow-up; I know you guys broke out your PML estimates early in the call, but I couldn’t quite the breakdown; would you mind running through this one more time please?

John Gauthier

Yes, I will go and run them down; for the one in 250, the hurricane is $746 million and the earthquake is $441 million. For one in the 100, the hurricane is $603 million and the earthquake is $320 million.

Scott Carmilani

That’s strictly on less 11 upward.

John Gauthier

On or at 11, but we are still working on that.

Operator

(Operator Instructions) Our next question is from Ian Gutterman, Adage Capital. Please go ahead.

Ian Gutterman - Adage Capital

Just quickly, can you talk about the casualty growth in US insurance, and I guess also in reinsurance what lines you are driving at?

Scott Carmilani

Sure. So the new specific business we are putting together, primary, casualty (inaudible) related business, small growth in the programs business, there is some growth in the environmental business and then program area as well. We have pretty much coming from all component products except maybe professional liability.

Ian Gutterman - Adage Capital

Okay and so the attractiveness of that business relative to the rest of your book in there, I guess I am still a little anxious about casualty growth drifting away or moving that much, but it’s just you find some niches that you think are not because while the impact is just general casualty?

Scott Carmilani

Right, this is standard umbrella access to this (inaudible) more primary focused Eric Fraser - Goldman Sachs

.

Ian Gutterman - Adage Capital

I think is even my sense is just specialty, all kinds of casualty have been sort of not that attractive across the cycles and so I am curious what specificities are there that are more attracted than I just sort of generally hear specialty casualty from companies?

Scott Carmilani

As I said, the line is related to defense base act, primary liability business that we do for contractors around the globe.

Ian Gutterman - Adage Capital

Okay, that’s still the metrics side, but its not new classes?

Scott Carmilani

No

Ian Gutterman - Adage Capital

And then on the international, the next question, it look like you are about 88 acts and you are combined there which is the best I have seen in a long time and anything going on there, is there a mix change or is it just a perfect quarter?

Scott Carmilani

Just a solid quarter, I don't know that there has been a lot of activity.

John Gauthier

Yeah, I mean there might be things that might be a bit it of a mixed change as we are writing the LAU business and so the credit business, and so we have in that's international, that's coming in at a lower loss ratio (inaudible) and more normal business.

Operator

Our next question is from Court Dignan of Fidelity. Please go ahead.

Court Dignan - Fidelity

Just had a quick clarification, the non CAT weather losses in Q2 that you mentioned in the reinsurance segment, is that sort of a specific identified treaties or is it more of a general CAT [IVNR] that's running through the action here?

Scott Carmilani

Its real losses from treaties, as I said regional treaty business in the Southeast and Southwest where there was a number of decent sized hurricanes, nothing like last year, but tornadoes and hailstorms that nothing like last year, but you will recall earlier in the spring there was probably 10 or 12 that rolled through the Southern part of the country.

Court Dignan - Fidelity

And then is it possible to give a rough number for that component in terms of dollar value?

John Gauthier

Yeah, that's about $9 million.

Operator

(Operator Instructions) Our next question is Michael Nannizzi, Goldman Sachs. Please go ahead.

Eric Fraser - Goldman Sachs

Hi, it’s Eric Fraser for Mike. First question, can you find some more color on the pricing you're getting in the reinsurance segment and where do you think the underlying ROEs are and how that compares to the other segment?

Scott Carmilani

I always love that question because pricing in the reinsurance segment is a factor of what the underlying pricing is on the direct business; absent changes in terms and conditions. Certainly, carriers are seating companies that are trying to get as much as they can in terms of [seating] commissions and relief from that perspective and changing their structures where they can, but rates are up and the property business you know, holistically whether it's insurance and reinsurance in the double-digit.

If you’re talking about casualty, there is still too much creep in there and model numbers are going north, not south for a lot of the reinsurance business and on the casualty business we’ve been very cautious there.

Professional liability is sort of a mixed bag. It depends on what businesses you're supporting and how you're supporting them. And then some of the specialty niche businesses that we had reinsured in the regional carrier, I think we're doing okay. I think they’re getting modest, but the underlying seating are getting loss rate increases and renewal goes with the lion share, sometimes bigger, sometimes about the same.

As I think we mentioned when we talked about the reinsurance segment where we've often seen is now in incumbent market and in some cases where we like to try we’ve gotten pretty successful in increasing our line sizes that’s not lets say a matter of increasing rate with the underlying seating increase their rates.

Eric Fraser - Goldman Sachs

Thanks and can you talk a little bit more about underlying ROEs by segment?

Scott Carmilani

I don’t know if we give guidance on that typically, so no.

Eric Fraser - Goldman Sachs

Okay. And then just one question on the crop business, you said you are booking at a higher loss ratio; can you give a little more specifics in terms of that business where you are booking at three to six months?

John Gauthier

Yeah we are booking the crop business that we have been discussing at about 81% loss ratio.

Operator

(Operator Instructions) Having no further questions this concludes our question-and-answer session. I would like to turn the conference back over to Scott Carmilani for any closing remarks.

Scott Carmilani

Thanks everyone for the call. It’s a holiday here in Switzerland, so happy Swiss Day to all of you who is listening.

Operator

The conference is now concluded. Thank you for attending today’s presentation. Your may now disconnect.

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