The Phoenix Companies Inc. Q4 2008 Earnings Call Transcript

| About: The Phoenix (PNX)

The Phoenix Companies Inc. (NYSE:PNX)

Q4 2008 Earnings Call

February 27, 2009; 10:00 am ET


Dona Young - Chairman, President and Chief Executive Officer

Peter Hofmann - Senior Executive Vice President

Phil Polkinghorn - President of Life and Annuity

Jim Wehr - Chief Investment Officer

Dave Pellerin - Chief Accounting Officer


Jukka Lipponen - KBW

Bob Glasspiegel - Langen McAlenney


Good morning. My name is Teekay and I’ll be your conference operator today. At this time, I would like to welcome everyone to the fourth quarter 2008 earnings conference call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. (Operator Instructions) Thank you, Mr. Hofmann; you may begin your conference, sir.

Peter Hofmann

Thank you, Teekay and good morning. Thank you everyone for joining us. I’m going to start with the required disclosures and then turn it over to Dona Young, our Chairman, President and CEO, for an overview of the quarter.

With us today are Phil Polkinghorn, Senior Executive VP for Life and Annuity, Jim Wehr, Chief Investment Officer and Dave Pellerin, Chief Accounting Officer. Our fourth quarter earnings release, our quarterly financial supplements and the fourth quarter earnings review presentation are available on our website at

Slide two of the presentation contains the important disclosures. We may make forward-looking statements on this call that are subject to certain risks and uncertainties. These risks and uncertainties are discussed in detail in our fourth quarter earnings release and our latest SEC filings.

Our actual results may differ materially from such forward-looking statements. In addition to Generally Accepted Accounting Principles, we use non-GAAP financial measures to evaluate our financial results. Reconciliations of these non-GAAP financial measures to the applicable GAAP measures are included in our press release and financial supplement.

Now I’ll turn the call to Dona.

Dona Young

Thank you, Peter and good morning everyone. 2008 was a year of tremendous change and challenge for Phoenix and our industry, particularly the fourth quarter. Volatile markets affected many aspects of our business, particularly investment income, our decisions on DAC, charges connected with the Virtus spin-off.

We did however maintain solid capital and liquidity positions. Our goal is to preserve those positions and as we look forward, we have additional financial levers available to us. For the quarter, adjusted operating income was $11 million or $0.10 per share, and for the full year, operating income was $57.8 million or $0.51 per share. Our GAAP results however, were affected significantly and we suffered a substantial loss.

To state the obvious, this was a complex and disappointing quarter with lots of moving parts. Before we get into the specifics of the year and the quarter, I want to be clear that we are addressing these challenges head on. We are taking aggressive action to lower expenses and improve efficiency and we are actively engaged in the strategic redirection that will enable us to preserve value in the business and conserve our capital and liquidity. This is our primary objective until a true macro recovery takes hold.

I will go into more detail after Peter and Jim walk you through the quarter. Peter will present more detail around the DAC unlocking, the market impact on the business and the spin-off. He will also walk you through the new clearer format for reporting results that we will use going forward. Then Jim will spend time on our investment portfolio including the impairments. Jim will offer more insights around the portfolios quality and liquidity and the approach we take to measure performance.

Ultimately our portfolio is well constructed and designed to support our business, in even the most challenging times. I’ll then give you my perspective on the quarter, and how it relates to the actions we are undertaking and the plans we are developing to assure we are competitive in this new world. With that, Peter.

Peter Hofmann

Thank you, Dona. Before discussing the quarter in detail, I want to step back and put into perspective the $12.38 decline in Phoenix’s book value per share over the course of 2008, which clearly on the surface is quite dramatic.

Slide three shows three major effects since December 31, 2007. First of all, 43% of the decline was due to the spin-off of Virtus and really moved off of the Phoenix books at year end. Second, 34%, unrealized losses in our bond portfolio, which we expect to recover and then the remaining $2.85 related largely to the effect of the market environment including DAC charges, realized losses and adjustments to the pension aspects .

With that, let me turn to the quarter and in particular the market impact on the results. Slide four in the presentation highlights the most significant aspects. The 23% decline in equity markets had a number of effects, including lower variable product fee income, increased statutory capital and reserve requirements and a significant DAC unlocking.

The increase in equity volatility raised the price of options we use to hedge variable annuity benefits. It’s basically increased our cost of goods sold for variable annuities. The sharp drop in interest rates continuing has been a secular decline, contributed to the DAC unlocking charge in the quarter as well.

Normally, you would expect an increase in the value of the investment portfolio in a declining rate environment, but dramatically higher credit spreads more than offset the rate decline; as a result, our unrealized losses increased significantly. Finally, the fourth quarter was by and large a terrible quarter for alternative asset class returns, whether you are talking about hedge funds, private equity funds or other types of limited partnerships. This contributed to a significant decline in net investment income.

Slide five summarizes the fourth quarter results. We had an operating loss of $135.6 million or $1.19 per share. That result is dominated by our annual DAC unlocking and the impact of severe market conditions. Excluding DAC charges in the fourth quarter, as well as transaction related expenses underlying adjusted operating earnings were $11 million or $0.10 per share. This result reflects lower net investment income and fees of about $11.4 million or about $0.10 per share due to the market environment.

The market environment is also reflected in our realized losses, which were driven by other than temporary impairments of $137.7 million before any offsets. Not all of these were driven by credit fundamentals and as Jim will discuss, we expect to recover a significant portion of these.

Turning to the other business fundamentals, mortality and persistency were within expectations, but sales were clearly lower as a result of the market environment. Our capital and liquidity position remain strong, while statutory results reflect the impact of the market environment and higher credit impairments. We ended the year with an RBC ratio of 338%, statutory operating earnings at Phoenix Life of $53.4 million and holding company cash and securities at year-end of $62 million.

Slide six, provides a reconciliation to the adjusted operating earnings number. Transaction related costs include some spin-off related costs that were not eligible for discontinued operation statements, as well as some severance costs. The DAC charges in the third column relate to resetting future investment return assumptions, accelerated amortization due to markets and the reinsurance transaction we completed in the fourth quarter. I will discuss these in a bit more detail in just a moment.

Please turn to Slide seven. From a financial reporting perspective, the spin-off moved Virtus into discontinued operation and ultimately off our balance sheet all together. We are left with a far simpler operating and financial reporting structure, basically a pure play Life and Annuity Company and as such, it no longer makes sense to have multiple reporting segments.

Instead, we will present our P&L for the company as a whole, and I recognize that this will require a recalibration of models, but I do believe that ultimately the simplicity and the clarity of the new approach will improve transparency. The supplemental data, we are providing in our supplement should enable you to model the P&L line items, while eliminating one of the biggest elements of volatility in our old segments, expense allocations.

So looking at the bottom line, we had a net loss of $424.3 million in the quarter, driven by the factors I just discussed. Virtus, appears in the discontinued operations line. You can see the goodwill and intangible impairments in the third quarter flowing through this line. In the fourth quarter, the discontinued operations loss of $193.2 million represents the net of several large non-cash items. Ultimately, while these items flow through our P&L in the fourth quarter, they moved off our balance sheet with the spin-off.

Let me just discuss the DAC charges in a bit more detail, if you’d turn to slide eight. As we do every fourth quarter, we conducted a comprehensive review of our DAC and related SOP reserve and fee assumptions. We adjusted a number of assumptions and while some had favorable effect, the overall net impact was a significant charge.

The largest impact was in the VA and VUL product lines, where we assume long-term net market returns of 6% and 8% respectively, with VUL slightly higher because we assume a higher equity mix. In any given quarter, actual returns will almost always be higher or lower than the assumed rate. We use a reversion to mean approach under, which we would make up the excess or shortfall to the long-term assumption over a five year period.

With the severe market decline in 2008, the reversion to mean rates required to achieve our long term assumptions were no longer reasonable in our view. While a number of different approaches are used in the industry including caps on or collars around the reversion to mean rates; we opted to reset our DAC to year end market levels to make a fresh start in essence. This means that we’re assuming long term rates rather than reversion to mean rates over the next five years, which will make the amortization less volatile.

The $32 million unlocking of traditional product, DAC is largely driven by the sustained decline in interest rates and lower variable investment income that caused us to moderate our future net investment income assumption for the Closed Block residual asset portfolio.

Accelerated amortization due to the fourth quarter markets was $14.5 million and finally, the reinsurance transaction resulted in a write-off of $21 million, which would otherwise have been amortized against the profits of this block overtime. This reflects the reality that reinsurers in this environment are using higher discount rates. Sales declining gave up related to this transaction is relatively modest and overall, it was an efficient transaction since a large part of the capital benefit actually came from the release of XXX reserves.

Slide nine shows the steep decline in net investment income outside of the Closed Block. The majority of the decline was driven by a reversal of earnings on alternative investments including hedge funds, venture capital funds and other partnership investments. Jim is going to discuss our overall investment income trend in more detail.

I mentioned that aside from the investment result, insurance fundamentals were strong. Slide ten shows the mortality trends in UL and VUL. We will continue to report this key performance metric. Mortality remained favorable in both UL and VUL and the long term trend is within our expectations of about 50% for UL and 60% for VUL.

As you can see on Slide 11, annualized life premium sales were down significantly from the year-ago quarter and this was driven by a decline in very large policies. You can see that the number of policies sold was down about 7% from the very strong fourth quarter of 2007, but up 16% sequentially versus the third quarter.

The result is that our average policy size dropped below 1 million for the first time since 2004, a reflection of the market environment. Our total in force continues to grow and is up 6% from 2007. Our expectation is that life industry sales will remain depressed at the high end of the market for some time, although fundamentally the need for life insurance increases in these difficult economic times.

Turning to annuities on Slide 12, negative market performance clearly continued to take its total on funds under management, which were down 16% compared to the decline in the S&P of 23%. However, net flows held in positive territory, just above breakeven.

Deposits declined sequentially and year-over-year across distribution channels, in part due to the uncertain market environment, in part due to softening of benefits and in part due to competing products, such as fixed annuities.

We increased pricing on some of our living benefit riders in November and we are pushing through another set of increases this quarter. We do expect the overall market to continue shifting towards higher prices and less generous benefits. As a result, we see the outlook for sales in 2009 as more muted.

On Slide 13, you will see our realized loss trends. Gross impairments in the quarter as I said were $137.7 million, the largest proportion of these impairments came from a variety of corporate securities. Also flowing through the realized loss lines are transaction gains and losses of $14.9 million. This includes realized losses of $29.2 million on the sale of equity securities to reduce risk in our general account.

Offsetting this loss is a gain on our living benefit hedges of $16 million, which includes a positive credit risk adjustment of $47 million. We did not get through the unprecedented market moves unscathed. We have been sticking with our hedging discipline throughout this unsettled market, and the program overall is performing well. The loss on fair value option securities represents a mark-to-market loss on deferred compensation balances that is fully offset by an equal change in liabilities and thus has no net balance sheet effect.

Slide 14 shows key statutory results as well as capital and liquidity measures. Statutory surplus increased in the quarter as a result of the reinsurance transaction that we completed during the fourth quarter. We remain well capitalized. Our estimated RBC of 338% was below our target largely for market related reasons that I will discuss in a moment.

Statutory gain from operations was over $53 million, which is also the dividend capacity we currently have to pay a dividend from Phoenix Life to PNX. For our Connecticut subsidiary, PHL Variable, RBC at year end was 481% and did not include any special permitted practices benefit.

Our leverage ratio remains conservative, despite the spin-off at 22% before FAS 115 and other accumulated comprehensive income and we ended the year with cash and securities at the holding company of $62.7 million, putting us in a solid liquidity position for 2009 and beyond.

Let me spend a moment on RBC, which did come in below the target range that we expressed on our third quarter call and there were several reasons for this. We did take actions to increase capital and reduce risks in the portfolio that were offset by greater than expected impact from several market related factors. We were able to substantially, but not fully reduce the impact of C-3, Phase II variable annuity capital requirements through intercompany capital management and repositioning of our derivative portfolios.

We had greater than anticipated AG-39 reserves again related to the variable annuity business and we had a higher level of impairments and downgrades in the general account, which increased risk and reduced capital. We are continuing to manage our capital very closely. As part of this, we will consider reinsurance and other capital solutions, but also remain mindful of the costs of these solutions. We have significant blocks of business that have not been reinsured and in fact have significant reserves, such as AXXX reserves and of course we have the Closed Block as well.

With that I’ll turn it over to Jim to discuss the portfolio.

Jim Wehr

Thanks Peter. I plan to cover four topics on this morning’s call. The first is an explanation of the significant decline in net investment income year-over-year. The second is an attribution of our fourth quarter and full year credit impairments. The third is an analysis of the investment portfolio focusing on our unrealized losses as well as our exposure to high yield corporate, residential mortgage backed securities and commercial mortgage backed securities. Finally, I’ll update on steps we’ve taken to enhance portfolio liquidity.

Let’s start off with net investment income on Slide 16. Net investment income declined from $1.062 billion in 2007, to $919 million in 2008. Three major drivers account for 92% of this $143 million year-over-year decline. The first is a $68 million decrease in income associated with long-term debt securities, which is primarily attributable to lower account balances.

The second is a $31 million decline in income from other invested assets, mainly partnerships. This is a function of both strong performance in 2007 and a weaker 2008. The third component is a $32 million decline from venture capital, almost all in the Closed Block.

Slide 17 shows full-year and fourth quarter credit impairments by sector. Reflective of the current brutal economic and credit market environment, both the fourth quarter and full year were record periods for realized impairments in our portfolio. Full year impairments were almost $250 million, which was approximately twice the level of impairments we experienced in 2002, which had been our worst year prior to last year.

Impairments came from all sectors of the market with 51% coming from the structured sectors, RMBS, CMBS, ABS and CDOs, 43% from corporate and a little less than 6% from Schedule BA assets, primarily partnership investments. Fourth quarter impairments were driven in part by other than temporary impairments, which were primarily a function of current deeply discounted market valuations on securities that had been under water for more than 12 months.

It is our judgment that most of these securities, all of which are current on both principal and interest, will ultimately recover and pay us our scheduled cash flows. This accounting related OTTI, represented $54 million of the $137 million in fourth quarter impairments.

Slide 18 shows our gross unrealized loss, sorted by NAIC rating category. As of 12/31, unrealized losses in the portfolio were $1.75 billion, up from $1.1 billion at the end of the third quarter. Approximately, $860 million or 49% of this gross unrealized loss is in the Closed Block. Additionally, and I think very importantly, is the fact that $1.48 billion or approximately 84% of the unrealized is attributable to NAIC one and NAIC two rated securities, which have extremely low historical default rates.

Slide 19 shows our historical portfolio quality ratings dating back to 2005. Our below investment grade allocation has been consistently in the 7% to 8% range. This allocation increased slightly in 2008, as a significant up tick in Fallen Angels was mostly offset by our strategic decision not to invest in any new high yield debt during the year. Additionally, the fact that almost 60% of our below investment grade is NAIC three or BB rated should be a positive as historical BB default rates are a fraction of the overall high yield market default rate, even in times of credit stress.

Slide 20, provides a high level summary of our portfolio exposure to some of the more distressed industries in the corporate bond market. As of December 31, the portfolio had no exposure to auto manufacturers, GM, Ford or Chrysler. Exposure to the retail industry is concentrated with over 75% in holdings of food and drug retailers that should be less impacted by a recession and investments in bonds with home builders represented only 20 basis points of total invested assets.

Page 21, is a summary of our $1.44 billion of financial sector holdings. This sector represents just more than 10% of invested assets and 56% of our holdings are in the Closed Block. We are broadly diversified across nine industries with banks, insurance and diversified financials the three largest components.

As of 12/31, the $1.44 billion market value represented a 22% discount to book; reflective of the heightened concerned about financials. It is worth pointing out that a number of our holdings have benefited from recent events including TARP allocations and mergers with or capital infusions from stronger entities.

Slide 22 summarizes our non agency residential mortgage holdings, by borrower type, credit quality, vintage and collateral type. The ultimate performance of RMBS credit is driven by a combination of these factors. Credit quality is important because it drives the amount of subordination built into a transaction, with AAA and AA rated tranches having the greatest amount of credit support beneath them.

The year of origination or vintage has also turned out to be extremely important and as the quality of underwriting and borrowers, dropped-off dramatically in the 2006 to 2008 time period. Another important driver of RMBS credit quality is whether the underlying mortgages are fixed or floating rate. Fixed rate borrowers particularly in the more recent vintages have turned out to be much more credit worthy than those borrowers who took out adjustable rate mortgages, who in many cases are experiencing significant rate reset shock.

Slide 23, shows the delinquencies in the collateral pool supporting our RMBS portfolio. Not surprisingly, given the factors I covered on the prior page, our delinquency experience is demonstrably favorable across all collateral types; particularly, Alt-A, and sub-prime.

Slide 24 provides summary detail on our $1.1 billion CMBS portfolio; 84% is AAA rated with less than 1% BBB rated and below. Additionally, 88% is in the better performing 2005 and earlier vintages. Only 3% of our holdings are in CMBS and CDO. Finally, we have no direct commercial mortgage whole loans as we exited the direct commercial lending business in the mid-1990’s in favor of high quality CMBS.

Slide 25 provides a more in-depth look at our CMBS portfolio and compares it to the CMBS market as a whole. As you can see, we have a higher than average level of credit enhancement relative to the market, which reflects our emphasis on super senior tranches of deals.

The CMBS market is approximately $850 billion. Currently, approximately two-thirds of the market is backed by interest only or balloon mortgages, which historically have not performed as well as amortizing loans in times of stress. Only one-third of our portfolio is backed by interest only loans.

Our debt service coverage is 1.6 times versus the market’s 1.5 times and finally, reflective of our heavy concentration in 2005 and earlier vintages, our average loan seasoning is almost twice the market average.

Slide 26 provides an update on the liquidity in our portfolio as of year-end. Early in 2008, it became apparent to us that having adequate liquidity in the portfolio was essential. Consequently, during the year, we invested a significantly higher than normal allocation of cash flow into two extremely liquid market segments. We increased our cash and treasury position by more than $200 million.

Additionally, we more than doubled our allocation to agency mortgage backed securities which are government guaranteed and extremely liquid. The net effect of these combined actions was to double our liquidity from our normal 5% allocation to more than 10% at year-end.

These numbers do not include an incremental $500 million plus of high quality agency backed CMOs that are in the portfolio. While we are not certain that we will ultimately need this level of liquidity, we felt it was prudent given the current market environment to enhance our position.

Now I’m going to turn it back to Dona.

Dona Young

Thank you, Jim. Clearly, the fourth quarter was like no other in decades. It was the worst the U.S. stock market in almost 80 years with the S&P 500, down almost 22% in that three month period. For the year, it was down over 38%. Credit spreads widened to unprecedented levels in the fourth quarter and GDP fell 3.8%, the biggest drop in 26 years. In December alone, unemployment rose from 6.8% to 7.2%.

The first quarter of 2009 is not shaping up to be much better and that just underscores that we will be in a challenging economy for a prolonged period. As a consequence, it’s important more than ever to act decisively and clearly in terms of areas of focus and our strategy. In this unprecedented environment, our GAAP results were affected significantly and we suffered a substantial loss, which is why we have initiatives under way to continue to step up our efficiency and meet these challenges directly.

At the same time, I believe it is fair to emphasize that in the quarter we also did the following. We preserved a strong capital position. At the end of 2008, with the S&P at a little over 900, RBC in Phoenix Life Insurance Company was 338% and to put that number in perspective, over the last five years RBC has ranged from 309% to 439%.

In addition, PHL variable Life Insurance Company, our other key Life Insurance subsidiary had an RBC of 481% at the end of 2008. It’s important to note against the backdrop of the first quarter that even with the S&P at 600, we would have had RBC at year end of approximately 300%.

We’ve enhanced our liquidity position with over $1 billion of cash and short term securities in the Life Company and $62 million in cash and short term securities in the holding company at year end. We held steady the business fundamentals of mortality and persistency, which were firmly inline with our expectations and reflect our demonstrated ability to price and manage mortality risk. We showed how a well designed investment portfolio can withstand even the shocks of these markets, despite elevated unrealized and realized losses.

We kept our debt-to-capital ratio low at 22% and paid down or repurchased $170 million in outstanding debt. We carefully managed our liability profile, which is conservative; with no exposure to guaranteed investment contracts, institutional funding agreements and securities lending activities and over 80% of our insurance reserves relate to individual life insurance contracts.

We reduced expenses in meaningful ways and made more progress on process improvements that will increase our operating efficiencies going forward; and we completed the spin-off of our Asset Management business, which has produced immediate benefits to shareholders and we expect will produce long-term benefits as well including clarifying our focus, reducing earnings volatility, and enhancing our balance sheet with a reduction of intangibles as a component of our equity.

Throughout it all, we kept our focus on preserving value for shareholders and delivering the financial security our customers expect. In sum, we ended the year with financial flexibility and better positioned to face this difficult time, but most of all we ended 2008 a very changed company and I don’t just mean that we are smaller. We have a more pragmatic view of our position in this marketplace, in this economy at this point in time.

This year shapes how we look at ourselves and drives our actions to see us through this financial tsunami without wavering from our commitment to our shareholders and policyholders. I want to spend the next few minutes talking about how we will deliver on that commitment, which we will do through a combination of actions that will continue to preserve capital, maintain liquidity and financial flexibility, attack expenses relentlessly and strategically reposition Phoenix.

I’ll start with capital preservation. First, the shareholder dividend, our Board has voted this week to eliminate the annual dividend. This preserves an additional $18 million of capital. We will review pricing and capital requirements for our products. In November we were among the first to make substantial changes on the living benefits we offer on our annuities.

Our next VA product update is targeted to be introduced on March 9. We are also doing a variety of things to protect the value of the franchise, including continuing to provide a high level of service to all of our policyholders and customers. Our persistency remains good, while conserving the in force business is job one and we will be vigilant in that regard.

Finally, in the category of capital preservation comes tangible book value. With the completion of the spin-off of the Asset Management business and its associated intangible assets, there is more clarity around the tangible book value of the company and we are committed to growing it.

Next, liquidity and financial flexibility, we are jealous regarding our liquidity and will continue to maintain a highly liquid portfolio consistent with our investment strategy, plus an additional cushion of cash and short-term securities at double historical levels.

Our decision to eliminate the shareholder dividend preserves capital and also provides additional liquidity. The cash position at the holding company plus this year’s dividend capacity from the Life Company means we have two years of holding company liquidity needs.

In addition, we have no debt coming due until 2032 and we will also retain our options to participate in TARP. As you know, we have been approved as a thrift holding company. Assuming TARP is extended to Life Companies, including Phoenix, we will make our decision to participate based on whether that would be desirable for all of our stakeholders.

Our in force business has significant embedded value and reinsurance is another lever, we can pull to realize its value and still protect those assets. We have ongoing discussions regarding further reinsurance transactions, which could potentially provide meaningful additional capital to the company. In each case, we need to actively weigh the tradeoffs to see if net-net; it’s a good step to take.

Now, our strategic repositioning; the environmental challenges have been exacerbated for us by rating agency actions requiring a refocusing of our strategy. Overtime, we expect this revised updated strategy will reorient and reinvent Phoenix as a strong competitor in a changed world.

Let me give you a sense of what that means. Our core plan is to build our business by leveraging our existing manufacturing strength in new and creative ways that will be much less capital intensive and rating sensitive. We believe companies with strong distribution positions in their market segment have gaps in their product offerings. We can fill that gap, while reduce the cost of maintaining their old product offerings through alliances and partnerships.

In our analysis of our strength, we list our market knowledge in research, product design and delivery, particularly for complex, multi-life products, new business skills including underwriting and mortality management, efficiency to lean and dedicated service, partnering skills and professional wholesalers, who provide point of sale support. We have developed a three-pronged strategy that leverages these core strengths, in particular, our focus on partnering, innovation and manufacturing excellence, expense discipline and management.

First is private labeling, which is an extension of alliances as we have been forging successfully for nearly ten years. Private labeling recognizes our expertise in product manufacturing, innovation, underwriting and partnering with distributors, but also minimizes the challenges of our current ratings in the retail marketplace. Private labeling enables sophisticated partners to look under the hood, understand our financial strength and position and then move forward to collaborate on delivering unique products and filling gaps for them.

Second is, alternative retirement products. Again, this leverages innovation, particularly our longevity approach, to address retirement needs that are going to grow when the current financial climate ends. Our longevity products incorporates the benefits of survivorship around certain types of investment engines and it’s designed to enhance asset accumulation and income potential if a client lives to 85 or 90. Here we apply a feature design for annuities to other investment products and we expect to be first in the market.

Third, is to continue to leverage our core product offerings through new distribution channels, including fee-based advisors and independent agents where our value proposition will resonate and our current ratings are less of an issue. These agents and advisors tend to work with only a few companies and because the scale players give them less attention, they turn to Phoenix because we can provide value-added services that help drive their business.

We plan to more fully tap the RIA channel, with our core products and also with alternative retirement products and continue to build on our alliance with such companies as Jefferson National. This three-pronged strategy, while bold, is really a logical next step for Phoenix because it is based on what we have been investing in and building towards for the last few years.

Ultimately, we see success based on our capacity to build a menu driven array of services, use of lean methodology across the value chain, willingness to enter into win-win profit sharing arrangements, plus our capability to build customized versions of very sophisticated products at reasonable cost and increase the number of strategic alliances.

As we implement and execute on this strategy, we will rethink a range of things. Including our service delivery model, what functions we will do in-house versus outsourcing and our rating strategy. Of course, no matter what, we remain committed to financial stability and strength, because we remain committed to certainty of payment to our customers. Quite simply, financial stewardship has been a cornerstone of our business philosophy and will continue to be.

Now, expense reduction; as I said a moment ago, we know we must be relentless about lowering costs. So we have already frozen salary levels in 2009 for the 130 most senior employees and at mid-year 2008, made the decision that the executive team will not receive bonuses for 2008; and that total bonus pool for all other employees, based on 2008 was 86% lower than it was in 2007.

This year we have identified a series of actions that are intended to reduce controllable expenses before deferral by approximately $65 million with expected total transition costs of about $15 million to be incurred during 2009. The actions include the elimination of more than 250 positions or more than 25% of the employee base over the next two to six months, which will bring significant savings and change how we operate.

While every level of the organization will be affected, we are undertaking this reduction in a very thoughtful and respectful manner. We will also ensure that we have the skills and talent necessary to execute our updated strategy successfully, which means, for example, we will continue to focus on enhancing our turnaround time through both process improvement and having the right people in place.

Recent customer surveys namely of producers who do business with us, show that satisfaction levels have increased significantly as a result of our concerted effort to improve the process including time to offer and time to issue. My final point about employment level is that going forward; we will match them to our expected business volume, just as before.

Let me sum things up this way. Phoenix is at a pivotal point in our history and management is fully cognizant that the times are more difficult than any of us has experienced in our lifetime. We are responding appropriately and we also see real opportunity if we can exploit our considerable insurance expertise in this updated business model even in this environment.

As I said at the start of these remarks we are big believers in pragmatism, coupled with crisp execution. As we pursue our strategy, we will continue to do all the things that are necessary to maintain our financial flexibility. I look forward to sharing more information as we develop our plans further.

Now, I’d like to turn to your questions and remind everyone that our standard protocol of two questions per caller at a time will continue to apply. Operator, can you open up to the questions in the queue?

Question-and-Answer Session


(Operator Instructions)

(Technical Difficulty)

Your first question comes from Jukka Lipponen - KBW.

Jukka Lipponen - KBW

My first question is going to be since, a roughly half of your unrealized losses are in the Closed Block, what would it take for those losses potentially to ever affect shareholders?

Phil Polkinghorn

Jukka, this is Phil. I don’t have an exact number, but our dividend to policyholders is based upon investment performance, obviously. As Jim said that there is a fair bit of the unrealized that we expect to recover, but should a significant portion of it not recovered. There is roughly $300 million per year of annual dividends to policyholders.

Obviously, your future investment income expectations forge what you pay the best. That’s what the total dollar amount that could be used to observe that versus the investment performance, but as we said, right now we don’t see the lion share of the unrealized being realized.

Jim Wehr

We don’t expect any of them to be realized.

Jukka Lipponen - KBW

My second question is, how did the surrenders and policy loan requests trend month-by-month in the fourth quarter? And I also would like to just comment, but I would strongly urge you to reconsider your decision of not providing segment P&L.

Dona Young

Well, I won’t address your comment. We hear your comment, but we will not discuss that on this call. I’m sure that Peter and the IR people will work with you and other analysts as you’re rebuilding your models, but with respect to the surrender trends and policy loans, we track them weekly. For the fourth quarter surrender activity in the aggregate was inline with historical trends within any short period, you will have fluctuations by product type and we certainly have those fluctuations, but it trended fairly consistently with prior periods.

With respect to policy loan activity, I think policy loan activity in the fourth quarter was up slightly, but that was because of scheduled loan activity that was part of the design of the policy as the way the policy was constructed. So we didn’t see any unusual trend in that regard.


Your next question comes from Bob Glasspiegel - Langen McAlenney.

Bob Glasspiegel - Langen McAlenney

In the quarter, you wrote-off $219 million of DAC related to sort of bad markets, I assume that’s equities and the DAC in the balance sheet, went up by $270 million. In spite of that, which I assume is driven by the credit marks through the bond portfolio. Are you bumping up against limits on how much higher your DAC can go? Aren’t the bond, the credit markets and the equity markets sort of a little bit correlated?

Peter Hofmann

Bob, there is not a specific limit to that we utilize for the shadow DAC element that you referenced. Obviously, the expectation is that as the unrealized losses, since they’re temporary in nature and we don’t expect them to be permanent, other than temporarily impaired. As bonds mature and those unrealized losses come back into earnings, the shadow DAC will have the opposite impact.

The correlation of equity markets and bond markets, I’m not sure plays into this directly. The unlocking that we did wasn’t unlocking of future DAC assumptions and does not affect the shadow DAC line per say; and I’d ask Dave to add any other…

Dave Pellerin

Yes, Bob, this is Dave Pellerin. The DAC guidance as it relates to shadow DAC and particularly unrealized relating to fair value marks in the securities portfolio allow obviously for the offsetting effect that Peter just alluded to; and the result in increased in DAC balance.

There is nothing in the accounting guidance to suggest that asset recoverability needs to be a part of that analysis as it relates to the FAS 97 type products; and of course, given the unrealized or temporary view and the expectation as Peter suggested is that these will reverse overtime and the shadow DAC effect will reverse as well.

Bob Glasspiegel - Langen McAlenney

My follow-up, Dona, I lost track. What’s the status of your contract? Did it get renewed in December?

Dona Young

You’re talking about my personal contract?

Bob Glasspiegel - Langen McAlenney

Your employment contract.

Dona Young

It just continues into 2009.

Bob Glasspiegel - Langen McAlenney

So it’s month-to-month, automatic or that I’m not sure how these things work. I’m not a proxy expert to get through there.

Dona Young

Sure. The contract operates that unless the Board notified me, that it was intending to terminate the contract, it would continue through the next year; having said that, I like any other, executive serve at the pressure of the Board.


There are no questions at this time. I’d now like to turn the call back over to Ms. Young for any closing remarks.

Dona Young

Thank you operator; once again I just want to close by apologizing for the technical difficulty and appreciating everyone participation in our call today. Thank you.


This concludes today’s conference call. You may now disconnect.

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