Endurance Specialty Holdings' CEO Presents at JPM SMid Cap Conference - Event Transcript

| About: Endurance Specialty (ENH)
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Endurance Specialty Holdings Ltd (NYSE:ENH) JPMorgan SMid Cap Conference December 1, 2011 3:45 PM ET


Michael McGuire - CFO

Matthew Heimermann - JPMorgan Securities

Good afternoon, everyone. I’m Matt Heimermann. I cover property and casualty insurance here for JPMorgan. It’s my pleasure to introduce Michael McGuire who is the CFO of Endurance Specialty Holdings. He’s been with the company since 2003 and has held the CFO title since 2006 and before that had a career in the accounting field. And with that, I’ll turn it over.

Michael McGuire

Thanks, Matt and thank you to you and to JPMorgan for the opportunity to speak to the group and to meet with various investors over the last day. And I wanted to start with just acknowledging our forward-looking statements. I won’t read the fine print, but I’ll put it there for your reference. So please note that many things I will say today are forward-looking and please reference the Safe Harbor protections there.

So today, what I thought I’d do is give you a brief introduction to Endurance. Also to provide some thoughts about our underwriting portfolio, where we see opportunities, what we see market conditions to be. Endurance is coming very close to its 10-year anniversary in the next few weeks and it’s a milestone that we are quite proud of as a company. And we’ve weathered through some very significant volatile events in our history. And we started in Bermuda 10 years ago with $1.2 billion of capital, a few desks, a few computers and a few people and no ratings but with a vision to create a globally diversified insurer and reinsurer, with the base in Bermuda, but positions broadly.

Fast forward to where we are today, we’ve succeeded on a number of dimensions. We now have a company that has operations still on Bermuda but also in the U.S. and many locations in Europe and in Asia, a very well-diversified portfolio of insurance and reinsurance risks.

Along the way, we’ve generated very strong results since inception in spite of the volatility that we’ve seen in the financial markets as well as in, in the natural peril world. Yeah, it’s been a pretty crazy decade if we think about what’s happened, be the hurricanes, earthquakes, floods, tornadoes and whatnot. It’s been a pretty challenging set of events. When you layer on the global financial crisis that really started in ‘08 and really continues to this day to see the results that we’ve produced and the position that we currently hold, it’s a pretty strong achievement.

As I said, we do have very strong market positions and we have developed leading core product line specializations across a number of areas. And I think of catastrophe insurance, crop insurance, large risk, excess casualty insurance, just to name a few. Those are core franchise positions for us that have generated good results for us over time and ones that I expect to continue generating good results for us. I’ll get into that in a little bit later. We do have about 850 employees now globally with offices as I said, in Bermuda, the U.S. and Europe and Asia.

Our financial strength is one of our strengths as a company and we have $3.2 billion of total capital and $2.6 billion of shareholders’ equity. We do have strong ratings across the board from A.M. Best, Standard & Poor’s and Moody’s and Standard & Poor’s has recognized Endurance as one of only four companies in North America to have Excellent Enterprise Risk Management. There’s only three other companies that have achieved that level of recognition from Standard & Poor’s. As a Risk Management Company that really matters for us and it was nice to get that acknowledgment from Standard & Poor’s.

If I think about being stewards of capital, which is a key part of our strategy, we’ve done a very good job shepherding capital, growing our capital base for our customers and our clients, but also being diligent in returning that capital to our shareholders. As I said, we started with $1.2 billion of capital back in 2001. We’ve grown that capital to $2.6 billion of equity, $3.2 billion of total capital, yet during that same period, we’ve also returned $1.9 billion of capital to our shareholders in form of dividends and share repurchases. So, we’ve done a very good job, I think, of stewarding that capital and returning it to our shareholders in very short order.

We’ve generated very strong financial results along the way. On average, we’ve produced a 12.6% annualized operating return on equity and we’ve grown our book value, excluding dividends, annually 17%, since inception. Those are very, very strong performance metrics in a period when we saw pretty significant volatility in financial and catastrophe events in our lifetime. I think currently if I look at our sector, it’s increasingly showing signs of improving market conditions.

I think we’re beginning to emerge out of a low point in the cycle. Certainly being led by property lines, but we’re also starting to see it in some of the more standard line casualty insurance exposures. So, we’re starting to see that turn come. I think it’ll be a slow and steady turn as we get into 2012, but we’re seeing very positive signs. There are still pockets of competition that in cases are as aggressive, but we are seeing a more broad turn in a number of lines of business. So, we’re feeling increasingly optimistic about the way that the market is turning.

If I think about the valuation of Endurance or the valuation of our sector, I think it’s a very compelling opportunity for investors to pick up franchise positions in companies that are intrinsically strong, have good earnings prospects and have very strong balance sheets.

And if you can buy companies like Endurance at a fraction of the book value that does exist, then that book is a real book value. That’s a pretty compelling risk/reward scenario if you think about the turn that is beginning to emerge right now in the cycle. I hope after spending some time on the details today, you’ll come out with that same point of view about Endurance.

I’ll spend a fair bit of time on this slide, which really is the pie chart that shows the distribution of our business across segments and across product lines. This slide provides a summary of our underwriting revenues by major operating unit and we’re about 50/50 insurance and reinsurance. And as you can see, with the various bullets across the page there, we have a very diverse set of product specializations in each of our segments in a number of different markets. Why don’t I start with our largest sub segment, which is, our agriculture insurance business. And that’s the green section of the pie. That’s now 30% of our net written premiums on a trailing 12-month basis.

We’re the fifth largest writer of federally-sponsored Multi-Peril Crop Insurance and this is a business that we entered beginning as a reinsurer back in 2003-2004 and then acquired a P&C insurance company in 2007 and we’re now largely a primary writer of crop insurance. As I said, we’re the fifth largest. This is a very distinct part of our portfolio and one that is a differentiating feature of our portfolio versus the bulk of the Bermuda competitors that you may see or line up against Endurance.

This business is distributed through independent agents and it does require very strong systems capabilities and service capabilities, and it’s an area that we have a particular competitive advantage.

And one of the things that attracted us to ARMtech, which is the company that we bought, was the technology platform that they had. And for those of you that use iPads or have iPhones, we are the only crop insurance company that has an app. So, if you go to the application site on your iPad, you can find an app for ARMtech that our agents actually use to administer crop insurance.

I think that is a good example of the technology investments that we’ve made to really accelerate our development in that space. And it’s one that is continuing to pay dividends for us. We do expect to grow our market share in our crop insurance business over the coming year. And in a market that’s relatively stable, we do expect to grow market share strongly into the next year.

Our crop insurance business is one that is diversifying against this portfolio of risk that we have and on average, we’d expect to earn margins of 10% to 15% on premium. And the premium to surplus that we write this business on is generally 2 times to 3 times. So, if you take the 10 point plus margin on this business and multiply that by the leverage, that’s a very strong return on equity business for us.

And that even includes some quite recently announced changes from the USDA in terms of rates for corn and soy premiums and still generating very, very strong returns and margins in this business in spite of the changes that are coming down the pipe. If I move across to our reinsurance business, the Bermuda reinsurance is almost the next biggest part of our pie. That is where we take severity risk as a company.

So I think, property catastrophe, both U.S. and international. We’re one of the leading catastrophe reinsurers in Bermuda. We’re not the biggest, we’re, I think, a medium-sized catastrophe writer in Bermuda, but our results have been market leading. We’ve generated very, very strong returns, in spite of the events that we’ve seen in our history as a company.

U.S. cat pricing, if I want to talk about market conditions, is up quite strongly. We’re seeing pricing on accounts that have not had losses. We’re expecting those to price up anywhere from 5% to 15% up. For loss exposed accounts, we’re seeing pricing that’s anywhere from 20%, perhaps even up to 100% price increases, depending on the account, depending on the client, depending on the layer of coverage.

So, in our U.S. business, we’re seeing very strong momentum for price increases there, both driven by model changes as well as driven by actual loss events over the last two years. On our international cat business, we’re also seeing price increases that we’re expecting to be flat to up maybe 10% for accounts that didn’t have a loss in recent events. For loss exposed accounts, we’re seeing 20% plus rate improvements on loss exposed accounts.

So, in both our U.S. and international cat businesses, we are seeing good rate improvements, both loss driven but also both model-driven. So we’re seeing good momentum there.

So, if I think about the rates and the premium levels that we all write in this business, over the next year, we should see increases in our cat writings, but largely as a function of rate as opposed to deploying more capital or putting more limit at risk. We think on average, the portfolio will price up in the high single digits to low double digits. In our minds, that’s good but not good enough to significantly increase our exposure to material cat events. So we will be a steady provider of capacity to the markets. And if we see very, very strong opportunities at 1/1 or at future periods, we’ll deploy more of that capital. These are our speculative comments. We have not really received many firm order terms for January 1 renewals but that is where our current sense of the market is.

Moving to our U.S. reinsurance, this is where we write more of our frequency covers or our working layer covers, where due diligence in claims auditing and underwriting auditing and reviews are a more important part of the market there. That is a more cyclical part of the market and we’re probably bouncing around the bottom in that market. Over the last several years, we’ve shrunk that business pretty meaningfully as we moved away from some of the larger risk property and casualty exposures. And we’ll continue to be cautious until we see more material changes in those markets. But we’re probably down to the trough in terms of where that business is and has generated decent returns for us over time and we’re very well positioned to grow that business when the market does turn.

Lastly, on the reinsurance side, our international reinsurance, that’s a relatively small part of our portfolio. We recently expanded into Zurich and Singapore in addition to an existing one in operation, where we’re focusing on Continental European and Pan Asian exposures. The market conditions have been pretty tough there. We think there may be some opportunities in 2012 coming from the international catastrophe events that have happened over the last year or two years. But we are still quite cautious given the competitive dynamic that exists with some of the larger European writers of catastrophe business.

I’ll flip back to insurance. The yellow piece of our pie there is our large excess liability insurance and there is really three major lines there; healthcare, excess casualty, and professional lines. These are risks that are Bermuda written risks where we’re writing these on an occurrence reported or claims made coverage, which is a shorter tail type of casualty exposure.

This has been some of more competitive part of the market. We have seen excess casualty stabilize and we’re seeing flat to some improved pricing. But we still see price reductions in professional lines and healthcare lines.

So, we’re being quite cautious and limit appointments and we’ll be cautious until we start to see more meaningful improvements in stabilization there. Last part of insurance is our wholesale insurance business, which has seen a lot of competition over the years and it hasn’t grown anywhere near the level that we’re certainly capable of growing that to.

We’re seeing some recent signs of improvements, particularly in the very small account casualty. You may have heard companies like Travelers and others talk about some of their standard lines casualty programs or casualty insurance business seeing price increases. This is an area, particularly in our contract binding unit, where we are seeing steady price increases and we’re pushing hard to see rate increases there. So, I expect us to grow as we continue to push our technology into the wholesale channel and turn price in that market.

I will skip quickly through the next few slides and really what I’ve done in this slide is recut the composition of our business to show the composition by major risk category: property, casualty, specialty. And we’re about a third, a third, a third. And the important takeaway here is that close to 70% of our business would be in lines that are less cyclical and are less dependent on investment yields to generate returns and it generated stronger returns over time.

Our casualty business, while still strongly returning, is obviously being impacted by the very low yield environment as well as continued competition. So, we are cautious there, some areas we’re growing, but in the main, we’re cautious on casualty. But having 70% of our portfolio in property and specialty lines, where we see good opportunities, there’s a good risk balance for us to have.

The next few slides are quite similar, one on reinsurance, the next on insurance, really shows how our line of business profile has changed over time. You can see starting on reinsurance that we’ve been pretty active at managing our portfolio through the cycle. Our catastrophe business has been quite stable over time and although that is the most syndicated of markets in the P&C space, it is also one of the most stable in terms of risk adjusted returns and rates.

And we’ve actually been able to grow that business modestly over time, as our capital has grown. But we’ve also been pretty aggressive at pulling things out of our portfolio, particularly in our risk treaty property and casualty exposures, as market conditions have continued to be competitive. So we’ve been pretty aggressive at pulling away from underpriced business and pulling our capital away.

I think something similar would be seeing on the insurance side, moving to slide seven. The several bars -- the stretch is on the bottom part of that graph, have been relatively stable over time. We’ve launched our U.S. insurance business in 2005, but we have not grown that significantly, given the challenges that we’ve seen in those markets. We’ve been not willing to compete on rates, so we’ve had a tougher time growing that business, but we are well positioned there and have good technology in place for that business.

What is the more interesting story about our insurance business is the diversification that we’ve received from our acquisition of ARMtech Insurance, which is the big red pie there, which is our crop Insurance business. That is one that is not exposed to the P&C cycle from a pricing standpoint and is quite a diversifier in our broader portfolio of risks and is a good margin business for us. We’ve also exited the workers’ compensation insurance business back several years ago.

And clearly, in hindsight for us, that was a wise and prudent decision to exit California workers’ comp when we did, but it’s been a challenging market. Catastrophe losses have been the topic of interest for many over the last several years.

And what this chart shows, on slide eight, is the performance of ourselves and other companies in terms of the catastrophe losses that have happened over the last several years and really what have those losses been as a percentage of equity. And Endurance is a prominent writer of catastrophe risk, but our results and losses from cat events have been much smaller than many other cat writers.

And I think that speaks volumes about the quality of the risk management that we have as a company. It’s been a pretty crazy couple of years with the number of events that have happened. I think there’s been most recently talk about Thailand and what could come from Thailand in terms of losses. The market has still been pretty quiet about that, but we certainly have exposure there in our risk books. But we see Thailand as being an earnings event as opposed to a major capital event. But I’d say it’s quite early to tell and you haven’t really seen many announcements coming out.

I think, we’ll be seeing more information coming from Japanese manufacturers and others from that market. But clearly, it’s an area that is, I’d say, yet a further example of the need for rate improvements in international cat and is also pushing for further rate increases into 1/1 and into 2012, but I think this slide speaks to the quality of our risk management and our catastrophe management.

Even though we are a prominent writer, it doesn’t look like given the relatively modest losses as a percentage of equity over time. I talked earlier about our financial results. Growing book value per share and paying dividend is a north star for us in terms of financial metric. And really, since our inception, we’ve done a very effective job of building our book value and obviously paying dividends. You can see on a simple average basis that’s been 17.1% growth in book value plus dividends, that’s a pretty sporty result.

The last year has been pretty challenged from a natural cat point of view and more recently, we’ve seen investment yields come down a fair bit, just from the significant reduction in interest rates over the last three years or four years. But I think we have a strong story to tell in terms of our risk adjusted return profile, that we’ve maintained our book value in periods of stress and in the subsequent years from that. We’ve shown a strong ability to grow that book value.

I think also if you look on a relative basis, if I stack ourselves up against a broad peer set here, we’re at the top of the charts in terms of our growth in book value per share, plus dividends really almost over the last five years. And so this is a result that is a very strong one for us.

And I think this speaks volumes about the return potential in our business as well as how we manage our risks and our capital over time. Speak a little bit about capital management, these slide shows the capital base over time. And you can see that we started back in -- before ‘03, really with a private equity base and over time we’ve added preferred equity and some senior notes to diversify our capital structure lower our cost of capital. But on the right-hand side, you can see we’ve been very active at returning capital to shareholders.

In most years, our business generates capital at a clip much greater than we’re able to redeploy that back into the business. So, we’ve shown a great ability to generate excess capital. And we’ve used that excess capital wisely. We’ve grown businesses. We’ve bought companies that have been strong performers, but we’ve also returned that capital to shareholders. That’s a demeanor as company that we continue to have.

Our board recently reauthorized a repurchase program of another seven million shares that gives us great capacity, because we think about 2012 depending on how renewals look for 1/1 and into 2012, that we have that as a lever to pull to the extent that we don’t see good opportunities going forward. Particularly at today’s valuations, it gives us great capacity to generate growth in book value given where we’re trading.

Lastly, I will talk about our investment portfolio and it’s been a relatively, I’ll call it, a boring story. As a P&C company, we are limited in terms of the investments that we can hold, form a rating point of view and a financial security point of view, we need to be dominantly a fixed maturity or fixed income investor.

So, as a result, the bulk of our investments are in fixed income investments. Given where overall yields are and risk-free rates are fixed income is a pretty dangerous place to be from an investment point of view. So, as a result, our duration is quite short.

Although there’s certainly near-term fears of further deflation and recession, it’s easy to imagine a scenario where interest rates fight back up and fixed income investors gets done with a book value impact that that could have. So we’re quite cautions of having a long duration. So, we’re quite well positioned from an asset quality point of view and an asset duration point of view. We’ve added a bit of diversification and some alternative investments and some equity investments, but those are on the margin. Those are relatively small parts of our portfolio.

And we’re really focused on making sure that we mitigate the risk that could come from spikes in interest rates and gives us great optionality to redeploy those investments in a short period of time into assets that are higher yielding. So gives us great optionality as we look forward.

So, I’ll end it here with a few comments. I think we are doing a very good job of strategically managing our businesses through the cycle. We are in a cyclical industry. We need to have the discipline to exit businesses, but we also need to have the discipline to be aggressive and growing businesses that makes sense.

And I think we’ve demonstrated an attitude for buying businesses at good value and also making them effective parts of our operation. We’ve also exited businesses, whether it’s workers’ compensation a few years ago or our UK property insurance. More recently, we exited a very small insurance book of all/risk property.

It doesn’t move the headline dials but shows a discipline that we have in terms of entering and exiting businesses. Our balance sheet positions us very well. We are in an environment where we are bouncing on the bottom. We are starting to see things come out from other companies in terms of inflection points.

Companies are exiting businesses, companies are rethinking strategies. Those are all signs of an impending turn in the market. So, having a very strong balance sheet, good strategic capabilities across a number of businesses gives us great flexibility to take advantage of those opportunities as they present themselves.

And last is I think about the outlook for our businesses whether it’s catastrophe reinsurance or agriculture insurance or even some of our smaller risk casualty insurance businesses. We’re seeing positive signs of change in those businesses and good prospects going forward. So we feel very good about the prospects ahead of us as a company in spite of having a pretty challenging year from natural cats and drought conditions.

So, with that, I know I went a few minutes over my allotted time for prepared remarks, but I think we do have a fair bit of time for questions.

Matthew Heimermann - JPMorgan Securities

Hi. I’ll go ahead and pass it right to the group.

Question-and-Answer Session

Unidentified Analyst

With respect to crop insurance, what are the risks that cause significant losses? And over the last say 10 years, even though you may not have, what is the range of combined ratios in that area?

Michael McGuire

Sure. Over the last 10, we bought our crop insurance company in 2007. So I’m just giving where we start. But we obviously have the history going back and on average, margins in the crop insurance business, in terms of combined ratio would be in the mid-80s. And in our experience, they’ve ranged anywhere from high-80s to -- we had a year where we were in the high-70s in terms of the combined ratio.

Unidentified Analyst

And going back before your ownership, did they get well over 100% at any time that you know of?

Michael McGuire

The company that we bought has never had a year that they have generated underwriting loss.

Unidentified Analyst

And what are the events that cause losses? Is it drought, flood?

Michael McGuire

All of the above can cause losses. If you think about what could impact yields or a farm’s revenue, there is two major risks and because the crop insurance is so diversified across states, props, commodities, you need to have something that is more systemic or more widespread to create an overall portfolio loss based on how the program works.

And so the two biggest things that I would really worry about would be material price reductions that would impact the revenues from a farmer during the period from when a farmer plants to when they harvest, that’s when crop insurers are basically on risk. So, for most of the crops, think the period between March and October. If there is a material reduction in say, corn or soybean prices that could have an impact and cause loss across a portfolio of crop insurance.

Unidentified Analyst

What are you insuring, the price or the yield?

Michael McGuire

It’s the revenue, so it’s both - it’s a function of both the yield and the price. About two-thirds of the crop insurance that we and the industry provide is revenue protection, so there’s both a yield and a price component there. And the other aspect of what could cause loss would be widespread drought. So, if you think of dust bowl conditions back to the ‘30s that affected broad parts of the Midwest that would be something that would cause major yield losses across the crop insurance industry.

Unidentified Analyst

A short question, could you describe the background of the CEO and has he been with the company since the formation?

Michael McGuire

He has David Cash, our CEO, was one of the founding members of management. He was probably employee number four in the company and started as our Chief Actuary and Chief Risk Officer. At one point in his tenure prior to CEO ran our Bermuda operations and was as I said, Chief Actuary and Risk Officer. Before that, he worked at -- he was an actuary, worked for Tillinghast/Towers, also worked at Zurich Centre Re in his earlier days as an Underwriter, but he’s been with Endurance, for now, 10 years.

Unidentified Analyst

So, why is crop business such a great business? It seems like you need to worry about weather-related loss, but also agriculture commodity pricing related loss. And why the combined ratio is so high? Like what’s the secret sauce for this business?

Michael McGuire

Well, one of the questions was you worry about weather and other things. We worry about a lot of things in our business, but in our crop insurance business, the secret sauce for us is that it’s a labor-intensive business. Every year, we have about 130,000 policies in force and on average, 20% to 30% of every policy will have a loss of some sort during the year.

So, you need to have very strong technology, a very strong service model and good field reps on the ground to enable you to just handle that sheer volume of work. And if you don’t have the right technology, if you don’t have the right field staff, it’s going to be like Lucy on the Chocolate Factory. It was -- things start coming off the conveyor belt. If you don’t have the systems and the capabilities to deal with it, you’re going to be over your head.

So, what attracted us to ARMtech as an acquisition candidate was that, in its DNA as a company, they were a technology company, building software and technology solutions for the crop insurance industry. They evolved into being an insurance agent and ultimately a carrier for that business.

But your ability to be successful in that business is having the best technology and having the right number of agents on the ground and claims reps and field reps on the ground to work with the independent agents and the farmers and then secondly, you need to have good data and analytic capabilities, because there are vast amounts of data available for you to understand the risk profile of the business. Because we are a federally-sponsored insurer and the way the program works.

We have to offer coverage to any farmer that meets the qualifications of the program, whether they live in a -- whether their farm is in a flood plain, is irrigated or they use pesticides, or they have good or poor farming practices. So, you need to have good data to understand what you’re getting because you can’t differentiate on the front end. But what you can do is differentiate how you reinsure that business through the various reinsurance programs of the USDA.

If you have a risk that is in a flood plain or has a farm that has poor yield histories or does not have irrigation or doesn’t use pesticides or whatever it might be you can decide what to do with that risk and the economics are really borne out of that decision. What you keep, what you seed and you need to have the right technology on the front end to service a business. You also need to have the right data and analysis capabilities to understand what to keep, what to see, and so we think we have that.

And in a year like this where we’ve seen the worst drought that Texas and Oklahoma and the Southeast has seen, really since records have been kept for moisture, we’re still going to make a profit, albeit a modest profit in our crop insurance business this year that’s because of the way that we’ve risk managed the portfolio. It’s also the way that the crop insurance is diverse outside of just the Southeast, but I think it speaks to the quality of that business.

A bad year in crop is a year where you don’t make money or you only make a little bit. It’s not like catastrophe business where a bad year in cat you may have a big hole in your balance sheet.

Unidentified Analyst

And you mentioned the USDA change is coming. I don’t know what that is, but is the historical combined ratio still a good indication for the future profitability of the business?

Michael McGuire

Yes, I’d say on average and there’s obviously a deviation around the average of say 10% to 15% margins. The changes that I was referring to the USDA just came out, every year they reset pricing and it’s basically an experience rated pricing and so, what came out recently is, I think, it was yesterday. They have put forth reductions in the premium rates for corn and for soybeans, particularly in some of the Corn Belt states in the Midwest and they range in the 7% to 10% premium reductions that is coming out of their experience rate. And that probably impacts our combined ratio by maybe a point in our crop insurance business. So, it’s a pretty manageable reduction, given the diversification of our portfolio and just how much margin is in that business to begin with.

Unidentified Analyst

Understood. Sorry, can I ask one more? You mentioned the excess capital for buyback, how much readily deployable excess capital do you have, you can spend right away? And given the low valuation of the stock, are you willing to do the buyback right now or do you really want to wait until the (inaudible) review?

Michael McGuire

Yes. If I can, I’ll step back and comment a little bit about buybacks. We I think, have a pretty good track record of buying back our shares. Even this year, we bought back 15% of our outstanding shares the beginning of the year, so we’ve certainly done that this year.

Current valuations, I agree, are incredibly compelling. From an excess capital point of view, I think we said it on our last earnings call we have about $400 million to $500 million of capital in excess of what the rating agencies would require for us to hold.

Now, I wouldn’t view all of that as excess capital to be deployed. You need to hold a buffer above what the rating agencies would require. So, within that $400 million to $500 million, there would be an element of capital that is deployable. I wouldn’t anticipate that we’ll do much in the balance of the year for repurchases because we are seeing some very interesting dynamics at 1/1. And it’s too soon to tell just how much optioning we will have. But certainly, as we get past 1/1 and see what our portfolio looks like, we’ll have capacity and clearly earnings in 2012 will provide further capacity to either deploy into business or to repurchase our shares.

Unidentified Analyst

I wanted to ask about excess liability, general liability. I find it very scary. Maybe that’s just irrational but it feels like the unknowns are unknown and they seem unanalyzable. I am wondering if that is a correct perception in your view and if something like asbestos were to happen again, how would it be different this time, just in terms of the way the industry is structured, the way the contracts are structured? And really what I’m getting at is how much of the decline in loss trends is structural in the way the industry conducts its business versus just, hey; the experience is very random over 20 years, 50 years?

Michael McGuire

No doubt about it. There is an element of randomness that you never know what you don’t know. But I think many of the changes that we’ve seen over the last decade have come out of structural changes.

Tort reform that happened in the ‘90s and in the first part of this decade have had benefits in terms of how the courts have viewed tort liability. If I think about our portfolio, where we take our largest liability risks would be in our Bermuda-based large excess casualty and that business is written from a structural point of view on what’s referred to as occurrence reported or claims made forms, which means that for a loss to be covered it has to occur during that period, but it also has to be reported to the insurer to be covered.

So, use asbestos as an example. If something today that nobody knows about and nobody defines call it asbestos, 20 years from now, people wake up and realize that you know what, 2011 was the year of asbestos version two. Unless somebody had the foresight to identify what that unknown was and say that it occurred, reported to their insurer, there’s no coverage. So, that’s a significant structural mitigant, at least for our book of business, that I don’t think that’s a big risk.

Where you might see something of that continue would be in occurrence casualty which means that you write a policy of liability that’s written on an occurrence basis. Anything that occurs during that year, regardless of when it’s reported, attaches back to that policy year and think about the components back on that pie chart page, we have very, very little casualty business, particularly excess casualty that’s written on an occurrence form.

So, that is a significant mitigant to loss, because I agree with you that large long tail excess casualty or umbrella is tough business and - because you don’t know what you don’t know.

Unidentified Analyst

Thank you.

Matthew Heimermann - JPMorgan Securities

We’ve got time for one more if there’s. If not, I’ll use the time. I guess one last quick question then before we adjourn, I guess just going back to crop, I mean there’s been with the budget deficit and some of the of at least efforts to try to cut cost, the crop insurance program has come up as maybe a potential target. Can you just give some thoughts in terms of how big of a risk you really view that? And I think what the starting year three of five under the most recent RMA contract. So just how I - do you - if there’s changes likely after the contract runs its course or like would there be a change midyear?

Michael McGuire

Well, the changes would come after the contract, at the next contract renewal. To - with - stepping back to your question about what is the risk of major changes in deficit cutting acts going against the crop insurance program, I view that as more of a tail risk as opposed to a likely outcome. There has been a number of comments that have been made in Congress and various committees with respect to agriculture subsidies.

And where they seem to be focused would be on direct payments as opposed to crop insurance. So, you may have seen headlines coming out of the Farm Services Agency. The Farm Services Agency is the arm of the USDA that administers direct payment. So, if a farmer is getting a payment for keeping land fallow or for not planting certain crops or for planting certain crops that are outside of crop insurance. Those are the types of payments and subsidies that are significantly under attack and actually, the industry has acknowledged the agriculture industry has acknowledged that direct payments need to go, I mean there’s not much basis to really keep those going.

And actually what the Farm Services Agency has come out with is trying to create a new program to not get rid of that funding but to repurpose it into something that looks more like crop insurance because crop insurance is a more politically supportable method of support because the farmer has skin in the game, the farmer has to pay a premium. It is, at heart, a risk management product that is needed by the industry and it would seem that more of the agricultural subsidy will be focused towards things like crop insurance as opposed to really strong cuts to crop insurance.

Do I expect cuts over time? Most likely, I mean we are continuing to drive the efficiency and productivity in the agriculture space, not like from how we underwrite or operate as a crop insurer, but farmers in general. Every year you see gains in seed technology and irrigation technology, farming technology that enhances yield and production. So, the changes that have been made over time have been met to try and keep up with the advances in technology and I think the pricing change that have happened in the cuts have been to keep the program at pace with those kinds of changes.

Matthew Heimermann - JPMorgan Securities

All right. Much appreciated. Thank you, Michael.

Michael McGuire

Thanks, Matt. And thanks all for your attention.

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