Hello everyone, thank you for joining us today. I'm Elyse Greenspan, the Senior Insurance Analyst at Wells Fargo. It's our pleasure today to have with us AIG. From the company, we have Sabra Purtill, Deputy CFO, Treasurer, and Head of Investor Relations. She definitely wears several hats at the company. We're also joined by Shelley Singh, who's a Managing Director in the Investor Relations department as well. Before we kick off the fireside chat with the list of questions that I have, I'm going to turn it over to Sabra for just some introductory remarks that she has. Go ahead, Sabra.
Great. Thank you, Elyse. First of all, I hope everybody is safe and healthy and not going too stir crazy in these very unusual times. We do wish you all the best with your friends and family, look forward to seeing you all in person again, hopefully in the near future. Just a general observation before we go into the fireside chat is that AIG entered this period from a position of strength. We have a strong and profitable Life & Retirement book, which is very well-balanced on product and distribution and lacks a lot of the aggressive guarantees of living benefits that were sold prior to the financial crisis.
We have a commercial General Insurance book that was significantly re-underwritten over the last 2 years, reducing both our limits as well as our exposures across property and casualty lines and driving towards improved profitability, which we achieved last year, although there's still more work to do to get where we need to be. We also have a very strong personal lines book, strong franchise in Japan, as well as a world-class Private Client Group, which, while exposed to catastrophe losses due to the typhoons and some California wildfires, is nevertheless a very strong book of business. Finally, we had reached an agreement to sell Fortitude Re, our legacy portfolio, back in late November. That sale, which is still targeted for mid-year, remains on track going through the regulatory approval process.
We'd actually put in some hedging programs late last year, which helped protect the Solvency II surplus in that entity, and we're looking forward to concluding that sale. We also had a strong balance sheet as we began this period of turmoil. Year-end operating company capitalization was above 400% RBC for both the L&R and the U.S. pool. In fact, the U.S. P&C pool had the highest RBC levels since about 2014. We also had significantly de-risked the investment portfolio over the last 2 years, and last quarter, we provided a significant expansion in the financial supplement of our investments by segment. You can see how our portfolios compare to their more direct peers as opposed to looking at us on a consolidated basis.
As a global composite or multi-line insurer, we really have no comparable company to compare us to in the U.S., or frankly, there's very few globally as well. We had very strong holding company liquidity as we began the year. We had more than $7 billion of holding company liquidity compared to an annual run rate of normal holding company interest dividend and holding company expenses of about $3 billion a year. We, in fact, two weeks ago tapped the market for $4.1 billion in senior notes in order to enhance our liquidity. As I said, we entered this period from a position of strength. Obviously, there's a lot of uncertainty as to the course of the economic recovery. Hopefully, we're on the recovery bend at least a little bit now.
We feel very confident in our balance sheet and our business portfolio, and frankly, pleased that if we were going to go through this sort of environment, that we're going through it now as opposed to three or four years ago when the impact on AIG would've been much more significant. With that, Elyse, happy to kick off the fireside chat. Although I do have a gas fireplace in my house. We were joking last night I should be doing this in front of my fireplace, but I'm not. I'm in my upstairs office.
Well, yes, I'm sorry, just for everyone joining us on the line, if anyone has a question, they can also feel free to just email them in to me, Elyse, E-L-Y-S-E dot Greenspan, G-R-E-E-N-S-P-A-N at wellsfargo.com. I will kick things off. Sabra, I think a good place to start is just with your General Insurance business. I think from maybe just as we think about the margin profile of the business and maybe even leaving COVID aside, it seems like we were at a place where we're getting really healthy price increases, which seem to be a good amount above what you guys were seeing with loss trends. Just give us a sense of as we think about the improvement you can see and maybe kind of focus a little bit more on the commercial components of the GI book. Sabra, are you there?
Sorry. I was muting. That's the problem with these days. You constantly have things on mute. Peter Zaffino talked on our calls the last couple of quarters about what we've been seeing in rate, obviously there's a significant numbers of data points that we've put out that, I would refer people to that in terms of the rate. I think really what's more significant to the AIG portfolio is what we've done from a risk reduction perspective, both with the expansion of our cat reinsurance as well as our casualty quota shares, our aggregate programs for cat exposures as well, just a significant reduction in limits and exposures, both in accounts that have been non-renewed, and therefore just eliminating those risks in total, are taking a smaller gross and net limits on those books.
I know there's been a kind of back and forth about, oh, if you're getting all these rates, why is your top line not growing as much? What I would say is, AIG is in the tail end of finishing the re-underwriting part of the portfolio, and the question mark now in terms of where we go in terms of top line growth or margins is frankly going to be, to some extent, a function of what we see in the underlying loss trends in the market in this very unusual period with COVID. We see both negative impacts from COVID as well as, I wouldn't call it exactly positive impacts, but there's significant change in loss trends when you have 50% of the U.S. or European economy working from home.
Yeah, that's helpful. I guess, you mentioned that you guys are at the tail end, right, of some of these changes that have gone in place within the book. Is there a right way to think about when I know you guys, when you had previously had some financial guidance for this year, was looking for kind of flat premiums. Is the right way to think about reaching the inflection in 2020, and then 2021 can be when we can start to think about some level of premium growth within the general insurance business?
I think that's a reasonable expectation for right now, keeping in mind that it's a slightly different story between commercial and personal lines. Our personal lines book includes the travel book, which we write slightly more than $1 billion of travel business on an annual basis. Clearly this year, not a lot of people are traveling. As you think about personal lines, that premium line's going to have some pressure this year from travel. Secondly, as Mark talked about on the earnings call a couple of weeks ago, we did actually fund and form the Syndicate 2019 in Lloyd's, where a significant portion of our $2 billion private client group premiums are going to end up seeded into as well. That's going to have an additional impact on personal lines.
As you look at commercial lines for the year, we do provide on page 14 of the financial supplement a breakdown of premiums by line. What you'll see in that, for instance, is even just in the beginning part of the year, and this is on a written basis. Written is going to translate into earned for next year. Just even in the first quarter, while total written premiums and net written premiums and commercial lines were only up a little bit, we had almost a 20% increase in special risks, which includes our Lexington book of business, but we had like a 60% decrease in property. I would suggest that, keep an eye on that page 14 of the financial supplement as we go through the year, because that's going to be your leading indicator for 2021 on an earned basis.
We would hope that without any changes in our underwriting appetite, we would benefit from the rate increases that we're seeing in 2021 from a top-line perspective. Although there's a lot of ifs in there, depending on how this environment that we're in continues, level of economic activity and the rest. Because at the end of the day, property casualty insurance companies, particularly commercial lines, what we insure is the economy. As a global insurer, how much the economy has shrunk or has recovered by the end of 2020 will be an important driver of exposure and therefore premiums.
Okay, that's helpful. Sticking with GI, and maybe from a little bit of a different angle. We're hearing about a good amount of hardening in the property capacity and just the reinsurance market in general. Is there just thoughts like how AIG could potentially mitigate the impact of that this would have on your premiums? Just in terms of what you guys foresee as might be some of the rates running through the reinsurance market in 2020 and then also into 2021.
Yeah. As you recall, we bought Validus Re back in 2018, which has both a Bermuda-based reinsurance business as well as Talbot, which was their Lloyd's syndicate. We participate in the reinsurance markets in really two separate areas. I would tell you is yes, definitely, there's a hardening of pricing, particularly as we come into the Japan cat renewal season. That's obviously a major primary market for us as well. I would just point you to the sizing. Validus is, we have a $25 billion total book of GI premiums on a global basis. While our reinsurance business is certainly much bigger than what we had before the Validus Re acquisition, I don't think you should think of the growth in that business as being able to offset the 90+% of the rest of the commercial lines book.
It is clearly an area where there's more demand and pricing hardening, especially in some of the cat lines.
Okay, that's helpful. Can we maybe shift gears a little bit? Very topical now, all investors seem to want to discuss COVID-19 and just the potential for losses throughout the insurance industry. I know Brian Duperrault, your CEO, as well as some others in the industry, have said that this will be the largest loss that the industry will ever see. Kind of keeping with that thought, could you just maybe looking for a little bit more color on your potential losses as you see them transpiring into Q2 and beyond? I know that on your call, you guys had pointed to 1% of commercial policy limits being the amount that's sub-limited in the aggregate.
Is there any way to kind of size up what that 1% of commercial limits could potentially be as we think about potential BI exposure as a portion of your loss?
Sure. A lot of questions in there. Let me start by reminding you that this is the reason why we and many in the industry, including Lloyd's the other day, view this as potentially being the largest insured event. We can talk about whether it's technically a catastrophe. It's certainly not a natural catastrophe, but it's a man-made one perhaps. It's because of the magnitude of it in terms of the geographic locations as well as the duration of it. This isn't a hurricane or earthquake that hits and you've got one big storm in a localized geography. The impact of this is across many geographies and in many lines of business, including, like you mentioned, the business interruption.
We also clearly see it in our travel and event cancellation businesses, which were obviously a big portion of what we took in the first quarter because those were very known events. As David McElroy had talked about the other day on our UBS conference, there's still a lot of uncertainty. Yeah, we expect that we're going to see additional claims. An example I would give you is for event cancellation, what we took in the first quarter represents what we know about first quarter events. It doesn't take into account assumptions about what might happen to second quarter or third quarter events that hadn't already been canceled. Depending on the length and duration of this, we would expect to be booking more claims in event cancellation. Travel is less probably going forward because people simply aren't traveling.
As Peter talked about on our call, we have a sliding commission scale. While we booked a fair amount of losses, I think it was $86 million out of the 272 was for the travel book. We can actually recoup some of that $86 million through lower commissions once we start seeing more travel insurance sales. That brings us to other lines and what I would say on our property limits. We haven't disclosed what our total property limits are, nor do we expect to, but we have talked at great length about how we have reduced our property limits so much over the course of the last couple of years, more than $200 billion of reduction in property limits. The 1% of the exposure that we have is completely manageable within the scope of our balance sheet.
Based on some known exposures that we have where there have been claims filed, we did make some provisions for those in the first quarter numbers. As we get any additional claims in situations where contagious disease is covered, and I would be clear about that, it's not a business interruption coverage for us so much as it's a contagious disease cleanup type coverage where you have to have an actual known exposure. We would expect that we would have more of those claims in the second or third quarter. Again, it's very manageable. The claims from this event, because of the re-underwriting we've done on gross limits combined with the reinsurance, this is an earnings event for AIG. It's not a capital event.
In terms of giving a prediction of what we think the total claims would be, I keep coming back to when does the economy reopen? What's the impact on directors and officers insurance and liability and lawsuits? We think we're pretty well protected on workers' comp because our workers' comp book is an excess book, and most of the COVID claims within essential worker categories would probably be within the working layer of the workers' comp. We do expect, like I said, we will make assessments about the reserves for the second quarter and the third, and hopefully not the fourth, potentially the fourth, based on the claims that we get and the coverage terms for those periods.
Okay, that's helpful. Then sticking with workers' comp, we've heard about some states, including California, looking to expand coverage for comp related to COVID. How do we think about the potential exposure changing, both within California and as other states potentially also expand the coverage terms? Is there a way maybe to think about AIG's exposure to really some of those frontline types of workers within the comp book?
Sure. Again, AIG's book is mostly an excess book. The vast majority of it is an excess book. To remind you of what that means, we do not provide first dollar guaranteed cost coverage for workers' comp claims. We basically help large corporations who self-insure for the working layer of workers' comp, similar to what most people do on their health insurance plans these days. We manage the claims for workers' comp and then provide excess coverage, which normally aggregates to a per claim basis. If an individual worker's injuries and claims result in more than $1 million, we would be on the hook for the amount of the cost above the $1 million, and the first $1 million comes out of the employer's pocket.
What we would say is the COVID, obviously it is a horrific disease and no one wants to catch it, but there is a relatively low high-severity impact for people catching the disease. Obviously, the ultimate is going to be mortality, and under workers' comp, there is a calculation for that. But given that we are not a primary writer, most of the claims that we are seeing right now, whether they are covered or not, would be not for our risk. It would just be us handling the claims.
As you think generally about what is going on with some of these conversations, whether it is what legislatures are trying to do to expand coverage for business interruption when there is a virus exclusion, or to mandate what claims should be covered for workers' comp for what kind of essential workers and the rest, I think what you just have to keep in mind is those are all reasons why prices are probably going to harden further within those particular lines of business, which for workers' comp would be a good thing since it has been soft the last couple of years. But there will obviously be some lawsuits around people trying to expand coverage terms after the fact.
I think it will be clearer in policies that are renewing going forward, whether or not the insurer should be pricing and underwriting for expanded terms of coverage if that is in fact what the legislatures and the regulators want. In terms of our comp book relative to essential workers, I think there is a general understanding that people who work in hospitals, that the COVID claims would be covered just as it was assumed that the Ebola virus would have been covered a couple years when that was around. There will probably be some back and forth about what are the other categories of essential workers outside of the healthcare space, such as firefighters or policemen or grocery store workers.
At the end of the day, what I would just say is that for most people who catch the virus, since there's no therapeutics, it's really a loss of income slash being at home and not working and picking up the workers' comp claim for that. It's only in instances where people need to be hospitalized that you see a significant medical component of the workers' comp claim. Remembering that what workers' comp covers is similar to unemployment insurance. It's like a per weekly indemnity based on the state rules for income, and then it covers the medical bills.
Okay, that's helpful. Then, maybe shifting gears a little bit. AIG is unique from its insurance peers in the fact that it has pretty large General Insurance and also Life & Retirement business. Obviously, given what's been going on with interest rates, the return profile of L&R had been for a while a lot stronger than GI. As we think about go forward, just we think about the return dynamics between the two businesses. Do you see that shifting as we've spoken about some better pricing within GI as we think about what seems to be a lower for longer low interest rate environment?
Yeah, that's a great question, I think that's one of the things that we all, as students of corporate finance, will need to think about a little bit harder, given that the risk-free rate, whether you're using 10-year treasuries or five years, is pretty low right now. Obviously targeted returns are down. What do we think about for the risk premium and cost of capital for capital dependent slash reliant industries like banking and insurance and the rest? To go back to your point, what I would say is that L&R had benefited from a pretty strong return profile over the last couple of years because of the strong equity markets and what that meant for their private equity as well as their alternatives portfolio.
In addition, as we were in a low rate type credit spread environment, they were picking up a fair amount of income from bond tenders and make wholes. A couple of quarters ago, we provided more disclosure so you could see how much that was contributing to their return. In this environment, even though we have wider credit spreads and lower rates, I think it's the impact of the alternatives that which will have the more immediate impact on L&R's return profile in terms of their underlying products, because we match on an ALM basis, and we've got hedging programs in place for the exposures we have for both credit interest rates and volatility. The core returns aren't going to be as impacted on the existing book.
We will see, as Kevin has talked about the last couple of quarters, we're going to continue to see pressure on the base interest margins. Remember, base excludes the alternative of somewhere between 8 and 16 points. Because credit spreads have widened out, I mean, they've tightened since their lows in late March, early April. Credit spreads are still, for investment-grade credit, are close to 100 basis points wider for single A, triple B credit than they were back in December. There's actually an offset for L&R right now. Again, given what we would see for private equity and alternatives, the overall level of earnings for life and retirement are going to be lower than what we had for 2019.
On GI, what I would say is the key driver of our return profile going forward for GI will be continued improvement in underwriting margins, as well as the benefit from these wider credit spreads that we're seeing. We would hope to obviously do some normalizing for GI because of their hedge fund portfolio in particular. We would consider that GI's improvement in margins is really squarely focused on the combined ratio as opposed to investment returns.
Okay, that's helpful. Then maybe shifting gears towards capital and leverage, which you did kind of address the whole COVID liquidity in your introductory comments. AIG, obviously, the end game is to what Mark Lyons, your CFO, has said, is to kind of get back to or get to around a 25% leverage ratio. As you and others have kind of put a pause on just buybacks and capital actions just to have more liquidity in these uncertain markets, is there a timeframe to think about you guys managing down your leverage? It seems like it's more of a 2021 event at this point.
Yeah, in terms of the leverage ratio, remember, there's three components that basically drive that calculation on a quarterly basis. One is net income in excess of your common dividends, and that grows the equity part. Second is a dollar amount of debt. Third is because most of the rating agencies include the AOCI impact from the mark-to-market on our bond portfolios, you have the impact of AOCI. Last quarter, the first quarter of this year, we had about a two-point increase in our leverage ratios that was just due to the change in the mark-to-market on the bond portfolio, even though we had about a one point that was because of the increase in debt, because of the revolving credit draw net of the $350 we paid off, and then we actually had $7 billion of net income.
As I think about this year, we've raised the liquidity we can meet our debt maturities that we have in August and December, you will see our dollars of debt coming down over the course of this year. We also have another debt maturity in March of 2021. Definitely, we'll see the dollars of debt coming down. We would certainly expect to have earnings. The amount of earnings will depend on what we see for credit impacts and the rest from COVID, we expect to see earnings which would improve our debt ratio. Then in terms of the impact of AOCI, we've already recouped, just based on where fixed income markets are today, something like 60%-70% of the reduction in unrealized capital gains on the bond portfolio that we saw since March.
We are in relatively volatile capital periods, that could move around. In a general sense, what I would say is our first goal is to kind of get our leverage ratios back to where they were at the end of last year, which was around 27%. Then from there, which I think will in fact take probably until the end of 2021. Then from there, it'll depend on what the world looks like with the profitability profile, capital flexibility, economy, and all the rest. The more important point right now, which the rating agencies understand, they understand it across all kinds of industries, is the capital markets have been very volatile, to manage companies through this period of uncertainty, it's important to have very strong holding company financial flexibility, which, as I said when I started, we certainly have right now.
We have a little bit more than $11 billion of holding company cash and short-term investments right now.
Okay. Almost out with time, maybe just throw one quick one in there. Do you have an update just on the closing of the Fortitude Re sale? I think some point was the goal to try to get that deal done at some point this quarter.
Yeah. We still expect that it's going to close by mid-year, optimistically, hopefully this quarter. It really depends on the regulatory approval process. We have several U.S. regulators who have to approve changes in material, well, the reinsurance documents, basically. Ultimately, we need Bermuda to approve the change in control. We've made significant progress on that. From a timing perspective, I would hope that it would close by June 30th. If it doesn't, that's going to be because we're still awaiting one of the regulatory approvals.
Okay, great. Well, thank you so much, Sabra, and then Shelley for also joining us. I think that does bring this fireside chat to a close. Thank you so much to our investors who also joined us as well today. Thank you, Sabra and Shelley.
Yeah. Thanks for hosting this. Thank you very much.
Thank you.
Bye