Good day, ladies and gentlemen, and welcome to The Allstate Corporation second quarter 2011 earnings conference call. At this time, all participants are in a listen only mode. Later, we will conduct a question and answer session, and instructions will be given at that time. If anyone should require assistance during the conference, please press star then zero on your touchtone telephone. As a reminder, this conference call is being recorded. I would now like to turn the conference over to your host, Mr. Robert Block, Vice President, Investor Relations. Sir, you may begin.
Thanks, Matt. Good morning, everyone. Thanks for joining us for Allstate's second quarter 2011 earnings conference call. Following our prepared remarks, we will hold a Q&A session, and we ask that you limit yourself to one question and one follow-up so that we can get to as many of you as time permits. Joining Tom Wilson, Don Civgin, and me for the Q&A session will be Judy Greffin, our Chief Investment Officer, Sam Pilcher, Controller, and Matt Winter, President and CEO of Allstate Financial. Earlier this morning, we issued our press release and investor supplement as well as filed our 10-Q for the second quarter. We also posted a slide presentation, which will be used in conjunction with our prepared remarks. All these materials are available on our website. As noted on the first slide, this discussion may contain forward-looking statements regarding Allstate's operations and actual results may differ materially.
Please refer to our Form 10-K for 2010, our 10-Q for the second quarter, and our press release for information on potential risks. This discussion may also contain some non-GAAP measures for which there are reconciliations in our press release and on our website. Following the conclusion of this call, Christine Eder and I will be available to answer any follow-up questions you may have. Let's begin with Tom Wilson. Tom?
Good morning. We appreciate your continuing interest in Allstate. Following my remarks, Bob will cover the business unit results, then Don will go through our investment performance, and then the financial position at the end of the second quarter. Before I begin a discussion on the results for the quarter, I want to comment on last month's management change at Allstate Protection. The decision was made, and we've moved on. We have a strong management team in place, a blend of talented individuals from both inside and outside the company. I am confident that everyone on the senior team understands what's expected of them. We are all driving toward the same goals off the same plan, a plan to grow our businesses profitably. To the second quarter.
We advanced our strategy of broadening our profitable protection relationships with consumers by utilizing both sophisticated risk tools and offering differentiated products tailored to specific customer segments. We will create significant shareholder value. While the weather hurt our overall financial results for the quarter, it had a much more significant impact on our customers' lives. This is why we're in business. I want to thank our claim employees and agencies for their dedication to our customers in these difficult times. This is when the value of having protection from Allstate really becomes evident. Coming into 2011, we have three priorities, improve our operating results, grow our businesses profitably, and differentiate Allstate from the competition by focusing on unique customer segments. In the second quarter, our underlying business results showed continued progress towards the accomplishment of those priorities.
If you go to slide two, we improved our operating results throughout the company. In property liability, the underlying combined ratio, which of course excludes catastrophe losses and prior year reserve re-estimates, was a very solid 87.5, an improvement of 0.6 points relative to the second quarter of last year. Allstate brand standard auto combined ratio was 98.2 in the quarter, an increase of 3.7 points from last year. This increase was entirely driven by a significant increase in catastrophe losses. Our underlying margins in standard auto improved relative to last year's second quarter as loss trends moderated and efforts to improve results in Florida and New York take hold. Homeowner margins excluding catastrophes held firm as we continue to drive towards acceptable levels of profitability.
Operating income from Allstate Financial increased 12.8% versus last year as improvements in the benefit investment spreads as well as lower operating expenses all contributed to improved results. Investments increased portfolio yields through proactive risk mitigation and return optimization. We had realized capital gains in the quarter, and unrealized gains increased by $900 million versus the previous quarter. We obviously continue to proactively manage our portfolio. We did make several moves over the last couple of months given the uncertainty surrounding the U.S. debt ceiling. Our assumptions are that any dislocation will be temporary and that the commercial banking system will continue to function. Given the highly liquid nature of our portfolio and the long duration of our liabilities, this obviously only has a limited impact on us. We did a number of things. We sold treasuries. We sold our long treasuries.
We put some additional hedges in place. We shifted the focus of our short-term portfolio. We underweighted equities, and we continued our shift into corporate credit. We also increased liquidity by building up operating cash. Two weeks ago, we issued $400 million in commercial paper and placed the proceeds in compensating balances to ensure we have cash to take advantage of any short-term investment opportunities. As a result of all of our efforts in the second quarter, book value per share increased 8.2% from the second quarter of last year. It did decline slightly from the first quarter of this year as improvements in our portfolio valuation did not offset the overall net loss.
In terms of growing the business, in property liability we're still declining in written premium and units in Standard Auto, primarily due to profit improvement actions in Florida and New York, which more than offset growth in the balance of the country. If you look versus last year quarter-over-quarter, there are 27 states experiencing positive growth in Standard Auto policies in force. Homeowners' written premium increased 2.6%, driven by rate increases taken to improve profitability. Overall units went down slightly as we downsized that business because of the CAT loss exposure. Canada and our specialty lines are showing strong premium and unit growth. Allstate Financial's growth in underwritten products continued in the quarter, with half of the increase coming from Allstate Benefits. Actions designed to reinvent protection retirement for the consumer continued to take shape.
We continued to test our Claim Satisfaction Guarantee, which is now live in four states. We continued our rollout of Good Hands Roadside and Drivewise. We've introduced new products with Allstate Financial. Then we announced a new alliance with Aetna and Allstate Benefits. Of course, while not all these initiatives would be successful, they're indicative of our strategy and approach to the market. Going forward, we'll continue to focus our efforts on achieving our long-term goals of improving returns and growing our businesses profitably. Now let me turn it back to Bob to cover our business trends.
Thanks, Tom. On a consolidated basis, we generated 5.6% increase from the second quarter 2010 in total revenue to $8.1 billion. The increase was due to $57 million of realized capital gains this quarter versus $451 million of realized capital losses in last year's second quarter. Turning to the bottom line, in the second quarter, we initiated a new disclosure on our catastrophe loss experience, where we provide our best estimate of catastrophe losses if it's expected to exceed $150 million in a calendar month. Well, we picked a good quarter to start the process. As we've already disclosed, catastrophe losses for the quarter exceeded $2.3 billion and overshadowed many favorable underlying trends in our businesses. As a result, we posted a net loss of $620 million in the second quarter 2011 versus a net income of $145 million in last year's quarter.
On an operating income basis, the loss in the quarter was $642 million, a swing of almost $1.1 billion from the second quarter 2010, all of which was attributable to the difference in catastrophe losses between the two periods. For property liability on slide three, net written premium of $6.6 billion was a slight decline of 0.4% compared to our experience in the first quarter, or comparable to our experience in the first quarter. We continue to balance our efforts to grow with our desire to maintain overall margins. Allstate brand Standard Auto net written premium decreased 0.9% quarter-over-quarter, driven by the combination of slight decreases in both units and average premium. Policies in force fell by 0.6% from June 2011 to June 2010. New business applications declined 5.2% in the quarter, while retention improved two-tenths of a point to 89.2%.
Actions to improve profitability in New York and Florida negatively impacted our growth in the quarter. Excluding these states, new business applications increased 2.4%, and policies in force grew by 0.2%. We continue to focus on profitable growth as it's critical to accomplishing our long-term growth and return goals. Homeowners' net written premium of $1.6 billion in the second quarter increased 2.6% as we continue to gain approval for rate increases. For the quarter, the decline in units was more than offset with an increase in average premium. Importantly, retention held firm at 88.4%, up a tenth from the second quarter 2010. In the quarter, we received approval for rate increases averaging 6% in 18 states. Our long-term goal, which we provided at Investor Day in June, is to generate an acceptable return over time in this line of insurance.
Shifting to the bottom line, we recorded a combined ratio of 123.3 for the quarter, an increase of 26.5 points from last year's second quarter. Virtually all of this increase accounted for by increased catastrophe losses. Catastrophes accounted for 36.2 points in the current quarter's results, an increase of 26.4 points in the combined ratio from second quarter 2010. The underlying combined ratio, which excludes catastrophe losses and prior year reserve re-estimates, was 87.5, a 0.6 point improvement from the prior year quarter as loss costs moderated. We remain well within our outlook range of 88 to 91 for the year. On the next slide, we show the loss components for standard auto. Frequency for both bodily injury and property damage improved relative to 2010 levels in the second quarter, with bodily injury frequency declining 2.3% and property damage frequency falling 3.9%.
Paid severity for both coverages shown in the upper right-hand corner of the chart increased minimally in the quarter, with BI up 0.4% and property damage up 1.1%. The combined ratio for the quarter was 98.2, an increase of 3.7 points from the second quarter 2010. The deterioration in the margin resulted from an extraordinary level of auto catastrophe losses in the quarter, 6.7 points of earned premium compared to only two points in the second quarter of 2010. The underlying combined ratio improved in the quarter and remains at solid levels of profitability. Florida and New York continue to have run rate combined ratios higher than the countrywide average, though the reported results for these states have improved for three straight quarters, reducing the pressure on countrywide results. We continue to pursue profit improvement actions in these states, including rate increases.
On the next slide, we provide loss cost trends for homeowners. Excluding catastrophe losses, overall frequency was slightly better than the prior year by about eight tenths of a percent, and paid severity increased 3.4% in the quarter. The underlying combined ratio improved slightly to 69.5 in the quarter. Our goal is to get the combined ratio excluding catastrophes into the low 60s by 2013, so more to be done here. Turning to Allstate Financial, continues to successfully execute its strategic plan designed to shift the emphasis from spread-based to mortality, morbidity-based products while increasing earnings and returns. Our recent actions at Allstate Financial have stabilized the business and positioned it for continued strong, consistent earnings. Total premiums and contract charges in the quarter are comparable to prior year. Premiums and contract charges from underwritten products grew by $20 million or 4%, due primarily to the growth at Allstate Benefits.
Premium and contract charges from spread-based products declined by $18 million, including $16 million related to structured settlement annuities, which fluctuate with the changes in our pricing competitiveness in the market. Net income for Allstate Financial was $166 million in the quarter, compared to a loss of $107 million in the second quarter of 2010. Operating income reached $141 million in the quarter, an increase of $16 million over the second quarter of 2010, as contributions came from improvements in benefits and investment spread, as well as lower operating costs and expenses. Actions to improve investment portfolio yields and reduce crediting rates on annuities, as well as higher profitability and growth in Allstate Benefits business led to the solid results this quarter. Now I'll turn it over to Don.
Thanks, Bob. We continued our practice of proactively managing our investment portfolio, it paid off again in the second quarter. On slide seven, you can see that while the overall size of the investment portfolio stayed right around $100 billion, the composition changed slightly with the continued shift out of municipal bonds and government securities and into corporate securities. Also during the quarter, we executed on our previously communicated strategy of moving away from the short and long ends of the yield curve towards the intermediate portion of the curve. These actions, as well as realized capital gains and an improvement in our unrealized position, are reflected in the strong total return for the quarter. The next slide highlights portfolio income and yield trends through the second quarter.
Overall net investment income of just over $1 billion declined by 2.8% from the second quarter of last year, was up from the first quarter of this year by $38 million. Within the property liability portfolio, net investment income was comparable to prior year as yield increases offset the slight decline in average assets. At Allstate Financial, net investment income of $694 million dropped 4% from the second quarter of 2010, was also up from the first quarter of this year. The change was due to an expected decline in average assets being partially offset with an increase in portfolio yields.
Our success in improving investment income on a volume adjusted basis was due to our actions to reduce lower yielding assets, focus reinvestment in the five to seven year part of the curve, increase investment grade and high yield exposure, as well as strong limited partnership income during the quarter. Slide nine shows our realized and unrealized capital gains and losses over the last six quarters. In the second quarter, we generated $57 million in realized capital gains versus $451 million in realized capital losses in the second quarter of last year. Impairment write downs of $70 million in Q2 were the lowest since the third quarter of 2007, at roughly a third of last year's levels. Realized capital losses on derivatives of $53 million were significantly improved as well.
On the bottom of the slide, you can see that our unrealized capital gain position improved to $2.5 billion as well, favorably impacting our total returns for the quarter. Moving to our capital position, on slide 10, we remain strongly capitalized after the extraordinary catastrophe losses we experienced in the second quarter. Shareholders equity of $18.8 billion declined by $500 million from last quarter, but remained $800 million above year-ago levels. With the increases in the portfolio valuation substantially offsetting the net loss for the quarter, book value per share finished at $35.95, an 8.2% increase from the second quarter of 2010, and 1.8% above year-end 2010. Statutory surplus levels remain strong at an estimated $15 billion for Allstate Insurance Company and $3.5 billion for Allstate Life Insurance Company.
We paid a $238 million dividend from AIC to the holding company during the second quarter, bringing holding company invested assets to $3.5 billion. This is down a little from March levels due to our quarterly dividend payment and the repurchase of $232 million of stock. We still have $308 million remaining under our stock repurchase authorization and expect to complete the program by March 2012. On the transaction front, we're proceeding with the dissolution of the Allstate Bank. Our deal with Discover was terminated due to approvals not being received by the date set, but we still have high confidence in completing the wind-down of the Allstate Bank. With regard to our pending acquisition of Esurance and Answer Financial, we're working with regulators to obtain their approval and already have received federal antitrust approval. We expect to complete this transaction later this year.
In closing, despite the record catastrophe losses during the quarter, Allstate remains in strong financial shape. Now we'll open it up to your questions.
Thank you, sir. Ladies and gentlemen, if you would like to ask a question at this time, please press star then one on your touchtone telephone. If your question has been answered or you wish to remove yourself from the queue, please press the pound key. Again, if you would like to ask a question, please press star then one on your touchtone telephone.
Our first question is from Jay Gelb of Barclays. Your question, please.
Thanks, good morning. Tom, my first question is, can you give us your thoughts going forward on the leadership within the P&C business, how you plan to structure that?
In the interim period, people are reporting either directly to me or to other members of our 16-person senior leadership team.
Okay. Separately on capital management, the pace of the buyback looks like it's on track to finish well before early 2012. Just want to get your thoughts on that, whether Allstate might be buying back stock into hurricane season. How should we think about Allstate's level of excess capital, taking into account the $3.5 billion of liquidity at the holding company?
Jay, we buy back stock as we think it's appropriate in the market. We have extra cash flow. Given the loss this quarter, we started slowing down a little. We still expect to finish the program on time with where we said it would be, which is the first quarter of next year. As it relates to overall capital management, we have a long track record of returning capital to shareholders if we don't have a use for it. The $3.5 billion at the parent company level, some of that is necessary to make sure we have some cushion for dividends, debt repayments, and interest payments. We don't have any debt repayments coming due anytime soon, so it's mostly for the first and the latter. That tends to be somewhere in the $700 million-$1 billion range.
The rating agencies prefer it to be around $1 billion. The other amounts we use as appropriate. About $1 billion of that will be used to purchase Esurance. Then we look at the share repurchases. Every time we finish a program, we look at what we want to do going forward. That tends to be based on our outlook for our profits and what we think the underlying trends are in the business, as well as keeping some extra cushion for the volatility which comes from catastrophes.
All right. Thank you.
Our next question is from Bob Glasspiegel of Langen McAlenney. Your question, please.
Good morning, everyone. Tom, just reading the financial press, there's been a flurry of articles suggesting that morale is not good with agents, employees, and shareholders. Your recent decision to make the management change was not well received by Wall Street analysts with three downgrades. I recognize Wall Street analysts are probably a distant fourth to the other three constituents, but where is the company with respect to morale, and does that get in the way of executing your plan?
Good morning, Bob. We wouldn't hold you in that category. Let me maybe deal with it in pieces. As it relates to the agency owners, the headline there would be, look, we're successful in moving through the change necessary to execute our strategy. I'll give you a little historical background. I've personally known and worked directly with the agency owners for over 13 years. Last week, I was with 15 of our senior vice presidents who run the field force and about 1,000 of our top performers for three days. I also created and work closely with the National Advisory Board, which is a group that actually represents the 11,000 agencies we have. They are highly supportive of our strategy, which is to make sure their businesses are focused on personal touch loyalist segment by offering a broad set of differentiated products.
Now, to do that well, we have to do a couple of things. We're going to have to increase the average size of our agencies, and we're working to align our compensation system with individual performance. These are hard things to do, particularly when you're fixing the homeowners business where you're getting smaller and raising prices in that segment. We've successfully come through changes in the past. We're well on our way to doing this together. Last week, for example, on compensation, we talked about how we incorporated their feedback, and we were given an ovation by the agency owners. We get to where we are together, we get from where we need to go together. These are people who are passionate about helping people, running strong local businesses, and together we'll start to grow that business.
We're completely aligned and putting more resources behind their growth and helping them achieve those objectives. I think we're fine there. Morale is always a little better when you're growing and everything's good, but we're also aligned and armed to go forward here. As it relates to the employees, we're in fine shape as it relates to the employees. As it relates to shareholders, I think we would all, as a shareholder and as chairman of the board, we'd all like to see the stock price higher, which is just we keep working on doing what we do best, which is run the business, make money, and get it to grow again.
Okay. Switching gears, how excited should we be by the favorable frequency trends in auto in the quarter in New York, Florida? Are the problems behind us, or is victory within sight for the overall results to show favorable frequency trends, or was that just a nuance to how the weather flowed this quarter?
Bob, I would say you should feel comfortable that we know how to run that auto business and make money in it. We've done it for a decade. The frequency specifically in the quarter was down really across all coverages PIF was down in Florida, so we're feeling good about our actions there. If you looked at it in total, I would say it's in the range of normal fluctuations. The second quarter of last year was actually a little bit higher than is traditionally the case in the second quarter. You get quarter-to-quarter comparison skewed a little bit. Underlying theme is I'd like you to think about, look, we know how to run that business. We know how to make money in it.
Thank you.
Our next question is from Michael Nannizzi of Goldman Sachs. Your question, please.
Thanks. Just on the New York, Florida item. In 2010, you'd shown, I think, ex-Florida and California. Just trying to get an idea of PIF trends outside of New York and Florida over the past year. Can you comment on that? Also outside of New York and Florida, can you comment on the trend in combined ratio over the past few quarters? Then just one follow-up. Thanks.
Mike, a couple things. As I've mentioned in the comments, in 27 states, quarter-to-quarter, we're up in items of course. If you just look this year, that number is 30, so the number's moving in the right direction. That range of up is from a low 1% to some are up 4%-5%. I have a couple up at 8%. The business is growing outside those areas. That said, we get paid to grow the business in total, so we have to fix Florida and New York. Those businesses are still shrinking in size. We're on the way to having those fixed, but there's a whole bunch of things still going on there. There's a new chiropractic schedule in New York, so we're not out of the woods on New York and Florida yet, but we're well on our way to having it fixed.
I feel good about the underlying business model we have and saying that that works. We got to make it work in all states so we grow the overall business.
Great. Just to be clear, so outside of New York and Florida, you're seeing PIF growth, but can you talk about if you're seeing PIF growth and what's happening on the combined ratio side?
Oh, yeah, I'm sorry. Yeah, the combined ratio in those states is better than the average you see for the whole country because New York and Florida are above that level.
Right.
You didn't ask this, but you did see a small drop in average premium this quarter, which is in part due to some great investments we made to drive growth in those other states. That's working and those combined ratios are still highly attractive.
Okay. You're seeing growth and the combined ratio is tracking. I'm just trying to understand the combined ratio trend, PIF trend, if there's any way to kind of show what those are, talk about what those are outside of California and Florida. New York and Florida, I should say.
Yeah. Let me leave it with this. We're feeling pretty good about where we are in the rest of the country. We feel our business model hunts. It's not an easy market with the amount of advertising going on these days, we like what we see. The biggest driver for us will be to continue to push retention up, which means not only doing a better job for our customers and everybody else, but also selling them more products. We had a really great quarter on selling Allstate Financial products. We've launched new products there. We're liking the multi-line aspect of that, which we do as well.
Thanks.
Our next question is from Alison Jacobowitz of Bank of America Merrill Lynch. Your question, please.
Hi. Thanks. If I could just maybe follow up on the past couple of questions. For the N.Y. and Florida, to the extent you can you give us any sense of timing of when that might work itself out? Quarters, years, what we're looking at there. On the issue of the morale and the agents, now that everyone's had a little bit more time to think about Esurance, has there been any specific feedback or vibe on that? Maybe if you can update on that.
Yeah. Well, good morning. As it relates to N.Y. employers, not a whole lot more to say. We're making progress there. We don't have a specific date at which we'll think it's completely done. I will tell you that we are starting to focus more on how do we grow in those markets now that we've made some pretty good progress on getting the underwriting stuff done. What we need to do is not only improve profitability there but grow those markets so that we can grow the overall piece. As it relates to Esurance and the agency owners, they're fine. Actually, many of them are quite excited about it because what we've done is said we're going to focus their efforts on personal touch loyalists. The Esurance will be focused on self-directed customers who want a branded experience. They understand the difference. They got it.
The additional work we're doing to improve the customer value proposition with them, they're very excited about. We loan money to agency owners at an attractive return for them and us to help them merge agencies. We are increasing the size of that through mass business, we're feeling good. Everybody's, I think, aligned around doing it. Sometimes you'll see reports that people think it's going to be channel conflict. This is about doing what the customer wants. Everybody gets it. Everybody knows we do what the customer wants. We'll all win, that's what we're focused on.
Thanks.
Our next question is from Vinay Misquith of Evercore Partners. Your question, please.
Hi, good morning. Two questions. First was on the underlying profitability for merge.
It's good to see that there is a 30 basis point improvement year-over-year on the accident year combined ex CATs. Just wondering, just a little surprised because earned premiums were up 6.6% and the frequency and severity are maybe flat to up 3%. What's happening here? Why aren't we seeing a faster improvement in the underlying profitability?
First, couple things. Overall, we need to deliver a combined ratio for homeowners insurance that includes everything, not just CATs. You do have to be a little careful at looking at combined ratio ex CATs because it's not the same measurement on the revenue side as it is on the cost side. Let me give you an example. If we decide we are taking hail deductibles up because we think that's the right thing to do for our customers and it's economic for us, that actually would increase your non-CAT combined ratio because you would be giving up premium, but you'd also be giving up losses, but those losses are not included there. I want to just caution you a little bit about getting too focused on that specific one down to a tenth of a point.
It obviously needs to come down in total because we need to be collecting more money for catastrophes. Every two or three tenths of a point may or may not be indicative of what's going on in the trends of the business. We feel good about where that business is going and how we're driving it. What was the second part of your question?
What rate increases I see that you're taking rates up around 6%. Some competitors-
Oh, right. Sorry. Yeah, I get it. We like the overall trends in the business. You get a lot of quarter-to-quarter fluctuations, particularly if you look at fire coverages. Fire amounts to less than 10% of your units but a good 40% or so of your losses. To the extent you get any kind of swing there, it bounces around the frequency and severity a lot. You really do have to look at paid pure premium. If you're up six in average earned premium and you're up only three in your paid pure premium, which is the combination of both frequency and severity, that obviously means your margin is going to get better. We've been pushing through large rate increases in the homeowners business since the beginning of 2009.
It takes a while for those to get through the business. We feel good about where that trend is.
Just as a follow-up to that, some competitors are taking rates up maybe around 8%-9%. Where do you think you need to take rates up near term to get to your targeted profitability?
The question obviously is asked in total as opposed to by state. Some states this year even, we filed for numbers with twos on them. There are some states where we're filing single digit increases. It, of course, varies wildly by state and within inside a state. If you were to use the total combined ratio, we have non-CATs today, call it 69. We'd like to be in the low 60s to handle normal CATs. That means you need 10 points or so of price on top of it, which looks like what we've been doing over the last 18 months. Obviously, some things change when you do that. People change deductibles and that kind of stuff, so it moves around a little bit. You might not get all that through the written premium, but we are well on our way, but we're not there yet.
You should expect to see us continue to file increases in homeowner rates at least probably for the next year to 18 months.
Thank you.
Our next question is from Matthew Heimermann of JPMorgan. Your question please.
Hi. Good morning. I guess question on net investment income, specifically, I guess this is related to some of the change in derivative and portfolio hedging. I guess on page 32 through 34 of the Q, it shows a pretty big reduction, if I'm reading this right, in terms of the net investment income of headwind from interest rate contracts, especially. So one, I guess, am I reading that right in terms of kind of thinking about that as the impact of that being helpful to investment income? Two, was curious if you could give us a sense of how that breaks down between P&C and life.
Matt, let me maybe break it into two pieces and ask Judy to do it. First, we have the investment income, then the derivatives stuff goes through the capital gains loss line. I want to make sure I get your question right. Judy can talk about what we're doing on investment yields, perhaps, then we can talk about derivatives, what we've changed there. Is that right?
Well, if I could just clarify. I guess that had historically kind of been my presumption, as I was reading the Q this morning, it just struck me that the presentation presents it as a reduction in net investment income and then a reduction to realized capital gains, and then there's a reduction to policyholder crediting or benefits, and then other expenses. That's why I'm re-asking the question. If that's still wrong, then that's fine.
Why don't we do this? If we could, why don't we answer what are we doing with investment yields? That'll give you the investment income piece. Why don't we talk about what's happened economically in the derivative space this quarter versus where we were last year this quarter. We can figure out how to reconcile that with what's on the page is stuff in the queue if you ask a call. Will that get you where you-
Yeah, that's perfect.
Okay.
I guess with kind of the goal of putting in perspective the pretty big sequential leap in net investment income this quarter.
Okay. I think I can address the derivatives question when I talk about yield as well. If you think about it in two buckets, the first is the core portfolio, which is predominantly fixed income. Quarter-over-quarter, stabilized the yield, stabilized the income. Actually, the yield improved, but if you look at the income, it's largely stabilized. The benefit that we saw quarter-over-quarter largely came from the equity side of the equation. First, foreign dividends, which, if you look back at Q2 2010, you would have seen the same pattern, did quite well during the quarter. That's largely seasonal. LPs, we've had about three solid quarter of LP results, and LPs showed up during the quarter as well, both in income as well as in realized cap gain loss. The EMA LPs show up in realized cap gain loss.
The hedge component that you may be referencing also benefited us in the quarter. During the first quarter, we unwound some hedges in Allstate Financial. Pay fixed hedges about $1.3 billion, and that showed up as a net investment income improvement for the quarter of about $16 million. That's how we got to the $38 million improvement in income quarter-over-quarter. Maybe that addresses your derivative question.
That's helpful. I might follow up with an additional clarifier, but that is helpful overall. I guess just in terms of the life insurance side, the crediting rate dropped pretty precipitously in 1Q. It's kind of holding steady here. When we think about the interest rate trend from here, given what you're saying about your yield on the portfolio, that relationship is probably pretty fair. Is that a fair assumption?
Matt, this is Matt Winter. I think that's a pretty fair assumption. We have been fairly aggressive in crediting rate actions. You see it somewhat in contract holder withdrawals. We pierced the bailout in some of our products. I think we're at a fairly stabilized level right now. I think that the ratios you see should continue. There'll be some natural volatility there as contracts come in and out of withdrawal periods, generally, it's a fair assumption.
Okay. If we saw six months from now, 10-year rates 50, 60 basis point higher, how quickly should we expect that crediting rate to change?
That is such a complex question. That depends upon how fast it goes up. That depends upon where contracts are in bailout periods and withdrawal periods. I really can't answer that without misrepresenting it.
Can I try a different way then?
Sure, you can.
I guess, how in basis points, and whether it's 50, 100, 150, how significant of a move in a 10-year would we need to see before you'd expect the crediting rate to start to change materially?
I'm still not sure I can answer that and give you an accurate reflection.
Okay.
Matt, if you look at our overall portfolio, Matt's kept it short. We have a negative duration. If you're after what happens if interest rates go up, we think we are positioned to do well if rates go up. Obviously, as rates go up, it has a negative impact on the value of that which we own.
I got that, Tom. I was just more specifically asking about the crediting rate on Allstate Financial. Appreciate it. Thanks.
Our next question is from Joshua Shanker of Deutsche Bank. Your question, please.
Good morning, everyone. I don't want to make the call all about New York and Florida, but I just was curious if we could parse the complications in premium flow and whatnot between objective goals in lowering homeowners and the loss of auto policies associated with that and rate changes because you just don't like the margins for the auto business in those two states. Is there a way of sort of understanding how those two components are moving there?
I'm not sure I'm with you, Josh, on the relationship. I can tell you what we're doing in those two states on both lines, and then maybe that'll-
Maybe a little bit. If we're losing premium, how much of the premium you're losing is intentional because you're losing it in terms of a bundle that you're losing, and how much are you losing because, look, we didn't like the policy, we're changing the rate?
Well, there are two different stories here. In Florida, we're down to about a 3% share of the homeowners business and into the low teens on auto. We made that change over the last five years or so. We managed our way through that And we actually grew our auto share when we did that. We feel good about the work we did there. Now, we do broker a lot of business through our agencies to other people so that our customers still have bundled coverage, but we manage our way through that. In New York, it's more regional than a whole state, which you have in Florida. If you get east of Sunrise Highway up on Long Island, that's a different story than if you're in the boroughs or in upstate, obviously. Those two things are moving along at pace.
We don't have as fast a pace on improving the catastrophe exposure position in New York because it's a much lower probability. You do these things according to when you think you can and when you have to. We're pushing ahead on that one. We've lost less auto customers in New York than we thought we would lose given the work we were doing at home. We feel good about the way we're managing through this. That doesn't mean that if we offer somebody coverage with another company, not us, that they don't get mad and take their auto policy and go someplace else. By and large, we have a good set of relationships with them. We manage our way through it. In terms of the auto rates, that tends to be, again, more segmented by type of customer.
Bundled customers tend to be getting less of an increase than non-bundled customers who tend to be the people who drive more of the PIP losses. We feel good about being able to do both things. What we do need to do in the auto business is fix the profitability in both places and then come up with a plan to grow. Because if you're not growing in those two states, it's pretty hard to grow in total.
That's a multi-quarter situation?
Yes.
Yes. The other question I had unrelated, I wanted to know if I can think about consolidated ad spend for Esurance and Allstate over time. Would the two combined companies be spending less on ads than the two separate companies? How should we think about that?
Well, first, you would always expect us to do what's economic. It isn't just sort of who's got more money to throw around in the marketplace. We always look to say what's economic. It's our belief that what we're spending at the Allstate agencies is economic today, and we'll continue to spend at that level to the extent introducing new products, more bundling helps us. We'll spend more money there. Esurance, we know through our research that we can increase the ad spend and improve the economics through its affiliation with the Allstate brand. If we say Esurance an Allstate company, we know that improves close rates and consideration levels, both of which give us the ability to spend more money on advertising, both of which should enable us to continue to grow that business pretty aggressively.
Okay. Thank you for the answers.
Our next question is from Dan Johnson from Citadel. Your question, please.
Great. Thanks for taking the question. I actually wanted to circle back on a numbers question I think was asked, but I wasn't sure if it got answered. I think we've talked about California and New York or growth outside of those two geographies. In prior quarters, we've talked about instead the impact of New York and Florida. Can we retouch on those and just let me know if you're still giving out those numbers on sort of the ex California and Florida new app trends, and then I've got a follow-up.
Dan, I'm a little confused. I think most of it we've been talking about N.Y. and Florida. California, I don't think has been in people's questions. California is a state where we need to grow. You remember in 2008, we took a $250 million rate decrease on standard auto in California. As a result of that, we slowed down growth there. Some new laws came in place, so we had to redo our rating plan. That was just approved, and we've been in the market three or four months at this point. We feel good about the results we have. We do need to start growing California. We have seen a nice uptick in retention in California in the last quarter or so.
Maybe I should have been a little more concise in saying if we want to look outside of N.Y. and Florida, can you give us a sense as to what sort of sequential changes over the last couple of quarters we've been seeing on the production front?
In total? Okay. Bob can give you some breakout by itself. I'd say in total, you're getting a low single-digit growth outside of N.Y. and Florida.
Yeah. Okay, that's perfect. How would that have compared to maybe the last couple of quarters?
It's not accelerating the way I'd like to see it.
Okay, great. That's question one. Question two, I don't know where I saw this, but there's maybe it was a Bloomberg on agent and unionization, and it seemed like a bit of a one-sided story. Maybe you could tell me a little bit more about what's going on, whether or not the agents are going to vote to join the AFL-CIO, and if that's the case
Does it have any impact? Does it matter?
First, as I mentioned earlier, we're successfully moving through the change in conjunction and in tandem with our agency owners. We have two groups at the National Advisory Board, which I established in 2002 or 2003. We also have the Agency Executive Council, which is a group. Those two groups we work actively with to shape everything from how should we get agencies bigger, to what should we do on compensation, to how should we help you grow in your local market. There's a lot of work we do in conjunction with our agency owners every day. Obviously, they own businesses that are worth billions of dollars when you add it all up. They're important to our customers, they're important to the overall equation we have. The group you're talking about is a small group. We think a small group.
It's not officially any group that anybody really interacts with the company on. They've appealed to be a guild, which is somehow affiliated with the AFL-CIO. Guild doesn't mean anything. If you want to form a union, you have to be recognized by the National Labor Relations Board. A similar effort was done in 2002. They were not approved as a group because they are independent contractors. They are still independent contractors. The important point is, after 2002, we started working very hard, and the reason we formed those two groups was let's get aligned and do this together. We've been in a good place. This group is led by somebody who hasn't been with the company for over a decade, so we don't spend much time with them.
Very good. Thanks for taking my questions.
Our next question is from Cliff Gallant of KBW. Your question, please.
Morning. We're seeing a lot more commercials from Progressive about the rollout of the Snapshot product. I was curious what your thoughts were on that as a competitive threat.
Good morning, Cliff. Well, you are saying they are putting a big push on that. It's a new way of pricing, which is in part related to a new customer value proposition, but it's a relatively narrow one. We have something called Drivewise. We're in a number of states with it. It's all device driven. It has a fair amount of appeal to certain segments of the population. It is not at all appealing to other segments of the population. We think that the connection between cars and the telecommunications connection between cars, we think of car service as a cell phone on wheels. Lots of things will happen that we can develop broad customer value propositions around. We have a number of efforts. We call them the connected car effort. There's many pieces of that.
One of which is our Drivewise program, which we're continuing to roll out and test and make sure it works with people. There are other parts of that value proposition as well. I think if I went a little more macro, Cliff, it's a little bit like we talked about in June, which is the competition in this industry, 10 years ago, was really based on getting more sophisticated in price. About five years ago, it became who had the throw weight in the marketplace on advertising.
Those two are still in place. They never go away. It's now shifting to who can really do the right job for customers. Our strategy is unique customer offering for people who want to buy bundled products. Selling more Allstate Financial products, selling more Allstate specialty lines. We had decent growth in Allstate specialty lines, which is boats and renters and that kind of stuff, and motorcycle insurance. You'll see more of the competition shift to things like that, which will be either unique ways in interacting with customers or different value propositions.
Is there potential for something like that to be sent to policyholders of different companies? For example, I know with Snapshot, they only do it with their own customers, but as a branding or marketing tool, was there anything that would prevent Progressive from sending the Snapshot to your policyholders?
What, do you mean if they wanted to do a direct mailing of the device to our customers?
Right.
I suppose they could. The devices are a little expensive, I don't know. You can mail anything to our customers. They're all free Americans. Would we want to mail their device to our customer? No, obviously not. Yeah, they could mail the thing out, but I'm not sure it's a great economic deal for them because your breakage rate on direct mail is pretty high.
Sure.
Sending out all these devices would be pretty expensive.
Okay. Thank you.
Our next question is from Brian Meredith of UBS. Your question, please.
Yeah, good morning. Just two quick ones here. First, Matt, I think you kind of touched on this one a little bit with Mr. Heimermann's question. Just curious about the big increase you saw in surrender activity in the quarter. Anything unusual there, or is that something we should expect going forward? What impact may have that had on income in the quarter?
Yeah. Brian, it's Matt. We did have an elevated level of contract fund withdrawals in the second quarter. It was not unexpected. We had expectations based on historic sales levels. During the first six months of 2011, we saw an increase compared to the same period, the first six months in 2010. Those variances were driven primarily by increases in surrenders and withdrawals on deferred annuities in the second quarter relative to the same period last year. We had a higher number of contracts, which were the T-Link contracts and the Allstate Choice Rate contracts that reached the 30-45-day window period where there's no surrender charge. We also took some crediting rate actions on our Equity-Indexed Annuities, where we lowered those cap rates and pierced bailout rates.
We did that knowing that we would have an increase in surrenders as a result of that. We believe that in balance, it was the right thing to do economically for the company. We, in all of this, have to balance what's good for the policyholder, what's good for the company, what's good for our ability to continue to sell those products in the marketplace. It's a kind of a careful balancing of all three interests. We saw exactly what we expected. We think we did the right thing for all three constituents.
Great. Quickly for Tom, with respect to the initiatives that you currently have with the captive agency force and trying to get an average size agency a little bit larger, any change in the pace of how that's going to be implemented here going forward?
The pace begins with how do we do a good job for our customers? Anytime if an agency owner decides they don't want to grow their business and they'd rather merge it with somebody else, we'd like to make sure that we have all the processes in place so that the customers are taken care of. We've been working hard on those processes over the last year or so, and we're in position to do that well today. The pace really is driven, though, Brian, more by what the agency owners want to do. If you're one of the lowest performing agencies, then we don't give you as many options. The large portion of our agencies get to make their own choices.
With the compensation programs we're putting in place, it should give them a good transition period, and a choice to make a decision when it fits for them and their business needs. We're at about 11,000 agencies today. We don't have a goal as to what number do we want to get to by the end of the year. What we do know is we need to increase the average size of them. As long as we're doing it in a way that makes sense for our customers, will make sense locally, and fits with the business needs of the people who own those businesses, it works okay with us. I don't think you should expect to see a huge rush up or down. It's what we always do.
In every business you're doing this, you're always adapting to change, figuring out how you do a better job for your customers, some people make the change and come with you and really benefit from it. Other people decide they want to do something else, and that's fine. You just have to do it with respect and dignity over time.
Great. Thank you.
Our final question today is from Keith Walsh from Citi. Your question, please.
Hey, good morning, everybody. Just one question around homeowners. If I think about the six and a half million policy owners out there, how many of those have an auto policy in addition to a homeowners, and how many are a standalone homeowners customer?
I'm looking to make sure-
Auto homes, probably in the 40s.
Yeah, I know what the number is. I just want to make sure. I wasn't sure whether to disclose or not. It's about 40%, and that number has gone up pretty dramatically in an absolute number in the last year. We had a very targeted focus on going out to monoline homeowners and saying, "Oh, by the way, your price is going up, but we have a bigger discount on auto. So if you'll roll your autos to us, you can certainly reduce and perhaps eliminate much of the increase by bundling with us." That's been highly successful in terms of increasing. That's part of our strategy, which is we need to increase the number of products that people buy from us, whether that's auto and home, auto and life, auto, home, and life.
What we do know is the broader our relationships are, the longer those customers stay, the better relationship they have with those local agencies. Those are the kind of people who want that local agency relationship. That's a specific, unique customer segment. We're going to deliver everything we need to do for them. Separate segment would be what we do with the self-directed people, and we're likely to offer bundled products there as well. It's just we'll do it in a different way.
Okay, is that 40% that are monoline homeowners, you said?
No, it'd be 40% that are auto customers.
Okay. I guess just with that other 60%, I mean, you guys were kind enough at the Investor Day to give us a little more disclosure about roughly 30%, I guess, your equity tied up in the homeowners insurance business, which we all know has not made money in several years. Why wouldn't you just run that piece of the business down where you have no implication on the rest of your book, on your auto book?
Well, it's not as simple a question as that, because not every one of those, let's take those 60%, not every one of those are not you earning a good return on. Many of those customers you do earn a good return on despite because they're not in a cat zone or they haven't had those kind of losses. We believe that it's a great opportunity for us to sell them auto insurance. I don't want you to think about us as auto insurance centric. Auto insurance is our biggest product, but we really are customer centric. We'd like to sell whatever our customers want to buy. If they want to buy homeowners and a life policy from us, that's good. If they want to buy homeowners and a boat policy and a life policy, that's good.
Really think about it as how do we grab as many customers and sell as many things as we can to them. We want to make money on all those things. It's not a good strategy to, as you point out, to sell money to a customer, have them buy one thing from you, and lose money on. Rather than just jettisoning them, we think there's a great asset there that not only can we make money on what we do sell them, we believe we can sell them other things we'll make money on, too. It's not as easy and fast as you might describe. Besides the fact of getting rid of, if we were to try to jettison another 3 million or so homeowners, you'd have some regulatory issues anyway.
Our strategy is to make money on what we sell them and sell them more. Thank you all for participating today. Our goal is obviously to improve returns and then grow our businesses by having differentiated offerings for unique customer segments. We'll see you next quarter.
Ladies and gentlemen, thank you for participating in today's conference. This concludes the program. You may now disconnect. Good day.