Good afternoon, everyone. I'm Jay Gelb, the Senior Insurance Analyst at Barclays Capital. We're very pleased to have with us today Allstate. Allstate is the largest publicly traded personal lines insurer, and it also provides life insurance and savings products through its Allstate Financial unit. With that, it's my pleasure to turn it over to Tom Wilson, the Chief Executive Officer of Allstate.
Thank you, Jay. Good afternoon. Thanks for coming to learn more about Allstate. Let's start with our safe harbor slide. You can supplement any of the information we give you today by visiting our website or following up with Bob or Christine, who are both here with me today. Our goal is to leave you with a better understanding of why this is a good time to own Allstate. I'll talk about how we're doing, what our strategy is, what we can do better, and how on a long-term basis we work to create shareholder value. I'll also make sure we have time at the end for your questions. Just sort of who are we? Allstate is one of America's most important, what we would call main street financial institutions. We're the largest publicly held personal lines insurance company in the U.S. We protect 16 million households.
That's ensuring one in nine cars and one in 10 homes in the U.S. We also provide life insurance annuities and voluntary benefits at the workplace. Allstate has over 70,000 professionals that serve these customers through 11,000 local agencies that are in virtually every local market in the U.S. Our brand has a 59% unaided awareness level. That means if you go out and ask consumers about companies that offer auto insurance, Allstate comes to top of mind 59% of the time. Our revenues were $31 billion last year, and we are exceptionally strong financially. Income was down last year to $928 million due to the high level of catastrophe losses. We've averaged operating returns on equity of 14.8% over the last five years and 13.9% since 2002.
What I'd like to do now is I'll go through our strategy first, then I'll talk about how we're doing in 2011, and I'll do a little longer-term view of our performance. Our strategy is to provide unique products to different customer segments. Personal lines insurance companies, we believe fall into four different categories, segmented around two items. First is their desire for advice and help, and the second is on their perception of differences between insurance companies. We'll display this graphically on this slide here. The horizontal axis is the most common method used to distinguish between insurance companies. That's whether they provide advice and administrative help through an intermediary, like a local agency, or the customer works directly with the company and does the work themselves.
Personal Touch Loyalists, on the left-hand side of that slide, prefer the advice and administrative help of a local agency. The other end of the spectrum are consumers that prefer to handle their own affairs, don't want a personal relationship, and deal directly with the company. Consumers also have different views on the distinctiveness of insurance companies. Some believe all insurance companies are the same and that price is a primary decision factor. They're largely brand neutral. At the other end of the spectrum are consumers that believe there is a difference between companies. These are the people who would sort of say, you get what you pay for in life. They're more brand sensitive. This construct of 4 segments is confirmed when you look at the competitors in the marketplace. In the lower left-hand corner are Personal Touch Loyalists that prefer a branded experience.
That's where Allstate and State Farm are very strong. We over-index in our market share there relative to our total market share. The self-directed customers, those who prefer a branded experience, are in the lower right. And that's primarily served by GEICO and Progressive, and their market share of this segment is higher than their overall market share. The upper right segment is really not that well-served in the U.S. That's really dominated by aggregators if you went to the U.K. Personal Touch Loyalists that are brand neutral, so they don't really care which insurance companies they deal with, are in the upper left, and they're served by independent agency companies. Allstate's strategy is to sell unique products to each of these different customer segments. The 11,000 local agencies that serve Personal Touch Loyalists that want a branded experience serve that Personal Touch Loyalist in the lower left.
The pending acquisition of Esurance and Answer Financial will enable us to serve both of the self-directed segments. And our Encompass business has relationships with the local agencies that serve the upper left segment. Allstate is the only personal lines insurance company that's in all 4 segments, and that enables us to leverage our pricing, marketing, and claims capabilities over the entire marketplace. A good strategy, of course, requires good performance to drive shareholder value. Let's look at our operating performance, starting with 2011. We had three goals for this year. Improve our operating results, grow our businesses profitably, and introduce unique and differentiated products. What we're trying to do there is reinvent the way we serve customers and the way in which we compete. We have improved our operating results across all of our businesses.
The underlying combined ratio for the first two quarters was 88.7. Underlying combined ratio is total combined ratio excluding catastrophes and changes from prior year reserves. That's well within the range that we committed to at the beginning of the year of 88 to 91. The auto insurance combined ratio on an all-in basis was 96.6, which generates an attractive return on capital. The total combined ratio was 109 for the first six months, which was due to the high catastrophe losses in the homeowners business. Allstate Financial's operating income increased almost 13% versus last year's second quarter as we actively managed the investment portfolio and crediting rates, grew Allstate Benefits, and controlled expenses. Investment yields were maintained in a tough environment as we proactively managed risk and return. We grew our businesses where they're profitable but are still facing headwinds in two areas.
That's two large states in the auto business and in the homeowners business. Allstate standard auto products increased if you exclude Florida and N.Y., where we're unprofitable. We made progress in improving profitability in those states, which will enable us to raise the overall growth rate, which you can see we're achieving in 30 other states in the country. We continue to reduce the size of our homeowners business since this product is not generating sufficient returns while increasing average premiums to improve profitability. We did have good growth in Canada in our specialty lines, and Allstate Financial products sold through the Allstate agencies improved dramatically so far this year, and Allstate Benefits premiums grew as well. Our third objective is to sell new and unique products that differentiate us from the competition. We have a new policy that's a Claim Satisfaction Guarantee.
We are in four states right now with this product. It gives customers their premiums back if they're not completely satisfied with their claim service. No one else in the industry offers this. It gives us an advantage in closing business and in retaining business. We also launched Drivewise, which is our entry into telematics, which is the pay-as-you-go, pay-by-the-mile. Good Hands Roadside is a pay-per-use motor club offering that's free if you sign up. Today, if you buy a motor club from a traditional provider like AAA, you pay $70 for coverage. With us, you sign up for free. If you get a tow, you pay. This is a low-cost way for customers to experience the Good Hands of Allstate. Allstate Financial also entered into an alliance with Aetna, where voluntary benefit products will be available to their massive customer base. That's 2011.
If you look at our businesses over a longer period of time, starting with auto insurance, you can see a consistent focus on proactively adapting to any change in the market to create economic value for our shareholders. This graph shows auto combined ratios for Allstate in comparison to our larger competitors in the overall industry. We're in orange and green, which is at the bottom of the chart, which is a good thing. After catastrophes, you can see that the difference between those two is relatively a small difference. Catastrophes don't have a big impact on the auto insurance business. The combined ratio increase in the last two years is primarily due to the two large states, N.Y. and Florida, which we're working on fixing.
As we improve profitability in those areas, we believe we can start to grow the entire business and capture this attractive return in total. The first half of 2011, the uptick there is due to catastrophe losses, which added 3.6 points to the combined ratio. A combined ratio in the low to mid-90s in the auto insurance business generates extremely high returns on capital. You can run that business at about 3 to 1 in capital, you can do the math yourself. Generates very attractive returns. Homeowners insurance is also a critical element of the customer value proposition that we offer to Personal Touch Loyalists. They want to buy all of their insurance needs from one company. This is an underperforming business for us, and we need to raise returns we can improve shareholder returns in total.
The business has underperformed since 2008 with a combined ratio in excess of 100, as you can see from this chart. The biggest spike in that chart, of course, is this year, reflecting the significant weather we've experienced through June, and this does not include Hurricane Irene. We've been aggressively taking actions to improve this business. Initially, we got focused on hurricanes and earthquakes, and we substantially reduced our size and exposure to earthquakes. You can see from that green line, that's the reduction in policies. In force, we're down almost 1.5 million policies. Severe weather is now impacting the returns in that business, but it's impacting everybody in the industry. We're really not seeing any significant customer defections as we substantially increase prices. We're also working on redesigning the product and improving our underwriting decisions by inspecting every house we underwrite.
Allstate Financial is also focused on improving returns and increasing its focus on Personal Touch Loyalists served through the local agencies. As you can see from this graph, Allstate Financial operating income peaked at just over $600 million in 2007. The combination of the financial market crisis in 2008 and 2009 and significantly lower interest rates forced us to reposition this business. About three years ago, we put folks who went in where we cut expenses by 20%. In addition, we accelerated our exit from the fixed annuity business, which we had started to do in 2007. Our strategic focus now is on two things. One, strengthening relationships with the Allstate agencies so we sell more products to those Personal Touch Loyalists, and secondly, expanding our workplace business.
As a result of that, returns have improved over the last three years, and sales have shifted from annuities to underwritten products. Now, we do continue to have about a $30 billion balance of annuity deposits, and we don't get attractive returns on those, and so we're working hard to try to do that. You'll see in this quarter, we improved the spread on that business by lowering crediting rates and investing slightly differently. That business, though, will run off over time. In the meantime, we'll have the growth from the underwritten products, which we're getting very attractive returns on. Particularly excited about what we've done so far this year in the Allstate agencies. That business is way up, and we're earning a very attractive return on that business.
We're really trying to shift the mix of the business from low return fixed annuities to higher return underwritten products. Allstate Benefits is another part of Allstate Financial that a lot of people don't pay attention to, and it has great results. It has had strong growth in improving profitability. This business, what it does, it provides voluntary benefits to consumers through employers. Coverage choices are made as part of your benefits program, sort of a workplace enrollment, and then premiums are typically deducted from people's paychecks. We purchased this business in 1999. It was called American Heritage Life at the time, and it's now four times as large. We've doubled the size of that business twice. We did it by doing a couple of things. We leveraged the independent agencies we did business with. We leveraged the small business relationships through the Allstate agencies.
We leveraged the individual relationships through Allstate agencies. We expanded the geographical footprint. A couple of years ago, we got big into the mega employer market. Our customers today range from individuals to small businesses to giant retailers. The benefits of the program, you see 10% compounded annual growth in premium and an 18% compounded annual growth in operating income. Our future growth, we're excited about it, not only because we can continue to grow in those products, but our relationship with Aetna, where we have an opportunity to distribute their products to 17 million members. Proactively managing our investment portfolio has been as important as managing our insurance operations over the last four years. Our portfolio is about $99 billion today. It's largely comprised of investment-grade fixed income investments, as you can see from this slide.
We've shifted our allocations to more corporate credit, which is shown in green on this slide, in the wake of a weak economy and deteriorating financial strength of government issuers. We've been dramatically reducing the size of our municipal bond portfolio and our real estate investments. Our investment decisions are largely made with a medium-term horizon, so we're not trying to trade on it every day, and based on alternative outlooks for interest rates and the economy. Today, we're really positioning ourselves for continued slow growth domestically, an eventual increase in interest rates, and potentially higher inflation. In part due to our successful allocation, the portfolio returns have been really good over the last two and a half years. You can see the impact on returns from the financial crisis reflected in 2008 on the left chart.
In the fall of 2008, we were about a year or a year and a half into what we call our Risk Mitigation Return Optimization program. We had already sold a bunch of stuff before the market turned down. As a result, we were positioned to be able to stay long corporate credit. In fact, we went longer corporate credit in the end of 2008, beginning of 2009. You can see the impact on that on our returns in 2009, 2010, and we continue to have good returns this year. That stabilization is also reflected in our portfolio yields which rolls through operating income. As the portfolio has matured and interest rates have been low, you can see the decline in the portfolio yield with a sustained low interest rate environment.
What we did was we began to shift allocations in 2010, you can see the yields have leveled out since then. We really try to balance both of those. We're trying to balance between total return and yield on the portfolio. Our practice from a capital standpoint is to continuously look for ways for better returns on capital invested using our capabilities for the shareholders as the things I've just talked about, or if we don't have good use for it, return it to shareholders. We've had a long history of returning capital to shareholders, nearly $30 billion returned since our IPO. The first half of this year, we repurchased slightly over half a billion dollars worth of stock. Total shares outstanding have declined by 26% over the last 10 years.
Let me conclude by giving you the highlights of Allstate, why I think it's an attractive investment for you. We have a competitively differentiated strategy with focus on unique customer segments. Our operating strength has served us well in the face of higher catastrophe losses and the 2008-2009 financial crisis. We have a consistent record of proactive leadership and a broad leadership team. There are 14 members of our senior leadership team at Allstate. They have substantial experience both inside the company and outside the company. Our stock is currently trading at less than 80% of book value, which is substantially below historical norms. That means you get a great operating franchise and a fixed income portfolio at a discount to market pricing. If you look at our book value, it's largely the net amount of our assets is held in fixed income investments.
You get it basically at a discount to current market. The stock also pays a dividend of about 3%. We have a long track record of giving money back to shareholders as another way to improve returns. With that, I'd like to take any questions you would have.
Thanks, Tom. Let me kick it off here while we're getting the microphones positioned. Can you talk about the impact of weather related losses in 3Q so far, Tom, including Irene?
I'm not going to give you an Irene number. We did put a new practice out this year where every month, if losses are over $150 million, we quantify those losses after the end of the month. We did not have to put anything out in July. We will obviously put something out for August results because of Irene, which we expect to do relatively shortly.
Okay. Next on auto insurance policy in force growth, can you talk about the plan to resume growth broadly? Maybe you want to separate the impact of Florida and New York as well with that.
Yeah. As you know, we recently made some changes in management because I was not happy with our growth rate. In the last 60 days, we've put a new program into place we call Grow to Win which should hit the streets, I think, next week. It includes more aggressive advertising. It's focused on both existing customers and new customers. It has a number of consumer offerings in it, which we think will be attractive and unique to the industry. We have our whole organization's focused on it. Everybody's excited about it. We have everything from Thanks a Million, where we're calling a million of our customers, our employees are, to say thanks, to Refer to Win, where our employees are referring people to our agencies, more marketing and more consumer promotion.
We've really got the whole organization now focused on growing now, not waiting until 2012 or 2013. At the same time, I believe we've made enough progress in Florida and New York. They've earned the right to start to grow those businesses. I don't think that'll happen immediately, Jay, but I would expect that as we start to move into 2012, those businesses should grow as well.
Great. Questions from the audience?
I'd like to prime the pump with one more here. Tom, can you talk about the frequency and severity trends in auto as we hit sort of this rough patch within the economy? Is that a growing factor in terms of frequency?
So far this year, of course, there's two things impacting our auto profitability. One is how often people get in an accident, that's frequency, and then how bad it is when they get in an accident. The how often has been down this year for us. That, we believe, is part is good underwriting, part is just the economy. Frequency tends to be driven by, or no pun intended there, tends to be impacted by number of miles driven, which is also impacted by employment rates. As unemployment stays high and people aren't driving, gas prices are up, miles driven go down, and people get in fewer accidents. That's benefited us and the rest of the industry. From a severity standpoint, we've also had very good control this year. We've accelerated some of our claim processes to lower costs, still give customers what they need and deserve.
Accelerated reduces our expenses a little bit, so we're feeling good about both those. When you look at the combination of those two, the growth in expenses is lower than our growth in average premium. We're feeling pretty good about that in most states.
Just a question on the annuity business. You talked about that being a drag on returns.
Yes.
Can you just speak to, one, I don't know if you guys have talked about the amount of capital you have tied up in that business, and then also what you're doing, if anything, to try and mitigate some of those headwinds?
Okay. I assume you mean the fixed annuity business because our variable annuity business, of course, we sold in 2006. I'm glad we did. Wish I'd taken the opportunity to sell the fixed annuity business at the same time. I didn't, so we have a low return on that business. Allstate Financial has slightly over, it's about $3.5 billion of capital the way we look at it. The annuity business is a pretty decent chunk of that, not half, but a fair amount. The returns are subpar in that they're positive, but they don't have two digits to it, so it needs to be in the two-digit land. You could do that a couple of ways. You could get returns up, one, by just rolling the dice, going long on investments, and trying to play the yield curve.
We've chosen not to do that because we think rates will go up. We're intentionally keeping returns low because we don't want to invest long term, feel like we're getting a good return today, then the value of the bond portfolio will get crushed when rates go back up. We're a little short in our portfolio. Our duration of our assets is shorter than our duration of our liabilities. In part, we're waiting to position that portfolio when rates go back up. There are a number of people who have reinsurance offerings, would offer to take that off your balance sheet. It would look better from a reported earnings results because you would just take a loss on doing that. I don't think that's the right way to do it for shareholders. Anybody can raise ROE by writing off E. That's not our strategy.
Our strategy is do what's right. When rates go up, we'll be able to reposition that business with different investments. In the meantime, we're managing it pretty close, we've cut expenses, we've cut crediting rates, you'll see crediting rates actually improved. The spread improved last quarter because we're managing it a little more aggressively.
Can you expand upon the actions you're taking in the homeowners business to correct profitability? Secondly, talk about a timeframe of expectations in which we should see the returns get to where you want to go to.
Yes. First, we are assuming that the severe weather that we've experienced over the last three years will be the severe weather we'll experience in the future. If you believe that this is an anomaly you could wait, I suppose, and not do the things we're doing, and eventually expenses, your catastrophes will come down, and you'll make more money. That's not our strategy. We're assuming that expenses and losses will stay where they're at. What do you do about that? First thing is you got to raise prices. If you look at our price increases, we're up over 6%, 8%, depending which year you look at. We've been doing that since 2009, and we have a ways to go.
I think it'll take us another couple of years of pretty dramatic price increases until we get to a position where I think the business is properly positioned from a price standpoint. The second part, one of the biggest drivers of loss costs in the homeowners business with severe weather is roofs. Some people say, "Don't get a new roof. Wait until there's a hailstorm, and then you'll get new shingles, just pay that." What we have to do is redesign our product to have a different resolution of roofs. What we're doing is we're going to age rate roofs and also offer different coverage options. If your roof is 10 years old and there's a hailstorm, you're not going to get full replacement value on the house, you've cut the cost of that.
There's some other things we're doing in terms of the product itself, which I would say are 20% of the benefit, which is just a little better underwriting, looking at some stuff. That's operational stuff that you're always working on. The two big drivers will be higher price, lower roof cost.
Tom, could you discuss how the implementation of the Esurance acquisition has gone so far in terms of entering the, or getting more closely ingrained in the direct channel?
Yes. A couple of things about Esurance. First, we haven't actually closed on the transaction yet because we're still waiting for California to approve it. That hasn't stopped us closely with Esurance and with all the legal parameters around what you can talk about. We're not really allowed to talk to them about pricing, but there's a whole bunch of stuff we can do together from an operational standpoint. When you look at that transaction, some people think we paid a lot of money for it. Our view is it's not true. Our return, it's strategic. I showed you where it fits strategically for us. It's important for us to have Esurance so we can attack GEICO and Progressive with a direct shot and then position Allstate to go after the Personal Touch Loyalist. It's important strategically, but I didn't give up return to do that.
The reason we make money on the Esurance transaction is really threefold. First, with our brand name, they will be able to increase the consumer consideration, and they'll close more business from their advertising. We've proven that we're doing it, and we're working today with them to reposition the brand with some new advertising and potentially a new advertising agency. Secondly, the biggest driver economically is claim costs. They have $835 million of premium. We have about $24 billion, and about $17 billion in auto insurance. We know how to settle claims. We have people all over the country who can do it. They use some third-party adjusters. We can substantially reduce their claim costs by putting our claim protocols on their work. That drives a huge amount of economic benefit. Third, which is we haven't really been able to dig into much, is pricing.
We believe we have much better pricing in the preferred market than they do in terms of our insights and expertise in getting the right price for every customer. We believe that can also improve there. We've made a lot of progress. I like what we're doing together. We haven't paid our $1 billion yet for it. To a certain extent, we're kind of being able to take off on the runway without buying the tickets just yet. Any finals?