Earnings Call: Q4 2015

Feb 4, 2016

Good morning. My name is Jessa, and I will be your conference operator today. At this time, I would like to welcome everyone to The Hartford's Fourth Quarter twenty fifteen Financial Results Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question and answer session. Thank you. Sabra Pertil, Head of Investor Relations, you may begin your conference. Thank you. Good morning and welcome to The Hartford's webcast for 2015 financial results and 2016 outlook. The news release, investor financial supplement, and fourth quarter slides were all released yesterday afternoon and are posted on our website. In addition, there is a slide deck for today's webcast that was posted this morning. I would note that we expect to file the twenty fifteen ten K on February 26. Our speakers today include Chris Swift, Chairman and CEO of The Hartford Doug Elliott, President and Beth Bambara, CFO. Following their prepared remarks, we will have about thirty minutes for Q and A. Just a few notes before Chris begins. Today's call includes forward looking statements as defined under the Private Securities Litigation Reform Act of 1995. These statements are not guarantees of future performance and actual results could be materially different. We do not assume any obligation to update forward looking statements and investors should consider the risks and uncertainties that could cause actual results to differ from these statements. A detailed description of those risks and uncertainties can be found in our SEC filings available on our website. Our presentation today also includes several non GAAP financial measures. Explanations and reconciliations of these measures to the comparable GAAP measure are included in our SEC filings as well as in the news release and the financial supplement. I'll now turn the call over to Chris. Thanks, Sabra. Good morning, everyone, and thank you for joining the call. 2015 was a successful year for The Hartford. Core earnings per diluted share increased 15% over 2014. Core earnings ROE rose to 9.2 from 8.4%. Book value per diluted share excluding AOCI grew by 7%. We reduced debt by $750,000,000 and we returned $1,600,000,000 of capital to our shareholders. Doug and Beth will go into further details of our twenty fifteen performance, but I'd like to touch on a few highlights. First, property and casualty had a very strong year. The underlying combined ratio improved 0.5 to 91 and top line growth continued, reflecting an increase in new business and the benefit of pricing and underwriting actions we have made over the past few years. Group Benefits had a very strong year. The business generated a 5.6% core earnings margin, exceeding our plan and pivoted to growth with a 2% increase in fully insured ongoing premiums. We continue to execute on our strategy at Talcott Resolution. The business is running off steadily, returning capital to the holding company, and our hedge programs are working effectively. Our mutual funds business generated $1,500,000,000 of positive net flows in 2015, increased sales by 15% and delivered solid relative fund performance. And our ratings were upgraded by AM Best, Moody's and S and P, an affirmation of our improved balance sheet, operating performance and financial flexibility. We delivered these strong financial results and increased our top line momentum while investing in the capabilities and talent that are making us a broader and deeper risk player in a more efficient customer focused company that can deliver sustainable profitable growth. For example, the strong talent we attracted to the organization, particularly in underwriting, sales, data and technology is enabling us to judiciously expand into new market industry verticals. Doug will touch upon this in a moment. The investments we made in new systems, such as our claims system, our group benefits enrollment system and our middle market underwriting desktop are both reducing cycle times and importantly enhancing the experiences we are delivering to agents and customers. Our understanding of the business implications of accelerating technological change, shifting demographics and evolving customer expectations is informing the investments we are making in product, distribution and service. And recent marketing investments have increased the visibility of our iconic brand. For example, our sponsorship of Major League Baseball fully rolls out in 2016 and we recently announced the extension of our twenty plus year relationship with the U. S. Paralympics through 2020. As all of you know, the market is becoming increasingly competitive and the investment environment is less favorable. Consolidation amongst carriers as well as agents and brokers has accelerated. Legacy IT platforms are aging and are costly to maintain. We face disruption from the advent of big data, autonomous vehicles and new capital entering the market. Interest rates are low and are expected to be lower for longer. These dynamics are challenging insurance companies to reevaluate their operations and to adapt. We believe The Hartford is well positioned to address these challenges and to take advantage of the market opportunities they present. We entered 2016 with a strong portfolio of businesses and capital flexibility. We remain focused on organically growing each of our businesses and we will explore acquisitions that meet our financial and strategic objectives. We will maintain underwriting discipline and tightly manage expenses to support ongoing investments in the capabilities and talent needed to be a top of mind company for the products we offer through our distribution partners. And we will continue to expand our core earnings ROE excluding Talcott with business performance and effective capital management that returns excess capital to shareholders. Our 2016 outlook for core earnings is $1,575,000,000 to $1,675,000,000 Excluding Talcott, this range represents core earnings growth of approximately 5% adjusted for favorable cats and other items in 2015. We also intend to complete our capital management plan, including the $1,300,000,000 of share repurchases. In closing, let me express how proud I am of what we accomplished in 2015 and my sincere thanks to our leadership team, our employees, agents and customers, and our investors for their continued support and confidence. We have a clear strategy, an experienced and stable management team, a powerful national distribution network, differentiated products and a brand that stands for strength and integrity. As we enter 2016, I am confident in our ability to navigate this dynamic and competitive environment and continue to create shareholder value. Now, I'll turn the call over to Doug. Thank you, Chris, and good morning, everyone. I'll provide an overview of our 2015 results in Property and Casualty and Group Benefits and then share some thoughts as we look forward to 2016. '20 '15 was another year of strong financial performance with improved results in Commercial Lines and Group Benefits. In Personal Lines, results were below our expectations, but we remain pleased with the trends of our ARP Direct business and the progress we've made to reposition Agency. Let me get right into our financial results. In Commercial Lines, we delivered over $1,000,000,000 of core earnings for the full year on an all in combined ratio of 92.6, eight tenths of a point better than 2014. The underlying combined ratio excluding cats and prior year development was 90 for the year, representing 1.5 points of margin improvement. Recall that 2014 included a $49,000,000 pretax benefit from New York Normalizing for this, the underlying combined ratio improved 2.3 points. This was driven primarily by improved results in workers' compensation, general liability and non cat property losses. Renewal written pricing in standard commercial lines was 2% for both the full year and the fourth quarter. In workers' compensation, our largest and most profitable line of business, loss trends continue to emerge favorably and as a result pricing has flattened relative to the prior period. Conversely, commercial auto pricing was in the high single digits reflecting adverse loss experience throughout the year. On the top line, written premium of $6,600,000,000 was up 4% from 2014 with growth across small commercial, middle market and specialty commercial. Let me provide some details on each of our commercial business units. In small commercial, the underlying combined ratio of 86.6 was 0.4 better than 2014. Written premium grew by four percent, driven by strong retentions and $545,000,000 of new business, an increase of $24,000,000 or 5% year over year. New business growth in the fourth quarter was the strongest for the year at 9%, capping off another excellent year for this business unit. In the summer of twenty fifteen, many of you were with us at our Charlotte operation, where we demonstrated the core building blocks that formed the foundation for our market leading small business platform. These include our new business submission technology, ICON, our underwriting and service centers that handle over 2,000,000 calls annually from customers and agents, and our sales team that is relentless in partnering with distributors. Hopefully, you're better able to appreciate how these capabilities seamlessly intertwine to deliver the results we posted in 2015. In middle market, we made solid progress with the underlying combined ratio of 91.4, improving 3.1 points from 2014. Written premium growth was 3%, retentions were solid throughout the year and new business production of $474,000,000 was up for a third consecutive year. The second half of twenty fifteen was certainly more challenging and we saw that during the fourth quarter with new business premium down 13%. We're encouraged by the results in construction and marine, both of which posted strong new business growth and profitability in the fourth quarter. In Specialty Commercial, the underlying combined ratio of 98.8 for the full year improved from 100.2 in 2014. This was driven by strong performance improvement in bond and financial products. National accounts achieved nearly 90% account retention and posted positive written premium growth. Bond written premium growth was modest as we have yet to see a pickup in public construction projects. And financial products gained traction with the growth in middle market and technology ino, two strategic priorities for the year. Overall, specially written premiums were up 3%. Shifting over to personal lines, we delivered 185,000,000 in core earnings, down 12% from prior year. The underlying combined ratio of 92% deteriorated 1.4 points from last year, driven mainly by higher auto loss costs and increased non weather losses in homeowners. In personal lines auto, we experienced frequency trends above our expectations in the second half of the year. Our full year frequency trend is under 2% with the third and fourth quarters running at approximately 3.5% to 4%. We saw an increase in the summer months largely due to increased miles driven. Trends in September and October were quite benign as was the early read on November. In December, there was another uptick in frequency mainly in liability. Some of the claim activity in December related to November accidents causing the November frequency to develop several points higher than our initial indication. And we also had relatively favorable trends in those months of 2014, setting up challenging comparisons for the fourth quarter. We continue to hone our rate plans and underwriting actions to address these frequency trends as the data matures. But it's clear to us that these patterns are a new norm and will be addressed in our rate filings. Now let me turn to group benefits. Core earnings for 2015 increased to $195,000,000 up 8% from 2014. That results in a core earnings margin of 5.6%. The full year group disability loss ratio was favorable compared to prior year, reflecting our ongoing pricing discipline and favorable incidence trends. The group life loss ratio deteriorated due to slightly higher mortality and claim severity. Looking at the top line, fully insured ongoing premium ex association FI increased 4% for the full year. Overall book persistency on our employer group block of business came in at approximately 90% for the year. And fully insured ongoing sales was $467,000,000 up $141,000,000 20 15 was a very strong year for group benefits. First quarter sales were outstanding followed by solid activity throughout the year. The overall loss ratio remained steady and had attractive margins, while the expense ratio ex association FI decreased 1.1. All these drivers contributed to an increase in the core earnings margin during 2015. We were especially excited to welcome back several large customers as further evidence of our outstanding service and product capabilities. As we wrap up 2015, we're pleased with our continued financial progress and by the growing market strength of each of our businesses. Before I turn things over to Beth, let me offer a few comments on 2016. Although we're facing near term pricing and competitive challenges, we remain committed to our long term objective of profitable growth. Each of our business units has core initiatives underway for 2016. In small commercial, we're adding to our digital capabilities as customers and distributors demand more access and convenience. And we're expanding our product and underwriting capabilities to accommodate both larger accounts and broader coverage on our platform. In middle market, our priority is competing effectively at the front line, leveraging our talent with the tools we've introduced over the past several years. Through advanced training and rigorous analytics, our field underwriters are continuously improving our risk selection and pricing decisions. In product development and related areas such as claims and risk engineering, we're extending our capabilities in industry verticals such as construction, auto parts manufacturing and hospitality. Taken together, these actions allow us to effectively become a broader middle market player. Within Specialty Commercial, we'll roll out a new risk management platform for national accounts, allowing customers better access to claim data and other information needed by risk managers. This investment further strengthens our value proposition in this competitive market segment and will allow us to work more closely with our customers to improve long term account performance. We expect our overall commercial lines margins to remain generally stable with an underlying combined ratio between eighty nine and ninety one. We will remain disciplined with our pricing and underwriting actions, managing both long term loss cost trends as well as individual account performance. In personal lines, we have three overarching goals. The first is to improve the margins of our products, both auto and homeowners. We're investing in capabilities to better harness data and analytics and thereby refine and manage our underwriting and pricing. Second is to maximize the value of our long term partnership with ARP. Investments in digital tools, contact service capabilities ARP. Investments in digital tools, contact service capabilities and direct marketing effectiveness are all designed to attract and retain more ARP members. And third, we will leverage the agency channel to target ARP members and other customer segments that value the expertise of agents who actively seek the benefits of our product suite and who value our service model. We expect to achieve a personal lines underlying combined ratio of 90 to 92. In group benefits, we're looking to drive growth in our core employer group offerings as well as our voluntary product suite. Our current voluntary lineup includes disability flex, critical illness and accident. We will add Hospital Indemnity in the first quarter twenty seventeen. These products along with our enhanced enrollment and marketing tools help individual participants make sound decisions for their unique benefit needs. We expect our group benefits core earnings margin to be relatively stable between 5.56%. First quarter twenty sixteen renewal retention is strong as is new sales activity. January sales are well above our five year average, but down versus a year ago. Recall that 2015 was in many years was in many ways a unique sales year recovering from low market activity in 2013 and 2014. Overall, 2016 will be a year of competing in an aggressive and disciplined manner. Competition has intensified versus a year ago. We're putting our investments in enhanced capabilities to work to maintain our margins in commercial lines and group benefits and improve financial performance in personal lines. We will continue to identify opportunities for profitable growth and we remain committed to smart product and underwriting expansion, building deep partnerships with our distributors and delivering outstanding value to our customers. In summary, we're very pleased with the successful year in 2015 and are looking forward to continuing our journey in 2016. Let me now turn the call over to Beth. Thank you, Doug. Today, I'm going to cover Talcott resolution, the investment portfolio and full year results before turning to our 2016 outlook and financial goals. Talcott's full year core earnings summarized on Slide 19 rose 9% from the prior year to $472,000,000 much higher than our original outlook due to a tax reserve release, increased limited partnership income and non routine investment income such as make whole payments. Excluding these items, Telkot's results were largely in line with the February 2015 outlook of $340,000,000 to $370,000,000 On a statutory basis, Telkot's surplus during 2015 increased by approximately $375,000,000 before dividends to the holding company. Year end surplus was $5,000,000,000 which corresponds to an RBC of approximately 550%. In mid January of this year, the Connecticut department approved our $500,000,000 dividend request and it was paid to the holding company last week. This payment completed Telkot's one point five billion dollars capital return program that we announced in February. In addition, we expect to request a dividend of approximately $250,000,000 in the second half of twenty sixteen. For 2016, we expect Talcott core earnings in the range of $320,000,000 to $340,000,000 This outlook is based on the continued runoff of the VA and fixed books and does not include items like tax reserve releases or significant non routine investment income that we had in 2015. I would note that our outlook does assume market value appreciation from year end 2015 on VA accounts and therefore there is some sensitivity to market levels. Statutory results for 2016 will depend on many factors such as the level of admitted deferred tax assets, cash flow testing reserves, limited partnership and non routine investment income and other items that may create volatility. Based on the underlying assumptions in our outlook, we expect statutory capital generation to be in the $200,000,000 to $300,000,000 level, although as we experienced during 2015, it can vary a lot between quarters. Looking forward, our objectives for Talcott have not changed. We expect to maintain Talcott's capital self sufficiency. Consistent with the past few years, we provided you an update of Talcott's capital margins on Slides thirty and thirty one in the appendix, which are based on the market scenarios summarized on Slide 32. Pro form a for the $500,000,000 dividend in January 2016 and the additional $250,000,000 expected in the second half of twenty sixteen, Telkot stress scenario capital margin at year end 2017 is expected to be approximately $1,600,000,000 well above our 200% RBC minimum. This result gives us confidence that Talcott will continue to return capital to the holding company in 2017, although the actual amount and timing of 2017 dividends will depend on final 2016 results, market conditions, liquidity needs, as well as the composition of surplus. And as a reminder, any dividends require regulatory approval. Given recent capital market volatility, I wanted to touch on our hedging programs for Telkot. First, our hedging programs have been effective against their targets and due to the sale of Japan, we have far less volatility in our reported results. Our hedge programs target the economics of the VA liabilities, which means that gains or losses on the hedges mostly offset the changes in the economic liability to policyholders. Within the VA GMWB liability, we are largely hedged for equity exposure, although not for fees, and we are not entirely hedged for interest rates. Second, while our hedge programs are a key tool for maintaining Telkast capital self sufficiency, we will continue to have capital sensitivity to stress scenarios, including credit risk and interest rate exposures on the fixed and institutional annuity blocks. You can see these impacts on Page 32 of the slides, which shows the key changes in capital margin in the stress and favorable scenarios versus the base case. Lastly, on Telkot, we completed our annual assumption update in the fourth quarter, which takes into consideration recent experience, including withdrawals, surrenders, mortality and operating expenses. We adjusted some assumptions, including lowering surrender rates, which had a modest negative impact on fourth quarter net income. Turning to investments on Slide 20. Total impairments for the quarter were $107,000,000 20 fifteen's impairments are up from $63,000,000 in 2014 largely due to intent to sell impairments on energy and other commodity related securities. As for our energy related securities, our holdings totaled $3,700,000,000 at December 3134 and declined to $2,500,000,000 at year end as we actively reduced our exposure during the course of the year. We believe these investments are well positioned for a lower for longer oil and commodity price environment and we will continue to manage these holdings. During the year, we upgraded the average credit quality of our below investment grade portfolio, which totaled $3,200,000,000 at year end 2015. As you can see on Slide 20, we increased our exposure to BB bonds and decreased our exposure to bonds rated B and below during the year, including some below investment grade energy exposures. Turning to Slide 21, exposures. Turning to Slide 21, our portfolio yield excluding limited partnerships has held up reasonably well, averaging 4.1% largely consistent with last year. However, excluding non routine investment items, the yield is down about 10 basis points from 2014. The P and C portfolio yield excluding limited partnerships declined to 3.8% in 2015 from 4% the year before, reflecting the impact of lower reinvestment rates. As a reminder, the P and C yield is lower than the consolidated portfolio due to its shorter duration. Consistent with the decline in yield, 2015 P and C net investment income, including limited partnerships declined 4% to $1,170,000,000 In total, twenty fifteen core earnings increased 7% to $1,650,000,000 or $3.88 per diluted share, which you can see on Slide 22. The core ROE rose to 9.2%, an 80 basis point improvement from 2014 and book value per diluted share excluding AOCI at December 3135, rose 7% to $43.76 compared to 4% growth in 2014. Taking together the $0.78 in common dividends per share and the increase in 2015 book value per share ex AOCI equates to total value creation of 9% per share. Let me provide a quick update on our capital management actions for the last quarter and the year. During the fourth quarter of twenty fifteen, we repurchased $450,000,000 of shares, a little higher than the $425,000,000 we indicated at the Goldman Sachs conference in early December. We also repaid $160,000,000 of debt that matured in the quarter. For the full year, our equity repurchases totaled $1,300,000,000 and we used approximately 800,000,000 to reduce debt, while paying more than $300,000,000 in common stock dividends. As of 02/03/2016, we have approximately $1,200,000,000 remaining out of the $4,375,000,000 authorization for equity repurchases from sixteen. For debt management, we have $455,000,000 remaining under our plan. I'll touch on our 2016 outlook shortly, but wanted to note that our 2016 outlook assumes the completion of this capital management plan by December 3136. Turning to Slide 24, I draw your attention to expanded disclosures in the IFS for ROEs. As of December 3134, we began providing legal entity balance sheets on Page four of the IFS. Beginning this quarter, we are providing additional ROE disclosures, so you can now evaluate net income and core earnings ROEs in total as well as excluding Talcott. In addition, we have provided individual ROEs for P and C combined companies, group benefits and mutual funds. As noted on this chart, our core earnings ROE excluding Talcott was 10.9%. P and C is the largest driver of this result with a 2015 P and C core earnings ROE of 13.5%, offset in part by the impact of the corporate segment, which has a lower ROE due to cash and liquid assets at the holding company. Telkast's core earnings ROE was 6.2, about two percentage points higher than its run rate adjusted for the tax benefit and favorable investment results in 2015. Increasing our core earnings ROE to exceed our cost of equity capital has been an important goal for The Hartford over the past few years. In 2015, we closed that gap by achieving strong financial performance and a lower beta driven by the reduction in risk and volatility as a result of our strategic and financial transformation over the past several years. Before covering our 2016 core earnings outlook, which you can see on Slide 25, I wanted to let you know that this will be the last year that we provide a core earnings based outlook. Between the business sales in 2013 and 2014 and the financial disclosures that we provide in the IFS and our SEC filings, The Hartford is a much simpler company to analyze and model. Given many factors that cause a P and C company's results to vary, including catastrophes, prior year development and investment returns, the vast majority of public P and C companies do not provide earnings guidance. However, we expect to continue to provide our outlook for financial metrics and capital management that will help you develop your earnings forecast. Turning to 2016, our core earnings outlook is a range of $1,575,000,000 to $1,675,000,000 summarized on Slide 25. At the midpoint of the range, this equates to growth of about 5% over 2015 normalized for favorable cat and unfavorable prior development and excluding Talcott. The table on this slide includes several of the financial metrics included in this outlook, which were included in the news release last night. I would note that this year we have an outlook for P and C net investment income, excluding limited partnerships, of just over $1,000,000,000 down 3% at the midpoint from '15. As I stated earlier, our outlook assumes the completion of our capital management plan. At December 3135, holding company cash and short term investments totaled $1,700,000,000 In addition, we anticipate about $1,100,000,000 in dividends from our P and C group benefits and mutual fund businesses and $750,000,000 from Telkka in 2016. These amounts are more than sufficient to complete the current capital management plans while also covering 2016 interest expense and dividends and maintaining holding company liquidity above target levels. Finally, before turning to Q and A, I want to reiterate that 2015 was a successful year, both financially and strategically. Our strategy has not changed, and in '20 we remain confident in our ability to make progress on our operational and financial objectives as we have done over the past several years. While markets are more challenging, our financial strength, capital flexibility and underwriting and expense discipline are important competitive advantages that will help us continue to create shareholder value. Chris and Doug shared many of our operational objectives for 2016. In addition to our 2016 outlook, our financial objectives in 2016 and beyond include the following: continuing to expand our core earnings ROE excluding Telkot efficiently manage the runoff and return of capital from talcotte while maintaining its capital self sufficiency, redeploy the excess capital generated by our business to create greater shareholder value and generate average total value creation of at least 9% as measured by common dividends paid plus growth in book value per diluted share ex AOCI. I will now turn the call over to Sabra so we can begin the Q and A session. Thank you, Beth. Just a reminder that we have about thirty minutes for Q and A, which means we might run a little past the ten a. M. Deadline when some other calls begin. If you have to drop off or we don't have time to get to your question, please e mail or call the IR team and we'll follow-up with you as soon as possible today. Jessa, could you please repeat the instructions for Q and A? Certainly. And your first question comes from the line of Jay Gale from Barclays. Please go ahead. Thanks and good morning and thanks for the additional disclosure on return on equity. With regard to however you want to look at on an overall basis or core basis, do you think Hartford has the ability to to maintain or even potentially exceed a bit that 9% outcome on return on equity that it delivered this year? Jay, it's Chris. Nine point two percent is what we delivered this year on a core basis. And thanks for acknowledging the expanded disclosures that Beth and the team have put out there. We think it's important that you really continue to see the progress that we can make going forward. So as I really sit here today, the 10.9% core earnings ex talcot, as Beth described, it really does exceed our cost of equity capital today, which we judge probably in the 9% to 9.5% range. If I look forward in 2016, I do think we could improve that 10.9%. So when I say that, really what I mean is, if you look at the plan that we outlined, including normal cats, we achieve our NII outlook, we maintain in the margins that Doug and his team are focused on and we execute the capital management plan. I think that core earnings ROE ex tel cut could increase by 50% by the end of 'sixteen basis points, excuse me, 50 basis points. That's great. Thank you. And then I just have one question on the guidance. In the P and C other operations, which includes a drag from legacy liabilities like asbestos, it's been negative for the past few years. And I'm just wondering why Hartford isn't including any impact of that in 2016 in the guidance? Yes. This is Beth. I'll take that question. So we make our best call each year on what we anticipate for our A and E reserves. And to put a bogey out there as far as what we would could expect for prior development, we don't really have a basis for doing that. The last several years, obviously, we have seen charges, years before that we didn't. And we'll continue to evaluate the A and E reserves in the second quarter like we've done before. Also note, we don't actually estimate any prior year development except for the accretion of workers' comp discounts. So it's very consistent with how we look at things overall. But it is something that we obviously take into consideration and think about as we think about our expectations for 2016 and we'll make the call on what the reserves need to be at the time we do the study. Right. So if we were for our own models, if we were to put something in for prior development on issues like asbestos, that would detract from the objective. Yes. Guidance? Yes, we have not included an estimate for prior development in our outlook. And Jay, the 50 basis point improvement I talked about obviously does not include that either. So as Beth said, we don't really outlook favorable or unfavorable development at this this point. I understand. Thanks again. Just one thing before I take another question, Sabra. I just did want to clarify that in my remarks, I called that our impairment for the quarter were $107,000,000 That was actually a full year number, not the quarter. Your next question comes from the line of Cliff Gallant from Nomura. Please go ahead. Thank you for taking my question. I want to talk a little bit about workers' comp and what kind of loss trends you've been seeing there over the last year? And then in terms of your guidance, what are you assuming going forward? Cliff, good morning. This is Doug. Our indications across our frequency and severity triangles these these last several years have been very favorable. 2015, our frequency still is small single digits negative across all our markets. Severity is a bit too early to predict on that tail line, but we're seeing favorable symptoms even at twelve months on the 2015 accident year. So very pleased about the last three to four accident year indicators inside our loss triangles and it has been a driver of our improvement in profitability for sure. In 2016 moving forward, we don't see a major change in the environment, but we're still predicting that we're going to see medical inflation and indemnity severity based on wage and medical as we expect over the lifetime of these workers' comp claims. And frequency, I think it's a pretty flattish scenario in the frequency world. Okay. All right. So when we think about the guidance and that eighty nine percent to ninety one percent, I mean, obviously those are very good numbers, but you could it could be painted as somewhat conservative in terms of how your outlook as well. Yes, I'll let you pick the word. What I would say is that we're pleased with progress. It has particularly in middle market, this line has gone from at the bottom of our profitability curve to near the top and we're trying to do everything we can to maintain that level of profitability in our book. Okay. Thank you. Your next question comes from the line of John Nadel from Piper Jaffray. Please go ahead. Thanks. Good morning, everybody. The one on personal lines, I guess, Doug, you had mentioned in your prepared remarks that in auto that you believe the pattern of higher frequency is a new norm. I guess the question I have in response to that comment by you is the 6% level of renewal rate increases, does that appear sufficient as you look forward now based on this expectation that the higher frequency is a new norm? So John, thanks. I guess I would say this first about 'fifteen. First, the first six months of twenty fifteen really were very quiet vis a vis frequency and then obviously very different patterns back half of the year. As we move forward, we're reflecting kind of the increased economic activity, which has got a lot of features to it as you know. We weren't quite sure and we certainly didn't have that tenor when we were with you in October when we talked about the third quarter, but it's more than a blip. We think it's going to be with us and therefore we're building those patterns into our longer term framework and I would say there's upward bias on our pricing actions moving forward, yes. Got it. Thank you. And then just one quick one on talcot, Beth. I think you had mentioned that if we had normalized 2015 for some of the unusual items that the earnings would have been in the range that you guys had originally provided. If you compare that against the 2016, it looks like you're calling for sort of a core or a core or normalized high single digits pace of earnings decline. Should we think about that as a longer term trend as well in that is there really anything that should change around the pace of the runoff of the underlying blocks of business within Talcott? Yes, I would say over the near term that is a reasonable estimation of the decline. So again, a large portion of the income that comes in on Talcott is from the VA book and the fees there. So is that continues to see surrender activity there, you'd continue to see decreases in those earnings. So in the near term, I think that's a reasonable expectation. Thank you very much. Have a great day. Your next question comes from the line of Michael Nannitsky from Goldman Sachs. Please go ahead. Thanks so much. Just a couple of questions on maybe personal lines again, but this time on the homeowners side. I mean, clearly, when we looked at the whole P and C operations, middle markets and homeowners were areas for improvement, for harvesting some improvement at the beginning of the year. You've clearly done that in middle markets. Where are we in homeowners? And it would just seem that like now is probably a pretty good time to be fixing that business. Can you just sort of give us an update on where you are and what sort of margin improvement are you anticipating in your outlook for 2016? Thanks. Good morning, Mike. This is Doug. Hey, Doug. We are working hard and you know that across both auto and home. I would say this on the homeowners book. Number one, our ability to price peril and properly underwrite through all those perils is going through a vigorous review. We're looking at our underwriting and risk characteristics. We're looking at agency management actions. So really for both lines, we've made quite a few changes in the past twelve months. We're down about 2,200 agencies that have underperformed for us over a longer period of time. We're going to continue to look at agency actions. In the ARP agency world, we have deauthorized over 2,300 contracts in the last six months. So we're looking at every lever available to us both on the home and auto side encouraged by progress on both. But it's going to take time for those actions to earn their way into the book of business, which is why I think we're trying to be thoughtful and conservative as we play 2016 out. Got it. And did you have can you do you have a notion of for the year you ran it to '77 give or take for homeowners to kind of square up with that guidance you provided for personal lines? Is that where you're assuming some of that margin expansion comes in? Yes. We have hopes for improvement on both auto and home. I would say that if you looked at our cat performance over a longer than one year period, we think that we can be a more thoughtful cat underwriter in the homeowners arena. Again, we're looking at perils inside our products. So, yes, between agency actions and underwriting actions on our own part, we do expect to see improvement in home over the next year to two. Got it. And then just back to middle markets for just a minute. With that, the gap there between middle and small is now 400 basis points or under 400 basis points. Do you feel like now kind of taking a step back and looking at the work you've done and sort of what you've achieved? I mean is that is this is there anything sort of one time here in the fourth quarter? Do you feel like this is a good starting point for you and or looking at that sort of differential to small commercial? Is that kind of drag what you would expect and potentially could we see that gap close further? Thanks. Mike, I'd love to see that gap close a bit further. But let me just offer a couple of comments. Number one, very pleased with the outstanding performance in small commercial. I think across the marketplace and historically against our own book of business, we're in a very solid spot and would like to grow and maintain that margin going forward. So that's a thought around small commercial. In the middle arena, a bit more duration matched here. So this is a book of business that has improved mightily over the past four years. We're watching the yield curve because duration does matter. Workers' comp is a key line here as it is in small. It's been a while since I've reported a quarter with 89XX in the middle in my career. So pleased with progress. I would say that between the pricing environment that we continue to compete in and the yield environment that affects our portfolio, we're going to stay close to those dynamics and be thoughtful in terms of our choices risk by risk as we move through time. And also as Chris has shared with you, we have geography goals and we think there are other places in the country that we can find and build new relationships and be able to leverage our products that are really very solid in the marketplace. So like the progress, I think we can be a much bigger, broader player over time in middle. Great. Thanks so much. Your next question comes from the line of Jay Cohen. Please go ahead. Yes. A couple of questions. One, you had mentioned, I guess, pretty notable reduction in the number of agents. Should we be factoring that as having an impact on your top line growth in personal lines? If you look at our fourth quarter performance, Jay, you can see some of that playing out because that's one of the lines is down. It's down most substantially relative to the other personal line lines. It's not 50% of our agency book, but it has disproportionately impacted our profit inside the book of business, Jay. So I don't think you have to make major top line modifications. I think you're going to probably see more quarters moving forward like what you saw in the fourth quarter. But we do expect to see some positive development inside our triangles from some of these actions. Got it. Secondly, on the small commercial side, one potential major competitor is planning to form a kind of direct distribution platform with small commercial. Two questions on this. One, do you think this has a chance of succeeding? Secondly, if yes, is Hartford well positioned to essentially explore that channel if in fact people want to buy that way? Hey, Jade, it's Chris. We're very aware of market developments and activities, whether it be from traditional players or new players into the marketplace. And ultimately, you're probably not going to like this answer, but time will tell. But if you look at what it's going to take it to be successful, product, service, brand, reputation, claims, I mean, it's, I'll call it an entire business model you have to be good at to keep customers for the long term, which we've been particularly very pleased and proud of our retention. So with $3,500,000 of premium and upstarts, they're going to try and we'll have to have a response, which we'll be prepared for at the right time to counteract any other measures in the marketplace. But I like our beginning point, but we're also very watchful as far as developments in the marketplace. Got it. Thanks, Chris. Your next question comes from the line of Meyer Shields from KBW. Please go ahead. Thanks. Another two personalized questions, if I can. One, Doug, can you take us through the mechanics of the policies that are served by the agents that have been terminated? I'm asking really whether that impacts the expense ratios going forward? So we have contracts with individual agencies, both first lines and commercial contracts, Meyer. And we obviously have to abide by the provision. So there are extended contract periods. So some of them have a six month, twelve month provision that we will continue to be partners. And then at some point in the future, that business will move elsewhere. They do shift and are not exactly the same throughout the country, but we're adhering to them. On the expense side, I think we're working hard to manage our expenses appropriately given what may happen to the top line. So I don't think you have to do anything different to your models on the expense side, Chris. I would just offer, Maher, just a context here. So agents across our platform are very vital to our success. So when we talk about shrinking agents, particularly in the independent agency side, I think it's important you have the context of market segment. So our strategy here is to have meaningful relationships plant because that will dictate, I'll call it long term success with retention, growth and profitability. Those agencies, particularly in personal lines, that we don't have that type of relationship with is the targeted area here for shrinking. On the other side, particularly given our ARP relationship and the importance of agents to certain ARP members that want advice and counsel, we want to continue to support those independent agents that have the ability to attract and retain ARP customers for the long term. So it's very targeted here our actions. I don't want you to have the impression that we're getting out of independent agency channel and personal line. We're fine tuning the definition of success ultimately from a growth and profitability side. Amar, what I would say two other points that I would like to add. Number one, our research, which we've worked on now these past couple of years shows us that many of those ARP members do indeed prefer to work with an agent. So we're excited about the progress we've made there. And secondly, my comment about the number of agents that have been deauthorized for ARP, those were essentially relationships that had not leveraged the value of what we thought we brought to the table with this enhanced offering. So in the case that they haven't leveraged that, we'd rather be contracted with those that are using it. And we think there's great value there and working like crazy to build a very, very positive profile of customers that value our brand and our ARP members. Okay. That's very helpful. Thank you. Second question, when you look at the different channels that you've got, ARP, ARP agency, etcetera, is there a difference in terms of frequency shifts by channel? Are you seeing, I would expect, less uptick in ARP? Is that panning out? As we look at our trends across 15, they're essentially very consistent across the channel. So our frequency uptick in third quarter and also fourth quarter as well as the very flat profile for the first half of the year were essentially consistent across channel. I think that leads you down a path toward this economic dynamic with weather in the fourth quarter and a summer month vacation schedule in July and August that we felt the impact of as did many others. Okay, great. Thank you very much. Your next question comes from the line of Randy Binner from FBR Capital Markets. Please go ahead. Hey, thanks. I got a couple more on personal lines. I guess the first question is, there was a notion I think as early or as recently as last commerce call that the AARP book was a more mature group of individuals who are safer drivers. And so I just want to check-in on that dynamic. Is that overtaken by the, I guess, the miles driven argument that's going on here? And if you quantify this, I missed it, I apologize, but what are you getting on auto pricing, price increase wise? Is it 4%, five %, six %? It'd be nice to hear that quantification because we are getting those numbers from other carriers. Randy, it's Chris. Let me just take just step back and then Doug and I will partner on this one here. So I think your point on ARP is still generally true, but if you look at sort of the progression of activity over the last twelve months, Doug said it earlier, first half of the year is relatively benign from a frequency side and we are experiencing normal severity trends in the two percent to three percent. I think what happened in July and August, we saw a little bit of a pop in frequency. Then September, October, it went back to sort of normal in that zero percent to one percent range. And Beth and I then had an opportunity to speak at a conference in early December, where then we gave an indication that we thought November would be in that one percent range also and sort of smooth out the year. But as we got into December, we had another sort of blip in frequency and that impacted our calls on how we thought ultimately November frequency would develop. So there's a little bit of a lag factor that you have to put on these frequency trends. So when you put the third and fourth quarters together, as Doug said, we're in that 3.5% to 4% range. I think our thesis still is that economic activity, defined by low employment, miles driven up due to lower gasoline prices coupled with particularly in November, December some weather in the Southeast, Midwest and West, whether it be rains at California experienced and California is our largest personal line state or other weather activity. All that contributed to, I'll call it the increased in frequency incidences. That said over a longer period of time, the ARP book is still, outperforms a mass market book. So that when we're talking about 3%, three point five %, four % frequency increases, We still think that is a lot lower than a broad mass market increase in frequency. So, as Doug said, we are beginning and have, particularly with a fourth quarter filing in a couple of our one of our large states, we have in essence reflected this new level of activity in our filings and we'll continue to do that in 2016 and earn that out and manage other actions and earn that out and manage other actions such as underwriting or agency management actions as Doug described. So I think that is the context that I just would have you to keep in mind. So Doug, would you follow-up? Chris, I think you hit most of the major points. I think maybe a few to add. One is, I would not underestimate our view of how much the non rate activity should improve our performance over time, Randy. So these agency actions and really becoming a better underwriter, I'm thinking about selection and undisclosed drivers and appetite management and geography. Those are all meaningful priorities for us and we expect over the next year to two years. That's point one. Point two is, I don't think the dramatic change in our numbers were quite as dramatic as some of the other carriers we competed with. So yes, our frequency was not flat for the second half of the year, but it was mid single three ish, three to four. So that's not eight, ten, 12. It's having an impact on our filings. It will be proportional to state, but we wanted to send the message today that we're not just at a point where we're thinking it was a blip on the radar and we're not going to adjust our patterns going forward. Okay. Thank you for all that. So the price your price would be something like 2% to 3%. Is that the right way to think of it? Our price filings are still in that mid single digit range and probably will increase from there in auto going into 'sixteen. Got it. Okay. Thank you. And Randy, it's Chris. All I said is I mentioned, severity is not zero either, right? So I mean, there are still more expensive cars and bumpers and devices to fix in cars when there are accidents. So I just want to be clear that severity is in that 2% to 3% range also. Great. Thank you. Your next question comes from the line of Eric Fass from Citigroup. Please go ahead. Good morning. Thank you. Can you remind us about the composition of your alternative investment portfolio? And in your guidance, I think you assume a 6% return for the year, but do you have any early read on the first quarter results just given the market decline that we've seen year to date and the lag in reporting for some of the funds? Eric, Beth could get that to you, but I would just and she'll focus on first quarter. First quarter is going to start out soft here just given market activities in the lag. Yes. So a couple of things. And we do provide a breakout of our partnership investments in our 10 Qs and Ks. So you can see the update, obviously, when we filed a K at the end of the month. But when you think about our total partnerships, where we ended 2015 at about $2,900,000,000 of assets, about $1,200,000,000 well, $1,800,000,000 of that is in private equity and real estate funds and the rest would be in hedge funds. And when we think about our returns in total, we plan for a blended sort of 6% return. We anticipate higher returns in the private equity funds and a bit lower in the hedge funds. And as Chris just said, as we think about first quarter, a couple of things to keep in mind for the private equity funds, those are on a quarter lag. So what we report in first quarter will really be where they ended 2015 at and for the hedge funds, they're at about a one month lag. And looking at what we expect to see for January results, we expect to see a little bit of downtick in the hedge fund performance and we'll just have to see how February comes in to see where we actually close the quarter. Got it. Thank you. And then Beth, if you could just clarify one thing on talcad. I think you for your guidance, I think you mentioned that it's as of the market at twelvethirty one. Can you just give us a sense of how much impact the equity market movements have on earnings for Talcott now given obviously the shrinking of the VA book? Yes. So a couple of things. So as a rule of thumb, what we typically look at is that for every 1% change of an annualized look at S and P, that's about $2,000,000 to $3,000,000 of core earnings. So when you think about how markets have declined since year end and sort of extrapolate that, right now looking at it, you'd probably say about $15,000,000 after tax sort of pressure on the core earnings number. Got it. Thank you very much. Your next question comes from the line of Thomas Gallagher from Credit Suisse. Please go ahead. Good morning. A few questions. First is, just in terms of your energy exposure, if you could start with that, Can you comment on it looks to me like you've been one of the more proactive companies in terms of derisking from a credit standpoint on energy. Would you say you're pretty much done with with the significant reduction of that portfolio? And also related to that, how much of a gain did you book on the derivative that was short oil as an offset against some of these impairments? Tom, it's Chris. I appreciate the observation of our proactivity regarding risk. So, yes, we had been very proactive with our HIMCO investment management professionals, our Chief Risk Officer, Beth, self. So, we did make some early moves that turned out to be good and wise. Beth could give you the details on the exact percentage decline, but we took out approximately $1,000,000,000 of oil holdings in our portfolio and we did that. We also decided to put on a more of a catastrophic hedge on oil prices if it crashed for a long period of time. But Beth, would you just comment on some of the details? Yes. So a couple of things. So as I said, we ended the year with our portfolio at about $2,600,000,000 about 91% of that is in investment grade securities. And then a little obviously, they'll rest in below investment grade with 74% of that at a BB rating. So as we sit here today, we feel very good about our holdings. And as always, we'll continue to monitor it. And so if there are other actions we need to take, we would take them. But right now, we feel very well positioned with all of the actions that we took over the course of 2015. As it relates to the oil hedges, as Chris said, we put that on in early twenty fifteen, because as we looked at our portfolio, we knew that we did want to reduce our exposure there and we wanted some protection, so that if prices were to decline significantly before we were able to do that, we had some offset. So actually the hedge position we unwound mid December because we're basically done with our activities and we recorded a modest loss of about $9,000,000 on it before tax. But again, overall, very, very happy with the actions that we took and the position that we find ourselves in today. Okay. Thanks. And then next question is just on the group benefit side. Doug, can you comment on results are softer this quarter. It looks like you're assuming margins consistent with the full year. Should we take that to mean the fluctuation you saw on 4Q was just on the adverse side, you don't see any change there? Or do you need some rate there to get to the results that you're predicting for 2016 or you're forecasting for 2016? Yes. Good question, Tom. I think that our full year results are more reflective of how we feel about group. There was some fine tuning at year end with little adverse mortality and severity in our life block and a little bit of activity in LTD, not anything major. And as I look at the full year, I still feel very good about the health of our overall book of business and our ability to compete in the marketplace. So we move ahead into 2016 feeling good about the progress made. So Doug, no material rate needed in that business from where you're sitting? We still want to stay ahead of trend. So we've got medical and other trends in that book of business that will impact our future plans and activities. But I don't see anything out of the ordinary different than how we would have thought about pricing over the last twelve to eighteen months. Tom, my question. Our interest rates obviously are but I think if you look at our discount rates of how we're going to discount our the implied discount rate and our liabilities are appropriate. But as Doug said, I mean, this is a it's a great business for us. It's a major contributor of our growth orientation and our strategy. It's integral and I'm glad you're recognizing its potential. Okay. Thanks, Chris. And then just one last one on CALCOT. This is sort of a bigger picture question to think about not so much specific numbers related to beyond 16, but I just want to understand conceptually how you're thinking about this. So you've obviously taken out a combination of extraordinary dividends plus the earnings generation of that business for the last few years here or at least in 'fifteen and then the plan in 'sixteen. But if I think about the shrinkage of that block, it looks like it is slowing a bit on the VA side and now the majority of capital is non VA related and those liabilities are seem to be stickier. So as we think about a path over the next two, three years, is it fair to say more of the dividends coming out will just be earnings? Or do you still think there's a lot of latitude for taking out the bigger extraordinary dividends as well? Tom, Beth can comment on her views. But I think generally you're right with the view if you look at the capital allocation, we've got a lot of capital tied up in call it the fixed annuities. But again, the amount of de risking that the book has gone through, the hedge protection, the sensitivities that Beth gave you on capital margin, it still says that we have the ability to extract some excess capital out as the block shrinks and as we produce earnings. Math wise, it's hard for us to predict right now. That's what I would say, Beth. Yes, I agree with that. I mean, again, you go back, we took out $1,000,000,000 of dividends last year and we anticipate taking $750,000,000 out out this year. When I think about 2017 and 2018 to your point, first think about the capital that we generate sort of in that $200,000,000 to $300,000,000 range, which I would point out still requires extraordinary dividend approval even though it's earnings because of the capital position of Telkot. And then I do see there being the potential for excess capital beyond that. But when I think about going into 2017, I don't anticipate the dividends being higher than what they were in 2016. And as we go through the course of the year, we'll obviously continue to update that. But you're right, it would be on a downward trajectory, not increasing when we think about the excess capital. That's helpful. Thanks. Thank you. And just I think we have one more question in the queue. We certainly do. Your last question comes from the line of Bob Glaesbiegel from Janney. Please go ahead. Good morning. Doug, just a quick question on personal. Your outlook midpoint of the range is a one point improvement for personal lines. And in light of the fact that you're just trying to sort of address personal lines auto pricing for the change frequency environment and you were growing PIF in the second half. Does that suggest that homeowners can offset sort of auto being still in the fixed mode or are there some things you can do on the expense side that gives you confidence that you can show an improvement? So Bob, you now have the sense that we're working numerous levers on both home and auto. I do think that the first half of the year in auto will be a tough compare relative to frequency because basically we had none in the first half of last year. But there are underwriting actions and these agency actions I described we think will improve our results over time. Not going to be easy and as you know it takes a while for these actions to earn their way in. But Chris and I are committed to making those changes, and we believe we can hit the targets that we have out there. But we've got a lot of work to do in front of us, no question. And I look at headwinds into 2016, personal lines probably is at the top of that list for the need for us to work through change to get these books in a better financial shape. Okay. You don't think the having the foot on the gas pedal in the second half contributed at all to the deterioration? It's more macro trends. We believe so. We've been very selective about where we've put the gas pedal on. We've talked to you about the fact that we've got a new class plan that had went in two years ago and it's been rolling in over time. But Ray Sprague and his team have been very analytical about how we've built in our marketing plans, where we're advertising. ARP obviously is at the core of that, Bob. We looked at it by state, so we're very targeted in terms of within those states what we're doing. But I will also say to you that the overall answer is still not working. So we have more work to be done and confident that we're on the right path with a renewed team actively engaged to get it done in 2016 and 2017 as we move forward. Awesome. Thanks, Doug. Thank you, everyone. I'm sorry. Thank you, everyone, for joining us today and for your interest in The Hartford. Please note for your calendars that Chris Swift and Beth Bambara will be at the Merrill Lynch Conference on February 10. And in addition, Beth and Brian Johnson, our Chief Investment Officer and Head of Talcott, will be at the AIFA conference in Florida at the February and early March. We hope to see you at either or both of those events. Again, we thank you for your interest in The Hartford, and please do not hesitate to follow-up with the Investor Relations team if you have any other questions. Thank you. This concludes today's conference call. You may now disconnect.