Please be advised that today's conference is being recorded. If you require any further assistance, please press star then zero. Before we get started, let me remind everyone that through the course of the teleconference, Kinsale's management may make comments that reflect their intentions, beliefs, and expectations for the future. As always, these forward-looking statements are subject to certain risk factors, which could cause actual results to differ materially. These risk factors are listed in the company's various SEC filings, including the 2018 annual report on Form 10-K, which should be reviewed carefully. The company has furnished a Form 8-K with the Securities and Exchange Commission that contains the press release announcing its fourth quarter results. Kinsale's management may also reference certain non-GAAP financial measures in the call today.
A reconciliation of GAAP to these measures can be found in the press release, which is available at the company's website at www.kinsalecapitalgroup.com. I will now turn the conference over to Kinsale's President and CEO, Mr. Michael Kehoe. Please go ahead, sir.
Thank you, operator, and good morning, everyone, and thank you for joining us. Bryan Petrucelli , Kinsale's Chief Financial Officer, and Brian Haney, Chief Operating Officer, are with me on the call today. As a reminder, although Kinsale has many competitors, our business strategy is unique in several important ways that allow us to drive attractive returns and superior growth rates across all parts of the insurance cycle. Kinsale is the only company to focus exclusively on the excess and surplus lines or the non-standard market with an emphasis on small to medium-sized accounts. We are the only company to control our own underwriting and claims management and not outsource those functions to external parties. We use proprietary technology and automation to operate with a significant expense advantage over many larger competitors.
One measure of the significance of our commitment to technology is that over 20% of Kinsale's employees work in the information technology area. It is our second-largest department behind underwriting. Keep in mind, none of these employees is engaged in maintaining legacy software from the 1980s and the 1990s since Kinsale doesn't have any. Instead, among many things, they are working on process improvement and automation to lower costs and allow us to handle ever larger volumes of business without a commensurate increase in staffing. Today's market conditions are characterized by a rising level of dislocation as some competitors experience poor results and react by reducing capacity, withdrawing from some markets and lines of business, and by canceling some programs.
As a company that maintained disciplined underwriting standards during the competitive period of the insurance cycle, Kinsale is in the attractive position of taking advantage of this favorable market opportunity to accelerate growth in the business and expand its profit margins at the same time. We expect these favorable trends to continue for a year or two before reverting to a normal level of competition and a more modest growth rate. Kinsale's operating earnings increased by 42.1% and gross written premiums increased by 55.4% in the fourth quarter compared to the same quarter in 2018. The combined ratio for the fourth quarter was 86.1% and the operating return on equity was 15.9% for the year. With confidence in our strategy and a favorable market opportunity before us, we are optimistic about our business prospects. Over to Bryan Petrucelli for the financial report.
Thanks, Mike. As Mike mentioned, we had another real good quarter with strong growth in both written premiums and operating earnings. We reported net income of $17.9 million for the fourth quarter of 2019, an increase of 301% when compared to $4.4 million for the fourth quarter of 2018, driven primarily by increases in our unrealized gains on our equity portfolio and written premiums and from lower cat losses. Net operating earnings increased by 42% to $14.3 million, compared to $10.1 million in the fourth quarter of 2018. The company generated underwriting income of $11.5 million and a combined ratio of 86.1% compared to $7.7 million and 87.1% last year. Cat activity contributed 1.8 points to the fourth quarter of 2019's combined ratio compared to 8.7 points last year.
The combined ratio for the fourth quarter of 2019 included 1.3 points from net favorable prior year loss reserve development compared to 2.2 points last year. Our effective income tax rate for the full year was 16.7% compared to 16.5% last year. Operating return on equity was 15.9% for 2019 in line with our mid-teens guidance. Gross written premiums were $112 million for the quarter, representing a 55% increase over last year, growth continues to be generated from increased submission flows from our brokers and firming pricing driven by continued market dislocation. On the investment side, net investment income increased by 21% or so over the fourth quarter of 2018 to $5.5 million, up from $4.5 million last year. Gross investment returns for the year, excluding cash and cash equivalents, increased to 3.1% from 3% last year.
Diluted operating earnings per share was $0.63 per share for the quarter, fourth quarter 2019, compared to $0.46 per share last year, $2.41 for the full year 2019 compared to $1.79 last year. With that, I'll pass it over to Brian Haney.
Thanks, Brian. As mentioned earlier, premium grew 55% in the fourth quarter. Our commercial property business again grew, driven by a surge in submissions, significant rate increases, and a concerted effort to service the business more quickly and quote more accounts. It's also worth noting that while we are doing this, we are becoming much more restrictive in the terms and conditions we offer, which should amplify the margin expansion in this line, although it's difficult to quantify the effect. The growth is not limited to just one division. At this point, the growth is basically everywhere. Since we are exclusively E&S, we are seeing increased activity in virtually every area, including some areas like general casualty that have been slower to harden than some of the other areas. For the most part, all the markets we are in are moving in a direction favorable to the risk bearer.
Our Aspera business was up 44% for the quarter, which while a strong growth rate, actually lagged the rest of the company. The proportion of the total group that Aspera comprises shrank slightly to just under 4%. Submission growth was 35% in the fourth quarter. This spiked up from the third quarter. I would expect this to be slightly lower in the first quarter of 2020. There is a limit to how much we can grow transaction count without service standards starting to become a challenge, and we are nearing that limit. I expect at some point that growth will level off because these growth rates we've seen are pretty extraordinary. We continue to push more and more on rate, in part to regulate growth and in part to react to changing market conditions.
As a reminder, we have a very heterogeneous book of business, which complicates reducing all the rate movement to a single number. That all being said, we are seeing rates up in the +8 to +10 range in the aggregate. We are seeing higher rate increases for property business and lower increases for professional lines. With that, I'll turn it back over to Mike.
Thanks, Brian. Operator, we're now ready to take phone calls if there are any, or questions if there are any.
Thank you. As a reminder, to ask a question, you will need to press star then one on your touchtone telephone. To withdraw your question, press the pound key. Please stand by while we compile the Q&A roster. Our first question comes from Matt Carletti with JMP. Your line is now open.
Hey, thanks. Good morning.
Good morning, Matt.
I've got a few questions. One, just start with the favorable development for the year. I was hoping you might be able to break it out into which accident years it resulted from for full year 2019.
Yeah, we don't have that available on the call. I think that gets published in the K.
Okay.
That'll be out, we'll file the K next week.
Okay. I can wait for that. Not a problem. I guess two other quick ones. I think Brian mentioned in his comments that commercial property is growing nicely. Obviously, with this amount of growth, there's always some mix shift taking place. Can you maybe talk a little bit about where some of that mix shift might be, how the book at year-end 2019 might look different than it was at 2018 by largest classes of business? In particular, I've always thought of you guys as having a few % property, kind of 96%-ish casualty, a little bit of property. Has that changed in any material way, or is that still pretty status quo?
Matt, this is Mike. Property did increase relative to the overall book, I think from very high single digits to very low double digits.
Okay.
I think that's really just a function of market opportunity more than anything else. When we opened the company over a decade ago now, we anticipated, I think, property might be 20% or so of our book of business. It lagged significantly, mostly because the level of competition was so intense that we just had trouble growing the top line. I think that's normal in the E&S business too, that we have 17 different underwriting divisions. The relative opportunity does ebb and flow from time to time, and we're seeing a little bit of that in the last several quarters with property. I don't think there's any kind of significant shift in our strategy, certainly.
Okay. The last one, just wanted to ask you for your updated thoughts on how you feel about your capital. I mean, this past two quarters in particular have been extremely strong growth, and it was pretty strong even before that. Just kind of an updated viewpoint of if these sorts of growth rates or even a little bit of a dial back were to persist, how you feel about capital.
Right. Obviously, capital is something we manage very carefully. We're especially sensitive around maintaining our AM Best rating. We think that's very important to us to be able to execute our business plan. We did raise, I think our net proceeds from the August 2019 capital raise were about $66 million. We're obviously putting that capital to work quickly, and with the strong return on equity, we're generating retained earnings, which helps as well. The 55% growth in Q4, if that were to continue, obviously at some point, we would probably be looking at additional capital. Could likely be some form of, it could be debt, it could be equity, or it could be both.
Got you.
It's certainly something we're monitoring.
Well, thank you for the answers and best of luck in 2020.
Thanks, Matt.
Thank you. Our next question comes from Mark Hughes with SunTrust. Your line is now open.
Yeah. Thanks. Good morning.
Good morning, Mark.
The expense ratio, I think it's typically been a little lower in the fourth quarter, was a little lower this quarter. Is 25% still a bogey, or can you get some leverage on that with this kind of growth?
25% is a general bogey. There is some variability from time to time. Clearly the top-line growth does help somewhat. I think 25% is something we feel confident we can generally hit on a go-forward basis. As the company grows, it wouldn't surprise me if we outperformed in that area slightly.
I wonder if you might give a few more thoughts on the favorable development. The last 2 quarters it is averaged about a point, and that is clearly below your historical norm. You have talked about some phenomenon of a little more coming out in the tail, and clearly a lot of conversation last quarter about social inflation. How do we think about this kind of point? Should with this business that you are writing now, with this surge, should that improve as we go forward?
Yeah. I think anytime we talk about reserve development, I think it is worth restating our goal, which is to build a very conservative balance sheet. The loss reserves are a huge component of that, and our goal is to set those reserves in a conservative fashion so that they are more likely to develop favorably than unfavorably. I think generally we have been very successful at that over the 10-year period we have been in business. All of our accident years, except one of the very early ones, have developed favorably on an inception to date basis. That kind of conservatism, I think, gives our investors confidence in our financial results and our ability as managers of the business. We have talked about the fact that some of our accident years developed a little bit later.
The last 2 years we have been injecting additional conservatism into the reserves, and that has had the effect of slowing down the release of IBNR, which I think is what you are alluding to here. I think a lot of that conservatism, that is in the numbers now. I think when you look at our market opportunity where we are getting some very significant rate increases, that adds even more, I think, to our confidence in our balance sheet and in our reserves. I would say we have never been more confident in those numbers than we are today.
When we think about the submission growth, you said it might taper a little bit in 1Q. Is that more of a capacity issue or kind of timing on renewals? What informs that view that 1Q may be a little bit slower on submissions?
I would say part of it is just a reaction to how significant the spike in the fourth quarter was. If you look at it was kind of out of line with the acceleration we saw, which has been sort of more incremental. I think part of it is just that one number, that one growth number was so far out of the norm that I think it would just be natural for it to come back to the long-term trend. The other one is just mathematically, growing at 35% is a very strong rate. That's almost doubling every two years. It's tough, for me, to picture a scenario where submissions keep doubling every two years.
One final one. Mike, I think you had suggested that they expect favorable trends to continue for a year or two. What are the kind of the updated signals that you've seen in recent months or weeks that kind of inform your view of the potential longevity on the cycle?
Obviously, the numbers we just presented is a big part of that, right? Our own growth and the expansion of our profit margin gives us a lot of confidence. The headlines that I think we're all reading in the trade press corroborates that as well, right? There's a lot of companies that were much too aggressive in growing and in how they underwrote and priced business during the soft period of the insurance cycle. The consequence of that lack of discipline is painful, right?
I think we're all reading the same headlines, and it is really that's what I think gives us the view that, hey, it's likely to be another year or two of this kind of very favorable trading environment that eventually will give way to a normal environment where the competition increases and the growth rate slows down to something more in the maybe 5%, 10%, 15% range.
Thank you.
Okay. Thanks, Mark.
Thank you. As a reminder, to ask a question, you will need to press Star then One on your touch tone telephone. To withdraw your question, press the pound key. Our next question comes from Scott Heleniak with RBC Capital Markets. Your line is now open.
Yes, good morning.
Good morning.
Notice the growth is obviously significant, has been significant the past couple of quarters and did pick up versus Q3. I imagine there's a lot more opportunities. You mentioned the submission count, the higher quote activity. Wondering if you could talk about some of the more specific areas. I know you kind of mentioned across the board, you did mention general casualty, but is there any other particular areas where you're seeing kind of an uptick in the dislocation versus Q3 and Q2, kind of any areas where there's a lot more opportunity for Kinsale than there has been that maybe didn't exist a couple quarters ago?
I mean, that's going to sound like a little bit of a cop-out, but I mean, really, the growth is remarkable in how spread out it is. To the extent that the submissions spiked, in the fourth quarter, they seem to have spiked pretty much for most divisions. It's like, there's no one particular area I can mention. I mean, we've already covered property.
Right.
Some of the allied health space has been challenged for a few years for some of our competitors.
Excess casualty.
Excess casualty. It really is in most of the lines of business we write.
Yeah. Fair to say some of the same areas where you've seen strength too, just kind of more of a uptick in activity as well.
Yeah, that's a fair way to look at it.
Yep. Okay. The rate increases, you mentioned 8% to 10%. I think that was pretty similar to what you saw in the third quarter. I would imagine that's outpacing loss cost inflation in most of the areas. I wonder if you could touch on that and just on kind of where your thoughts are for accident year loss ratios, where those might trend, in 2020.
I mean, I'll just address kind of the trend in the rate to use. This is Brian Haney.
Yeah.
8% to 10%, I think is above what we would consider trend for our book of business. I would say if I had to put a number for trend, it's probably in the 3% to 4% somewhere range. What that means in terms of accident year loss ratios and reserves, I'll leave that to these guys.
Yeah. Like we were talking about a little while ago, we're very confident in our reserve position. The goal is to be conservative. Obviously, over the years ahead, as those claims are reported and adjusted and settled, we would expect those reserves to develop favorably. At this stage, it's probably not appropriate to go much beyond that.
Yep, that's fair enough. Just a last question on the net premium retention ratio that's been kind of tracking a little bit higher in the high 80s the last couple quarters. Just wondering if that's a sort of fair run rate to assume. Also on a related note, has there been any changes in reinsurance treaties, anything new at one-one at all that you can comment on?
Well, our reinsurance treaties renew on June 1st. We did increase our retention slightly upon renewal last year in June. I think that at least here for the foreseeable future is a good guide.
Yeah. Okay. Thanks a lot.
Okay. Thanks, Scott.
Thank you. Our next question comes from Mark Hughes with Sun Trust. Your line is now open.
Just curious, on the property, is that more coastal focused or is that more geographically diversified?
Mark, it's Michael. Our personal lines book is coastal and our commercial lines business is a mix, but predominantly non-coastal.
What's the mix of personal versus commercial within property?
This is just a guess, but I think it's about two-thirds commercial, one-third-
Okay
one-third personal.
Yeah.
Personal lines, is it mobile in that, largely manufactured homes?
Yeah, it's exclusively manufactured homes on the southeast coast.
Yeah. Manufacturing. Yep. Okay. Thank you.
Okay, Mark.
Thank you. I'm showing no further questions in the queue at this time. I'd like to turn the call back to Michael Kehoe for any closing remarks.
Okay. Thank you, operator. Thanks everybody for joining us on the call, and we look forward to speaking to you again here in a few months. Have a good day.
Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.