Good day, welcome to W. R. Berkley Corporation's third quarter 2012 earnings conference call. Today's conference is being recorded. The speaker's remarks may contain forward-looking statements. Some of the forward-looking statements can be identified by the use of forward-looking words, including, without limitation, believe, expects or estimates. We caution you that such forward-looking statements should not be regarded as a representation by us that the future plans, estimates or expectations contemplated by us will in fact be achieved. Please refer to our annual report on Form 10-K for the year ended December 31st, 2011, and our other filings made with the SEC for a description of the business environment in which we operate and the important factors that may materially affect our results. W. R.
Berkley Corporation is not under any obligation and expressly disclaims any such obligation to update or alter its forward-looking statements, whether as a result of new information, future events, or otherwise. I would now like to turn the call over to Mr. William R. Berkley. Please go ahead, sir.
Good morning. We were very pleased with our quarter. More than just the quarter, all the trends we see continue to cause us to be optimistic about the balance of the year and next year. The world is not perfect. There are all kinds of things that are beyond our control, we see nothing on the horizon that will prevent us from achieving improving rates and continued higher returns. That said, we would hope that we can achieve the kinds of returns that we've targeted as we move into the next several years. With that, I'll turn this over to Rob to talk about our operations.
Okay. Thank you very much. Good morning, everyone. The third quarter offered further evidence that the property and casualty commercial lines market is going through a time of positive transition. Efforts among many carriers to obtain rate adequacy are becoming more widespread with every passing day. While this change in behavior is not occurring in all lines of business in perfect lockstep, there is a clear prevailing wind driving rates up. As we have discussed in the past, it remains our belief today, the catalyst driving this change continues to be carriers' increasing sensitivity over how prior years will develop. This concern is a consequence of an industry-wide underestimation of loss trend, as well as loosening of terms and conditions combined with aggressive pricing. Workers' compensation continues to be one of the lines of business that is experiencing the greatest change in behavior.
In addition to rate increases, the accelerating growth in several state-assigned risk plans is also an important data point. The casualty market, and especially the excess casualty lines, are offering encouraging signs as well. Having said this, given how much underwriting discipline has eroded over the past several years, the market still has a long way to go. On the other hand, much of the professional liability market continues to be exceptionally competitive, but it is showing early signs that things have bottomed out. The marine and aviation markets have also remained surprisingly competitive, given the level of loss activity that has occurred over the past several quarters. The group's rate monitoring for the third quarter indicated an improvement of 7% over the third quarter in 2011.
While pricing does not move at the same pace across all segments or for that matter, across all operations, our primary insurance rate improvement stood out at 7.5%. The renewal retention ratio continues to remain at approximately 80%, providing us confidence in our pricing leverage, as well as comfort that we are not experiencing adverse collection. This represents the seventh quarter in a row where the group achieved rate increases and the third quarter in a row where we also obtained rate on rate. Net written premium in the third quarter was $1.276 billion. This is an increase of 13.3% over the third quarter of 2011. 39 of our 45 underwriting operations grew, which allowed all five business segments to contribute to the group's overall growth. The growth was driven primarily by rate of 7%, 5% of exposure, and 1% audit premium.
The group's loss ratio for the third quarter was at 62.1, which is an improvement of 2.7 points over the third quarter last year. In addition, the expense ratio improved by 0.8 points. This gives us a combined ratio of a 95.8, or a total improvement of 3.5 points over the corresponding period. The company's progress is primarily a result of higher earned premiums stemming from rate increases, our maturing start-up operation, as well as lower cat activity. Eugene will be going into more detail on these topics shortly. The group's balance sheet remains robust. Our reserves remain strong, as demonstrated by 23 consecutive quarters with net positive reserve development. Additionally, our investment portfolio remains strong with an average rating of AA-. The market is turning at an increasing pace.
Much of the change in behavior we are seeing today is a reaction to developments stemming from underwriting decisions made by some in the past. We expect more companies to report additional negative developments over the next two quarters. Further, while the impact that the low interest rate environment has on the industry's economic model is widely discussed, we believe few have begun to appropriately factor this into their pricing. Having said this, while it is unclear how hard the market will get and how quickly it will get there, it is quite apparent that we have a great deal of runway in front of us when it comes to pushing rates.
Thanks, Rob. Gene is now going to try and go through the financials, and then I'll pick up after that.
Okay. Thank you, Bill. Well, as Rob said, we had another strong quarter in terms of both revenues and underwriting profits, and we also managed to deliver a modest growth in investment income in spite of the anticipated decline in earnings from investment funds. Our net premiums written were almost $1.3 billion in the quarter, up $150 million or 13.3% from a year ago. The growth was led by our specialty and alternative market segments, which were up 18% and 17% respectively. Business units that we started since 2006 grew by 34% in the quarter and now represent approximately 25% of our overall premium volume. Changes in foreign exchange rates compared to the third quarter of last year added about a half a percentage point to the overall growth rate expressed in U.S. dollars. Underwriting profits were $50 million in the quarter.
That's up from $8 million a year ago, and an overall combined ratio that decreased three and a half points. Three main reasons for that. First, the underlying accident year loss ratio before cat improved by 1.6 percentage points to 63.7% as price increases over the past seven quarters are beginning to have a meaningful impact on both earned premiums and underwriting income. In addition, the regional segment benefited from very benign loss activity in the third period compared with a year ago. Second, catastrophe losses were just $9 million in the quarter. That's down from $51 million a year ago, which is a further improvement of 4.1 loss ratio points. Third, the expense ratio improved by 0.8 points to 33.7%, also largely due to the impact of rate increases.
Four of our five business segments reported lower expense ratios on both an earned and written basis. The regional segment expense ratio was flat on an earned basis, but down a half a point on a written basis. That's before DAC. That adds up to an accident year combined ratio before cats of 97.4%, down two and a half points from a year ago. In addition, we reported favorable prior year reserve development of $28 million or 2.3 percentage points, loss ratio points. That's down from 5.3 loss ratio points a year ago, but right in line with the reserve releases of $25 million and $30 million in the first two quarters of this year. Prior year reserves developed favorably for all five of our business segments.
The calendar year combined ratio was reported at 95.8, down from 99.3 a year ago, with all five business segments reporting combined ratios under 100. Although the specialty segment's reported combined ratio was up from a year ago due to lower reserve releases, the accident year combined for specialty also improved by two and a half points. Investment income was $116 million, up $2 million from the third quarter of 2011. Income from our core portfolio, which includes fixed income equities and real estate, was up $2 million to $127 million, with an annualized pre-tax yield of 3.7%. Income from merger arbitrage was up slightly to $2.5 million, and income from an investment fund reported a loss of $13 million, which includes energy related losses of $21 million that we had already announced in our second quarter 10-Q.
On a tax equivalent basis, adjusted for the tax benefits of the municipal portfolio, the annualized return on investments was 4.6% year to date. We reported realized gains of $22 million in the quarter and had unrealized gains pre-tax of $856 million at September 30th, 2012. At the end of the quarter, 85% of the portfolio was invested in cash and fixed incomes with an average duration of 3.3 years and an average credit rating of double A minus. We repurchased two million shares of our own stock in the quarter, which brings us to 3.3 million share repurchases year to date at an aggregate cost of $121 million.
Our net income was $101 million in the quarter, which is an annualized return on equity of 10.2%, and we finished the quarter with book value per share of $31.81, which is an increase of $3.06 for the year-to-date period and an annualized increase of 15%.
Thanks, Gene. Well, we were pleased with the quarter. On the investment side, our duration was reduced from 3.4 to 3.3 years in the quarter, primarily as a result of the duration of our mortgages and prepayment rates in our mortgage portfolio declining in the ordinary attritional impact of time passing by. We've chosen not to be aggressive in extending our long-term side of the investment portfolio because we are concerned inflation is out there, although clearly, the short-term time horizon appears to be benign. That's a balancing effect that we're concerned about. The way to push that duration out is to go out, at least on a portion of your portfolio, substantially more than 10 years, and that's just not something we want to do. The investment side also has benefited from our continuing ability to find niche opportunities, unfortunately, they keep disappearing.
A good example of those would be we were able to invest roughly $200 million in mezzanine mortgage obligations, where the collateral protection was still less than 50% loan to value and with a return of 6%. But as we approached the end of the third quarter, the yields on those securities declined sharply, and the current returns are more like 5%. Another niche went away as we search for more opportunities that fulfill our security and quality requirements, in spite of how they may appear because of their category. We think we can still come close to holding our existing rates to right around 4% pre-tax. After-tax will probably decline a little, but we're optimistic at least through the end of the year. Our cash flows, if they accelerate dramatically, would cause us to question that.
Overall, you're seeing a number of our competitors, especially the mid-size competitors, having to face up to the reality of deficiencies in prior years, and they're coming out. We think that this is like a snowball going downhill. A number of these companies are going to have to make up for the deficiencies. They're then going to face issues as to their ratings, and their abilities to continue on their own will diminish. We're very optimistic. We see more and more opportunities. We think we're being rewarded for the five years plus of investment we've made in setting up new enterprises, and we expect that'll allow us to grow at a time when others are just trying to hold their own. With that, I would be happy, Ally, to turn this over to questions.
Ladies and gentlemen, if you have a question at this time, please press star, then one on your touch-tone telephone. If your question has been answered or you wish to remove yourself from the queue, please press the pound key. Our first question comes from Amit Kumar of Macquarie Capital. Please go ahead.
Thanks, good morning. My first question relates to capital management. With the impending fiscal cliff versus the insider ownership, can you talk about how do you view a special dividend before the year-end?
It's certainly something that we're thinking about, we're considering. We'll probably make a decision as we head to the election. I think that that'll certainly have an impact on what we do. If in fact we think rates are going to change dramatically, it would take on a serious issue that we'd consider.
Okay. That's helpful. The only other question I have is on pricing. You're talking about pricing going up. I'm curious, and maybe this is a bit too early. If you sort of fast-forward to year-end 2013, all else being equal, do you expect the rates to be up double digit at that time? Do they sort of trend up in the next few quarters, and then in the absence of any industry event, do they start trending down?
I think that what we're trying to get across, the message to people is that with interest rates where they are, if rates go up 10% next year, you're still going to barely have adequate returns. It takes a lot of increase in rate to offset the decline in investment income. As people's portfolios run off and the duration of portfolios are probably between two and four years, you're going to start to see people need rates just to have mid-single digit returns at the current time. I think that our view is if not double digits, certainly very high single digit returns by the end of next year. We don't see them falling off.
Got it. That's all I have. Thanks for the answers.
Thank you, Amit.
Our next question comes from Vinay Misquith of Evercore Partners. Please go ahead.
Morning. The first question is on rate increases. We've seen from your company as well as some admitted carriers out there that rates have accelerated third quarter versus second quarter. Just curious from your perspective, what do you think are the drivers? I mean, throughout the large admitted carriers being more disciplined, or do you see the smaller players also being more disciplined? I think that within your regional business, your top line picked up. Just curious about that too.
I'm going to let Rob take this.
As far as the regional growth goes, that was primarily from rate really not so much exposure count, putting that aside, I think there are large companies and there are small companies out there that are disciplined and some that aren't disciplined. Clearly, some of the larger national carriers tend to set or have a lot to say as to what the tone is of the marketplace. I think ultimately what is driving the change in behavior, as was suggested earlier in the discussion, is that people are seeing things develop out from as far as prior year goes, and they're concerned as to how things look as they come into focus. They are taking action as it relates to that.
The rate activity that you've seen so far, again, in our opinion, is because people are observing and extrapolating how prior year is going to develop. Also, as we suggested, the level of anxiety as it relates to what was also discussed a few moments ago around the impact of investment income, I think is on people's minds, and that's probably the second shoe to drop and what will be the catalyst for further rate increases as also suggested a few minutes ago.
That's helpful. The second question was on loss cost trends. Your pricing is rising 6%-7%. Margins improving about 160 basis points. Curious as to what you are booking as loss cost trends are right now.
Quite honestly, as you would expect, it varies by line of business. I would suggest, though, in the aggregate for the group, it's north of two probably, certainly not above three. Having said that, we're extrapolating a bit given the rate increases that we're achieving at this stage. We have a reasonably strong degree of confidence that we are adding to underwriting margin at this stage.
Okay, fair enough. Just one last question, if I may. Your expense ratio actually declined this quarter year-over-year, which is good. Do you think that you're at a point where more premiums would now add more to your leverage on the expense ratio versus the past?
Yeah, absolutely. This has been something that we've at least been trying to highlight for folks over the past couple of years. What's happened is the written has grown, finally, the earned is coming through. Many of the businesses that are at different points in their life cycle are the startups that are transitioning out of their infancy, if you will. They are getting the critical mass. The earned premium is coming through, and you will observe the operation being able to leverage those expenses more and more over the next many quarters.
That's great. Thank you.
Okay. Thank you.
Our next question comes from Greg Locraft of Morgan Stanley. Please go ahead.
Hi. Good morning. Thanks. Just a follow-up on the last one. Rob, if I was to understand you correctly, pricing up 7 and loss trend up, call it 3. Should we be seeing the core margins increasing by 300+ basis points in future periods year-over-year? Call it double what we've just seen.
A couple of comments. First of all, I think the simple math would suggest that it's going to improve by 4. Obviously it takes time, as you know, Greg, for that earned premium to come through. In addition to that something to keep in mind, obviously, we all historically and expect we will continue to err on the side of caution as we adjust those design loss picks down. Certainly the back of the envelope math, I would suggest, is trend 3, rate achieved 7, and that gives you 4, but that will take time to come through.
I think you also have to recognize that the past redundancies means our loss ratio pick for prior periods, as Rob suggested, may have been more than adequate. We'll have to examine that pick each year since the pick is made on a waterfall basis looking backwards. That also could have some benefit.
Yeah.
Okay. Great. Thanks. Back to the special dividend, which was sort of an interesting question. Would you all consider adding debt to fund that, or would it be contained within earnings? Obviously that's pending the election, as you had mentioned previously.
We wouldn't have any need to add debt. We have lots of cash at the holding company, we have lots of dividend capacity at our operating units, it wouldn't be our plan to add debt.
Okay. Shifting gears to the private equity portfolio on, I think it was the last call you'd mentioned possible monetization of $100 million or so in gains. How's that trending and what is the use of proceeds?
I think what I said in the press release is we would expect at least $75 million of gains in the fourth quarter. That really meant to try to be a little more specific in that issue. That was going to our thinking about Our capital management and repurchase of stock to special dividend. We also have additional realized gains that we expect next year.
Okay, perfect. Thanks. One last thing, I apologize for sort of the rapid-fire nature, but on the pricing side for the long-tail lines, this is more, I guess, for you guys, just how it really works. Do you all take the embedded 4% in the portfolio? Do you take the risk-free rate? How do you think about the investment yield assumption in your models as you go out two, three, four, five years in your pricing model? How does it work for W. R. Berkley Corporation and then how does the competition view it from a pricing perspective?
Greg, it's Rob here. As far as pricing new business, it's a little bit of a complicated answer, but I guess the simplified version is we are very cognizant of what our new money rates are at the time. Obviously, we take into account duration, so on and so forth. As it relates to new business that we are writing, we are focused on the new money rates and the premium that comes in and the reserves that we set through our design picks that are associated with that business. We are focused on what type of return that money can achieve when we put it to work today.
I think a good example of that would be what happened in our excess comp business, where we effectively lost a third of our business, maybe even a bit more, because there's a place where our pricing has literally a discount rate built in because those reserves specifically are discounted, and the discount we used reflected the current rate on long-term securities. A number of our competitors use their average portfolio return as the discount rate. We use the current available rate for new money. The end result of that, with a 17-year duration of those loss reserves, is that our prices were substantially higher than those competitors, and we lost a lot of business to those people. The fact is, when that money flowed in, they had to invest it in the same way we did at whatever the current new money rate is.
In some areas, especially excess comp, it's a very specific impact, Greg. In other areas, it's talking to the underwriters about the profitability of the business and being cognizant of the loss ratio picks that you can have given lower rates of return.
Okay. Yeah. Some of your competition has said exactly that, which is that they're using sort of a blended interest rate assumption or return assumption as opposed to exactly as you said, which is that you guys use new money yields. In a way, they're seducing themselves. They think their pricing is adequate, and over time, their returns just won't be there.
In fact, it only works when you're going to sell the company, and then the problem is someone else's.
Okay. Thanks for the clarification.
Our next question comes from Joshua Shanker of Deutsche Bank. Please go ahead.
Hey, good morning, everyone. Two questions for you. The first one, I want to talk a little about the acceleration of rate and the deceleration of net written premium and what's going on there. Two.
Wait. The deceleration of net written premium?
Yeah, you guys were doing mid-teens. It's 14 in Q3 2011, 13 in Q3 2012. I realize that's small, but given that you've had a significant rate bump since that time, you would think that net written premium growth would be accelerating at this point.
Okay.
Maybe the startups were writing more business. I'm sure there's a very reasonable explanation for that.
Candidly, startups vary, new business varies. Its quarter-to-quarter varies. We don't view those changes as particularly material.
Okay. The second question involves when can we really expect expense ratio to start coming down given the higher volumes?
It's going to come down. It'll come down quarter-by-quarter.
As Gene put it.
You have to understand, it converts into your earned premium. That takes 5 quarters. The other thing you have to remember is the whole change in DAC calculation doesn't give you the benefits of growth until it converts to earned premium. This whole new accounting change in DAC effectively penalizes you for growth. It's going to come down slower for us than it will be for companies that might not be growing as quickly.
Okay. Appreciate the answer.
On a written basis, one of the things we've talked about when this DAC pronouncement first came out is we also look at the declining expense ratio on a written basis. For us, quarter to quarter, last year to this year, it's down 1.4% points, and it's down 0.8 points on an earned basis. That gap will close, and in addition, as we continue to grow it'll be that much better.
You've got earned premium that there's built-in growth in earned premium that's going to make that continue to decline. We would expect there'll be substantial declines in that over the next, certainly, at least 5 quarters that are baked in already.
Thank you very much.
Howard.
Our next question comes from Michael Nannizzi of Goldman Sachs. Please go ahead.
Thanks. One question I had was on the $75 million in gains. Was that specifically related to the private equity portfolio, or is part of that related to the more traditional fixed income book?
We're just leaving it as it's generally, we're just letting people know that that's what we're going to have, and the answer is we expect it to be probably private equity, but there's a lot of places that there are gains in the portfolio that will be realized.
I guess the question is, if you're selling fixed income to sort of partner-
It's not fixed income.
Okay. It's not fixed income. Okay. We shouldn't interpret the press release commentary to imply that you're kind of harvesting some gains on the fixed income side.
No.
Okay. Got it. Great. Okay. You talked in the past about this notion of fear or greed turning to fear when pricing inflection points happen. How would you fit that to the environment that you're seeing right now?
I think it really happens company by company. When people stop seeing redundancies in their reserves and start to see deficiencies. When people stop seeing those cushions that they've had now for many quarters. I think that you've seen it happen in a number of companies. I think there were over 30 companies had deficiencies last year. I think that the fact is that as people who think they then fixed their problem of deficiencies by putting up money, find out, oh my goodness, another quarter, and we look at our reserves and there's another deficiency. People start to get afraid. When they start to get afraid, they push on price, they get more disciplined on terms and conditions.
I think you're going to see that in a lot of people who were aggressive in writing workers' compensation, especially like California places, where people didn't know what they were doing and thought this was such an easy thing. I think there's a lot of lines of business that are like that. I think you'll see a number of people in long-haul trucking who thought that was a line of business that was so easy, and they've managed to make a mess of it, and it's not really a very long-tail line, so they're finding out quickly. I think that's what happens with fear. You think you fixed your problem. You said, "It's behind us. We fixed the deficiency." Then the deficiency comes up again.
All right. Thank you very much. Just one last one maybe for Rob, if it's okay, is you made a comment about rate and exposures and translating that to the top line. If we were to look at the regional segment, I'm just curious, if rates overall are up seven or 7.5%, where does the regional segment fall in that spectrum? What is the rate versus exposure on the U.S. regional business? Thanks.
Mike, just want to make sure as it relates to the question, so as far as the regional piece goes, you'd like to understand what the relationship is between rate versus exposure versus auto premium, so on and so forth. Typically.
Yeah.
Yeah. Typically, we don't break that out by segment. Having said that, what I can tell you, the simple math is that it is, again, it really is all rate plus a little bit, and exposure is flat, quite frankly.
Okay. It's mostly rate. On a relative attractiveness in terms of the rate gains you're seeing versus loss trend or just in absolute terms in the regional segment versus the other areas or the other segments, I realize it's a broad question because there are a lot of businesses that roll up into each of them, are you seeing more or less opportunity for rate in the regional segment versus the others?
I think, certainly from our perspective, we're quite pleased with the rate that we're achieving in the regional group. We don't have any reservations about the rate that we're achieving in the regional group, I guess, to make a long story short. Are they outperforming other segments, so to speak? They're doing a little bit better than some. They're not doing quite as well as a couple of others. The rates that they are getting there, without a doubt, clearly, they are adding to underwriting margin, and we're very comfortable with both the pace that they are moving as far as achieving more rate.
Great. Thank you very much.
Our next question comes from Meyer Shields of Stifel Nicolaus. Please go ahead.
Thanks. Good morning, everyone.
Good morning.
Rob, in your introductory comments, you said you think that current rate changes stem more from reserve problems than from interest rate recognition. I'm wondering, what is it that you're seeing that makes you think that it's the reserve issue and not the yields impacting current behavior?
Quite frankly, it's more anecdotal. My sense is from just visiting with people in the marketplace, you hear what their focus is and what is really in the immediate term on their mind and what they're trying to address. It's pretty apparent that they are focused on how they see prior years developing. There's a lot of discussion around, quite frankly, the impact that investment income is going to have. Quite frankly, in our opinion, if they're really focused on investment income as well, there would be more of a sense of urgency in getting even more rate than they are.
I think we talked to people every place from agents to presidents of companies. The thinking and the concentration is inadequate underwriting margins. No one talks about the impact of lower investment income. It's just not a topic that's in the front of people's dialogue or in the front of their minds.
Okay. No, that's very helpful. Bill, are you seeing any of the same trends in terms of reserve problems driving rate increases on the international front?
I think that we would suggest that it's not as easy at this point for us to see those trends internationally. The same information and the same format is not available for us to look at. I think that there certainly are a number of global companies that have similar problems. I would suggest that a number of the larger global companies have reserve problems. In some of those cases, a bigger problem for some of those companies would be balance sheet problems related to their asset makeup. We think the issues exist on a global basis. Some of them because of reserve shortfalls and some of them because their carrying values of investment assets, which are probably not reflective of the real market.
Okay. Last question, I guess probably for Gene. Can you give us a sense, as the overall % exposure to property, I don't know if it crept up in the quarter, but it has in the recent past. Can you give us a sense about what the cat load is for the pricing that you're using?
What's the catastrophe load?
Yeah, the cat load.
Well, I guess before Gene tackles the question, one piece that I would add is I think it would be a mischaracterization to suggest that we have dramatically increased our property cat exposure. In fact, what we have done is increased some of our exposure to some of the shorter tail lines of business, but property cat is not something that we have increased our focus on. Gene?
Yeah, I don't really have a number I could give you. It depends on what part of the business you're talking about, and it's a pretty complicated exercise to figure out what catastrophe load goes into each policy and each line of business. We don't have an overall catastrophe load for the book.
The fact is what we do is we examine our book of business. We examine total insured values, assess the cat value by area, by storm, by line of business, and then protect ourselves accordingly. Even though we are now writing, as Rob said, more short-term business, even the property business that we're writing is not cat exposed particularly.
Okay. That's very helpful. Thank you.
Our next question comes from Jay Cohen of Bank of America Merrill Lynch. Please go ahead.
Yes. Thank you. First, a numbers question, I guess, for Gene. Gene, can you give us a more precise breakdown on the investment income with some of the other ways you typically break it out in the Q with real estate and equity securities?
In terms of their yields? Their returns, Jay, have not changed so much from where they've been in those lines of business.
I'm just thinking the numbers for the quarter.
Yeah, even for the quarter. I mean, the core portfolio, which are those three pieces, is up a couple million dollars, and there's no movement within any of those categories you mentioned significantly one way or the other.
It looks like that the fixed income portion was up from the first half into the third quarter.
The fixed income was up from when?
From the first half run rate. It looked like it improved in the third quarter.
No, I think it's very stable. The core portfolio's sort of at 3.7.
After tax.
Well, it's not on a tax equivalent basis. Pre-tax, but not on a tax equivalent basis.
Got it.
We've had some cash flow. Our investment portfolio has grown. We're seeing a little bit more investment income come through, but the yield has been pretty flat.
Okay. Second question, I guess when you're looking at price increases versus claims inflation obviously driving margin improvement, I assume that's on the renewal book of business, that 7% price increase. If your retention is 80%, then clearly obviously a lot of this premium is new business as well.
That-
Is that-
That is accurate. Our renewal business actually, as we said, is about 7%. Then we do a new-to-renewal pricing relativity, which we're actually getting a bit more on our new business than on our renewal business, if you will. I think we're getting about 3.5 more on new versus renewal.
I guess your new business then would not necessarily detract from the margin improvement that you expect on the renewal book.
Please understand, it's a bit of a process to make sure that we're getting apples to apples, new versus renewal. Our best estimate is, in fact, we are getting higher rates on our new business than our renewal business. Quite frankly, when you take a step back and you think about it's kind of logical. You know more about your renewal book than your new business, so you should want to surcharge the new business. I know that we're a bit of an outlier based on what we see many of our competitors are doing in the marketplace. That is our philosophy, and that is coming through on our results.
Yeah, that makes sense. I guess it's just harder to attract new business if you're getting even a better price for that business. You have to attract that business from someone else, obviously you're able to do it.
Certainly, it does not make it any easier. Having said that, when you're focused on long-term underwriting margin, we think it makes sense.
Frequently, the business that we find that is most attracted to us is people who've had an unpleasant claim experience with someone else. They then value the person they do business with.
Got it. The last question is, with the reserve development for the industry, you certainly see these isolated incidents of adverse development. You look at just Meadowbrook this past quarter, and there's a bunch of those. They seem to be different companies every quarter, practically. If you look at some of the larger companies, public companies anyway, that favorable development has continued to be an important source of earnings, including you guys. Do you need to see bigger companies essentially face more pressure on reserves to get a more dramatic turn in pricing?
Jay, I think what really happens is big companies are able to hide the problem for a longer period of time, which I think is happening. I think what really occurs is some individual big company breaches the dam, if you will, and then everyone else says, "Okay, let's just get it over with." I think that there are a lot of companies, by the way, I don't think companies are short monumental amounts where they're in jeopardy of survival, but I think what it does is it points out that their pricing is inadequate. I think that the hiding of shortfalls is a reflection on their operating statements that their pricing is inadequate, not they're in danger of insolvency. I think the middle-size and smaller companies have insolvency issues.
The bigger companies' shortfalls are just they're not facing the issues of getting their prices to be adequate. I think the moment the first one of those big companies that bites that bullet, I think you're going to start to see a bunch of others follow suit.
Great. Thanks for the thoughts.
Our next question comes from Kenneth Billingsley of BGB Securities . Please go ahead.
Good morning. Just a couple of questions. One for Gene. Could you give those year-to-date reserve release numbers again by quarter?
The year-to-date by quarter, it was, let me double check that. We had $25 million in the first quarter, $30 million in the second quarter, and $28 million in the third quarter.
Thank you.
Total $83 million year to date.
I realize that you've talked extensively about reserve releases and the way it compares to the market. Just to add to that, it seems like a lot of the increases that we're seeing outside of you is a lot of this 2009 to 2011 accident years. I know that your mix of business may not overlay exactly with where some of these other people are taking some of these increases. Could you just talk about what's different in your observations that your reserve estimates obviously were set a little bit different?
It seemed like some of these guys that are taking the charges were growing pretty heavily in 2009, 2010, when you weren't. Obviously 2011 seems to be creating problems for some of the players out there. That's where you did start to grow, not necessarily in those direct segments that they may be in. Could you just talk about your observations and why you may not feel you're going to run into some of the same issues, at least for that 2011 accident year?
Yeah, I think that by and large, we don't expect problems in our current accident year, in essence, because of how we establish reserves. That if you look at 2009, 2010, and 2011, if you look at them, they've proved to be more than adequate. We expect that'll continue. I think the people who ended up being aggressive in lines of business that were most competitive, they generally followed the old saying that the grass is always greener. That is, they grew or expanded dramatically in lines of business where they had no experience, no knowledge, no base of data. I think that the surest thing to do is say, find a company without any experienced personnel. That's the kind of thing where they're looking for trouble.
We think that the nature of how we've chosen to grow, which is don't choose a line of business you want to get into. Find a great team of people, is for exactly that reason. We're not interested in getting into a great line of business. We're interested in having great people who will allow us to get into a line of business.
Just the last question on this, it seemed that some of the industry was releasing reserves from more recent years, a lot sooner than they had in prior decades and years, much more quicker to release reserves that were only one and a half to two years developed. Are you seeing that as maybe some of the issue as well? Not only were they aggressive, they still thought they did well, and now they're having to fill that hole, where are your reserve releases coming from? Are they back-end loaded? Are they in the 2009 to 2011, are they more heavily weighted to '10 and '11?
They're in the more recent years, I'd say '08, '09, some '10. '11 is really green. Remember, we're only talking about $28 million in the aggregate. There's not any one year where you're going to see anything that meaningful.
It's a very small percentage of our reserves, especially relative to the number of our competitors.
Sure. Were you shocked to see that some of the competitors were releasing more sizable amounts, in comparison to their total reserves from these more later years?
Yeah. It's Rob here. I think fundamentally, as we've referenced for a couple of years now on several of these calls, we observe what others do, but we can't crawl inside of their minds, and don't know what's going on specifically in their organizations. What we can tell you is that we feel as though it is appropriate, prudent to take a cautious approach to both pricing, setting reserves, and then to the extent that there is reserve development in a positive direction, recognizing that in a thoughtful and controlled manner. Controlled in the sense of making sure that you have a clear understanding as to what the outcome is going to be.
From our perspective, as we have also suggested in the past on these calls, there are some folks that we feel as though have been more optimistic in their loss picks than we would've been, and a lot of that stems from their assumptions around certain bits and pieces that go into a trend. Whether it be medical trend or whether it be inflation, whether it be assumptions that people make around investment income, as we discussed earlier on this call. We have an approach, we have a philosophy, where we are interested in being cautious early on. As more data becomes available, that outcome will come more into focus, and we will adjust reserves appropriately. What other people do, would it appear as though they've been more optimistic in their assumptions and quicker to release than we have been?
Perhaps in some cases, but again, we're focused on what we do. We're not preoccupied with what others do.
I think that the discussion we had briefly about discounts and long-tail lines really goes to the heart of this complicated question and how it would impact the income statement. We lost 35% of our business because we priced using the discount rate of marginal return versus average portfolio return. They looked like they were brilliant. They grew a lot. As that develops over the years, and they had to reinvest the money at lower marginal returns, they will pay for that mispricing over a number of years. It all goes to the pricing you set. If you set high pricing, you may show bigger or lesser price increases, and you may show more or less redundancies. Again, it goes to the price you initially set.
It's one of the reasons we think we're in a better competitive position because we've been more disciplined in the prices we originally set. At least we think we have been.
Thank you.
Our next question comes from Larry Greenberg of Langen McAlenney . Please go ahead.
Good morning. Just staying on the topic of reserves, I'm just wondering if you could give us any color on how your workers' comp business is developing, and I'm more interested on the primary side, but maybe some differentiation between primary and excess. Thank you.
As far as the development goes, typically on these calls, we don't get into a lot of granularity by line of business or by operation, so to speak. Having said that, there is nothing that we see as it relates to our workers' comp reserve, either on an excess basis or a primary basis that give us any reason to pause. We have been pushing very hard for rate for an extended period of time. We have a great sensitivity to trend, particularly medical trend, and we certainly are not blind or naive to local state comp benefit rates and what's going on there. We pay a lot of attention to that. Many of our comp-related businesses or comp-focused businesses, if you will, have been shrinking over the past several years. There's others that had what seemingly is an unquenchable thirst for premium.
As presumably everyone on the call understands at this stage, appetites have changed. We are seeing more opportunity going forward, hopefully. To your specific question, as it relates to our reserves in both primary and excess comp, we feel that we are on firm ground.
Great. Thank you.
Ladies and gentlemen, if you have a question at this time, please press star then one on our touchtone telephone. Our next question is a follow-up from Michael Nannizzi of Goldman Sachs. Please go ahead.
Thanks. Sorry for the follow-up here, in the alternative segment, I just wanted to understand, what drove the increase in premiums? I know in prior quarters there was some, I believe, I may be mistaken, there was some reclassification of some premiums out of alternatives or in alternatives or something. I'm just trying to understand what is driving that. Is it primary or excess?
On a growth basis or a net basis, Mike?
I think it's kind of both, I think. Net, you're up about 18% gross. It looks like maybe it's about the same, maybe a little bit less.
Yes. Go ahead.
You're talking about the quarter or the year-to-date period now?
Just the quarter. You're up 20% in the second quarter year-over-year and then 17% net year-over-year in the third quarter. I was just curious. It looked like-
Yeah
primary comp was a big driver in the second quarter. We don't have that data now-
Right
I'm just trying to understand what-
Yeah. The main reason there is we've got a couple of startups that have done particularly well.
Okay.
One in the accident health business and one in the workers' comp business.
Oh, okay. That A&H would roll up into the other piece then?
Yeah. Part of it also has to do with, quite frankly, just what the trend assumption is there and how much rate that we're getting and what we need to get as far as rate to keep up with loss trends. For example, some of these lines of business that because of the exposure to medical trend have fallen to the alternative market, we're pushing for more rate there because we got to keep up with medical trend and then some. The thing where we're getting medical trend is a big issue. We could have 16%, 17% rate increases.
I see. Okay. Is that kind of where you expect, is the third quarter kind of indicative of where you expect to be? There are no kind of one-offs there.
There's nothing unusual there.
Okay, wonderful. Thank you.
Our next que-
Al?
Yes, sir.
Go ahead.
No, go ahead.
Our next question comes from Meyer Shields of Stifel Nicolaus. Please go ahead.
Slide in there. There's sort of a relatively rapid slowdown in the international segment's gross written premium growth. It looks like the base wasn't all that different from the base in the second quarter. I'm wondering if you could talk about why that growth is slowing down a little bit.
Yeah. Meyer, it's Rob here. I think certainly a lot of it has to do with some of the startup operations having, I wouldn't say plateau, but the growth rate is not what it had been in the past. That's really probably the biggest piece of it, if you will.
Okay.
Having said that, there is a little bit of seasonality to it. Do I think that you're going to see a slowdown, so to speak, further beyond what we've seen? Not necessarily, but I don't think that you're necessarily going to see the pace of growth that you've seen over the past several quarters. At some point that curve may not flatten out, but it's not going to be quite as steep as it has been as we have also suggested in past discussions. You're also seeing some currency issue.
Okay. Great. Thank you.
Our next question comes from Howard Flinker from Flinker & Co.. Please go ahead.
Yes, sir.
What did you pay for the two million shares you bought in the quarter?
Round numbers, $37.
Okay. That's all I wanted to know. Thanks.
I'm showing no further questions at this time, I'd like to turn the conference back over to Mr. William R. Berkley for any closing remarks.
Well, thank you very much. We're very enthusiastic. We think that you all, as we've tried to signal people, the quarters are moving as we expected. We would expect our expense ratio to continue moving downward. We'd expect our loss ratio to move downward also as increased pricing moves through our earned premium at increasing levels. We're very optimistic about our fourth quarter. The one issue nobody raised that I want to point out is as we invest our money in other things other than fixed income securities, you're not going to see that income come through what everyone calls operating income. It's going to be lumpier.
We think it's just as good for our shareholders as having income from bonds, and we think in this bond market where fixed income returns are definitively less than even our modest inflation levels, that's a better thing to do for our shareholders. Thank you all very much. We look forward to our year-end call and having great results. Thank you.
Ladies and gentlemen, this does conclude today's conference. You may all disconnect and have a wonderful day.