All right. Good afternoon, everybody. I think we're going to get started, let people just kind of mosey on in. I'm Brian Meredith. I am the Property Casualty Insurance Analyst for UBS. Our next presenter, I believe, is the longest-tenured CEO in the property casualty insurance industry, and actually has been through three cycle terms which gives him an immense amount of experience, and it's really incredibly enjoyable listening to him. Bill Berkley is the Chairman, CEO of W. R. Berkley Corporation. With us today also, we have the President and COO, Rob Berkley. We've got the CFO, Gene Ballard, as well as the Head of Investor Relations, Karen Horvath. With that, I'm going to turn it over to Bill.
Well, good morning. We think that this business is about creating long-term value. It really takes actual knowledge about how the business works, unfortunately, so many of the companies we see are staffed by people who have superficial knowledge, who have no depth of thinking, and no real experience other than in one bit of the business. We think that it requires a real understanding of all the lines of business to manage the exposure inherent in each line of business, because in fact, the risks and exposure inherent in each line is different. It isn't all the same. You have to understand what levers you want to pull and how you move the specific pieces. You want to be sure you keep the best people. Low turnover is a certain sign of what may well be a very successful company.
You have to put it all together with a culture that leads to value creation, customer service, meeting the demands of the marketplace, all at the same time being able to compete effectively. We think we can do that. We've grown at the right time in the cycle. A cyclical business is particularly interesting. You can't just grow all the time. Growing in a down cycle is like the reverse of dollar-cost averaging. It's growing when the business is getting worse, as opposed to when the business is getting better. When you're interested in keeping the money and keeping the profits, you want to write the most business you can at the highest price and let it leave you as the prices dissipate. We've been successful in doing that, and we think we're in the process of getting to do that again.
We're growing now mainly through our new operating units that we've added since 2006. Although our older units, who in the aggregate shrank by more than 25% in the soft cycle, are beginning to show some traction and growing on their own. Here you can see both the contribution of our new businesses and the various pieces that contribute to our quarterly growth. If you go back and take a look at that chart, in the center of that chart, it shows you what our growth has been. Growth isn't even in every quarter. As you can see, business continues to grow, pricing is better and better, and we're enthusiastic about improved profitability. All our units don't grow at the same pace.
One of the things people were surprisingly disappointed in was that we only grew at a little over 11% in the first quarter after having grown 18% in the prior quarter. The nature of our business is such that various businesses grow at different paces depending on, well, who is being competitive at what point in time. In fact, some of our businesses shrank, and we're really pleased about that because we don't want businesses to grow when it's not going to be profitable. When you look at growth and our individual operating businesses, you can see they have different characteristics. They grow at different rates. They're all different scales. Their price increases are all different. Their exposures change. Each of them represents what we think is opportunity out there for all of them.
We don't think they can all behave the same way all the time. We think what they do, in fact, is each seek out the right opportunity to optimize what we consider our mantra, risk-adjusted return. We're pretty comfortable that the people who run our businesses do that. When we look ahead, our new units build the platforms that allow them to seize the opportunities. We continue to believe that we will grow when we can, and we'll be able to seize those opportunities. We consistently focus on being sure that we build on the longstanding relationships of our people, of our company. We take the infrastructure that Berkley has developed and built, great people can come and plug in their relationships, that growth is due, not because we have an objective of growth, but because they seize the opportunity for profitability.
We clearly have demonstrated, this chart would look the same no matter how far back you went. We have a loss ratio that is substantially better than the industry's, and it continues to be so. Our investment portfolio Excuse me. Our investment portfolio is primarily fixed income. We've shortened the duration slightly. Our yields are relatively unchanged after tax, although pre-tax yield is down. Excuse me. We're seeking out opportunities where we can find unusual characteristics to try to maintain our yield. There's no question our pre-tax yield is going down by probably three tenths of a % this year, could be as much as four tenths of a %. We think our after-tax return will go down by substantially less. We do it by giving up immediate liquidity and by basically finding out opportunities that will give us that yield.
We've also been able to find equities that offer attractive yields in relatively stable environments. Overall, we think our investment returns will remain fairly stable. Clearly, if we keep shortening our duration, that's going to be something that will come into play. When we look at the allocation of our investment portfolio, you can see that the fixed income portion is still right up there. That average duration is down one tenth of a year. Average quality is unchanged. The only thing that will probably change is slight increase in the common stock portfolio, but very small. We think that risk-adjusted return is the cornerstone to what we do, and it's the risk element that's the first thing we think about. When you look at this chart, it demonstrates how we measure our risk and what we do.
The dark blue line talks about how each of our companies, overseen by Berkley Corp actuaries, the actuaries at each company, and then parent company oversight provided by our chief financial officer, by Rob, and our chief corporate officer, all target that risk level, that probability of being right on at 60%. When you add all those up, the accumulation of all those gives you a combined company selection that mathematically gives you a number that's closer to 68%. It's pure math. It's because in the aggregate, that's where the numbers come out. Every quarter, we review reserves completely. We want to be conservative. We don't want to be caught short. Each company has its own level of conservatism, and that is leveraged when we look at the companies in the aggregate. We're really pleased with our reserving posture, and we think it's materially better than it's ever been.
When you look at our performance, if you go back 10 years, actually 12, was when we got out of the personal lines business. Our returns went up substantially, which is why the 10-year record is so much better than the 15, the 20, or the 25. We've slipped back down, going through the difficult times of the cycle, and here we are just finishing at the bottom of the cycle. We think if we look at the next five years so that five years is added to it'll be back up comfortably above 15%. We also think that if you look at our results compared to the S&P 500, we're comfortably beating that index for return over any measure you wish to have. While we haven't done as well as Warren Buffett, we're pretty pleased with our results.
If you'd invested in us, this would prove to be a pretty good time. Why would it be a pretty good time? We have a lot of leverage on the upside in a hard market. Two things happen. Our returns go up dramatically, and at the same time as our returns going up dramatically, the price people pay for our stock goes up, anticipating those continued high returns. We think we're right at that inflection point. We think our returns are going to move up substantially, and we think what people will pay for our stock will go up at the same time. We're quite excited. We think this is a pretty good opportunity. There's a great correlation between tangible book value growth and total return. You can see by most measures, we're right at the top of that correlation.
We believe we will continue to be there, and maybe even we'll be able to expand our position. We think this is a great time for Berkley Corp. We think it's a great time to invest in insurance stocks overall, and we think we represent the best opportunity within the property casualty universe. We think pricing is about to have its first period of significant increase on top of significant increase. We think a number of people are going to start to have adverse development. In first quarter results, you've seen a few. I think there are more to come. We look out and see people beginning to retrench.
We think the problems in Europe will enhance our opportunities both in the U.S. and globally, as the adverse impact on companies' capital accounts will give people like us substantial opportunities to expand, not just in America, but in other places where Europeans have been aggressive and will no longer be able to be so aggressive. They'll lack the capital, and they'll lack the banking backing that's required. We think if the stars were ever aligned for our company, this would be the time. We're very excited. We think those opportunities will be greater than they've ever been. We think the next three or four years likely represent a unique opportunity for our company. I'd be happy to take any questions.
Great. We're going to open up for questions. I'd like to start off with the first question, and then we'll open up to the audience. Bill, you talk about high teens ROEs and obviously a great outlook here for the company. I guess my question there is, when we think about that high teens ROE, how much is that predicated upon improving investment returns versus simply just improving the combined ratio, as well as perhaps leveraging the capital base a little bit more?
Obviously, Brian, it requires all of those things and is impactful. We're impacted more than anything by underwriting results. Underwriting results are the biggest factor. The second biggest factor is how much leverage, how much business we can write. With high underwriting margins, and if we can increase to write at 1.2 to 1, it starts to happen very quickly. How long will investment returns stay where they are? I can't predict. There are still a lot of opportunities to invest that probably 3.5% or 4%. We're not going to buy Well, there are no AAAs anymore, I don't think. We're not going to get AA yields that'll be quite that high. There are opportunities.
You can buy Johnson & Johnson common stock to yield over 3%, and tax adjusted for us, it's just shy of a 5% yield, compared to a Johnson & Johnson 10-year note that's sort of 2%. There are opportunities to get yield. I think that the longer out you go, the more risky that yield is. I haven't been aggressive when I said in the teens. The comparable period in the cycle, we were in the mid to high 20s with those higher yields. I think that the high teens is very attainable, even with interest rates where they are.
Okay. Audience?
Yes.
Go ahead.
Is there a microphone? Go ahead.
Go ahead, Len.
On the call, I think you said that you were more satisfied with how the pricing environment was going at the beginning of the quarter than you were at the end of the quarter. I was hoping you could elaborate on that a little bit and the study you made at the end of today.
I think that there were fewer fools at the beginning of the quarter, and people were a bit more aggressive in price increases. As we got to the end of the quarter, it was clear people were concerned about their volume, and they were a bit more price competitive. I think that it was nothing that is not normal in a cyclical period of change. I think that when we looked out and we saw what was going on, that cyclical period of change, sort of normal, but I wanted to get across the idea that this is not a straight up thing where everything is going to go up and we're going to see 15% and 20% price increases. We think the price increases for the year will be 8%, maybe a little better. We think that's great.
By the end of the year, that means it's 8% on top of what was 4% at the end of last year. We think that's pretty good, and we think that we're going to be looking at price increases that we're going into in 2013 of probably 10%, 12%, 14%. We think we'll have higher price increases next year.
We're pretty happy about that. We just wanted to give everybody an indication that this wasn't rocketing price increases, just everybody raising prices as much as they could. It was improving pricing environment. Prices were definitively going up 6.5% and the quarter was not bad. We were okay with that. We expected it to be more as we moved through the year. Many people have this vision that when you say prices are going up, that it's a hockey stick. Things are going to go straight up and that we're going to have this tremendously profitable period instantly. That's not what happens unless there's some particular event that dramatically changes where things are. Other questions?
Yeah. I've got one, Bill. I'm just curious. What area of your business are you most excited about right now about the prospects? Is it your regional specialty, international? Anything in particular that you say, "Gosh, we're in good shape, but really good shape here"?
I think there are several areas that are exciting. I think that our international businesses are very exciting because of the upheaval in the EU. There's some opportunities throughout the world where the European companies dominate. That also means in Asia, there's some opportunities because the European companies have a dominant role there. We think those are some of the opportunities. We think in our energy related business and mining businesses, again, substantial opportunity. When we look ahead, although it's not here yet, we think the excess and surplus lines business is going to start to show more dramatic improvements because that's the place where people start to cut when they realize that just raising prices is not going to be enough, that terms and conditions are really the cornerstone of people getting out of the way of that business.
Lots of people write business that they have no idea what it's about. It's not only the wrong price, it's wrong terms and conditions. We hear about this tanning salon thing in New Jersey that's in the news, and in fact, lots and lots of companies decided to write health spas, and it used to be you'd write a health spa as long as it didn't have a tanning salon adjoining it. All of a sudden, the market got soft, and the exclusion of tanning salons was crossed out. Well, you can't protect yourself. You either have to write it, or if they have a tanning salon, not write it. All of a sudden, you're going to start to see people who write health spas that had tanning salons just line them out. We're not writing them, doesn't matter what, out of business.
Those are the kinds of things that start to happen. Terms and conditions change, and whole lines of business get thrown out from the standard markets. That's what's really going to give guts to the excess and surplus lines business.
Questions beyond? One question quickly. A lot of growth opportunities. Can you kind of give us a sense of capital position and how much growth you could probably put on given your current capital position?
Well, we think assuming we're right that we could earn more than 15%, and we think we can write at probably 1.35 to 1.5 to one if our business continued to be very profitable, that would probably mean we could grow over the next two years, if we could add 60% to our business. We think we have lots of capacity to grow a lot without any additional capital.
Okay.
Maybe even a little more.
Great.
I think generally speaking, rating agencies are tolerant, and they measure based on exposure, not on premium. If we could demonstrate that this mainly was from price increase, they're not concerned. In the first quarter, six and a half percent of our growth came from price increases. Only four and a half percent came from additional exposure. That's going to be a plus from their idea.
Bill, one other quick one. When we think about capital management, you've historically done a lot with share buyback. I'm wondering if in the current environment, whether there's any thought about increasing potentially the payout from a dividend perspective.
Historically, we've modestly increased our dividends. We don't make a decision till the board meeting. I think it'll have to do with two things, our view of taxes, and will dividends still have a favorable tax treatment, and also the rate of growth. If we're growing at 18% or 20%, we might be very cautious about our increases. If we grow slower than that, we might have more leeway. It'll absolutely be the relationship between our return on capital and our growth rate.
Okay. Anything else from the audience?
You mentioned that you think there'll be more adverse developments with some of your competitors. I guess, can you flesh out what areas, if any, you were thinking about or, I don't know, anything else on that sort of topic?
I think it'll especially be in workers' compensation. I think a lot of people have not addressed that. I think a number of people haven't adequately reserved for last year's cats, and we'll have more of that to deal with. I think that if you look at the numbers, people have reserved in disproportionate ways. Some people have adequately reserved, and some people haven't. My guess is that in the number of other areas, such as products liability, you're going to see people who've been aggressive out there and professional. In some professional areas, when people price the business at half the right price, they put what they think is a historic loss ratio, but the historic loss ratio needed to double when you're selling the product at half the price. I think those are the particular areas.
It would be professional liability, workers' comp, number one, professional liability, two, I think number three is a carryover from the cats of last year. I think it'll be concentrated in a few companies where they really weren't paying much attention.
Bill, on that topic, could you give us your views of loss trend? I know that you think it's right now around two to 3%. What are your thoughts here going forward on inflation for claims?
We wouldn't change our view of two to 3%. Clearly, economic activity is more uncertain today than it was three months ago. People were more optimistic. I would doubt that the loss trends would accelerate much. I think we're pretty much in that same spot. I think that we have to worry about government policy. There's something people haven't thought much about, and that is Keynesian economic theory was built around a single government's behavior. It's been sort of modified because when the U.S. ran a big deficit, China funded the deficit, so we didn't have inflation. We may be approaching a point where a lot of countries are going to run deficits, which would cause somewhat of a global inflation. That global inflation could, in fact, create issues for insurance companies.
I take one step back and then I say, if you'd look, however, at the track record of insurance, property casualty insurance businesses do better in an inflationary environment than a non-inflationary environment. Contrary to what the general thinking is, those are the statistics.
Huh, interesting. Great. Well, if we don't have any more questions, we've got a breakout session right now up in Louis XVI East on the fourth floor. I want to thank Bill for his presentation. Thank you.