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A.M. Best Presentation SAAI Conference

A.M. Best Presentation SAAI Conference. Rosemarie Mirabella April 1, 2009. Agenda. Industry Outlook Macro Economic Trends A.M. Best Investment Rating Analytics A.M. Best Investment Survey U.S. Residential Housing Trends Commercial Mortgage Trends CBMS Trends Rating Changes.

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A.M. Best Presentation SAAI Conference

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  1. A.M. Best Presentation SAAI Conference Rosemarie Mirabella April 1, 2009

  2. Agenda • Industry Outlook • Macro Economic Trends • A.M. Best Investment Rating Analytics • A.M. Best Investment Survey • U.S. Residential Housing Trends • Commercial Mortgage Trends • CBMS Trends • Rating Changes

  3. Life/Health Outlook • Negative outlook announced Sept 2008 • Pace of downgrades accelerating in 2009 • Downgrades reflect rising asset and liability risk, capital pressures

  4. Key Factors in Maintaining Ratings • Focus on preserving capital & maintaining liquidity • Consistent and positive operating profitability trends • Investment risk manageable • Proven ERM effectiveness during troubled times • Risk appetite commensurate with capital • Diversification on both sides of the balance sheet

  5. Macro Economic Trends • U.S. Recession is deep and global • Rising Unemployment • Record Federal Deficits projected • Housing remains problematic • Consumer demand remains weak • Extreme volatility in equity markets • Credit defaults/asset impairments • Significant spread widening/unrealized losses

  6. Federal Deficit Source: Market Browser

  7. Average Unemployment 1929 - 2009

  8. Equity Market Overview Current as of 3/25/09

  9. Treasury Yields Current as of 2/20/09

  10. VIX as a Measure of Volatility Current as of 2/23/09

  11. Credit Spreads

  12. Where Are We Now? • Mark to market continues to stress the balance sheet • Capital and liquidity remain key to weathering the storm • Flight to cash and treasuries will put further pressure on short term spreads • Risk is run on the bank scenario • Investment risk happens in cycles but this cycle has some differences

  13. Where Are We Now? • Asset deflation and credit risks remain • RMBS/ABS housing sectors remain challenging • Higher corporate bond defaults are likely • Rising risks for CMBS and commercial mortgages • Rising risks for non housing related ABS • Potential duration extension from CMBS • Lower “alternative asset” income • Reevaluation of Securities Lending

  14. A.M. Best Investment Analytics • BIG Bond Exposure • Structured Bond Exposure • Commercial Mortgage Loan Exposure • CMBS Exposure • Sector Concentration on Bond Portfolio • Riskier asset classes as a % of Stat capital • Asset/Liability duration mismatch • Sec Lending • Historical losses as a % of capital in prior down cycles

  15. A.M. Best Analytics • Stress test of BCAR capital model for unrealized • Careful evaluation of short term liquidity resources and debt maturities • Comparing Stat vs GAAP impairments, adjusting Stat capital as necessary • Overall assessment of ERM practices in general and specific to investment management • Proactive actions which demonstrate ability to reduce balance sheet risk • Review of Hedging Program Results • Heightened emphasis on recoverability of DAC and good will

  16. Assessment of ERM • Culture • Risk Identification and Management • Risk Measurement and Capital Modeling • Management’s Perspectives on Key Risks

  17. Rating Changes Life/Annuity and Health Rating Units Number of Rating Changes Note: Multicompany groups are treated as one unit. Source: A.M. Best Co. * As of 3/27/09

  18. Review Preview '08 vs '09 FSR Distribution * Ratings as of 03/30/09

  19. Rating Comparison Year-end 2007 to Current * As of 12/31/07 and 3/30/09

  20. Investment Survey Results Life companies only – as of 9/30/08 Based on amortized cost, statutory invested assets

  21. Non Structured Bonds (53%) AM Best Survey ...results as of 9/30/08 The percentages above are shown as a percentage of total invested assets

  22. Structured Bonds (24%) AM Best Survey ...results as of 9/30/08

  23. Housing Starts2008 - 2007 Source: S&P Case Shiller Residential Real Estate Indicator Report

  24. Single Family Homes and Inventories2008 - 2007 Source: S&P Case Shiller Residential Real Estate Indicator Report

  25. ResidentialMortgage Delinquency Rates2007 - 2008 Not Available Source: Case Shiller Residential Real Estate Indicator report

  26. Case Shiller Home Price Changes Source: S&P – Key Housing Indicator Report

  27. Commercial Mortgages Overview • Typically 10% of an insurer’s portfolio • Direct underwriting or part of a syndicate • Typically reasonably diversified by property type and geographic type • Typically LTV at origination of 55-68%

  28. Commercial Mortgage Overview Source: ACLI...12/31/08

  29. Commercial Mortgage Industry Statistics LTV Ratio %Debt Service • 2002 68.60 2002 1.69 • 2003 67.15 2003 1.92 • 2004 67.35 2004 1.87 • 2005 65.48 2005 1.75 • 2006 63.81 2006 1.62 • 2007 63.08 2007 1.64 • 2008 59.01 2008 1.72 Source: ACLI Fixed Commercial Loans - 2008

  30. Risks in Commercial Mortgages as Spreads Widen Sources: JP Morgan; Commercial Mortgage Alert

  31. NAIC Industry Composite Commercial Mortgage Experience Factor Source: NAIC

  32. CMBS Outlook • Moody’s downgraded 1200 CMBS issues in February for vintage years newer than 2005 • Riskiest vintage years is 2006-2008 • Decline in CMBS prices and ratings downgrades will pressure balance sheet in 2009 • May have similar underwriting risk to RMBS • Additional risk is refinancing risk

  33. CMBS Delinquency Rates Percentage Industrial data not available pre 2003 Source: CMBS Commercial Mortgage Securities Association

  34. Predictors of Default CMBS • Original LTV and DSCR are not as important as CURRENT LTV and DSCR in determining default risk • There are regional variations to default probability • There is differing default risk by property type

  35. Poorly Underwritten Commercial Loans Face Financing Issues $353.6 $332.3 $300.9 $270.6 $265.3 Source: Barclays Capital

  36. Sample CMBS Cumulative Loss Projections by Vintage Year “Base Case" “Stress Case” 1999 1.10% 1999 1.60% 2005 2.20% 2005 4.40% 2006 3.30% 2006 7.10% 2007 3.50% 2007 8.20% Avg 2.53 %Avg 5.32% Source: Entrepeneur.com Trade Journal

  37. Appendix

  38. Types of Ratings • Financial Strength Rating (FSR) – Opinion as to an insurer’s ability to meet obligations to policyholders • Issuer Credit Rating (ICR) – Opinion as to the ability of the rated entity to meet its ongoing senior obligations; does not apply to any specific financial obligation • Debt Rating – Opinion as to the issuer’s ability to meet its ongoing financial obligations to security holders when due; considers the nuances of a particular issue

  39. FSR & ICR Equivalents • Provide increased information to marketplace • 20 vs. 12 ratings • ICR assignments reflect requests from third parties for ICR scale • ICRs only appear on web and press releases

  40. A.M. Best’s Rating Evaluation -Key Components Balance Sheet Strength Operating Performance Business Profile Insurance Operations

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