Arch Capital Group Ltd.

Good day, ladies and gentlemen, and welcome to the first quarter 2019 Arch Capital Group Earnings Conference Call. At this time, all participants are in listen-only mode. Later, we will conduct a question-and-answer session, and instructions will follow at that time. If anyone should require assistance during the conference, please press star then zero on your touchtone telephone. As a reminder, this conference call may be recorded. Before the company gets started with its update, management wants to first remind everyone that certain statements in today's press release and discussed on this call may constitute forward-looking statements under the federal securities laws. These statements are based upon management's current assessments and assumptions and are subject to a number of risks and uncertainties. Consequently, actual results may differ materially from those expressed or implied. For more information on the risks and other factors that may affect future performance, investors should review periodic reports that are filed by the company with the SEC from time to time. Additionally, certain statements contained in the call that are not based on historical facts or forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. The company intends the forward-looking statements in the call to be subject to the safe harbor created thereby. Management also will make reference to some non-GAAP measures of financial performance. The reconciliation to GAAP and definition of operating income can be found in the company's current report on Form 8K, furnished to the SEC yesterday, which contains the company's earnings press release and is available on the company's website. I would now like to introduce your hosts for today's conference, Mr. Mark Randison and Mr. Francois Morin. Sirs, you may begin.

Thank you, Crystal, and good morning to you all. We have had a good start to the year as ARCH grew book value per share by 7.4% to $23.12 at March 31st and generated operating earnings of $0.67 per share, due to strong underwriting and investment results in the first quarter of 2019. As mentioned on our call last quarter, we continue to see modest upward rate movement in property and select casualty lines, along with reductions in sitting commissions paid by our reinsurance units. Our mortgage insurance, or MI Group, continues to operate in a market characterized by historically strong credit conditions, and conservative lending standards. For ARCH, this is an underwriting market where selection and segmentation remain key to generating favorable results. It is not a one-size-fits-all market by any means. On the one hand, we believe that the modest improvement in the property currency markets reflect broader economic growth, particularly in the United States, while on the other hand, we see inconsistent evidence of increased discipline by underwriters. We can sum up our view of current market conditions with two key virtues that describes how we operate at Arch, prudence and patience. Prudence has been a good advisor to us. In our P&C segments, rate changes in the quarter for our insurance group has been positive, but ranging in any one line from minus 5% to plus 8%, averaging about plus 2.3%. Considering that insurance loss trend or claim inflation typically runs about 200 bps above the CPI, we remain prudent in setting our loss picks and allocating additional capital in any single line given the uncertainty of future loss costs. Prudence in our reserving process dictates that we maintain an appropriate margin for error because reserving errors can lead to pricing errors. We saw modest growth in the first quarter of 2019 in our insurance group as net written premium increased 8% due in part to the UK acquisition we mentioned last quarter. The balance of the growth was from a combination of rate and new opportunities in short and medium tail lines. In typical ARCH fashion, we remain focused on risk-adjusted returns and patience means that we seek evidence of acceptable margin improvement even as the market experiences some pullback in capacity, such as in the larger commoditized lines and also within some E&S markets that you have heard about on other calls. Within our reinsurance group, property cat exposed rates are moving up after absorbing severe industry-wide catastrophe losses these past two years. These losses have caused some dislocation in capacity across the industry and have paved the way for new opportunities which our underwriting teams were able to participate in. However, we remain focused on the absolute level of risk-adjusted rates and selective in our approach to cat-exposed business. Now turning to our MI segment. Overall, the underwriting environment remains very attractive. Growth in our insurance-in-force is producing increases in earned premium and contributing to a future stream of earnings that is strong and predictable. In MI, the key underwriting characteristics that drive earnings are credit quality and the economy, which more than pricing, drive ultimate performance. Therefore, even as pricing has become more competitive, credit quality remains excellent and key macroeconomic factors are very good, which has resulted in very strong risk-adjusted returns. As you may know, in MI, from an accounting standpoint, these returns will be reflected in earnings over several years. For the first quarter of 2019, our US MI New Insurance Written, or NIW, was $11.2 billion, down about 2% from the same quarter a year ago. While NIW reflects business written in a quarter, The more relevant indicator of insurance earnings is insurance in force, which ARCH MIUS grew to $277 billion at the end of March of 2019. As with all our business units in MI, we are focused on returns rather than market share, and we intend to remain disciplined and agile. We believe that our long experience with Raystar and our insurance-linked notes, known as Bellamy Securities, provide ARCH a competitive advantage with respect to risk management, our interface with lenders, and our upfront risk selection. As I alluded to earlier, our key risk barometers are at very healthy levels. Credit quality, as indicated by FICO scores, remain strong across our in-force book with a weighted average score of 743. Our combined ratio and our MI segment remains exceptional at 25.6% in the first quarter, which is substantially better than the long-term industry average of the mid to high 40s. With respect to our investment operations, higher yields available in the financial markets produced excellent results on both a yield and total return basis. Turning briefly now to risk management, for the past few years, And continuing into 2019, our property cat exposures remain at historically low levels with a 1 in 250 year peak zone at about 4% of tangible common equity at April 1st. In our MI segment, our issuance of Bellamy Securities continue to pace with our second issue this year that closed yesterday and provides $620 million of reinsurance indemnity on more than $35 billion of insurance in force. We have issued $3.5 billion of Bellamy Securities over the past four years, which remains an important part of our risk management capabilities. As of today, Bellamy Securities provides protection on more than 90% of our existing insurance in-force. With regards to PMIRES, as of March 31st, 2019, ARCHMI's U.S. sufficiency ratio was 146% of the GSE ratio, capital requirements known as the PMIRES, as I mentioned. With that in mind, and with that, I will turn it over to Francois now to provide you more specifics on our quarterly results. Francois?

Thank you, Mark, and good morning to all. Before I give you some comments and observations on our results for the first quarter, I wanted to remind you that, consistent with prior practice, these comments are on a core basis, which corresponds to ARCH's financial results, excluding the other segments, i.e., the operations of Watford Holdings Limited. In our filings, the term consolidated includes Watford. As you know, Watford's common shares began trading on the NASDAQ Global Select Market on March 28, 2019. While this event now provides a market price on the value of our ownership in Watford, it does not impact the presentation of our financial statements or any of our disclosures. which have remained unchanged since Watford's formation in 2014. After-tax operating income for the quarter was $275.9 million, which translates to an annualized 12.3% operating return on average common equity and $0.67 per share. Book value per share was $23.12 at March 31st. a 7.4% increase from last quarter, and a 13.3% increase from one year ago. This result reflects the effect of strong contributions from both our underwriting operations and our investment portfolio. Moving on to underwriting results, losses from 2019 catastrophic events in the first quarter, net of reinsurance recoverables and reinstatement premiums stood at 7.9 million or 0.6 combined ratio points. These losses were nearly all observed in the results of our reinsurance segment, which were impacted by a handful of minor events across the globe. As for prior period net loss reserve development, we recognized approximately 36.7 million of favorable development in the first quarter net of related adjustments, or 3.0 combined ratio points compared to 4.6 combined ratio points in the first quarter of 2018. Both the insurance and the mortgage segments experienced favorable development at $1.7 million and $36.6 million, respectively. The reinsurance segment experienced a minor amount of approximately $1.6 million of adverse development, including $16 million related to Typhoon Jebi. The increase for this event reflects updated loss information received from SINs and additional industry data. The mortgage segment benefited from significant favorable development in our first lien portfolio, where cure rates observed in recent quarters continued to be materially better than long-term averages and expectations. The insurance segment's accident quarter combined ratio excluding CAS was 100.2 percent, 150 basis points higher than for the same period one year ago. The year-over-year comparison for the insurance segment is affected by two notable items. First, as we mentioned on a previous call, our operating expense ratio was impacted by the shift in the timing of share-based compensation from the second quarter to the first quarter. This shift increased the first quarter expense ratio for this segment by approximately 94 basis points relative to one year ago. Second, we continue to invest in our insurance operations, including the integration of recent acquisitions in the U.S. and the U.K. The most notable impact to our expense ratio this quarter relates to our UK regional book, whose operating expenses added 110 basis points to our overall expense ratio for this segment. As mentioned in the earnings release, we did not acquire an unearned premium portfolio with this acquisition, and as a result, the expense ratio will remain higher than the long-term run rate until the associated earned premium reaches a steady state. Overall, the underlying performance of our insurance segment showed improvement in the quarter, mostly due to lower levels of attritional losses and acquisition expenses. The reinsurance segment accident quarter combined ratio excluding caps stood at 92.4 percent compared to 93.4 percent on the same basis one year ago. As we mentioned on prior calls, we tend to look at trailing 12-month analyses in order to assess the ongoing performance of our segments. given the inherent volatility in the business that can emerge from quarter to quarter. The year-over-year comparison for the reinsurance segment is affected by the presence of a $10.2 million premium retroactive reinsurance transaction we entered into this quarter, which contains sufficient risk transfer for insurance accounting treatment under GAAP. While the overall combined ratio for this segment was basically unaffected, The impact of the transaction to each of the loss and expense ratio components was more observable, with a resulting increase of 90 basis points to the loss ratio and a decrease of 80 basis points to the expense ratio. Overall, we were able to reduce our expense ratio by approximately 400 basis points, mostly as a result of the growth in earned premiums since the same quarter one year ago, the retroactive reinsurance transaction just mentioned, and the shift in business mix. Once we adjust for these variations, the underlying performance of our reinsurance segment remains stable this quarter. The mortgage segment's accident quarter combined ratio improved by 650 basis points from the first quarter of last year as a result of continued strong underlying performance of the book, particularly within our U.S. primary MI operations. The calendar quarter loss ratio of 3.5 percent compares favorably to the 15.5 percent in the same quarter of 2018, due to substantially lower delinquency rates. Part of the difference is also attributable to increased favorable prior development, which was approximately 670 basis points higher than last year. The expense ratio was 22.1%, lower by 120 basis points than in the same period one year ago, as a result of a higher level of earned premiums. Total investment return for the quarter was a positive 270 basis points on a U.S. dollar basis, and a positive 348 basis points on a local currency basis. Contributing to this result was our decision to extend our portfolio duration slightly during the second half of 2018, combined with the defensive high-quality position of our fixed income portfolio and the solid performance of our equity portfolio consistent with the recovery in global financial markets. The repositioning of our portfolio during 2018 combined with the reinvestment of shorter maturity bonds at higher yields generated higher investment income year over year. We also benefited from higher than usual investment income from investment funds in the quarter. The corporate effective tax rate in the quarter on pre-tax operating income was 13.1 percent and reflects the geographic mix of our pre-tax income and a 50 basis point benefit from discrete tax items in the quarter. As a result, the effective tax rate on pre-tax operating income excluding discrete items was 13.6% this quarter, higher than the 10.4% rate from the same quarter last year. At this time, we believe it's still reasonable to expect that the effective tax rate on operating income will be in the range of 11 to 14% for the full year. As always, the effective tax rate could vary depending on the level and location of income or loss and varying tax rates in each each jurisdiction. With respect to capital management, we repurchased approximately 111,000 shares at an average price of $25.96 per share and an aggregate cost of $2.9 million under a Rule 10b-5 plan that we implemented during this quarter's closed window period. Our remaining authorization, which expires in December 2019, stood at $161 million at March 31st. Our debt-to-capital ratio stood at 14.6% at quarter end, and debt plus preferred to total capital ratio was 21.2%, down 130 basis points from year end 2018. With these introductory comments, we are now prepared to take your questions.