RLI Corp. (RLI)

RLI 
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RLI Corp. (RLI)

Q3 2008 Earnings Call

October 15, 2008 11:00 am ET

Executives

John Robison - Treasurer

Jonathan Michael – President and Chief Executive Officer

Joseph E. Dondanville – Senior Vice President, Chief Financial Officer

Michael J. Stone – President, RLI Insurance Company

Analysts

Matthew Carletti – Fox-Pitt, Kelton

Bijan Moazami – FBR Capital Markets

Mike Grasher – Piper Jaffray

Michael Phillips – Stifel Nicolaus & Company, Inc.

DeForest Hinman – Walthausen & Company

Ron Bobman – Capital Returns

Presentation

Operator

Welcome to the RLI Corp. third quarter earnings teleconference. (Operator Instructions)

Before we get started let me remind everyone that through the course of this teleconference RLI 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 in the annual Form 10-K which should be reviewed carefully.

The company has filed a Form 8-K with the Securities and Exchange Commission that contains a press release announcing second quarter results. RLI management may make reference during the call to operating earnings and earnings per share from operations which are non-GAAP measures of financial results.

RLI’s operating earnings and earnings per share from operations consist of net earnings after the elimination of after tax realized investment, gains or losses. RLI’s management believes that this measure is useful in engaging core operating performance across reporting periods, but may not be comparable to other company’s definitions of operating earnings.

The Form 8-K contains reconciliations between operating earnings and net earnings. The Form 8-K and press release are available at the company’s website at www.rlicorp.com. At the request of the company, we will open the conference up for questions and answers following today’s presentation. I will now turn the conference over to RLI’s Treasurer, Mr. John Robison. Please go ahead.

John Robison

Joining me for today’s call are John Michael, President and CEO of RLI Corp., Joe Dondanville, Senior Vice President and Chief Financial Officer, and Mike Stone, President and Chief Operating Officer of RLI Insurance Company.

We will conduct this call as we have in past quarters. I’ll give a brief review of the financial highlights and discuss the investment portfolio. Mike Stone will talk about the quarter’s operations, then we’ll open the call to questions and John Michael will finish up with some closing comments.

Our third quarter operating earnings were $1.12 per share. Included in this quarter’s earnings are $21.9 million in pretax favorable development and prior year’s loss reserves. The favorable development came from our Casualty and Surety’s book to business. In addition, we reported pretax net losses from both hurricanes of $21 million, roughly $5 million from Gustav and

$16 million from Ike.

The combined ratio for the second quarter was 88.3, resulting in underwriting income of

$15.2 million. The soft market continues to impact our top line. Our total gross written premiums are down quarter over quarter 8% to $173 million.

Turning to the investment portfolio, it’s certainly been an interesting time in the capital markets. Our investment income declined 3% quarter over quarter. A large portion of our cash flow in 2007 and 2008 has gone to fund the share buyback program and short term rates are lower today than this time last year as a result of several Fed interest rate cuts.

Other comprehensive earning shows a loss of $24.1 mill for the quarter. This is a result of market fluctuations and reflect the net change in market value of our $1.8 billion investment portfolio. Net losses on investments for the quarter was $24.2 million pretax. The majority of these losses were classified as other than temporary impairment charges. Most of these losses stem from our preferred stock portfolio for we held securities in the financial sector. Of that amount, $8 million represents losses not yet realized through sale.

Obviously the events leading to a market decline are well documented. Fannie and Freddie taken into new conservatorship; Lehmans filing for bankruptcy; Bank of America acquiring Merrill Lynch; the U.S. government stepping in to save AIG; money market funds breaking the buck; three month treasury bill touching 0% yield; and Washington Mutual becoming the largest bank bankruptcy in history. Our portfolio is well diversified, but not immune to market corrections. We will compare favorably too many indices that cannot escape the fear that has spread across the capital markets.

Our total portfolio return was -2.1% for the quarter, and -2.7% year-to-date. Our fixed income portfolio has an overall credit quality of double A, and a duration of roughly 5.

Given the turmoil in the capital markets today, I wanted to provide additional insight into our investment portfolio. We have not significantly changed our asset allocations since last quarter, with the exception of our preferred stock portfolio. At June 30 we had approximately $40 million or roughly 2% of our invested assets in preferred stocks. The changes in the marketplace and the fact that these issues were dominated by financial issuers has led us to substantially reduce our preferred portfolio. Today we have less than $16 million in preferred securities.

Again the majority of our other than temporary impairment charges have come from the preferred stock portfolio. To provide additional color on our portfolio, I want to give you our investment allocation at 9/30. Roughly 15% are in corporate bonds; 12% in mortgage backed securities which are all Fannie Mae, Freddie Mae, Jennie Mae triple A rated; 18% is in straight agency debt triple A rated; 3% is in commercial mortgage backed securities triple A rated; 2% is in asset backed securities with an overall rating of triple A.

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