W. R. Berkley Corporation (WRB) Earnings Call Transcript & Summary

Great. Thanks, everybody. My name is Mike Zaremski, here at Crédit Suisse. It's my pleasure to introduce the entire Berkley Executive Team. With us today we've Rob Berkley, President and CEO; Bill Berkley, Founder and Executive Chairman; Rich, Baio, CFO; and Karen Horvath, Director of Investor Relations. I personally hope we can revert back to the Ritz in Miami next year, but we'll see how the world shapes up in terms of corporate versus virtual events and what is hopefully a post-pandemic world in 2022. So that's my pitch to everyone to come to Miami next year. Real quickly, we've been recommending shares of W. R. Berkley for going on, I think, 2 years now in terms of outperform rating, it's kind of when we sense the marketplace was changing a bit and Berkley was likely positioned better than the average insurer to capitalize. I think some investors still push back that the stock is a bit rich valuation wise. And I sometimes retort by pointing out that Berkley's compounded book value plus dividends are at a low double-digit clip over the past decade and the volatility of the stocks of that return, too, has been more consistent than the peer average to build. And we're also in a good spot, I still think in the P&C cycle.

So maybe we'll start off talking about the P&C cycle. We'll keep the first question kind of broad. Bill and Rob, would love your insights on kind of the P&C cycle we're experiencing right now, is -- do you think the market is becoming -- is becoming less fragile? And it's kind of, I'd say, we're in the kind of second half of the game or are you still seeing kind of plenty of pockets for opportunities and kind of runway. And I know there's different pieces of the business that we -- and I don't want to check later, maybe we'll talk about E&S versus other lines?

Well, I think you have to really start with the historic nature of measuring what's going on in the P&C business. Because it's not just where we are, but it's understanding where you are. So much of the P&C pricing, reserving is all looking through the rear-view mirror. And therefore, how profitable is the business really right now, how adequate or inadequate are reserves at any point in time. I always tell people, my worst mistake in the history of being in business for more than 50 years was 1986 and '87, when, in fact, I cut back on the business, we wrote. So we start growing so fast, because I didn't realize how profitable the business was in '86 and '87. So we stopped our growth in '88. It was a terrible mistake. We missed the opportunity probably in '88, '89 and '90 for maybe as much as $1 billion in cumulative business and at huge profitability. We reported initially in '86 sort of a loss ratio in the high 40s, and it ended up being in high 20s. It's all an estimate. So where you are and what you do has to do with the estimates you make. And that takes some common sense extrapolating social inflation, extrapolating back a few years where you were and price changes. So we're particularly optimistic now because we think we have moved ahead of that curve with our pricing and where we've gone with that. My son, hopefully is not going to make the mistakes I made. He's learnt. So I'm going to let him talk about what we're doing now.

Thank you. I'm sure, I'll find new and different mistakes to make and hopefully can avoid repeating ones that we have made in the past. Mike, I would just maybe draw people's attention to a couple of things. We have a tendency to think about cycles maybe almost to a fault that one is a mirror image of others from the past. And the reality is, while there are some really important common threads as to what drives the cycle, one of the things that is important to recognize in my opinion, when thinking about the marketplace today compared to where it was in '86, if you like, or 2001, 2002 is. We saw in '86 and 2002, really our firm made to a great extent across the commercial lines P&C market, almost in lockstep. Today, we certainly are seeing many product lines in some stage of firming. And as we had commented recently is the -- our fourth quarter call that, with the exception of workers' compensation, every one of our product lines, we thought we were getting rate in excess of loss cost trend at this stage. But different product lines are in a different stage of firming. Workers' compensation being an extreme example where we believe that's in the early stages of bottoming out. On the other hand, you see some of the excess liability lines having been through and continuing to be in the throes of a very meaningful firming. So when we think about the marketplace, certainly, there are some common threads between what we are seeing today and past. Hardening markets at the same time while it is widespread. We are not seeing the product lines marching in perfect lockstep at this stage. But we do see that the momentum is likely to continue to build from here for some period of time.

And would you call out certain kind of areas of the business that are -- you feel most optimistic about? Is it going to be the broader excess and surplus size marketplace or pieces of E&S? Or would it be commercial auto or -- I mean, honestly, worker's comp pricing is really -- is it where profitability seems still excellent, just going to be less excellent most likely.

Well, I think a couple of things there. First off, the specialty lines and the E&S market would be an extreme example under the umbrella of Specialty lines, tend to benefit disproportionately during a hardening market. Because as that standard market resets its appetite and business is falling outside of their strike zone, and it makes its way into the specialty market, or in particular, the E&S market, there is opportunity for meaningful shift in the rate you charge as well as a notable shift in terms and conditions. Workers' compensation, I think one needs to be very mindful of that and make sure that you draw an appropriate distinction between reported calendar year results versus what you believe the policy year is running at. In addition to that, it is important from our perspective that people appropriately dissect the loss ratio and think about frequency versus severity. There have been many challenges that society has faced as a result of COVID-19, and the insurance industry is certainly part of that and has faced its challenges. But one of the benefits that has occurred has come about as a result of frequency of loss. And that is clearly the case in the workers' comp line. But severity trend has continued to move up, and I would [ Audio Gap ] at an increasing rate. And one needs to be careful that the benefit, if you will, to the loss ratio or loss trend, that is coming through as a result of temporary reduction in frequency due to COVID-19 that, that's not overshadow where loss cost trends are going. Because in the short run, that reduction in frequency is subsidizing severity. So I would be mindful of not underestimating the challenges that workers' compensation could be facing over time as again, the economy gets back on its feet, people are back to work more and more and frequency returns to a more traditional norm.

That's helpful. Maybe we can talk about kind of reserve processes and this might dovetail on the cycle. But I guess, one of the things that I sort of -- we sometimes get asked by investors is, why does Berkley tend to show low absolute level of reserve redundancy? And is it reflective of anything, maybe where we are in the cycle or maybe just the reserving process as well, any comments Bill or Rob or Rich?

I would just offer the comment that we looked at our certain reserves both at a macro level as well as at a very granular level every 90 days. We have peer reviews that go on within the group. We have outside resources that are reviewing what we are doing as well, and we feel quite comfortable where things stand. This has been a period of time, as Mike, we have discussed in the past, where we've seen the realities of social inflation rear its head in a very real manner from our perspective and being appropriately measured in the loss picks that you carry is something that we think is very sensible at this stage. Do I think that you are going to see just to maybe extrapolate a little bit, the benefits of the rate increases that are now starting to earn through have an impact on our loss ratio? Clearly, we have been getting rate that is outpacing, we believe, loss cost trend, and that is starting to come through on an earned basis. And we're feeling pretty good about that. But as far as the reserves go, we feel like we are in a good place. We are going to be thoughtful and measured about it and not declare victory prematurely. At the same time, we are not naive to the challenges that are coming in that, as a result of social inflation. I don't know, you may have some other thoughts to add.

No. I think one of the things people have to understand is, getting reserves right also talks about pricing right. So people who put too much up in reserves and have these redundancies, inherently, also get their pricing role. So focusing on trying to get your reserves right really means you're in more control of your business. So our goal is trying to get them right. And we don't think we succeeded, if we have big redundancies, just like we don't think we've succeeded if we have deficiencies. So it's really important to focus on getting it right, to let you know, how to price your business going forward. I don't know how if somebody has big redundancies, they're really able to determine what their pricing should be going forward. So we may have a different goal than some other people.

That's helpful. And I'll probably ask some companies that have a lot of redundancies about your insights, Bill. I guess, I know its very early stages. I'm going to shift gears to Texas a little bit. But I'd say a couple of things I think have caused people to ask questions is, some of the estimates there have said, it could be up -- the event could be up to 50% commercial lines. I know you guys don't have a lot of personal lines, or correct me if I'm wrong, do you -- would you agree that there's a lot of commercial losses in Texas? Or if you have any views on the ranges on the loss levels are very wide? I know it will take a time to unfold. But any comments.

Yes. From my perspective, this is going to be an event that impacts both personal and commercial lines. I think that to your point, a few moments ago, Mike, it's pretty early to try and cuff it or reach a conclusion as to where this is going to come out. But this is going to be a big event for the industry, and it is going to affect both the personal line space as well as the commercial lines space without a doubt. Pipes froze, pipes broke, and a lot of water came out amongst other issues. We'll have to see how it plays out. Obviously, there's a lot of discussion as to what type of recourse there may be towards the power companies and the associations that they are affiliated with or that oversee them. We'll see how that plays out. Is it going to be similar to what we saw happen in California with the wildfires, where the utility had exposure or not? But regardless, as far as claims activity, there is no doubt that this is going to affect both the personal and the commercial lines marketplace.

And any other nuggets of -- is this a big enough event -- this seems like it was a nonmodeled risk. Is this an event that could cause the market to move a little bit? Or it's just -- if this is only 1 in 50 or 1 in 100, it's kind of seen as -- this isn't likely to ever recur again. And so maybe we'll...

But when you have enough 1 in 50 and 1 in 100 events happening within a decade or less, I think people start to think about return periods maybe a little bit differently and they start to think about rate accuracy, maybe a little bit differently. Clearly, when people think about Nat cat, particularly in Texas, people are not thinking about winter storm and the consequences of that. Do I think that this is going to have a radical impact on the models? Maybe. Maybe not. Really don't have -- don't know the answer to that. But what I can tell you is that, it's just another turn of the vice for the property market and the insurance industry and reinsurance industry by extension overall to really remind us bad things happen and a lot of times they are unpredictable, and are we charging enough for the unforeseen event that, that capital is exposed to.

Maybe shifting gears to macro little bit. You can remind us, I believe there's an asset liability duration kind of mismatch in that you're keeping some powder dry in the investment portfolio. Does the recent kind of changes in the curve and the rise in interest rates, is it intriguing enough to start kind of making some shifts?

I think that you've seen the 10-year up to 1.5%, give or take, 50 basis points up. The yield curve is steepening. I think the real -- you have a couple of risks. Number one, you have the risk of inflation. The $1.9 trillion bill shows you that, we have Congress, that we're spending money is probably the answer to everything. And spending money is certainly the answer to giving us more inflation. They're going to have start to invest the treasury bills out of, treasury financing out longer because they can't afford to keep rolling the money over. So you're going to start to see longer treasury issuance, which is going to further steepen the yield curve in our view. We'll have to see how far out they side put it, 20, 30, 50 years. We don't know. But they can't constantly be rolling or refinancing. The historic recent buyers, China and Japan have their own agendas, their own objectives. We think it's moving to be more attractive, but the risk of inflation and are there buyers who are going to still want to be in that longer-term bond market with that risk is the real question. So we wouldn't be surprised to see interest rates so higher on the 10-year or more. And the question is, how far back will that split? The duration of our liabilities is about 3.5 years. The duration of our portfolio is about 3.4 years -- excuse me, its 2.4 years. So we have as bigger spread as we've ever had. We have a few billion dollars of cash, and it's increasing pretty dramatically. We want to have flexibility. We intend to continue that. We've been rewarded, but we've paid a price. Right now, we're going to continue that view of launch. But I think that, it puts a lot more pressure on the underwriting side of the business for greater underwriting profits because short-term money yield is very, very low. So we'll continue to be cautious, but it's beginning to be a little tempting. And if the higher rates move down a little further on the yield curve, we probably will be putting our toe in the water.

Okay. Thank you, Bill. Question on reinsurance. The formation of Lifson Re, so kind of third-party capital for those tuning in. Is this open pockets of business that you couldn't write in the past? Maybe you can kind of -- is there -- I don't know if it's a -- if it's public, kind of who you're partnering with? Just any color on whether we should be thinking Lifson Re kind of gets you into new business classes or has -- what kind of impact it could have on the income statement?