Earnings Call
Arch Capital Group Ltd. (ACGL)
Earnings Call Transcript - ACGL Q3 2021
Operator, Operator
Good day ladies and gentlemen, and welcome to the third quarter 2021 Arch Capital Group Earnings Conference Call. At this time, all participants are in a listen-only mode. Later we’ll conduct a question-and-answer session and instruction will follow at that time. As a reminder, this conference call is being 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 are 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 8-K 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 host for today’s conference, Mr. Marc Grandisson and Mr. Francois Morin. Sirs, you may begin.
Marc Grandisson, CEO
Thank you, Liz. Good morning and welcome to our third quarter earnings call. We are pleased to have delivered solid results this quarter as our operating units generated a 9.3% annualized operating return on equity and a 12.5% annualized net income ROE despite an active catastrophic quarter. Premium writings and rate growth remain strong in our P&C unit, driving solid fundamental earnings while our mortgage insurance unit again produced excellent results. The current market conditions allow us to demonstrate the value of our diversified platform and underwriting strength as they provide us with plenty of opportunities to deploy capital and generate an expected return on equity in the mid-teens. In the broader P&C arena, we continue to see the market hardening along with ample evidence that our industry is addressing the adequacy of pricing across most sectors. The trajectory and market acceptance of rate increases reinforce why we remain optimistic that improved economics in the P&C market will be sustainable for some time. As you know, the P&C industry is facing many degrees of uncertainty; heightened catastrophic activity in four of the last five years, rising inflation, COVID's ongoing influence on the global economy, and enduring low interest rates. When faced with escalating risk, underwriters need both rate increases and conservative loss estimates in order to build adequate margins of safety into premium levels. With our agile underwriting, established teams, and strong capital position, we are well-equipped to grow into this improving market. Turning now to our operating units. We’ll begin with insurance, where our early focus on strengthening our underwriting capabilities and seizing recent market opportunities is working. Gross written premiums continued to grow substantially, up 32% over the same quarter in 2020, and our accident year combined ratio excluding catastrophes improved to 90.5%. This is another indication of the progress we have made in our specialty insurance business. We have been leaning into this hardening market for two years now as rate increases remain well above the long-term loss cost trends and have spread to more lines than last year. Overall, 2021 rates are up around 10% compared to 2020, and we expect that the benefit of higher premium levels will be realized well into 2023, enhancing our expected returns for that period. This quarter had many bright spots including positive rate increases that have accelerated in lower limits accounts. These lines have previously lagged the increases in larger accounts, but that is no longer the case. Our early focus on Lloyd's and business in the UK has improved our scale and our economics in this market. Some of our business lines that were most impacted by COVID, like travel, are recapturing some of the lost volume, as both business and consumer travel increase. In summary, our specialty insurance group is making the most of the current opportunities. Pivoting now to our reinsurance group. It delivered strong growth in the quarter with gross written premiums up nearly 25% over the same period in 2020. On a net basis, reported growth was only a modest 3% versus the same quarter in 2020 due to a catch-up in sessions to Watford following the purchase of the company with our partners on July 1. Francois will provide more detail during his comments. But absent this one-off transaction, reinsurance net written premium growth was still very strong at 30%, and our outlook remains favorable. Similar to instruments, we’re experiencing broad rate increases in our specialty and casualty reinsurance lines. In the quarter, our reinsurance segments reported a combined ratio of 106%, reflecting the effects of the third quarter catastrophes, primarily Ida and the Central European floods. But the reinsurance accident year combined ratio excluding catastrophes is excellent at 83.2%. There are signs that property market rates could adjust higher due to catastrophe fatigue, as you’ve likely heard on other calls this quarter. The recent five-year period of elevated losses from catastrophes proves an important insurance adage: losses don’t know the level of the premium. There are also early indications that retrocessional and aggregate excess of loss protections are becoming increasingly hard to come by, and we believe that this will be reflected in higher property rates broadly. As you know, we were and remain judicious in the deployment of our catastrophe PML, which was effectively flat in the third quarter. At less than 6% of our tangible equity, we remained underweight in net property catastrophe exposure, and we will deploy more capital to the line as expected returns improve above our target. It’s too early to make a call on the January 1 renewal process, but pricing in this sector is heavily influenced at the margins, and if ILS or other capacity phase out there could be a possibility for significant rate corrections and increased engagement on our part. In the meantime, our reinsurance teams are demonstrating their agility and, like insurance, are leaning hard into the markets where returns are most attractive. Thirdly, our mortgage group continues to deliver exceptional returns. It generated $234 million of underwriting profit in the third quarter and continues its impressive rebound from last concerns associated with the pandemic. As of September 30, insurance in force of $457 billion for the segment was up modestly. Further good news is that notices of default have declined to pre-pandemic levels as of September 30, which is a good indicator of improved conditions. Additionally, loans in forbearance continue to decline as federal programs conclude, and we remain cautiously optimistic that most of these loans will ultimately cure. Rising home prices have broadly increased homeowner equity, and you will recall our position that equity levels are the best indication of whether a delinquency will ultimately result in a loss. We estimate that 98% of our loans in forbearance today have at least 10% equity, providing significant protection against potential losses. Overall, the mortgage insurance market remains competitive but rational, and our business continues to generate returns on capital in the mid-teens. Mortgage originations continue to pay similar to last year’s record origination volume, and credit quality remains excellent. As you know in all of our operations, we actively manage capital to enhance shareholder returns. The strong results in our mortgage segments have enabled us to optimize our capital structure via increased reinsurance sessions through our Bellemeade mortgage insurance-linked notes as well as traditional reinsurance. Additional reinsurance purchases enable us to reallocate capital towards faster growing areas and specialty property and casualty lines while enhancing our return profile and mortgage insurance by reducing required capital. Mortgage insurance remains a very attractive business for us. Now a point of pride and interest to us and perhaps to you all is that last Saturday, October 23, Arch celebrated its 20-year anniversary. So I want to say to our investors, thank you for believing in us, and to our employees past and present, thank you for your contributions to Arch over the last 20 years, and to our clients for showing support and conviction in our capacity to provide products to you. Finally, the PGA Tour is in Bermuda this weekend, so golf is top of mind. A golf tournament is interesting in that it takes place over several days, and therefore consistency is critical. You have to be sure to pick your spot and lower your score, but if you want to make the cut, you have to limit the bogeys early so that you can play more aggressively in the stretch. Once you get to the weekend, you can play with a bit more freedom and really try for the birdies and eagles. At this point in the cycle, we feel we’ve made the cut, and now we focus on really taking advantage of our positioning to make sure we end up at the top of the leaderboard. Francois?
Francois Morin, CFO
Thank you, Marc. And good morning to you all on this first day of the Butterfield Bermuda Championship here in Bermuda. Thanks for joining us today. Before providing more color on our solid third quarter results, you will have observed that while our earnings release still makes a distinction between core and consolidated for purposes of comparison to prior periods, there is no difference between the two presentations this quarter. As we discussed on the last call, the closing of the Watford transaction on July 1 gave rise to a reconsideration event, and as a result of our updated VIE analysis, we no longer consolidate the results of Watford in our financial results. Our 40% share of Watford results is now reported in the income from operating affiliates line, and there is no longer a need to make a distinction between core and consolidated results in our financials. As Marc shared earlier, our after-tax operating income for the quarter was $294.7 million or $0.74 per share, resulting in an annualized 9.3% operating return on average common equity, and book value per share increased to $32.43 at September 30, up 1.3% in the quarter, a very solid result in light of the catastrophe activity that was much higher than the long-term average for this quarter, which we estimate to be over $45 billion in uninsured losses for the P&C industry, approximately three times the average third quarter catastrophic losses observed over the last 10 years. This quarter, I wanted to first give you some additional detail on the results of our reinsurance operations which were impacted by the Watford acquisition, especially on the top line. As part of the agreement signed at the beginning of the year with our co-investors in Watford, we committed to ceding varying percentages of the premium written by our Bermuda and U.S. treaty reinsurance operations to Watford, effectively enhancing the existing business model to also serve as a sidecar for Arch. While their retrocession agreements were effective as of the start of the year, their signing was contingent on the transaction closing which delayed their recognition in our income statement until this quarter. As a result, the third quarter ceded written premium reflects a catch-up of approximately $161.2 million from the first half of the year. The impact of the premium catch-up adjustment on underwriting income for the reinsurance segment was minimal. Growth in gross written premium remained strong at 24.6% on a quarter-over-quarter basis, and growth in net written premium would have come in at 29.5% adjusting for the Watford catch-up. The growth was observed across most of our lines, but especially in our casualty, other specialty and property other than property catastrophe lines, where strong rate increases and growth in new accounts helped increase the top line. The segment’s accident quarter combined ratio excluding catastrophes stood at 83.2% compared to 83.1% on the same basis one year ago. On a year-to-date basis, the ex-cat accident year combined ratio has improved by approximately 250 basis points over the same period last year, reflecting the improving underwriting results in most of the lines in which we write. Losses from 2021 catastrophic events in the quarter net of reinsurance recoverable and reinstatement premiums stood at $335.9 million, or 17.4 combined ratio points compared to 12.5 combined ratio points in the third quarter of 2020. As noted in our pre-release, our P&C operations were impacted by Hurricane Ida, the European flooding events of July, as well as a series of other events across the globe. Our mortgage segment had an excellent quarter with a combined ratio of 26.2%, reflecting favorable prior development of $48.4 million, about half of which came from U.S. MI, from better than expected cure activity in pre-pandemic delinquencies and recoveries on second lien loans. The decrease in net premiums on a sequential basis was primarily attributable to lower levels of single premium terminations in the quarter for the U.S. MI business and to a lower level of call to CRT transactions than what was observed in the second quarter. Recall the second quarter benefited from higher earned premiums due to an unusually high number of CRT transactions being called, which we highlighted as effectively being a non-recurring event. The delinquency rate for the U.S. MI book came in at 2.67% at the end of the quarter, a material reduction from the peak we observed at the end of the second quarter one year ago. We had another solid quarter in terms of production, mostly from the purchase market, and with refinance activity coming down from prior levels, the insurance in force for our U.S. MI book grew slightly. The increase from last quarter in the insurance in force of our international mortgage unit is mostly the result of the acquisition of Westpac Lenders Mortgage Insurance Limited in early August. Although income from operating affiliates grew significantly to $124.1 million, it is worth noting that approximately $95.7 million of the total is attributable to one-time operating gains resulting from the acquisition of a 40% stake in Watford, which was offset in part by a realized loss upon deconsolidation with a resulting net income gain of $62.5 million. The remainder of the operating income from affiliates represents our share of the net income generated this quarter by our operating affiliates, which consists primarily of Watford, Coface and Premia. Total investment return for our investment portfolio was de minimis on a U.S. dollar basis for the quarter. Net investment income was $88.2 million during the quarter, down by $1.2 million on a sequential basis, driven by lower coupons on fixed maturities and lower income on consolidated funds. The duration of our portfolio remains low at 2.68 years at the end of the quarter, reflecting our internal view of the risk and return tradeoffs in the fixed income markets. Equity and net income of investment funds accounted for using the equity method produced $105.4 million during the quarter, more than half of the total income generated by our investment portfolio and a key contributor to the growth in our book value. As we discussed on prior calls, we have increased our allocation to alternative investments in the last few years, and these funds now represent approximately 12% of our total portfolio at the end of the quarter. We are also very pleased with their performance so far this year, which stands at 13% year-to-date. Of note, had we included income from funds using the equity method in our definition of operating income, our reported operating ROE would have increased by 3.2% on a year-to-date basis to 13.3%. While these funds' returns are potentially more volatile than core fixed income strategies, we believe the incremental returns they provide more than compensate for the liquidity constraints and volatility that are usually associated with them. The effective tax rate on pre-tax operating income was a benefit of 0.7% in the quarter, reflecting changes in the full year estimated tax rate, the geography mix of our pre-tax income, and an 8.2% benefit from discrete tax items in the quarter. The discrete tax items in the quarter primarily relate to partial release in the valuation allowance on certain U.K. deferred tax assets. Now a quick comment on the two acquisitions that we closed on this quarter, Westpac and Somerset Bridge. You will have seen that in accordance with purchase gap we established approximately $337.4 million of intangibles and goodwill this quarter, most of which will be amortized through our income statement going forward. To help with your modeling efforts, we now expect our amortization expense to be approximately $25 million in the fourth quarter of this year and $21 million quarterly throughout 2022. On the capital front, we redeemed all of our outstanding series e-non cumulative preferred shares for $450 million on September 30. Separately, we repurchased approximately 9.7 million common shares at an aggregate cost of $386.9 million in the third quarter. If we include the additional common shares we have purchased in the fourth quarter, the year-to-date totals are now approximately 24 million shares or 5.9% of the common shares outstanding at the beginning of the year for $917.7 million. Some of the additional share repurchases in the fourth quarter were effectuated under the new share repurchase authorization of $1.5 billion approved by our Board of Directors earlier this month. As we have said since our formation 20 years ago, our core operating principles are anchored in active cycle and capital management. We believe this quarter's results demonstrate our ability to execute on this philosophy and lead us to invest in opportunities where we believe the returns are most attractive. At recent prices and with the prospect of improving returns, we believe buying back our shares continues to represent another compelling value proposition for our shareholders without compromising our capital flexibility nor lessening the quality and strength of our balance sheet. With these introductory comments, we are now prepared to take your questions.
Operator, Operator
Thank you. Our first question comes from Elyse Greenspan with Wells Fargo.
Elyse Greenspan, Analyst
My first question, Marc, you talked about the mortgage business, you mentioned buying more reinsurance. So there was more capital for growth on the P&C side, which I found interesting. In the past, you have spoken about mortgage running at around a 15 plus return and P&C kind of 10 to 12. Have the dynamics changed that caused you to buy some more reinsurance to pursue more growth on the property casualty side?
Marc Grandisson, CEO
Yes, I think all opportunities on the P&C side have improved over the last couple of years, and I think we’re even more convinced that this has legs for the foreseeable future. So that makes us more proactive to balance, if you will, the capital allocation between more than one year. I mean, we did rely heavily on capital deployed in MI for quite a while because the returns in P&C as released weren’t as attractive. But now that we have new attractive, increased and improved returns in the P&C, it behooves us to balance the risk profile in the portfolio. That’s one of the reasons why we would do more reinsurance, and again, the reinsurance also helps our return on a net basis as well, which is also another benefit.
Elyse Greenspan, Analyst
But are the return numbers I gave still kind of where you see the three businesses? So 15% plus and then 10 to 12?
Marc Grandisson, CEO
Yes. I would say on the P&C side, it’s getting up as north of that now. I think our prospects are closing; the gap is closing between MI and P&C, if you will.
Elyse Greenspan, Analyst
So higher than 12%?
Marc Grandisson, CEO
I would agree. Yes, I would think it’s the case, yes.
Elyse Greenspan, Analyst
And then, in terms of capital, you guys put in place a $1.5 billion authorization. It sounds like you’ve bought back a little bit under that so far this quarter going through the end of next year. I know obviously what you buyback depends upon the market also for your shares and the trading over the course of the next year. But when you put that in place, was that designed to set a mark of what you will buy back, or are there just other factors that could cause you to either fully buy back that level, or maybe come in lower, just help us kind of think through that as we think about capital return through 2022?
Marc Grandisson, CEO
Well, I mean, two things. I mean, we bought, we’re close to a billion dollars this year. So we don’t want to go back to the Board every three months and ask for more. So we thought, okay, what may we need, could we need by the end of 2022 over the next 15 months effectively, $1.5 billion, that’s just a nice round number, nothing special about it. But are we committed to that number? The answer is absolutely not. If the market keeps improving and we have the ability to deploy all the capital and then some in the business, we may not end up buying anything back. So it’s really, again, a function of market conditions. And vice versa, if the market doesn’t really generate give us a lot of opportunities to grow, we might be in a position where we buy back more than not. So it’ll really depend on what we see in front of us over the next 15 months. If we end up going through the billion and a half sooner than next year, then we’ll do something else. So it’s very dynamic, very real-time, I’d say, and we’ll see where things take us.
Elyse Greenspan, Analyst
Thanks for the color.
Operator, Operator
Our next question comes from Jimmy Bhullar with JPMorgan.
Jimmy Bhullar, Analyst
So first, I have a question on just what you’re seeing in terms of pricing both on the insurance and reinsurance side. And to what extent do you think price increases are going to hold versus maybe especially on the reinsurance market? It seems like things have been getting a little bit softer throughout the course of the year. But how do recently high catastrophes affect your view of what one knows?
Marc Grandisson, CEO
Right Jimmy. If we bifurcate the market into property catastrophe, I would tend to agree with you that the property catastrophe rates did not increase as much as we had hoped collectively as an industry, and I would say not only at Arch, it’s not a single Arch phenomenon. Therefore, that’s why you saw us write less property catastrophe over the last nine months as a reaction to those rate levels. It’s still early, like I said in my commentary, but I think we should have a re-pricing, definitely re-pricing in Europe and in the U.S. even for the layers that have been impacted, that’s for sure. I think it would start to spill out even onto those that have not sustained a loss because I think there’s a recognition of heightened catastrophe activity. The market is sort of bracing for that as we go forward. It’s going to be a matter of degree. On the rest of the marketplace, I think that overall, if you look at the liability lines in general, overall you can think of a quarter share. If you’ve got a quarter share of casualty or liability lines, you’re benefiting from the rate increases in the business, and I think the ceding commissions, which were held high through 2020, are starting to come down a little bit. So there’s a recognition that there’s a bit of an improvement from that perspective and a quarter share on the excess of loss in general for liability, the ratio is stable to somewhat and is more stable, but again, you apply those rates against a base that is increasing in premium level. They are also getting some price uplift. The reinsurance market, Jimmy, feeds off of the insurance market, right, in a positive way. I want to make sure it’s a positive message. We actually, we are on the receiving end of a portion of what the insurance market writes, and to the extent that the insurance market writes premium at a higher level, we are benefiting from those rate increases.
Jimmy Bhullar, Analyst
And then can you quantify how much you’ve got in terms of COVID reserves, especially for business interruption? I'm assuming they're mostly still IBNR as you’ve been quantifying last year and just discuss what the process would be and the timeline would be for releasing these, given that for the most part, it seems like the courts have been siding with the insurance companies at least thus far in the U.S.?
Marc Grandisson, CEO
Yes, I would say, I mean, we’re still very much, a lot of IBNR, and our COVID reserves, more than half, about 60% or so I’d say, call it COVID reserves on the P&C side are still IBNR. So and how quickly do we, well, we know or not know whether we’ll need those reserves, time will tell. I think it’s where we said yes. I don’t disagree that so far there have been a couple of positive developments from the courts, but it's going to take a while. I truly think this is a very complicated issue that will take years to resolve. So I wouldn't expect us to really take dramatic action on the level of COVID reserves on the P&C side for some time.
Francois Morin, CFO
And Jimmy, in our industry and insurance, you could win 95 lawsuits and lose 96, and it changes everything. So there's a lot of uncertainty in our space, even though we've been on a good streak; one change could change everything.
Jimmy Bhullar, Analyst
And what is the rough dollar amount of reserves?
Francois Morin, CFO
That's a good question. I don't have it in front of me. We can circle back with you. I know we booked a few hundred million dollars last year, and we paid some of that. I don't have the current figure, but we can give you that.
Marc Grandisson, CEO
We haven't changed ultimate, Jimmy, over the last three quarters.
Jimmy Bhullar, Analyst
But it's not something like that's more maybe 2023/24 as opposed to 22 in terms of potential releases on these?
Marc Grandisson, CEO
There are releases. I will say yes it will probably take another year, year and a half, and we might hold a little bit longer for the reasons I just mentioned in terms of the court decisions.
Operator, Operator
Our next question comes from Mike Zaremski with Wolf Research.
Mike Zaremski, Analyst
Great morning, afternoon. I guess in some of the prepared remarks, when you guys were talking about the primary insurance segment, talked about kind of seeing rate acceleration actually in the lower limits kind of the smaller commercial space. Any theories on why that's happening? Is it due to loss cost trend increasing, because we're kind of seeing a fading of rate a little bit or deceleration in the large account space? So kind of curious if you guys have any views, maybe broadly too, on kind of loss cost trend given all the uncertainty during the pandemic on the primary insurance side?
Marc Grandisson, CEO
Well, the loss cost trend as we observe it, and it might change, is still roughly 3% to 5%. It depends on lines of business. But we have already changed our view on this at this point. We had a loss reserve review a couple of months ago. So then it's not changing, although we are putting in a loss ratio pick an extra level of margin of safety to make sure we wouldn’t be missing because it could be higher as you know inflation is certainly another concern that we all have collectively as underwriters. In terms of my theory about why the smaller accounts get those rates right now, it's just the market is a human psychology market. Pricing gets more acutely needed in a larger capacity play. This is where the market starts focusing its first efforts as the market hardens. This is not unusual. This is a very, very normal phenomenon in hardening markets. You tend to try and fix those are more important, meaning you can put a $10 million to $15 million to $25 million limit; these are the ones you're going to try to fix right away because presumably, those will have caused you a bit more pain over the last two to three years, and you were expecting more pains coming from that portfolio. It’s just a matter of time before people start looking sideways as to what other lines of business need rate, and then you start dipping down into your overall portfolio and seeing where the liability trends, for instance, might also be impacted. This is sort of a second-round sort of a rippling effect from the main capacity providing players into the ones who have lower players. At the same time, to be fair, and to be truthful, you also have development ongoing happening on the smaller account at the same time. It's just not as acute and as glaring and as obvious early as a larger capacity play. That’s why.
Mike Zaremski, Analyst
That's interesting. It's helpful. Let me switch gears to the mortgage segment. Just curious, I know the forbearance levels continue to decrease. If you could remind us, I believe there's some extensions to the forbearance program or maybe even new kind of enhanced programs where the P&I could be reduced if the payment can be reduced by up to 25%. Is that correct? And if so, are you seeing your borrowers utilize those options?
Marc Grandisson, CEO
Yes. So right now, the program expired on September 30 in terms of foreclosure prevention, but regarding forbearance, it's still unclear because they could also come back and extend it further if things were to change, and the CFPB is also involved with the FHFA saying that we don't want to have any more, there’s a moratorium on the foreclosure process as well. Both federal entities are trying to push the mortgage loan or mortgage originator into providing solutions to the borrowers who are still in forbearance or not current on their payments. To your point, a lot of it is going to be continuous same payment, most of it will be continuing the same payment as prior to the COVID forbearance program and is attaching towards the end the lack of what wasn’t paid, or what was accrued as unpaid at the end of the loan. This is roughly what it's going to look like. But it's going to be another three quarters before we have more visibility because even though the forbearance programs stopped, people should come now to the banks and to the mortgage originator trying to remediate their position from a forbearance perspective, but it's still going to take another six to nine months, and I think the agencies are watching carefully. Everything is heading towards a happy resolution, if you will, of the overall forbearance programs like everybody is focusing on this at this point in time.
Mike Zaremski, Analyst
And one last one sticking to mortgage, and I could take this offline with, but just to want to the increased premium ceded as a percentage of gross, is that due to Bellemeade? And I guess if it is, can you guys continue to upsize the reinsurance usage in the segment if you thought opportunistically you wanted to shift more growth towards other lines of business?
Francois Morin, CFO
Yes. That's very much in that vein. I think Marc made the point earlier. We're always looking to optimize the portfolio, and certainly a lot of that is focused on capital deployment. We, I think, made the point last call that we had increased our quarter share percentages on the U.S. MI book at 71. So that's starting to play through basically, and that is reflected. We are still very active in the Bellemeade space. So we're purchasing quite a lot there as well, and I'd say those two things combined really explain why we have more ceded premium starting this quarter.
Mike Zaremski, Analyst
Got it, and there is more appetite, if you decided to do more, either quota or Bellemeade or both in the future? Are you kind of reaching a max?
Marc Grandisson, CEO
I mean, I’d say we certainly do a lot of Bellemeade as it is. So I don't want to say we wouldn't do more, but we're already very active in that space and made big placements. So I wouldn't expect us to necessarily increase that vehicle or mechanism to transfer risk a whole lot. And on the quota share, yes we see more we could, but then it's a risk-return trade-off and whether the economics work reasonably for us too. So right now, we're happy where we're at. If things change in the market gives us better opportunities, we could conceivably see a bit more. Yes.
Operator, Operator
Our next question comes from Josh Shanker with Bank of America.
Josh Shanker, Analyst
Yes, good morning, everyone. This may not be the best math, but it's rough. I think you guys had the inventory of COVID era moratoriums claims, about 120,000, you had about 90,000 cures. I'm estimating that you guys have about $20,000 up for notice right now in the portfolio, may not be exact. Historically, you've had about an average of $5,000 up for notice. It seems like the reserves are stuffed particularly if you tell us that 90%, 98% of the claims have at least $10,000 in equity. So, I mean, I'm trying to rectify all this like, can you explain to me? I feel so I've asked this question before; I just don't understand what's going on there?
Marc Grandisson, CEO
Yes, the response will be quite similar. That’s a great question. Regarding the average case reserved for annuities, I believe it’s exactly $23,500, which you can find in the supplement. You are correct that this figure has risen from last year. The run rate before COVID was roughly between $10,000 and $12,000, so there has been an increase. We’ve also received about $110,000 in claims related to COVID forbearance, with roughly 78% having been resolved so far, which brings us to about $20,500. I think the outstanding number is around $31,770 in terms of notices of default. When you multiply that by $23, it indeed looks high. There are a couple of points to mention. Firstly, the average severity of policies affected by COVID-19 is starting from 2018 and 2019, and those have a higher phase compared to the notices of default we had in 2019, which were mostly from before 2008. One has to consider the increase in coverage over the past 10-12 years, which explains why the $23 figure appears higher than the $11 or $13 historically. As for where it should go, that’s more of an art than science. We are cautiously optimistic that we may not need to use the reserves, and hopefully, some will resolve better than expected. However, it’s important to remember that this is a political matter. Changes could occur quickly due to the FHFA, the GSEs, or the housing department. We need to be very careful, as this is an unprecedented situation for us. We will adopt a cautious and prudent approach to reserving. If we find we don’t need those reserves, as is typically the case, we will transfer them from the liability side to the capital side without leaving them stranded for long. Nevertheless, there are many uncertainties, and we understand your confusion. This is a highly unusual situation for the industry, which is why we have to reserve appropriately.
Josh Shanker, Analyst
And my second question, unrelated. Can you talk about the differential, I guess the new business penalty, between new business you're putting on the book, and legacy customers on whom you have a deep sense of their risk factors on those accounts? Is there a gap? Is the business that you're renewing, at better margins at least the way you're booking it to new business, given that more about the business you already have?
Marc Grandisson, CEO
I believe, Josh, you're talking about P&C, right?
Josh Shanker, Analyst
Yes. This is totally primary P&C, not more.
Marc Grandisson, CEO
Right. That makes sense to me. So it’s a really very astute question, Josh, because we're keeping track of the renewal rate versus a new business rate level. And symptomatic or as a representation of the hardening market, the pricing of the new business is coming higher than the renewal business, and that sort of speaks to the fact that they need a new home and they need to be re-priced, people sort of get tired of that relationship, and that goes back through them back into either the ENS or the mid-market. So right now, we're still seeing, on average, the new business price better than renewal business.
Operator, Operator
Our next question comes from Tracy Benguigui with Barclays.
Tracy Benguigui, Analyst
Thank you. Just a big picture question. I’ve seen this quarter with you and your closer peer group is that the insurance growth is outpacing the more primary market-focused players without the reinsurance arm. Are you seeing a lot of market dislocation where you feel like you just do a better job assuming displaced risks that still meet your risk-adjusted return hurdle?
Marc Grandisson, CEO
I would like to think we're better than the average guy out there. But the truth I think, overall, the dislocation was much larger in 2020. I think you're still seeing some dislocation right now. It's certainly not; there is still some repositioning of limits provided the market by a lot of players still as we speak. What explains our ability to grow is, first, we have a really well-established presence and we were very underweight historically. We are really, really a good market for people that want good security for products such as DNO for instance; we're really a good home for someone to take on new business as an insurer, and we're benefiting from that as an incumbent with a good quality, and reputation as we do. Also, I think the other thing that I want to mention, we had said that last year, we were suffering a little bit from the lack of traveling that impacted our travel portfolio. That certainly helps, right Tracy; the fact that the economy is reopening and people traveling a bit more also helps explain why we're able to grow a bit more than probably meet the average than the average would. Lastly, beyond just new business funding new homes, I think programs were also going in in programs, as you see this is very specialty, smaller risk. I think again another example of programs finding a new home going away from the existing incumbent possibly because of our results and finding a new home, and we're definitely on the receiving end of that relationship.
Francois Morin, CFO
Yes. And one thing I'll add quickly, I think both depending on the mix of business of what you call the more established and the traditional insurers, I mean workers comp and commercial auto typically make up bigger shares of their portfolio. Auto is moving up nicely, but I would say that certainly comp is and had a really good period of excellent results. So rate increases on the comp side have been pretty flattish. It’s probably worth noting that comp is such a big line for some of these carriers.
Tracy Benguigui, Analyst
And I'm wondering how much of that is structural in nature, like are others raising attachment points, and you're lowering attachment points or offering lower deductible?
Marc Grandisson, CEO
No. We don't do that. No, we don't play that game. I think we would just be replacing most of our play typically on specialty lines. Tracy is mid-access versus second-access is sort of what we play a lot of times and high access, of course, in certain areas. So for the record, Tracy, we're not seeing any of the deductible being played out in the marketplace. In fact, there are deductible increases, if anything else. We just see a lot of shortening of limits; in the stacking, we saw that in 2020. It’s ongoing as we speak, instead of adding stretches of 25, I’m talking about larger placements. You’ll have stretches of 10 or 5 or 5 or 10, really in 15 perhaps until we have a lot more players needed to fill up the towers. That’s definitely happening more so; it’s still continuing to some extent, less so than in 2020.
Tracy Benguigui, Analyst
And then just shifting to reinsurance where are you seeing your favorable reserve development coming from?
Marc Grandisson, CEO
Yes, I mean, the vast majority, and we'll talk to it obviously in the Q1, the vast majority is in short tail lines; I mean, I’d say probably 80% in short tail lines. Mostly property other than catastrophe, where we've grown a lot in the last couple of years, and while the tail is always a bit longer than we think it should be, it's still we have a pretty good idea two to three years out after writing the policy or the account, and we're seeing a lot of that coming through in this quarter, a bit of favorable development on prior year catastrophes as well. A bit on trade credit and surety from a few years ago where we had some reserves that proved to be a bit more required, so we released those this quarter.
Operator, Operator
Our next question comes from Meyer Shields with KBW.
Meyer Shields, Analyst
Thanks. This is a cycle management question, I guess for Marc. When, if ever, do we decide that there's never going to be an appropriate hard market and property patent just get out of the line?
Marc Grandisson, CEO
I think that by virtue of, well, first, I'm an optimist. I've always been an optimist. I've heard so many times over the last 27 years from some of our own underwriters that there will never be a hard market again. And when I hear this, it's music to my ears because that means we're cruising for bruises. I think that things will get better at some point. It may not be this quarter, but might at some point. Numbers speak for themselves. If you lose money every year, people just get disenchanted and just walk away from. It’s happened early storms in Europe in 92, the Andrews earthquake in California in 94, terrorist attack Katrina, Rita and Wilma. I mean, there are always changes, and it's not I rattled by five or six of them. You got to believe that the world is a dangerous place, Meyer. I think something will happen, and again, losses don't necessarily change the market pricing, but perception of risk will, and would. Maybe we're on this place where people say, you know what, why bother? If that's the case, then the demand for cat protection is inelastic. If supply shrinks, then the demand will stay as is, and pricing will therefore increase. I’m an optimist. I'm not sure when it's going to happen, but I believe it will happen at some point.
Meyer Shields, Analyst
No, I understand. That's exactly what I'm looking for. Thank you.
Operator, Operator
Our next question comes from Brian Meredith with UBS.
Brian Meredith, Analyst
Yes, thanks. A couple quick questions here for you. First, just want to follow up on the comment about new business pricing better than renewal pricing. I've heard that from other carriers. I'm just curious, when you actually go to book the margin on that new piece of business, are you booking a better margin than perhaps that renewal piece of business? Or do you have to build in some level of cushion because it is new?
Marc Grandisson, CEO
Well, that's a very good. I think the latter part is what we would do. But even we would also take a higher level of cushion margin of safety, if you will now reserving even in our renewal business. I think that we're reserving-wise and loss ratio pick-wise at Arch; we tend to be more conservative and hope for the best. Hopefully, good news comes down later. We're trying to figure out a way to have as much cushion as we can early on so that we're not surprised down the road. That’s not changing. We say the same approach renewal or new business, right? Not much of a change.
Brian Meredith, Analyst
Not much of a change. Got you. Second, just a quick question here. Are we still seeing the admitted market shed business to the ENS market? Or has that slowed?
Marc Grandisson, CEO
That's slowed down a little bit, but it's still happening. We're not seeing a return back to the market quite yet. It's going to take a little bit longer, we think.
Brian Meredith, Analyst
Got you. And then one kind of bigger, I guess, philosophical question for you. I think with MI business, clearly you've demonstrated that it is not a big of a volatility business maybe some perceived just given the results we've seen through this recent crisis. If that is indeed the case, and the amount of cash that business throws off because it's not a growth business, I guess I see you guys using share buyback as your means of capital management. I get that where your stock's trading now. But what about a dividend? In the end, maybe remind us about your philosophy with respect to a dividend?
Francois Morin, CFO
Well, I mean, I'll take that, Brian. I think it's something we talked about with the board and between ourselves all the time. We had a pretty long discussion at our last board meeting on that. It’s always on the table. I'd say right now, I mean I think it's, I mean, the share buybacks that we went through this quarter were very attractive towards economics. We were very much I think they're easy to justify, but could we ever introduce a dividend? Certainly, that’s on the table. Not saying it's imminent, but it's something that we evaluate pretty much regularly, and we'll keep looking at it.
Operator, Operator
Our next question comes from Elyse Greenspan with Wells Fargo.
Elyse Greenspan, Analyst
Hi, thanks. Just one additional question. You guys spent time highlighting that session to Watford in the quarter, given that that transaction closed. So my sense is, they're going to become more Arch-like in terms of the business that you're receiving from them versus prior to this transaction. So as we think about your 40% stake, can you just help us think about the earning stream there? Because I would think that as we go through next year, that could become a meaningful contributor to your earnings as the underwriting income of Watford picks up from what we're used to?
Marc Grandisson, CEO
Yes, I think the 40% share would grow at an average sort of reinsurance market results. Why? Because we are writing business on the balance sheet of Watford, so you would expect that. I think that what you would also see is our collecting fees for our efforts, a compensation for our efforts for Watford's that would be for the 100%. Our results will be as good, I would hope for, if not better than our overall results. It’s definitely an accretive return generator for our reinsurance platform. It’s going to be hard to see.
Elyse Greenspan, Analyst
And that should pick up within that other income line as we move through next year?
Marc Grandisson, CEO
Yes, a couple of yes, so 40%. Correct. The other income line is well, the fees are picked up by the reinsurance sector because it's for the underwriting services they provide to Watford. But you're correct in saying that the net equity picked up of the 40% that we own in Watford if you're modeling and what kind of combined ratio is it going to operate at, what kind of premium are you going to see in terms of the volume? I would, you're right. I mean, it's probably more and more over time, it's going to look more and more like Arch reinsurance segment. The percentages we seed to Watford are not uniform across all our divisions, but directionally, I think that’s a good way to think about it. The other thing, too, which has somewhat been an issue with Watford is the performance of the investments, and that has, that's being a little bit as being addressed as we speak. I think there's a process underway to reduce the volatility from the investment portfolio of investment strategy at Watford. So think of it more as that, yes, a more, less volatile stream of income with more reliance on underwriting income and less on investment income. Hopefully, that gets you in a good place to start modeling out how Watford is going to play out for us, or the 40% for Arch going forward.
Elyse Greenspan, Analyst
And then maybe I'll squeeze one last, and I'm not sure if you provided an updated tax guidance. And so I missed it, if you can just let us know that. And then we've heard about some potential tax changes whether in the U.S. and also abroad in relation to Bermuda, any kind of prospective tax loss and just some of what we're hearing in the market and how that could impact Arch?
Marc Grandisson, CEO
Yes. I'd say first of all, that question your fourth quarter, we're still in the 9% to 11% kind of tax rate for Arch in the fourth quarter. For 2022 and beyond, and Marc will chime in, it’s way too early. Unfortunately, we track it; we look at all developments very carefully; we're on top of things. The reality is they change daily. So it's very hard for us at this point to give you any kind of guidance or any expectations on what we think 2022 is going to look like. We will be more than happy to have a good discussion on the next call. But for now, it’s we feel it’s just premature because we really don’t know.
Francois Morin, CFO
To highlight the daily changes, our tax director informed us last night about a new proposal from Congress that reinstates certain provisions while making adjustments to others and dropping some aspects of the OECD tax proposal. It's a constantly shifting situation, influenced by politics. We will respond once we have more information.
Operator, Operator
Our next question comes from Matthew Carletti with JMP Securities.
Matthew Carletti, Analyst
Thanks. Good morning. I just wanted to circle back on the discussion about kind of pandemic reserves, and Marc, you're pretty clear on the P&C side in terms of getting 95 good outcomes, but the 96 can change everything. How about MI? I mean it kind of follows up on Josh's line of questioning, like things look pretty conservative there. Can you help us with a little bit the timeline by which things can kind of continue to unfold well the timing by which we might see things unwind?
Francois Morin, CFO
Well, let me start. I'd say we may see a little in the fourth quarter, but that will be, I don't think everything will be resolved. But I truly think that the first half of 22 is when you'll see most of the movement or the corrections in our assumptions and the linked cure rates and mediation. We’re going to start seeing some data as early as this month internally and the number of cures and people moving out of forbearance; how this is going to flow through our numbers. Given some of the uncertainties that Marc talked about, I think will be the first half of 22. The reason also Matt has to be said and understood that they had 18 months of forbearance worth when you get into forbearance earlier in 2020. Some of them went into forbearance, came out of forbearance and went back in again, but they still get to benefit from 18 months was forbearance. That’s why some of them will be able to come out in the fourth quarter, and many of them in the first and second quarter next. It seems like some of them will be able to get back current for four or five months and went back to the forbearance program. That’s what we have this lengthy adjustment period.
Matthew Carletti, Analyst
Alright. Thank you. That's very helpful. Thanks.
Operator, Operator
I'm not showing any further questions. I would now like to turn the conference over to Mr. Marc Grandisson for closing remarks.
Marc Grandisson, CEO
Thank you so much for being here. We're going to be going from watching some golf, Francois and I, and happy 20 years and have a good weekend everyone. Thank you.
Operator, Operator
Ladies and gentlemen, thank you for participating in today's conference. This concludes the program. You may all disconnect.