Q3 2019 Earnings Call
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Earth.
Welcome and thank you for standing by.
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I would now like to turn the call over to state auto financial corporations director of Investor Relations Natalie Schoolcraft.
Thank you the Tina good morning, and happy Halloween, everyone. Welcome Sorry third quarter 2019 earnings conference call today, I'm joined by our Chairman President and CEO Mike.
Senior Vice President and CFO , Steve English.
On your vice President of personal lines, Jason Murky Senior Vice President of commercial lines in managing director of it allowed Kim Garland, Chief Actuarial Officer Mountain.
Chief Investment Officer Scott.
After our prepared remarks, well open the lines for questions.
Our comments today main or looking statements, which by their nature and all the number of risk factors and uncertainties, which may affect future financial performance.
Such risk factors may cause actual results to differ materially from those contain and our projections or forward looking statement.
These statements after their discussed at the end of our press release as well as an annual and quarterly filings with Securities Exchange Commission.
Financial schedules containing reconciliations of certain non-GAAP measures along with other supplemental financial information and put it as part of our press release and available on our website.
Under the investors section I'll turn the call her to assist chairman President and CEO Mike.
Thanks, Matt and happy Halloween Eve everyone.
The story of this quarter is validation expanding success and focus let's begin with the validation.
Our transformation began four years ago. The single biggest decision we may become a digital only carrier.
Within the industry. This one is unique and within the agency distribution system. There was a reps with ages, except a platform that did not allow for cash checks or paper, one that required electronic signature use of the checking account or credit card.
For the last three years, we have clearly proven that this new approach will work within personal insurance after years of declining volume and poor results. Our personal lines book is growing again.
The question of acceptance was again raised as we've built a new platform, both commercial auto and small commercial or Bob.
It was one thing to think it would work across personal health insurers are what about commercial.
In our earliest days last year. The answer that question was not clear. However, this quarter was a fourth consecutive quarter of record growth across these lines and there is no longer a question our decision to become a digital only carrier has been validated not only in personal insurance, but commercial and.
Auto and Bob as well.
This was a significant achievement and another critical step as we rebuild state auto from a traditional regional insurance carrier into an innovative property and casualty carrier as bill for emerging innovation and long term success.
The second part of this quarter's story is our expanding success early on we made hard decisions exit the number of lines of business large commercial trucking programs and then as casualty and property.
As high when we were shrinking across personal and commercial this was another bold decision, it's always difficult to make the call that results in the smaller company.
I've watched as competitors have raised in the specialty business large commercial even reinsurance it's too soon to decide which approach will work well for state auto we know who we are in our goal is to be exceptional and personal lines as well small and middle market commercial lines. This quarter was a key indicator that our focus on.
Causing some initial shrinking of our book is now paying off we continue to grow and personal insurance and as I noted above we're also rapidly growing rapidly and Bob policies enforced and commercial auto but that is not the entire story.
Middle market commercial business continues to grow and we have not yet launched our new digital platform. The improvement in this line as result of leadership and culture changes, we have built environment that allows our talented underwriters, so effectively and efficiently evaluate and shoes risks in partnership with our agents, we will launch our new.
Platform next year, which we believe will impact not only growth, but more critically our efficiency.
This quarter our growth across commercial lives, both small and middle market had allow as allowed us to demonstrate expanding success. We are now a successful writer of both personal and commercial I'd also note. We continue to grow farm and ranch more importantly, we are seen as an important market for these lines.
Before I close with this part of the start must mention workers compensation.
We continue to shrink in the slot this year, albeit at a slower pace, but I feel this is indicative of our strength and the fact that growth without profitability is unacceptable. This was a challenging business growing is easy growing profitably is not we will do both.
At this point, we're on pace to past $2 billion in premium this year and remember that's gross as we continue to add scale, which will soon begin to show at our expense ratio expanding our success was a major part of our third quarter story.
The final piece of this quarter's story is focus this part of the story can be seen in both our expenses and especially cross personal auto let's begin with auto.
This was a first product we brought to market in 2016, while the platform the issues business. We're very well we were faced with a portal that did not meet our needs. The technology weakness in that order impacted sales service and ultimately retention. So we decided to build our own internal portal in it.
Mission, we have been adjusting in improving our pricing models and we'll take rate as needed to be certainly returns. This large line to profitability.
This quarter, we began a focused effort to clean up the remaining technology challenges and make the latest updates to our model. Although this has slowed our new business growth and auto we felt it was critical to focus on execution. So that our customers experience is outstanding and we can improve our efficiency.
These issues are not felt within commercial lines as we initially launch those products with our own portal.
I'd like to be growing auto more aggressively it's imperative that we do so profitably efficiently and with the highest degree of service to both our agent customer and policy holder customer.
If the resolve that focus is short term slowdown in growth in this one line I'm very comfortable with that decision.
Once these fixes are in place I estimate three to six months out the longest we will once again accelerate our growth and by the way we fully expect at least modest growth as we adjusted product and finalize the technology issues.
Oh piece of our focus is on expenses as we track our ongoing investment in technology. We can now see the resulting in improvement in our efficiency and ability to grow effectively there are still much work to be done as I noted above but this quarter was another major step forward in our focus on efficiency, which is the last.
Season, our drive to build a truly unique and effective PMC carrier.
I could not be more pleased with our progress to date theres much work to be done, but we are well positioned for the coming quarters end years as innovation continues to change our industry. The true long term winners will have maybe infrastructure investments that will allow for the implementation of new technology to price.
Yes, so and service as our industry finally emerges and embraces change with that I'll turn call over to Steve.
Thanks, Mike and good morning, everyone for the quarter STFC reported 25 cents net income per diluted share with operating income of 34 cents per diluted share. This compares to 76 cents net income and 44 cents operating income for the third quarter of 2018 on the same for share basis for nine months.
STFC reported on a diluted per share basis, net income of $1.25 and operating income of 34 cents. This compares to 86 cents net income per diluted share at 53 cents operating income per diluted share for the first nine months of 2018.
One factor in the fluctuation of net income quarter over quarter and year to date over year to date is reported net investment loss or gain.
Net investment loss or gain reflects the change in unrealized gains and losses on equity securities and other invested assets.
For the quarter STFC reported net income of 4.4 million in pre tax net unrealized losses on investments, while the third quarter 2018, STFC reported 16.8 million of net unrealized gains.
For the nine months ended September 32019, STFC reported 51.2 million of net unrealized gains on investments compared to 11.1 million of gains for the same period a year ago.
As a reminder, non-GAAP operating results excludes net of tax net investment gain or loss.
The quarterly GAAP combined ratio of 99.5 was higher compared to 94 from the third quarter a year ago.
The cat loss ratio was down a non cat loss in LAE ratio was up one of the expense ratio improved.
For the first nine months of 2019, the GAAP combined ratio of one or 3.6 compared to one or 2.6 for the same period in 2018.
Reflecting 1.3 points higher cat losses, a non cat loss and LAE ratio up half a point and an expense ratio improvement of eight tenths of a point.
The GAAP expense ratio for the third quarter 2019 was 34.3 and for the first nine months 35 compared to 36, one in 35 eight respectively year ago.
During 2019, we continue to build and rollout commercial lines technology and products, having said that the quarter over quarter improvement was more than half driven by reduced consulting spend primarily IP related and revised estimates of associate variable compensation with the balance of improvement across several other categories similar factor.
As drove the year to date improvement with more coming from reduced estimates are variable compensation.
On a statutory basis personal and commercial reported in the quarter combined ratio of 98, seven compared to 96 for for the third quarter of 2018.
The year to date statutory basis personal and commercial reported combined ratio of one or two seven compared to 100.8 for the same period a year ago.
Catastrophe losses during the third quarter were lower than a year ago, while on a year to date basis.
Ratio for the first nine months of 2019 is 7.8 compared to 7.6 for the first nine months of 2018.
Our estimates of prior year reserves continue to develop favorably overall, but at lower amounts, which was not unexpected or personal and commercial lines in the quarter $15.2 million was reported relating to non catastrophe losses, and eylea compared to 19.9 million in the third quarter of 2018.
The nine months ended Septemberthirty 2019 favorable development totaled 51.7 million compared to 56 4 million for the first nine months of 2018.
Personal and commercial current accident year, non cat loss and Haley ratio in the quarter was up 4.2 points.
61.0 in the third quarter of 2019 compared to 56.8 for the third quarter of 18.
Through nine months the current actually your non cat loss in any ratio increased nine tenths of a point 59 nine as first nine months of 19 compared to 59 zero for the first nine months of 2018.
As we have discussed previously reserve estimates can be volatile from quarter to quarter based on many factors in Additionally, the second third and fourth quarter third quarters of any given year can be impacted by reassessment of that that years accident year FICC relative to book loss ratios from earlier quarters.
Jason Kim will get into more specific product detail in their prepared remarks.
The statutory expense ratio for commercial personal and commercial improved 1.7 point as compared to the third quarter 2018, and six tenths of a point on a year to date basis.
The same factors I mentioned earlier, regardless of the GAAP expense ratio drove the improvements.
Items to point out regarding specialty run off.
For the quarter net written and earned premiums reflects some reinstatement premium $300000 related to an increase on a prior year loss that we ceded to our reinsurance partners.
0.9 million of net favorable development of prior year non cat loss reserves in the quarter, which now stands at 2.4 million year to date.
And the impact of specialty on the overall statutory expense ratio has fallen to a 10th of a point for the first nine months of 2019 as compared to 1.3 points for the first nine months of 2018.
Net investment income was lower for the quarter due to lower new money yields the impact of lower rates on our mortgage backed securities slightly smaller fixed income portfolio and the refinancing of the notes with our parent company, which took place in the second quarter of this year and with that I'll turn the call over to Jason.
Thanks, Steve and good morning, everyone.
Personal lines finished the third quarter with the combined ratio of 100.6 compared to 92% those same quarter last year.
A personal lines loss and LAE ratio was 71% quarter compared to 61.1% for the third quarter 2018.
The increase in the loss ratio is due to lower levels of favorable development and personal auto and homeowners as well as the impact of a shorter average tenure in the auto book and higher non cat weather and large losses in homeowners.
Net written premiums for the personal lines is up 7.4% versus third quarter 18.
Reflecting higher levels of homeowners and other personal lines new business.
Offset by a decline in personal auto premium.
At the same time, our expense ratio for the quarter was 29.6% compared to 30.9% third quarter 18.
Looking specifically at personal auto the statutory auto loss in LAE ratio in the quarter was 73.9% with the statutory combined ratio of one or 2.8%.
Compared to 60.1% and 89.6%, respectively and third quarter 80.
The personal auto loss and LAE ratio results were impacted by 5.9 point decrease in favorable development across multiple coverages, including bodily injury, along with some adverse development of UN class you I am.
The earned premium from our connect product now exceeds the earned premium from our legacy product and we expect to continue to see pressure on our overall loss ratio from a shorter average policyholder tenure until our retention increases.
The BDI frequency trend on our legacy connect and connect books continues to be favorable.
We are however, seeing an increase severity trend in our connect auto physical damage claims driven by higher repair costs on newer model years.
At the same time, we've experienced an increase in the are you on and you I am losses in the 2019 accident year due to higher frequency in our connect book.
Our recent personal auto rate actions have been more targeted in our more aggressive rate actions in 2018.
Reflecting the moderation of VI loss trends and we have begun to see increases in both our connect retention in our legacy auto Retentions as a result.
Overall auto Retentions with roughly 66% in third COVID-19.
We expect to see our auto retention increase as if we have greater renewal rates stability with fewer rate changes.
And with less than 1500 legacy, Georgia auto policies left to Nonrenewal.
In third COVID-19.
Net written premium for personal auto was down 3.3% versus third quarter 18.
Policies enforced finished 6% below the third quarter 18 level I knew as discounts for the quarter were down 18.6% over third quarter 18.
To restore profitable auto growth, we're rolling out advancements in our auto rate segmentation to improve our rate competitiveness as well is rolling out ongoing system enhancements to improve the ease of use of our connect product.
Moving onto our homeowners product results the homeowners loss and Eylea ratio was 5.5 points higher this quarter and the same quarter a year ago.
The increase was driven by higher levels of non cat weather and large loss activity.
Homeowners third COVID-19 loss familiar ratio was 69.6%.
The combined ratio of 99.9% compared to 64.2% and 96.8% respectively in third quarter 18.
Homeowners cat loss and Eylea ratio for the third COVID-19 was 9.2 points, which is 8.2 points lower than third quarter 18, homeowners cat loss in eylea ratio of 17.4%.
Third COVID-19, non cat loss and Eylea ratio of 54.6% was 13.7 points higher than the 40.9% in third quarter 18.
Again, driven by higher non cat weather and large losses with less favorable development in third COVID-19.
We continue to see opportunity for profitable growth with our connect homeowners digital products and anticipate the enhancements being made on our auto product will benefit homeowners as well.
In third COVID-19, our homeowners policies in force increased by 12.1% over third quarter 18, new business counts in the quarter were up 16.8% over third quarter 18, and homeowners net written premium increased 19.5% versus third quarter 18.
In terms of hard retention the quarter ended with hain retention of roughly 75%.
We've made changes to our connect rate structure to improve renewal rates stability and we expect to see improvements in our retention as those changes renew into our connect homeowners book of business.
In conclusion, our personal lines storyline for the quarter can be summarized as first.
More targeted auto rate activity relative to the prior aggressive rate actions. We've taken in recent years, along with ongoing system enhancements are being implemented to increase our close ratio and drive new business growth.
Second the impact of a shorter average tenure in auto book resulted in higher loss ratios in the quarter versus third quarter 18.
Ongoing efforts to increase our retention as well as underwriting actions and claimed operational actions are targeting improvement in the auto loss ratio.
And last homeowners combined ratio for the quarter was impacted by higher non cat weather and large losses.
We have plenty of room to continue to improve and we are focusing on initiatives that drive better core business results with confidence in what we can achieve in the fourth quarter and beyond as we focus on the fundamentals with that I'll turn the call over to camp.
Thanks, Jason commercial results are as follows third COVID-19, combined ratio, 95.9% versus one or 3.7 in Threeq, you 18, and a three to 19 written premium increase a 16.8% versus Threeq you 18.
For the commercial business as a whole story is the statutory non cat loss and LAE ratio was good at 49.6% and was 3.9 points lower in Three Q1 9 versus Threeq, you 18, with the three to 19 non cat loss in LAE ratio being lower in all commercial product lines, except commercial auto.
Which was 4.2 points higher than Threeq you 18.
Commercial loss ratios continue to be where we generally need them to be and commercial expense ratios or not and our so our and are still our biggest inhibitor to overall profitability, but we are starting to see progress on the commercial expense ratio.
Threeq to 19 statutory commercial expense ratio of 38.9% was 2.9 points lower than Threeq, you 18, due to both lower variable compensation for associates in the quarter and signs are positive impact on the expense ratio from our efforts to build a more efficient commercial organization.
Growth continues to strengthen for our commercial lines business three to 19 was the fourth record new business quarter in a row for commercial connect that is commercial auto and Bob commercial auto new business premium is up 261% Threeq you 19 versus Threeq, you 18, and total commercial auto premium is up 40.
5% versus Three Q1 8.
Bob New business counts were up 92% Three Q1 9, compared to Threeq, you 18, Bob New business premium was up 57% Three Q1 9 versus Threeq you 18.
Average, Bob premiums and connect our around 60% of what they were pre connect and total bought premium was up 3% versus Threeq you 18.
Middle market commercial Threeq, you 19, new business written premium was up 90% versus Threeq. You 18. This is our seventh consecutive quarter of middle market, new business growth of 24% or higher and middle market total written premium was up 30% versus Threeq you 18.
Farm and ranch had a solid quarter of written premium growth at 6.5%.
Workers' comp growth has started to stabilize with reaching 19 written premium down only 1% versus Threeq you 18.
Here's an update on the path to a significantly improved expense ratio for commercial lives Here's our current progress in Threeq to 19, the commercial expense ratio, 38.9% is 2.9 points better than our Threeq you 18 commercial expense ratio of 41.8% and our Threeq you 19 year to date commercial expense ratio.
39.9% is 1.2 points better than our Three Q1 8 year to date commercial expense ratio of 41.1%.
We have previously discussed that to achieve a significantly better expense ratio commercial lines will require two things improved unit economics across the different tasks that are done within our commercial business and more scale.
Improve unit economics connect continues to give us better unit economics pre connects commercial auto and Bob had a zero percent straight through processing percentage for new business as we manually touched every piece of new business and it connects world. These products are achieving around a 70% straight through processing percentage with connecting the other efficiency.
Gains the commercial division is handling 17% more total direct written premium in Threeq, you 19 versus Threeq, you 18, and 104% more direct new business written premium in Three Q1 9 versus Threeq, you 18, with fewer commercial associates than a year ago.
We need to get more of the commercial premium on this more efficient platform for all of commercial lines a percentage of premium on connect has been the following for all of 2018. It was 1.8% for once you 19. It was 5.2% for Twoq you 19, it was 6.0% and for Threeq to 19 is 6.4%.
2020 is when this metric should really start to accelerate with the rollout farm and ranch connect and middle market connects CPP in early 2020.
Scale as previously mentioned, we are starting to see the scale issue be solved commercial auto at 45% written premium growth rate for Threeq, you 19 versus Three Q1 8, with connect being the main driver middle market, a 30% written premium growth rate. This is from a second order impact from small commercial connect as it freed up.
And for commercial underwriters to focus on middle market risks the impact of the middle market connect launch in early 2020 is still to come.
Farm and ranch, 6.5% written premium growth rate the first farm and ranch connect state is scheduled to launch Q1 20, and connect will allow farm and ranch to enter eight to nine new states in 2020.
Small commercial a 3% written premium growth rate, 92%, new business count growth rate connect provides us the platform to grow but we have to continue to both increased unit counts and become more effective with larger bops to really increase this growth rate.
Workers' compensation, a minus 1% written premium growth rate significant rose will likely not occur until connect launches in 2020.
And again the key to this plan will be to ensure that loss ratios do not deteriorate as we work on these items.
The commercial business results by product line are as follows I'll focus on the laws and let you results for each product line as the acquisition operating expense ratios for every product line our core as previously noted.
Commercial auto the commercial auto loss and LAE ratio in Threeq to 19, 66.4%, which is an 8.1 point deterioration versus Threeq you 18. The drivers of this deterioration are the following them.
2.3 points come from a higher cat loss ratio this quarter versus a year ago.
1.6 points from a higher utility ratio this quarter versus Threeq you 18.
We have five points of additional rate need on our legacy commercial auto book that we have not achieved this is worth about four points on the overall commercial auto book as 80% of our commercial auto book is still legacy.
We have identified a few underpriced segments in our commercial auto connect version 1.1 pricing model smaller businesses and newer businesses are couple of examples of these segments version two dot show of the commercial auto pricing model was implemented last week in the first 13 states, which should address these segments.
The profitability of these segments or lack of profitability. These segments are worth about one point on the total commercial auto loss ratio.
Commercial auto written premium again in Three Q1 9 was up 45% versus Threeq you 18.
Small commercial package the small commercial package statutory loss and LAE ratio in Three Q1 9 is 54.3%, which is a 13 point improvement versus Threeq. You 18 small commercial package written premium and 319 was up 3% versus Threeq you 18.
Middle market commercial.
The middle market statutory loss in LAE ratio in Threeq, you 19 is 60%, which is 3.3 points lower than threeq or 18.
As with commercial auto we are keeping an extra close watch on middle market loss ratios growth rates are so high middle market written premium Three Q1 9 was up 30% versus Three Q1 8.
Workers' compensation, the workers compensation statutory loss and LAE ratio in Three Q1 9 is 52.4%, which is 11.2 points lower than Threeq you 18.
Our workers compensation premium decline discussed in previous quarters has started to stabilize our workers compensation growth rates by quarter. This year than the following one Q1 9 versus one Q1 8 down 20% to to dine teen versus Twoq, you 18 down 12.5% Threeq you 19 versus Threeq you 18.
Down 1%.
Stabilization of our workers compensation growth rate is a tale of two stories.
For renewal written premium our workers comp renewal written premium is still down significantly down 14.8% in threeq to 19 versus Threeq you 18.
We walked away from some large debit mod renewals in three to 19 as we did not believe we could hit our profit margins at the prices at which competitors were willing to write these risks.
As previously discussed we continue to be committed to maintaining underwriting and rate discipline. During this part of the cycle.
New business written premium our workers comp new business written premium increase for the second consecutive quarter in Three Q1 9, and it was up 57.4% in Threeq to 19 versus Threeq you 18.
This new business premium increases being driven by continuing to improve how we integrate workers compensation as part of a total commercial package sale and this improvement combined with the general increase in our overall commercial new business volumes is driving the increase in workers' compensation new business.
We will likely not see significant growth in workers' compensation and so workers comp connect is lost in the second half of 2020 stabilizing the workers comp premium volume is an important accomplishment by the team.
Farm and ranch, the farm and ranch statutory loss and LAE ratio.
Threeq you 19 is 50.7%, which is 8.3 points lower than the 59% in Threeq you 18.
Farm and ranch written premium in Three Q1 9 was up 6.5% versus Threeq you 18.
We had been planning for the launch of farm and ranch connect and four to 19, but are now expecting this launch to happen Q1 20.
Threeq you 19 was another important step in building a better future for commercial lives at state Auto We said connect new business records in the quarter for the fourth straight quarter.
New business success occurred in both small commercial connect and middle market, our middle market business and we saw another quarter of early impact on the expense ratio from our work over the last couple of years.
A lot of sweat equity from the last couple of years went into producing this quarter's results of 95.9% combined ratio was 16.8% growth.
Im thrilled that the commercial team is starting to see the fruits of their labor and I continue to be incredibly proud of the work of our commercial lines team.
But the team wanted me to let you know they believe our best days are still ahead of us with that we'll open the lines for questions.
As a reminder, if you would like to ask a question. Please press star one onto a telephone keypad, we'll pause for just a moment to compel becoming a roster.
And your first question comes from the line of Larry Greenberg.
Good morning, and thank you so.
Slide of a lot of detail was given.
But you know it if it appears that.
Both both auto lines are.
Experiencing deteriorating profitability from an underlying standpoint, this year and I know in personal the lower 10 year is having an impact but.
And just generally is is is that have an appropriate perception that you have lost profitability in in both auto lines and maybe just.
A little bit more color on how we should be thinking about the next 12 months.
So I'll start with commercial lines and I think.
There is some some truth to your observation, but some of it is probably our own fault too.
I think on the legacy book Larry.
We have taken were on track to take about five to six points of rate. This year. When we really do to take around 10 ish and so you know we have.
Sort of reinforce the message with our underwriters that they need to make sure that they get adequate rate in commercial auto and so.
That deterioration is alone is kind of on us sort of keeping up with the rate need that we.
We need to accomplish and I think that is probably.
The biggest part and you should be aware. This we sort of we are aware of both the combination of trends in the marketplace and when you're growing commercial auto that the rate, we are sort of managing whatever sort of.
Reduction in average 10 year, new business penalty you might want to have.
The second piece is.
While connect is much smaller piece of our book.
I don't think or to me, it's not unexpected to at least found a couple of weeks.
Segments that we needed to dial in within next set of rate changes so.
You know.
As as you know as insurance people, it's hard to overstate how excited we were at a loss in the next version of the model in 13 States last week.
Pretty confident that those will address that and we're also making sure we keep up with.
The overall rate need on the connect side of the house.
And then on the personal lines side.
Yes, we're certainly seeing some.
Profitability challenges.
On the connect book.
When we look at our legacy book.
It's it's a very stable profitable book don't really see any rate need there.
At this point and retention is actually started to come back some of the aggressive rate actions are quite a bit behind us, but im connect we anticipate our retention.
Continuing to increase it needs to get up.
In the mid to low eightys to its a really reduce that pressure that we're seeing from the tenure.
We're not just waiting for that we're taking underwriting actions, including from some system enhancements that will get in by the end of this year first quarter at the latest other earlier improve on of our underwriting activity execution.
And there's also.
Ongoing agency management portfolio management actions the focus on a few areas.
We've we've seen some loss ratio challenges.
Yes, just very despite couple of quick comments from me on personal namely and I've talked about his before it is absolutely not excuse everything's on us, but we've built a brand new product and so as you do that and you launched a new product again is it look anything like the old was you go through.
Areas of challenges it was exacerbated as I mentioned in my commentary about some of the portal.
Through our vendor that caused additional issues, but as we work through that.
The ongoing fixing of the model and getting the tiers right. We did all this in the face of course at that time, a fairly high level of VI severity. So.
Again I.
As always up to you guys interpret all this stuff, but I mean, it first of all autos, probably the easiest lined effects and what I mean by that is that this is high frequency those severity lines and it's all the vast majority of it if not all of it is model driven.
And so I believe that.
This is just.
Process of better retention of the legacy business better retention the connect business. The connect new business is actually performing reasonably well as we would expect but the mix of businesses puts some pressure on on loss ratio. So I actually think Directionally, we're doing the right things we've got to act, maybe with little bit more urged.
And see but I feel good about kind of were at right now, but I do appreciate the question.
Thank you.
Your next question comes from the line of Freddie Slifer with KBW.
Hi, Good morning, I just wanted to start on commercial auto on the core loss ratio I was just wondering if there any specific states that are underperforming and what do you currently seeing in terms of frequency and severity trends.
Sort of what is your loss cost.
Trends assumption right now.
So.
You know.
No.
Could secure states.
Sort of stand out I would say.
Probably regionally.
The what we call our our southern region, probably needs more rate than our other regions. So we're working with the underwriters there to make sure that that happens.
I think from a loss cost trend perspective, or so that sort of the combined frequency severity trends.
I think we are pricing in.
Around 10%. So we think in general we need to do that.
And that is pretty I would say again.
Natalie may have to clean this up and give more specifics, but I think is pretty evenly split between frequency and severity.
Okay, and I'm not sure if I missed the loss rate increases one quick in the quarter and then also on the I think you mentioned, 5% of additional rate needed on legacy in some underpriced business on the connect platform how much of your total commercial auto premium underpriced business makeup.
So I think.
On we took.
Between five and six rates points of rate this quarter and we needed. Another five on top of apps, we probably needed or between 10 and 11 is what we were aiming for so that was sort of the the difference there.
On Connex I think.
On the the underpriced segments.
We're.
I think newer businesses.
But the vast majority of our book is on can that yes. So net so I guess on legacy legacy is 80% of our book connect is 20% of our book.
And the connect rate need or the impact of that was about one point on the loss ratio.
Okay and then on.
Just sticking with commercial auto premiums routes, 45% obvious how much of that was rate exposure growth and should we be thinking at this of this level of growth for the run rate over the next few quarters. Despite the core loss ratio deterioration.
Yes. So most of it was his unit growth I mean, we have been taking if it's 45% you'll probably have.
Hi single digits of rate and the rest of that is unit growth.
We have.
I believe the plans to get commercial auto.
The growth trajectory. We are on we are comfortable with and so I think that will.
You know sort of continue to go on for a little bit.
Okay and lock in it.
Sorry go ahead.
I think I think if you think about most of our activity around commercial auto.
I think you'll see most of those on the rate side. So one off for under underwriters on the larger risks just reinforcing that we need to get the rate that we need to get and then as I said I think we rolled out the first 13 states of the new model.
We ended the year, we should roll out most of the other states there'll be a couple of stragglers based on state approvals and remember when you talk about the the growth rate and are we comfortable with it regarding the rate need most of that rate. It was on a legacy book, the new businesses coming out of connecting as Kim mentioned our latest.
Model on connect which just launched 13 states will roll it out so the rest so the new business coming on the connect is much more model driven.
And we have a lot of confidence and not only the rate there, but the rate per risk based on the model and that's been built and as Mike always daring only reminds me, 45% on a small base does not necessarily true at much.
Right.
Okay, and then just from a commercial lines expense ratio that seems like most.
The products and making good progress or how should be thinking about modeling.
Commercial expense ratios and from the 20 and 21 and wish segment, you expect which products you expected fragment that better improvement.
So.
I think as you think about which products I think you think about them in two ways so for commercial auto and.
Small commercial their their connect.
Sort of the build and rollout is done and so the sort of I T expense ratio for those product lines will burn off earlier than they do for farm and ranch workers comp and middle market. So I would expect to see sort of.
More improvement in those product lines earlier than the others.
You know as.
I know.
Talk about.
We will still.
In 2020, you'll still see we still have to build and roll out bill and or rolled out the farm and ranch workers comp CPP. So those expense ratios will still have to absorb that in 2020 and then.
Part of our focus as we try and sort of either get more business on this more efficient platform or improve our processes is.
Sort of keeping our head count and fixed expenses flat as we put more volume on it so.
Our expectation is that gives us a bit of a tailwind.
Okay, great. Thank you and then just switching to pass the line, Jason I think I heard you mentioned targeted rate increases and Thats, all but just wondering if you could put a number on the rate increases.
Taking and how much would be a premium impacting.
Yes, the targeted rate changes I mentioned to really be on the connect product.
Yes on legacy personal auto.
Business.
It's performing quite well it's stable.
And.
We've addressed over the last couple of years aggressively since some of the trend issues, but we're not seeing that anymore. So on connect.
Obviously, it's going to vary significantly by state, but most states.
We're talking overall rate changes low single digits mid single digits, but.
The targeting or the rate changes would be.
Increase segmentation really looking to make sure that.
In sales, where we were having loss ratio issues that we're putting more there so.
There would be areas of the book that might get significantly more rate increase than that.
Right and then so how should we be thinking about the personal auto core loss ratio dug into 2000 Quincy given some of these targeted rate increases and the recent deterioration.
Well I think.
The the pressure that we face from the 10 year, we will continue.
As long as we have this this level of retention, but we continue to see that improve.
Month over month, both on legacy and on connect.
And the targeted rate changes that we have lined up for first quarter will.
Began to shift of the business mix.
The target rate changes, we took in the first half of this year did that as well.
We reduced the amount of no prior business and some other business that.
Was shorter tenure.
Higher loss ratio and we anticipate that will also current next year, but I would see that we're going to we're going to face pressure.
Auto line.
Okay remember what you what you need to look at as you have to look at the loss ratio on personal auto in the legacy and in both of those lines in that auto line that we expect to connect loss ratio to get better and we expect the legacy loss ratio to get better based on the actions that we're taking it of course of legacy side.
The seasoning and the increase retention. So then it's kind of depending on how you bought let out you've got to kind of fixed that just kind of determine that mix between the.
They connect.
Business and the legacy business and you got to kind of work adjacent says there's going to be pressure just simply because of the both loss ratios will get better we'll have more business on the connect side than we will on the legacy or think of it this way more new business versus season business and that's going to put a little bit of crusher.
On that on that process, having said that we think long term and this and we believe as these things start.
To work out overtime, and we increased retention on both of these lines, we're going to be able to get it to where we need to loss ratio to be on personal auto very confident about that.
Great. Thank you and then just lastly on investment income it was down quite a bit year over year in quarter over quarter. Just wondering if you can if you're making any changes this stretch our duration of the portfolio likes the low interest rate environment.
Okay.
Hi produces scotch and not really making any structural changes to the portfolio I think what you've seen happen.
It's just the result of the lower rate environment that we're in now.
In the lower new money yield that we're receiving on on new investments and how that's impacted our existing holdings of mortgage backed securities.
So no real structural changes to the portfolio in terms of duration or anything like that.
Alright, great. Thank you for the ounces.
Thank you Friday.
Your next question comes from the line of Paul Newsome at Sandler O'neill.
Great.
Good morning, guys.
First I want to thank my KBW colleagues for asking the first.
500 my questions.
And someone needs to learn lessons.
But that only question I have is more of an accounting issue with the tenure and I understand on the personal lines auto business I understand there's a new business penalty. That's usually a couple of points, but I would have expected to see if there was a tenure issue that come through more on the written premium side.
And then on the expense side as opposed to the loss ratio side.
And is that underneath the other stuff that the tenures affecting the expense line.
Or am I, just not the accounting.
Correct.
Well take all the Steve.
On in terms, a 10 year on the expense side I think the impact would be primarily in commissions and the first year versus renewal Commission rate. So if you're.
You want to connect right. When it was all new business versus your commission rate is higher than the renewal so.
As time marches on and you get more of a.
More of the percentage of the book in renewal at that Lower Commission, you will see that come that commission rate and therefore your expense ratio come down from quote unquote seasoning, but in regards to other types of we necessarily what I can think of that has a seasoning effect on the expense side.
And of course on the loss ratio side, it's a very similar thing, although new business penalty on personal auto is more than on two points in terms of that.
So I think thats, a little optimistic on new business facility, but I'll, let others react to that yes, I think the new business pedal is a little bit higher again, I want to be really clear.
The reason.
As you look at the way the product was built and you look at our ongoing improvement in the by only our expectation is that number one we can reduce that new business penalty that we are going to be able to better match rate risk from the job number two were offering telematics.
Telematics is now approximately 20% or some of our new business forget more that for the people that are actually taking that telematics. We do not anticipate same type of new business currently on that business, because it's a different type of risk in a different type of.
A payment so as we continue this is going to be very hard for you guys to model because number one as we continue to grow that connect business and we will only continue to improve the modeling around this is some of these options that you may have traditionally made about new business versus legacy and the amount of the new business panels.
He is going to get a little bit trickier.
The number one as Steve said, the new business penalty is typically close to 10 to 15 points than it is two points I mean, I think thats really important for you to kind of things about that as you as you.
Go through the modeling process secondly, we have an expectation that our legacy retention is going to continue to it's been it's been very positive. The last 12 months or so we've been seeing a consistent increase in our our legacy retention, obviously, excluding George will be knowing we decided to.
Not renew that business, which is the right thing to do and then third we also expect to see the retention of the new business improve because as we've tweaked the model and improved our segmentation. We believe that our mix of business will will come in at a type of risks that will increase our retail.
And in some of the technology issues, which created the self imposed through our mistakes some billion problems on some retention issues those things are getting fixed as we speak and what we've done over the next couple of months. So all of those things together or why out when I talk to you about focus that we had in the.
The third quarter Thats, continuing in the fourth quarter, we're bringing all of those component pieces together on personal auto and this is why we're optimistic that the change if you will see in terms of or both our growth.
Next year and are more importantly, our efficiency and profitability, we believe will be trending the right direction.
Fairly quickly.
Great. Thank you appreciate it.
You bet call.
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