Q3 2021 Palomar Holdings Inc Earnings Call

November 4, 2021

[music].

Good morning, and welcome to the Palomar Holdings, Inc. Third quarter 2021 earnings Conference call.

During todays presentation, all parties will be in a listen only mode. Following the presentation. The conference line will be opened for questions with instructions will follow at that time.

As a reminder, this conference call is being recorded.

Now I'd like to turn the call over to Mr. Christian who cheetos Chief Financial Officer.

Please go ahead Sir.

Thank you operator, and good morning, everyone. We appreciate your participation in our third quarter 2021 earnings call with me here today is Mac Armstrong, our chairman Chief Executive Officer, and founder as a reminder, a telephonic replay of this call will be available on the Investor Relations section of our website through 11 59 P M.

Eastern time on November 11, 2021.

Before we begin let me remind everyone that this call may contain certain statements that constitute forward looking statements within the meaning of the private Securities Litigation Reform Act of 1095. These.

These include remarks about management's future expectations beliefs estimates plans and prospects such statements are subject to a variety of risks uncertainties and other factors that could cause actual results to differ materially from those indicated or implied by such statements, including but not limited to risks.

Certainties related to the COVID-19 pandemic.

Such risks and other factors are set forth in our quarterly report on Form 10-Q filed with the Securities and Exchange Commission, we do not undertake any duty to update these forward looking statements.

Additionally, during today's call, we will discuss certain non-GAAP measures, which we believe are useful in evaluating our performance. The presentation of this additional information should not be considered in isolation or as a substitute for results prepared in accordance with U S GAAP and.

A reconciliation of these non-GAAP measures to their most comparable GAAP measure can be found in our earnings release at this point I'll turn the call over to Matt.

Thank you, Chris and good morning.

Today, I'll speak to our third quarter results as well as our strategic initiatives and efforts to drive profitable growth for the remainder of 2021 and beyond from there I'll turn the call back to Chris to review our financial results in more detail.

We are pleased with the sustained premium growth in the numerous strategic initiatives accomplished during the third quarter highlights of the quarter include strong written premium growth for yet another quarter with gross written premiums increasing by 48%.

Growth across the enterprise was fueled by strong performance among our core products continued traction of new products and partnerships and entering into new lines of business and markets. Notable premium growth occurred in our residential and commercial earthquake flood and the marine and Hawaiian Hurricane products.

We also saw continued success with our Nathan E&S company, Palomar excess and surplus insurance company.

Patrick.

Pass it grew its gross written premium of 362% year over year, and 22% sequentially from the second quarter.

Second we further expanded our product offering.

Specifically, we launched an E&S residential flood product and a handful of states to complement our admitted offerings and in September we announced our entrance in the fronting sector of the U S insurance market Palomar.

Palomar front offers many advantages to palomar, including access points into attractive lines of business limited incremental investment and new sources of fee income.

It also enables us to quickly enter new markets as a non risk bearing insurance entity with the flexibility to participate in the risk over time.

Third we maintain our commitment to the long term growth prospects of Palomar to incremental investments in technology and more importantly talent.

We successfully recruited experienced professionals across the enterprise, including subject matter experts in new and adjacent casualty markets and dynamic conditions to our reinsurance of technology departments I will highlight a few of these key hires later in my remarks.

Lastly, while we experienced pre tax cat losses of $17 5 million net of reinsurance in the quarter as a result of Hurricanes, Ida and Nicholas and the P. G any excess liability loss, we take solace in the fact that approximately 61% of the gross losses from these events came from our discontinued admitted already.

In Louisiana specialty homeowners lines.

The residual hurricane loss from continuing operations was modest well inside of our retention at close to four points of incremental loss ratio on an annualized basis.

While the PGA any loss out of catastrophe payback of less than one year.

We constantly review our underwriting portfolio to ensure we are earning the appropriate risk adjusted returns by product and geography.

And the actions taken over the course of 2020 in 2021 not only positively impacted the quarter's results, but Moreover, put us in a very good position for 2022 and beyond.

Turning to our results in more detail highlights included year over year gross written premium growth of 48% when adjusting for run off discontinued operations the growth with an even more impressive 66%.

Overall, we saw continued momentum across all our lines of business. Our earthquake franchise grew 32% in the quarter with commercial quake growing 52% and residential earthquake, our largest line of business growing 24%.

Earthquake franchise continued to benefit from numerous tailwind, notably, California homeowners market dislocation.

Rate increases inbound partnerships and potential regulatory reforms.

Additionally, our E&S operation delivered $41 4 million in premium growing 30, <unk> hundred 62% year over year and 22% sequentially from the prior quarter.

Other strong performers included inland marine which grew at a staggering 343% year over year and is approaching an $80 million run rate and flood which grew 49%.

We are very excited by the prospects for our flood products is not only are we expanding our geographic footprint appointing new producers and ending entering into carrier partnerships, but theres also potential regulatory tailwind driven by the end of Ip's risk rating to point out program are reached try.

<unk> exercise undertaken by FEMA.

Shifting to market conditions are strong growth not only speaks to the efficacy of our products, but also the continued dislocation in the specialty insurance market.

The average rate increase on renewals for commercial earthquake policies was 9% and for E&S all risk business. The average rate increase was 20%.

Builder's risk and of course, the construction risks are seeing high teen rate increases in base rates that are more than double where they were in 2018.

We remain confident that we will be able to maintain material rate increases throughout the remainder of the year and frankly into 2022.

Separately, our premium retention, excluding discontinued operations was 87% of the total portfolio in the quarter again, showcasing the unique value of our products offer insurers and distribution partners.

We continue to execute and make significant progress on extending our reach and product portfolio striving to improve our underwriting results and visibility into our earnings newer products, such as real estate D&O and high value residential builders risks are tracking ahead of plan and demonstrate our ability to rapidly address opportunities in the market.

Our nimble operating model enables us to quickly respond to changing market conditions, and add new products and distribution partners to fuel our growth.

I'm example is our Palomar front of initiatives.

Our team has already created a robust pipeline in a short period of time and subsequent to quarter end, we executed two fronting deals with proven partners. Ultimately we believe this business represents another opportunity to capitalize on changing market dynamics and dislocations, while adhering to our focus on predictable and profitable growth.

Turning to our team we are proud to share several notable additions, including tie Robyn and vendor camp, who will be spearheading our expansion into the casualty market and Christopher <unk>, our new SVP of reinsurance.

These seasoned professionals bring tremendous industry experience and expertise to power marsh underwriting and reinsurance teams.

Ty guarantee <unk> bring a wealth of knowledge and understanding to our already strong team and are prime examples of Palomar is continued focus on investing in the long term growth of the business.

Expanding our team is critical to our success and I'm thrilled that can we can attract such experienced and talented professionals to the Palomar team.

On a related note I'd like to take a moment to thank my good friend and partner Heath Fischer, who recently made the decision to resign from his role as president of Palomar spend more time with his family.

Since day, one of Palomar Heath was instrumental in developing our strategy building our team and architect our distinctive reinsurance program.

Thanks, and major part to Heath's efforts, we have a very strong and capable reinsurance team led by John can each and Jon Christianson, who both continue to spearhead our efforts.

But we will greatly Miss Heath and plan to fully utilize his expertise prior to his departure in April.

I am pleased to report that Jon Christianson, our currency underwriting officer will step into heaps role as president in the second quarter.

John was a third employee Palomar in similar to heat he has been instrumental in our success.

He will ably filled teeth big shoes.

I'm also pleased to report that Robert Byerly, our SVP of inland Marine will become our COO Robert has an incredible underwriting background and as the architect of our highly successful in the Marine Department.

Chris and I are thrilled to work side by side with John and Robert.

Dana ability and responsible governments remain a key component of Palomar strategy and operations to that end. We recently launched our ESG part on our corporate website, which details our ESG efforts and will act as a central repository for all Palomar is ESG materials as.

As we move forward. This will continue to be an area of focus for us and I look forward to updating you on future initiatives.

Our strong topline results and all the initiatives discussed on the call for considerable optimism for the future prospects of power.

That said, we also recognized the quarter generated losses that pushed net income and ROE below targeted levels.

I mentioned earlier that close to 61% of the gross cat losses in the quarter.

Discontinued lines of business I will add those same lines contributed 34% of the gross attritional loss in the quarter. So when looking at the losses from a steady state basis. The attritional loss ratio is closer to 15%.

The hurricane losses from the continuing lines of business, namely E&S property were well below our attention.

And close to four points of loss ratio based on an annualized earned premiums.

As for the excess liability policy with PGE had a $735 million attachment point and a 75% rate online.

This price point resulted in a full limit loss payback of less than one year and this is evidenced by the cumulative profitability incurred in the two treaty periods, we've been on risk.

When factoring in the acceleration of the earning a premium the loss reduces net income by $2 3 million in the quarter.

While we don't enjoy the noise caused by losses in the quarter.

We continue to reiterate the impact from similar types of events will have a far lesser impact on a go forward basis I.

I believe it is important to point out that the run off of the discontinued operations will be complete by the end of the fourth quarter.

This effort along with Palomar front and the aggregate reinsurance cover are prime examples of the actions we have taken and continue to take to reduce volatility in our book of business and earnings base.

At this point I'd like to touch on our guidance before turning the call back to Chris.

We are revising our 2021 expectations and believe our adjusted net income in the fourth quarter will be between 17, and $18 5 million and $51 2 million or $52 7 million for the full year.

The full year estimates equates to an adjusted ROE of 13, 7% at the midpoint of the range.

This range factors in additional investments in talent and systems infrastructure and reinsurance, we have made or expect to make for the remainder of the year.

As a reminder, with our aggregate cover in place we have established a floor of approximately 11% for adjusted return on equity.

With that I will turn the call over to Chris to discuss our results in more detail.

Thank you Mac. Please note that during my portion when referring to any per share figure I'm, referring to per diluted common share as calculated using the treasury stock method. This methodology requires us to include common share equivalents, such as outstanding stock options during profitable periods and exclude them in periods, where we are.

<unk> net loss, we have adjusted the calculations accordingly.

The third quarter of 2021, our net income was $246000 or <unk> <unk> per share compared to a net loss of $15 7 million or <unk> 62 per share for the same quarter of 2020.

Our adjusted net income was $1 7 million or.

Our <unk> per share compared to an adjusted net loss of $15 2 million.

Or <unk> 60 per share for the same quarter of 2020.

Gross written premiums for the third quarter were $152 3 million, representing an increase of 47, 9% compared to the prior year's third quarter as Mac indicated this growth was driven by a combination of strong performance by our core products entering into new markets and by the execution of new partnerships.

Across multiple lines of business.

Ceded written premiums for the third quarter were $58 1 million.

Representing an increase of 39, 7% compared to the prior year's third quarter. The increase was primarily due to increased catastrophe excess of loss reinsurance expenses related to the exposure growth and increased quota share sessions due to the growth in volume of written premiums subject to quota shares.

<unk> written premiums as a percentage of gross written premiums decreased to 38, 1% for three months ended September 32021 from 44% for the three months ended September 32020.

This decrease was primarily due to lower excess of loss expense as a percentage of gross written premiums net earned premiums for the third quarter were $64 $7 million.

And an increase of 54% compared to the prior year third quarter due to the growth and earning of higher gross written premiums offset by the growth in earning of higher ceded written premiums under reinsurance agreements for the third quarter of 2021 net earned premiums as a percentage of gross earned premiums were 55, 2% compared to 52, 9%.

In the third quarter of 2020 the ratio was.

Approximately one point higher this quarter due to the acceleration of earned premium from the PGA policy.

We believe the ratio of net earned premiums to gross earned premiums is a better metric for assessing our business versus the ratio of net written premiums to gross written premiums as part of the June one reinsurance renewal, we adjusted our participation and our Attritional quota share arrangements with these changes we expect the ratio to be around 53% to 55% on an app.

Annual basis lower at the beginning of a new reinsurance placement and higher at the end with our expected growth in earned premium.

While we are ahead of US a range for the quarter, we expect pressure on this ratio with a launch of our fronting business, though it will add fee.

Income that will enhance the ROE and bottom line.

We will continue to monitor this ratio and update the market based on our new business.

Losses, and loss adjustment expense or LAE incurred for the third quarter were $28 $5 million due to attritional losses of $11 million in catastrophe losses of $17 5 million.

Loss ratio for the quarter was 44% comprised of a catastrophe loss ratio of 27% and an attritional loss ratio of 17% compared to a loss ratio of 97, 7%. During the same period last year comprised of a catastrophe loss ratio of 86, 9% and an attritional loss ratio of 10, 8% the third.

Quarter catastrophe losses results include Ida and Nicholas of $14 8 million.

The PG any excess liability loss of $5 million and favorable prior period development, including favorable current year development of $2 3 million.

Non catastrophe losses increased due to a growth of lines of business subject to attritional losses, and higher attritional loss activity on lines, such as specialty homeowners flood inland marine and our newer lines of business with conservative loss estimates as we continue to grow the premium base. Additionally, about 14% of the Attritional loss ratio for the quarter was four.

Lines of business, we are exiting the attritional loss ratio would have been below 15%, if we exclude those losses.

Our expense ratio for the third quarter of 2021 was 58, 8% compared to 59, 4% in the third quarter of 2020 on an adjusted basis. Our expense ratio was 56, 3% for this quarter compared to 58, 1% in the third quarter of 2020 and compared to 65% sequentially in the second quarter of 2000.

<unk> 21, an improvement compared to both metrics.

Our net earned premium ratio, we feel is a better representation of our business to look at our expense ratios as a percentage of gross earned premium our acquisition expense as a percentage of gross earned premium from the third quarter of 2021 was 22, 5% a slight improvement from 22, 6% in the third quarter of 2020 the ratio of other underwriting expenses.

Excluding adjustments to gross earned premium for the third quarter of 2021 was nine 4% a sequential improvement compared to 11, 1% in the second quarter of 2021, while we continue to invest in talent systems and other infrastructure, we expect our business to scale over the long term.

Our combined ratio for the third quarter was 102, 8% compared to 157, 1% in the third quarter of 2020, excluding the catastrophe losses in the quarter. Our adjusted combined ratio was 73, 2% for the third quarter compared to 68, 9% in the third quarter of 2020, we believe that given the.

Of your activity in the third quarter of both years. This is a better measure of our results for comparison purposes and offers a better sense of our business on a steady state basis net investment income for the third quarter was $2 2 million an increase of four 6% compared with the prior year's third quarter the year over year increase was primarily due to.

A higher average balance of investments held during the three months ended September 32021, offset by slightly lower yields on invested assets are fixed income investment portfolio book yield during the third quarter was $2, one 9% compared to 233% for the third quarter of 2020.

The weighted average duration of our fixed maturity investment portfolio, including cash equivalents was 4.04 years at quarter end cash and invested assets totaled $467 million as compared to $450 million of September 32020 for the third quarter, we recognized losses on investments in our consolidated statement of <unk>.

<unk> of $300000 compared to a $24000 gain in the prior year's third quarter as our capital position has solidified in our lines of business continue to evolve we have started to move a modest portion of our portfolio into traditional dividend, yielding equity index funds equity funds like the rest of our portfolio will continue to be <unk>.

<unk> invested but may impact, our recognize gains and losses from quarter to quarter.

Our effective tax rate for the third quarter was negative 101, 6% compared to 28, 2% for the third quarter of 2020.

For both quarters are income tax differed from the statutory rate due to the tax impact of permanent component of employee stock option exercises.

The rate for the current quarter is also skewed with pre tax net income so close to breakeven our tax rate for the nine months ended September 32021 was 18, 3%.

Our stockholders' equity was $377 8 million at September 32021, compared to $363 7 million at December 31, 2020.

For the third quarter of 2021 annualized return on equity was <unk>, 3% compared to negative 17% for the same period last year, our annualized adjusted return on equity was one 8% compared to negative 16, 5% for the same period last year, our adjusted annualized return on equity for the first nine months of 2021.

Was 12, 3% compared to four 7% last year.

We did not repurchase any of our shares during the current quarter relating to the previously announced $40 million share repurchase authorization under the current authorization, we have repurchased approximately $15 8 million or 239000 shares of common stock.

As Mac indicated looking ahead to the remainder of 2021 were providing fourth quarter adjusted net income guidance of between 17 million and $18 5 million.

This equates to an annual adjusted return on equity of 13, 5% to 14% as of September 32021, we had $26 million 49566 diluted shares outstanding as calculated using the treasury stock method, we do not anticipate a material increase to this number during the year ahead with that I'd like to ask the.

Operator to open up the line for any questions operator.

Thank you.

This time, we'll be conducting a question and answer session. If you'd like to ask a question. Please press star one on your telephone keypad and confirmation tone will indicate your line is in the question queue you.

You May press star two if we like to remove your question from the queue for participants using speaker equipment. It may be necessary to pick up your handset before pressing the star keys.

One moment, please while we poll for questions.

And our first question comes from the line of Paul Newsome with Piper Sandler. Please proceed with your question.

Good morning, Thanks for the call.

I was hoping you could talk a little bit more about the new fronting business.

And.

Maybe a little bit about sort of what the.

The extent of the limits of what you'd be interested in fronting are and maybe some of the risk management, it's going to go behind it too.

To make sure that.

Whats fronting is what's being front is what you want it to be funding that kind of thing.

Yeah, Hey, Paul it's Matt Good morning, Thanks for the question.

We are excited about our entrance into the <unk> market I think it's worth pointing out that we actually historically have served as a frontier.

So in our certain of our specialty homeowners.

<unk> as well as in flood, but ultimately what we buy going into the market it really affords us the opportunity to.

Generate fee income.

Non risk bearing fashion leverage existing infrastructure enter new markets, where we can potentially.

Studying the market learn more about them and determine if we want to take a participation in the future.

And then ultimately develop an expertise.

So where we stand right now we have two deals that have been announced.

One is we are fronting on behalf of them.

Our non rated insurance company and others, we are putting on behalf of a.

Cyber MGA, both had been announced.

Earlier, this month or excuse me in October.

Both of those instances, we are a 100% or we have 100% reinsured.

And fully collateralized with.

Unearned premiums were collateralized unearned premium.

We want to take a conservative entry into this market.

We potentially would be willing to take some risk on an occasional basis, especially for alignment may be more property focused where we can leverage our reinsurance.

Tower as well as our underwriting acumen.

And do the appropriate counterparty credit analysis, but I think as we go into the market. The majority of what Youll see from us will be pure fronts, where we are not taking a risk participation and where we are collateralized.

And that's what we've done for these first two deals, but we're excited about it and think there's great promise here.

That's great is there any limits on the kinds of products that you would front or just whatever.

I mean, I think there are some market yeah, I mean, I think we want to be domestic with domestic focused.

There are certain lines of business that we are less.

Less inclined to front right now.

We've got to come out and said that.

Workers compensation is something.

There's a longer tail on the collateral requirement, that's something that will probably be a little.

Less interested in.

You know I think heavy cat business is something that we're probably unless its something thats really up our alley is something that we're going to shy away from.

But if we can get comfortable with the collateral underwrite the partner get the appropriate reinsurance I think it does broaden up our market zone.

And then.

Separately my question on the Attritional loss ratio, you mentioned sort of what it was if you excluded the run off businesses do you think that's a fair run rate for the.

In the future.

Or is there some adjustments you should think about prospectively from that base.

Hey, Paul This is Chris Great speaking with you again and I can handle the loss ratio question, Yeah. As you outlined it well when we think about the Attritional loss ratio for Q3 was about 17%. We think about two four points of that came from lines of business that we have exited so we do think that that is a better marker for how the quarter.

Performed what you did see this quarter is we did have a lot of growth.

A lot of lines of business that do have attritional losses associated with them. So we have taken conservative physicians with some of those newer lines.

Continue to use reinsurance and underwriting techniques to make sure that those losses are lower but because those lines are growing at a healthy clip, we do expect them to contribute to the loss ratio. So we have said it would move up based on the current book of business right. Now, we would probably expect that loss ratio to come in between <unk> and <unk>.

10% overtime, we do expect that to still continue to tick up because we are expecting growth from those lines of business, but it's also nice to remember that we do have a strong anchor to our book of business or to our loss ratio with our earthquake and Hawaiian wind lines that are very binary.

We're never going to be completely let's call. It combined ratio or loss ratio focus we want to make sure that we are investing in very profitable lines of business, where we do think we have with our lines that do have attritional losses. So we will continue to invest in those but these are profitable lines that do add to our overall ROE and bottomline profitability. So these are lines.

What we like and like to get into but we do think obviously this does enforce our decision to kind of get out of the attritional or the admin and all risk book of business and kind of this shows why we werent, giving getting the requisite return on it. So we wanted to make sure that we showed that with and without so to speak.

Thank you for your insights I appreciate it.

Thanks, Paul.

And our next question comes from the line of Jeff Smith with William Blair. Please proceed with your question.

Hi, good morning, everyone.

The residential quake book continues to grow really nicely over 20%.

Where does that growth and just from a geographic perspective has it been.

Inside of California are outside of.

And then maybe could you discuss how much of a benefit you may be seeing I know AIG or Zurich, maybe pulling back.

In quake, the large players still pulling back in the California, homeowners' market I'm, just trying to gauge how sustainable you think this sort of 20% growth.

Yes, Jeff. This is Matt Great question. We obviously are pleased with the continued success and sustained growth we are seeing in residential earthquake.

It grew 20.

24% and we are optimistic that it can sustain at close to a 20% growth rate.

For indefinite period of time.

We obviously are growing nicely in California. We are also growing in the Pacific northwest and in other states.

So it's not just limited to California, It's Washington, It actually states like Utah, Missouri.

Andy as.

As well, where we can leverage partnerships like ones with travelers for instance that are really focusing on outside of California quake opportunities.

California is the predominance of what we do and the dislocation in the homeowners market is a major contributor.

And I think it's one that has allowed us to not only grow.

Premium and policy count, but it allowed us to grow our distribution footprint, so residential quake or total production plan is up.

Think 19%, but you may know, it's up 23% year over year, so that port patents for future growth.

You mentioned AIG pulling out that had we have benefited from that I think it's actually where we benefited there probably more.

And our E&S residential quake business, because it's high value and high value is more tailored for the.

The E&S market, so long story.

Short story is we think theres great growth ahead of us in the residential quake market driven by those factors. We also are going to continue to monetize our partnerships and we have made concerted efforts to do so.

Through what we're calling an inside sales team thats really focusing on driving new producers new production activity as well as appointing producers that are associated with some of our carrier partners.

And then there are potentially some regulatory catalyst that we could benefit from as well something that we are watching it really more on a prospective basis and it's something that really wouldn't impact us until 'twenty two and beyond.

Okay.

Great and then.

The commercial all risk premium the drop in the quarter and I may have missed it if you address that but I guess I thought you were sort of transitioning that book to be.

More on an E&S basis, but could you maybe address that.

Drop there and what what you kind of expect over the next few quarters.

Yeah. So we are running off the admitted all risk and that basically there was no premium written there.

In the quarter. So the admitted business, we will show will be off all of that basically at the end of December So all of the all risk business that we wrote in the quarter was E&S. So in.

In the third quarter, we wrote.

Roughly seven I think it was roughly $7 million of premium.

And that was tied to.

Just all E&S business.

And just for comparative purposes, if you think about where we were at last year. If you look at the number of about $12 5 million almost all of it was made up of the admitted all rest of it I would say there was one.

Millions of $1 1 billion counting E&S company. So that gives you due to the growth rate on the $1 1 million too.

The six eight youre looking at or north of 500% growth. So that's kind of a bogey that's out there and obviously that affects the overall growth as well we would have been in the 60% 66% range of growth. If you take that book out of the equation I think one thing I would add Jeff that you may have heard it but.

On the renewals what we are seeing in the E&S all risk was a 20% rate increase on average and frankly, it's something that we expect will accelerate into the fourth quarter as the market absorbs losses from either.

Got it okay very helpful. Thank you.

And our next question comes from the line of David motivate them with Evercore ISI. Please proceed with your question.

Hi, Thanks.

Just a question on.

Just the catastrophe losses, this quarter and I guess I just wanted to clarify would you have had a full retention loss.

If we take out the impact from the runoff of the discontinued lines.

Yeah.

David This is Matt we would not us.

As I.

Pointed out if you annualize the recurring cat loss.

For the quarter it was about four points.

On an annualized earned premium.

And that would've been losses from Nicholas and Ida.

And that does not obviously include the PGA loss the shock loss there, but so no. It would have been retained and either on a standalone basis would've been about halfway up our retention a little bit more.

More than halfway of our attention.

Okay. That's great. Thank you for that color. That's that's good to hear.

And then I guess, maybe and Chris I just wanted to confirm I understood. This right just on the Attritional loss ratio.

So I.

Should we be thinking about like a 14% to 15% baseline.

For this year off of which you would expect to increase.

A point or two a year just as the mix shifts to lines with with more attritional losses.

Yes, I think thats a good way to describe it right I think we've talked about this year as our mix has changed in our book has grown that it has been ticking up I would have expected to be let's call. It on the lower side of the teams at the beginning of the year I think.

The growth, we're seeing from lines like inland Marine from Wildlife flood.

The builders Rosemont is recorded all those lines of some of the newer lines, we are pushing that up a little bit. So I think the 14% to 16% range is kind of what I would expect based on the current book on an annual basis, so that could be a point higher it could be a point lower but I would say my expectation is going to be in that range and then like you described I would expect that.

If we do continue to see this growth, especially in the newer lines that it will start to keep.

Keep ticking up I would expect.

One to potentially two points a quarter, but again, we are continuing to use underwriting techniques in reinsurance to make sure that this doesn't.

Swinger volatility and its not going to just jump, it's not going to go from let's call. It 15% to 30% is going to go up incrementally.

Slowly on a quarterly basis, yes, David.

Just add a couple of things.

And I'll reiterate a point that Chris made at the outset. The call I think we talked about it last quarter and a 57% of our book right now has zero percent attritional loss ratio.

At the Hawaiian Hurricane and obviously most prominently the earthquake.

Secondly, I'll just give an example, our builders' risk book grew 350% year over year.

And actually we are in the Marine forgive me in the Marine grew 350% and that is the target loss ratio of in the <unk> in the quarter. It was around 15%. So it performed very well at 15% loss ratio and a 35% loss ratio. It has a very good margin and a very good return so to Chris's point, it's accretive to the ROE.

Accretive to them why.

So.

We feel good about how we are managing that and then the last thing that I would add is.

As we enter into new segments, especially in the casualty business, we are very conservative.

In our risk participation our average.

Net line is going to be around $1 million per casualty business with the Max line potentially of $5 billion. So we are going to be seeding off close to 80% and the on.

On the high end and in certain cases is closer to 50%. So you can manage.

The volatility so to speak.

As we go into these new lines of business, especially with people like Gareth and tie joining us we want to give them the tools they need to execute on their business plans, but we're also going to do what we've done historically and use attritional.

Reinsurance strategies, most notably quota share to prevent.

Major disruption or our book getting over our skis out of the gates.

Got it that's helpful and I guess, the cat load theoretically would be coming down as well as you have more of the casualty lines. So that's also I.

I guess something to consider.

I guess, just just lastly on the other line of business. When you break out by line of business. The gross premiums written that had another very strong quarter of growth I'm wondering how much of that was driven by the excess liability line and you know just give.

What happened with P. G any this quarter.

Feels like a one off but are are there any actions that you were thinking about taking.

In terms of reducing the limit you guys are putting out there or or using more reinsurance.

You know prevent that from happening again in the future.

Yes.

Good question a fair question.

So in that other line is going to be.

Most of the well all of our casualty business at this point so when as I just mentioned our net line on casualty business is going to be on the high end of $1 million.

So that in its own right a shock loss there will not be as impactful as the loss from the <unk> account I think also as you look at the type of risk. The <unk> account was which is a high attaching.

High rate online I think I pointed out 75% rate online, there's really only one other risk that we have that somewhat like that.

The $2 5 million dollar limit. It also has a high rate online, but it's in a different part of the country. It's a different.

Exposure. So long story short, yes, I think what Youll see our net exposure will come down.

Even though the <unk> the true net exposure was around $2 $2 million.

We would probably if we were to renew account like that the line will probably about half what it was.

Got it that's helpful. Thank you.

Our next question comes from the line of Tracy.

With Barclays. Please proceed with your question.

Thank you.

I wanted to just get a better frame of reference.

You previously came out with your full year guidance.

64 to 69 million that did include at the time I think the way that Texas Winter Storm and then now you.

Had resolved and you came out with our fourth quarter guidance and I guess it would imply that you would be below that range and I'm just wondering if the original guidance.

Include.

Catastrophe losses, or how should I be thinking about bridging that gap.

Hey, Tracy, it's Chris I can try and bridge that gap for you. So when you look at what the guidance. We gave in the second quarter. We kept it it's called the <unk> 64 to 69 range that did include the activity or the <unk>.

Cat activity in the first part of the year. So that was included in there and when you Bridget compared to where we are now we did have $17 5 million of additional cat losses. This quarter. So that has caused the lion's share of the losses were slightly elevated now where I would say materially elevated but I think that.

It is.

Cats are the biggest contributor this quarter when you take that $17 5 million tax affected that gets down to.

14, $15 million and Thats kind of the Big bridge between where we are now and if you added the 17 to $18 five on top of our year to date number that's called the bridge between taking that let's call. It 64 down to the $51 52 range.

Does that answer the question or is that.

I'm just wondering why maybe we shouldn't be thinking about a cat load.

Yeah. That's a fair question Tracy I think what I would tell you is we don't have not factored in a cat load.

What I would direct you to is just with the experience that we just came out of it kind of on a steady state basis.

The losses from either Nicholas.

Equated to four.

Four points on an annualized or a premium.

Basis, so that might be something directionally, you could look at.

But our approach has been not too.

Try to ratably spread of cat losses across the year.

Okay.

Next question and this may be Super basic.

But I guess I was a little bit surprised.

How long your exit from and they did all right.

On your specialty home in Louisiana would take to make its way as we saw.

Elevated catastrophe experience this quarter I mean, Mark I think you said it our comp rate that you've reduced your exposure in your commercial all risk segment by 80%.

At least that point in time, yeah, Yeah, I'm, just wondering why the lag once you decide it next to a market why would you still feel a little bit longer.

Yes, it's Tracy.

Wish it was as fast as you you and I, both hope or what we could see it. Unfortunately, you have to basically run off every policy. So if you make the decision to exit on let's just pick a 10 31 2020 all of those policies enforced rock wind down over the course of the year. So.

When we spoke at your conference we were down to <unk>.

Less than 180 policies enforced.

And.

It just so happened that the storm came while we add 17% of the book still left so it's not as simple as saying we're out of a market.

It is as simple as saying you were out of the market, we're not going to write new business, but you do have to honor the policies in force and.

Provide coverage for them until they lapse.

Okay. So maybe this is my last question, where we are right now in terms of any of those markets that you've exited.

We will be out by 12 31.

I think we are Louisa.

Louisiana, where probably the furthest through because our diverse state I think Texas. We are that's what will be the last one.

So by December I think.

September <unk>, our total insured value there will be a couple of hundred million dollars.

The policies would be in the past.

Call. It 60 to 70 in that state, but they should all come off by the end of that month.

That's very helpful. Thank you.

Our next question comes from the line of Mark Hughes with <unk>. Please proceed with your question.

Yes. Thank you Mark I don't know whether you touched on this earlier in the call but the.

Pricing dynamic youre seeing in the access to risk.

Yes.

Pretty clear that <unk> was an unusual situation, but what are you seeing more broadly in terms of.

Are you, saying.

Competition for loans.

Right.

Yes, I mean, I think market it remains a pretty hard market and that excess liability space, we are actually talking to.

Our professional liability team yesterday that recently joined.

Our broader casualty and just kind of as they are building out their filings and appointing producers and starting to get their first submission Zen.

The rates are materially up.

For us it's hard to say, where they were compared to last year, because we were not in the business last year, but what we're hearing is that the excess space. The rates are up 40% prior year over year. There are certain classes that you can't get coverage for especially in some of the professional lives. So we feel like our time.

There is good but it's also a circumstance where we wanted to be pretty judicious in how we go into that market and that's why we're solving for kind of a net line of $1 billion in Macau.

But overarching way I think we believe in whether its excess property or excess liability there is a.

Almost in some ways.

A reinvigoration of the hard market.

And that gives us confidence that we're going to maintain a pretty good rate integrity through 2022.

And when you say reinvigoration or you're talking now versus last quarter or six months ago.

Last quarter.

I'll give you an example, I think.

<unk>.

It may actually mean E&S all risks, we were 20% up in Q3, I think now you're looking at.

25% up if not more.

Understood. Thank you very much.

Thanks Mark.

And our next question comes from the line of Mayor Shields with K VW. Please proceed with your question.

Thanks, if I can take a step back sort of big picture, we've always defined the.

Cat retention tenant retention in the context of I guess shareholders' equity.

The diversification of line of business change that at all.

Okay.

Mayor I don't think I don't think it does I mean, I hope that the diversification in the other lines of business allows us to bring down the cat load across the totality of the operation and drive some scale, we expect those diversifying lines, especially like Palomar front can provide.

A less riskier not a risk free margin that will help but I still feel like we feel we want to maintain that retention inside of 3% of surplus.

Well inside of a quarter of earnings.

Okay.

Perfect.

Thats helpful on the fronting business I don't even know if this is an answerable question, but what does that look like in an inevitable soft market.

In a soft market.

It depends on who you're fighting for.

I think we are front end right now for <unk> I think we're fronting.

For unrated insurance companies I think in a soft market.

They're going to need access to a licensed vehicle.

So I don't know.

It may mean that margins get tighter.

For reinsurers it may mean that margins get tighter for the Mdas, but.

There is a cost our carrying costs associated with us taking tail risk I was taking regulatory licensing risk. So I think our margins will hold.

Okay, Perfect and then just hoping for an update in terms of California, because I know that they're.

Relatively recently.

Basically restricting the homeowners company the ability to non renew policies and I just wanted to get basically the corn.

Thanks.

Yeah, So I think California put in place I guess it was probably the third geographic moratorium, where certain homeowners companies are not able to.

Exiting admitted homeowners companies are prohibited from non renewing in those markets that is driven purely by wildfire exposure wildfire.

Lack of appetite from the homeowners market.

But that doesn't mean that they're not going to be renewing.

That might be higher or there is still other areas that theyre going to come out of it because they're trying to reduce their exposure. So.

It still creates.

Dislocation and I think in many ways it actually heightened dislocation because it leads to a circumstance where homeowners carriers grow further and further concerned about doing business.

State when they are precluded from non renewing business abating as unprofitable.

Okay perfect. Thank you very much.

Our next question comes from the line of Pablo <unk> with Jpmorgan. Please proceed with your question.

Hi, Thanks.

So there was some news about a month ago about the California earthquake authority setting up an insurer to essentially mitigate rising prices.

And to avoid having a race being in reaching customers.

It's Paolo very exposed to a similar dynamic of having to re price this to absorb higher reinsurance costs and I guess bottom line from your perspective, it's what's happening with this E an opportunity or a threat.

Yeah, Pablo glad you asked that question.

I think what is happening to CA is undoubtedly an opportunity for us.

So the CA has gone on record specifying that they potentially based on sustainable strain on our claims paying capacity because of increasing reinsurance costs. We are not in that circumstance, we buy about $1 billion.

Sorry for the background is a $1 billion seven.

Excess of loss limit for our earthquake.

It's about six for that so.

So we have heard clearly ample capacity to support our growth there, but I think most importantly, the C. Again has said that they're worried about his claim painting capacity and Furthermore, they have said that their rates may double over the next five years unless they can solve for how much.

Limit they have on their books and so there's also been talk of that potentially shedding business. So we think it's an opportunity.

The CA governing body has been getting together.

Bye bye monthly basis or quarterly basis to review a proposed plan that's been put forth by the management to.

All in all.

Lends itself well to dislocation not only in the California, homeowners' market, but specifically in the earthquake market and we are primed to capitalize on that so.

We're watching it closely we are doing what we can from a marketing standpoint to hopefully position us well when there is some inevitable change that comes out of the CPA, but I think thats more of a 2022.

Dynamic that comes to play.

Play.

Alright, and then my second question is.

I was wondering if you could talk about your private flood exposure in California, and I leave it to your outlook.

Geography property type and I'm, just trying to get and I think California is your biggest private flood state.

These are just trying to get a sense of your potential exposure to the floods in the northern part of let's say this past October and if it sort of type of event.

<unk> four and contemplated in your models.

Sure.

Yes, California is our largest state for our flood product.

<unk>.

No.

The model that we put in place in California was very similar to what we do on earthquake that we created.

A pricing grid that basically price every location uniquely in the state of California.

And so therefore, we are able to price competitively against the NFIB.

There were heavy rains, we have seen claims, but nothing out of the ordinary and in fact EBIT in our attritional losses in the third quarter. We had some measure of flood that cat claims we had losses from either in the state of Pennsylvania for instance.

The flood program.

Program performed very well for us the inception to date loss ratio is less than 20%.

And we feel very good about its prospects.

Right.

The work that we're doing from building out extending our production footprint building out partnerships, but also the potential.

Regulatory reform is tied to <unk> risk.

Our risk rating to point out, which is basically going to be repricing 5 million accounts.

And then the last question for me is.

Could you talk about to what extent earthquake pricing is correlate or not would sort of suggest that how your P&C pricing environment. Thank you.

Yes, well that's a very good question.

I would say earthquake pricing certainly is impacted by catastrophe losses on a global and national basis.

So if reinsurance cost goes up ultimately earthquake pricing will go up and in the third quarter, our rates were up 9%.

That is slightly below where it was the prior two quarters, but it's still steady increases in and it allows us to potentially improve our margins. So it is correlated to cat losses on a global basis is probably a little bit more of an indirect corollary, then wind and I think again, a prime example of that is.

Our E&S win was up 20% in the third quarter Quake was up nine.

Yes.

Got it thank you.

And as a reminder, if anyone has any questions you May press star one on your telephone keypad to join the question and answer queue.

Next question comes from the line of Adam Klauber with William Blair. Please proceed with your question.

Thanks, Hi, guys.

Just one or two.

Questions on expenses underwriting expense for the year running up almost 50%, which also other underwriting expense, which makes sense because you've been building a platform hiring teams.

Getting new products up and running as we think about 'twenty. Two do you think that the rate of growth in the underlying expenses will come down compared to 21.

Hey, Adam it's Chris I'll try and address that question, Yes, I think you outlined it well I would expect it to flatten a little bit as well this quarter I think we did talk about some new hires that we had onto those are going to call. It added expense. We are going to continue to invest but we have seen let's call. It the <unk>.

Right.

Other underwriting expenses compared to gross earned premium continued to decrease as we talked about earlier. This year. We did expect called the first half of this year to kind of that would be up to a little bit flat that has started to come down. It was nine 4%. This quarter Q2 was 11, 1%. So it is moving in the dry direction with some.

The investments we continue to make in the casualty space. The E&S business I would expect it to be a little bit flatter in Q4, and maybe in Q1, but overall, it's going to scale over the long term. It's never the dollars are probably always going to increase in the near future. Just because we are continuing to invest I do not expect it to be at the same rate that we're growing the topline.

<unk> earned premium so when youre looking at those things it would be at a lower rate, but it's still going to be something we invest in because we want to make sure we're building.

And the organization and our business to continue to sustain that growth and make sure that we have all the right pieces in place.

Right. So if we look at your gross expense ratio.

This year with obviously, there's some moving pieces, but it looks like it's coming in around 31.

As the other underwriting expenses slowed down is it possible that we'll see some improvement in that gross expense ratio.

Q3 2021 Palomar Holdings Inc Earnings Call

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