Prepared remarks
Good day, ladies and gentlemen and welcome to the First Quarter 2025 Arch Capital Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. As a reminder, this conference call is being recorded. Before the company gets started with its update, management wants to first remind everyone that certain statements in yesterday's press release and discussed on this call may constitute forward-looking statements under the federal securities laws. These statements are based upon management's current assessments and assumptions and are subject to a number of risks and uncertainties. Consequently, actual results may differ materially from those expressed or implied. For more information on the risks and other factors that may affect future performance, investors should review periodic reports that are filed by the company with the SEC from time to time, including our annual report on Form 10-K for the 2024 fiscal year.
Additionally, certain statements contained in the call that are not based on historical facts are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. The company intends the forward-looking statements in the call to be subject to the Safe Harbor created thereby. Management also will make reference to certain non-GAAP measures of financial performance. The reconciliations to GAAP for each non-GAAP financial measure can be found in the company's current report on Form 8-K furnished to the SEC yesterday which contains the company's earnings press release and is available on the company's website at www.archgroup.com and on the SEC's website at www.sec.gov. I would now like to introduce your host for today's conference, Mr. Nicolas Papadopoulo and Mr. François Morin. Sir, you may begin.
Good morning and welcome to Arch's first quarter earnings call. I'm pleased to report solid results for the quarter with $587 million of after-tax operating income, $1.54 in operating earnings per share, and an annualized operating return on equity of 11.5%. These results were achieved despite $547 million in catastrophe losses affecting our Property and Casualty segment primarily from the California wildfire. The P&C market has become increasingly competitive. However, we remain optimistic about our prospects as we continue to achieve attractive rates across the sectors where we compete. At Arch, we believe that focusing on the expected profitability of our market share by allocating capital to lines of business with attractive risk-adjusted returns provides us with the best chance to outperform during the cycle. This reflects our approach to cycle management, which has historically yielded positive results.
While the market may be more competitive, abundant growth opportunities still exist. This holds true even with emerging macroeconomic concerns, including the potential impact of tariffs that have increased uncertainty for many of our insured globally and raised inflationary risks for some of our businesses. In such times, risk selection is crucial as a growing number of our previously attractive accounts no longer meet our return criteria. We are confident that the expertise of our underwriting teams, the breadth of our platform, investment in data and analytics, and the depth of our financial resources position Arch well to navigate the P&C cycle. Now we'll discuss our segments, beginning with Reinsurance. Reinsurance results were solid despite significant catastrophe losses in the quarter, and a combined ratio of 91.8, which includes 18 points of catastrophe losses, demonstrates the strong underlying profitability of our diversified reinsurance portfolio.
Growth in net premium written during the quarter was modest due to increased competition, greater risk retention by ceding companies, and reducing our participation in treaties where margin no longer meets our thresholds. In the first quarter, the reinsurance group deployed additional capacity into property catastrophe lines where opportunities remain appealing, especially in loss-impacted accounts. The rise in specialty premium declined mainly due to the non-renewal of large structured transactions. Weaker margins in cyber and some parts of our international treaty business also contributed to decreased premium writings. Treaty casualty lines saw growth this quarter as Arch took advantage of a few select opportunities. We are optimistic that these lines will continue to secure favorable rates and see improvements in terms and conditions within the treaty casualty market. Looking ahead to major renewals, particularly for wind coverage in Florida and the Gulf, we anticipate heightened demand from both existing and new clients.
On the supply side, it is important to note that for many reinsurers and alternative funds, this area represents peak exposure. Consequently, it may become more challenging to access significant additional capacity, even as the market remains competitive on the margins. Moving to our insurance segment, where the California wildfires led to a small underwriting loss for the quarter due in part to commercial risk from the recently acquired middle-market commercial and entertainment businesses. The additional premium generated from those businesses contributed to the insurance group, $1.9 billion of net premium return in the quarter, a 25% increase from the first quarter of 2024. The integration of the middle-market business is progressing well, and we remain excited about the increased capabilities this team brings to the Arch Insurance platform. As we've said before, there isn't one underwriting cycle but many.
In today's market, it's possible to deliver double-digit growth in some lines, while experiencing similar declines in others. In the first quarter, we generated meaningful growth in casualty-led sectors, including construction, national account, and international casualty. At the same time, we experienced premium reduction in other lines of business due to rate decreases and our desire to maintain margin in lines such as E&S property and professional lines, including cyber. We have seen competition increasing in the London market specialty lines which has made profitable growth difficult. Looking ahead, we expect continued growth in casualty lines as well as the U.S. middle market where opportunities remain for both rate and premium growth. We are well positioned across the insurance group because of our market-leading capabilities and relevance with distribution partners that gives us the first look at many opportunities.
The Mortgage segment continued to provide a steady earnings stream contributing $252 million of underwriting income in the first quarter. Economic uncertainty, limited housing supply, and high relative mortgage rates continue to create headwinds for new mortgage origination which resulted in modest new insurance returns in our U.S. and international Mortgage businesses. For U.S. MI, high mortgage interest rates and price appreciation have kept persistency around 82% and insurance in force relatively stable. The delinquency rate of our in-force portfolio remains low ending the quarter below 2%. Our near-term outlook for the Mortgage industry is unlikely to change significantly. While recessionary trends resulting from tariffs and other economic policies could create headwinds, we still expect the Mortgage segment to continue generating attractive underwriting income given the high credit quality and embedded equity of our in-force portfolio.
Turning to our Investment group, where invested assets increased by 4% from year-end to $43.1 billion, providing a large sustainable contributor to group earnings. Investment market volatility increased broadly leading us to reposition our portfolio to a more market-neutral position. To manage the cycle, it's important to understand that you cannot control the market but you can control how your underwriting teams respond to it. At Arch, we manage a different cycle across our many lines with the ability of our underwriters to access, analyze, and ultimately select risk. Over time, our underwriting teams have built strong relationships with our distribution partners which gives us an access advantage as they look to place risk with fewer, more relevant carriers, including Arch. Risk analysis combines experience, expertise and deep analytical insight to understand and assess the underlying risk and match it with a technical price that reflects an adequate premium for that risk.
Ultimately, risk selection is what separates the winners from the losers. If the return doesn't adequately account for the risk, you must be willing to let others take the business. The P&C market in transition is one where Arch can and has previously demonstrated its ability to find success. While premium growth may be more challenging than in recent years, plenty of profitable opportunities remain. For a company with a strong underwriting culture like Arch, this is a market where we can stand out and continue to maximize returns for our shareholders.
Thank you, Nicolas, and good morning to all. Last night, we reported our first quarter results with after-tax operating income of $1.54 per share resulting in an annualized operating return on average common equity of 11.5% and growth in book value per share of 3.8% for the quarter. At a high level, our three business segments delivered excellent underlying results with an overall ex-cat accident year combined ratio of 81%. And importantly, each of our segments showed an improvement for that metric over the same quarter one year ago. Our underwriting income included $167 million of favorable prior year development on a pre-tax basis in the quarter or 4 points on the overall combined ratio. We recognized favorable development across all three of our segments and in many of our lines of business but the effect was most notable in short-tail lines in our Reinsurance segment and in Mortgage due to strong cure activity.
The acquisition of the MidCorp and Entertainment Insurance Businesses continues to roll through our financial metrics within the Insurance segment. This quarter, the net premiums written coming from the acquired businesses was $373 million, contributing 24.2 points to the reported year-over-year premium growth for the segment and generally consistent with last quarter. Also, the inclusion of the acquired business in the segment's results lowered the current accident year ex-cat combined ratio by 1.1 points. This can be further broken down to include the current quarter acquisition expense ratio that was lowered by 0.9 points due to the write-off of deferred acquisition costs for the acquired business at closing under purchase GAAP. The other operating expense ratio that was lowered by 0.9 points and the accident year ex-cat loss ratio that ended up being 0.7 points higher, reflecting the underlying results of the acquired business.
The quarter-over-quarter comparison of net premiums written for the reinsurance segment showing growth of 2.2% was also impacted by a few items. Of note, this quarter's net premiums written includes approximately $70 million of reinstatement premiums, mostly related to the California wildfires. Offsetting this benefit was the non-renewal of large structured transactions in the specialty line of business which reduced our top line by $147 million in the quarter. There were also some timing differences in the recognition of certain treaty renewals which resulted in lower net premiums written in the quarter of approximately $103 million. Our mortgage segment delivered yet again another very strong quarter with underwriting income of $252 million. Even though the origination environment remains challenged, the underlying fundamentals of the business are excellent, as exhibited by most of our key metrics, including a very low delinquency rate for our U.S. MI business which currently stands at 1.96%.
On the investment front, we earned a combined $431 million pre-tax from net investment income and income from funds accounting using the equity method or $1.13 per share pre-tax. The reduction in net investment income relative to last quarter is attributable to a few items, including the impact of paying a $1.9 billion special dividend in December, the timing of incentive compensation expenses, slightly lower interest rates in the quarter, and the repositioning of our portfolio to a lower risk posture in light of the current macroeconomic uncertainty. Income from operating affiliates was down this quarter, mostly due to a lower level of affiliate income at Somers Re in part as a result of the California wildfires. Cash flow from operations remained strong it was approximately $1.5 billion for the quarter. Our effective tax rate on pre-tax operating income was an expense of 11.7% for the quarter and reflects a one-time discrete benefit of 4.6% related to differences in the expensing of non-cash compensation.
Also, it is worth mentioning that we started to amortize this quarter the deferred tax asset we established at the end of 2023 related to the introduction of the Bermuda corporate income tax. This benefit does not impact our operating or our net income effective tax rates in the period, but as we mentioned previously, it will flow through our financials as a reduction to pay taxes. As of January 1, our peak zone natural cap probable maximum loss for a single event, 1 in 250-year return level on a net basis, increased slightly and now stands at 9% of tangible shareholders' equity. Our PML remains well below our internal limits. On the capital management front, we repurchased $196 million worth of our common shares in the first quarter and an additional $100 million in April demonstrating our ongoing disciplined approach to managing our capital to enhance shareholder returns. In closing, our balance sheet remains extremely strong with common shareholders' equity of $20.7 billion and a debt plus preferred capital ratio remains low at 14.7%. With these introductory comments, we are now prepared to take your questions.
Questions and answers
The first question comes from Mike Zaremski at BMO.
Thank you for the valuable market insights. Regarding the Reinsurance group increasing capacity for catastrophe lines, you mentioned that loss-impacted accounts are particularly appealing. Should we consider how to adjust our loss ratio if you continue to pursue this strategy? Additionally, do you have any updates to your catastrophe load guide? Last time it was updated to 7 to 8 points; should we anticipate that figure to increase slightly?
I don't think so. I think the number should be relatively stable. I mean, full-year cat load. Obviously, there's seasonality to it. As we look at market conditions, we certainly have thought that after the California wildfires, there might be a little bit of a stabilization in that market which we think will happen, although as we touch on, I think Florida is its own different market. So, a little bit early for us to know exactly how Florida is kind of ultimately performing or what opportunities we're going to see there. But big picture, I think what we saw at the start of the year seems to be holding up pretty well.
I agree. From our perspective, the outlook for Florida appears to be somewhat stable, as I mentioned earlier. We are positive about the business. While we are uncertain, if our teams identify growth opportunities, we anticipate increased demand in the market for a number of reasons. The FHCF is planning to raise the retention by $1.5 billion, and we notice that more cedents are interested in raising their limits, which they have been unable to do in recent years due to capacity constraints. Therefore, we believe there could be a chance to explore further opportunities if the rates remain consistent.
Got it. Okay. Switching topics to market competition outside of reinsurance. A common theme in recent quarters is that large account property is well priced, but we are experiencing some significant downward pressure. You mentioned the London specialty market in your prepared remarks. Can you explain what you mean by the London specialty market and help clarify which specific lines may not be ideal for growth?
In London, there are two key developments. Firstly, after years of strong performance, there is a greater willingness among companies to expand into sectors such as terrorism, marine, and energy, which are traditional areas of business for Lloyd's. Secondly, London is becoming the excess and surplus market for the world, leading to a decrease in business from regions like Australia and Asia, as local companies become more confident in their own risk management and their reliance on Lloyd's diminishes. Therefore, we are observing a combination of these trends. The consolidation around market leaders is creating a favorable environment for us and other top players. While it’s hard to predict specifics, we remain optimistic about our ability to leverage our position in the market.
The next question comes from Cave Montazeri at Deutsche Bank.
My first question is about net premium growth in Reinsurance. It's evident that the era of over 30% growth in net premium written is behind us as you shift towards a more selective approach. I believe expecting a growth rate of 2.2% moving forward might be too low. Could you elaborate on the key factors behind the deceleration observed in the last quarter? Also, could you provide more details on how structured yields are impacting this? This would help us better understand how to approach expectations for premium growth in Reinsurance going forward.
Yes, I mentioned this earlier. There are a few factors to consider. If you take into account our previous comments, while we're not trying to adjust for everything, those two factors suggest a growth rate of around 6% to 7%, which may align more closely with our near-term expectations. Additionally, there's a distinction in our results; we experienced solid growth outside of property cat and property cap, while casualty lines showed declines in specialty areas due to increased competition. Cyber insurance is a significant example, where we've seen rates decrease and some of our ceding companies retaining more risk. So, while it's true that the 30% growth is likely behind us in the medium term, this context should help you understand the shift from 2.2% to what might be a more realistic growth expectation for the remainder of the year.
Yes. I think in the specialty book, you have a mix of lines of business. I mean it goes from credit to a cyber to agriculture and a few others. So our team are really scouting the world to find opportunities. We had a great opportunity in Brazil last year on the agriculture side. And this year, the cedent is winning more of the business. So, I think you have to be opportunistic in those lines of business to make money. So yes, if we have a big book, the ups and downs offset each other in the last few years it grew together because of what the hard market does. I think we should be prepared to see more ups and downs quarter-by-quarter going forward in that particular book. That's what we want them to do.
My second question is on casualty. Last year, a big theme was just the strengthening in the casualty reserves at the industry level. We haven't seen much of that so far in 2025. I think some people are thinking maybe we might be past the point of maximum fear with regard to social inflation. Just wondering like what your thoughts are? Do you agree with that? What do you think we're just in the eye of the storm and there's more pain to come in the second half of 2025?
My prediction is that although I can't pinpoint when the pain will come, it is undoubtedly on the horizon. There is more pain ahead. This reflects our perspective on how people are managing the situation, and it seems that the issue of social inflation in the casualty space hasn’t fully unfolded yet. We believe our outlook is still valid. We are observing rates that are above the trend in our casualty line, and where we feel confident regarding exposure, jurisdiction, and the terms and conditions we receive, we are prepared to take action. However, I don’t believe we have reached a point in the market where we can capture share and ensure a satisfactory return. Therefore, I think there is more to anticipate. That summarizes our general underwriting perspective.
The next question comes from Elyse Greenspan at Wells Fargo.
My first one, I think, is a quick one. François, the 7% adjusted growth in Reinsurance that you were talking about, in the quarter. Is that excluding reinstatements and structured deals? I just want to make sure I understand what you're backing out.
No, I'm just putting back in the two items I mentioned. That's all. I'm not backing out the reinstatements; I'm just handing back the non-renewed deals and the timing of the accruals on some business.
Okay. Got it. My second question is about the commentary regarding midyear. It seems like you're anticipating some potential demand growth. What about pricing? Are you expecting that prices might decrease but that there could be growth opportunities driven by demand? Can you help me understand those two aspects?
The data point from April 1 shows a slight decline in most areas, with a more significant drop in Japan due to one player reducing their purchases, which negatively affected the market. However, the situation in Florida is somewhat different, as it's a crucial area for both markets. While people favor the top players, there aren't many of them, and there is less enthusiasm for the lower end of the program. Historically, and currently, the lower-end products, which were affected by last year's hurricane, are expected to see price increases. Whether this will be balanced by price decreases at the higher end of the market is uncertain. Therefore, if things go as anticipated, which is not always the case, we expect Florida's market to remain largely stable. Given our position, we believe we can maintain our share in the segments that are increasing their purchases, creating potential opportunities for us to invest more capital.
Okay. And then one last one. In insurance, if I kind of ex out MidCorp, is that I think, around like a 56.7% underlying loss ratio that was slightly below the Q4. Is that about like run rate-ish, I guess, on core Arch, right? And then we think about bringing in MidCorp on top? Or anything else we need to think about just with pricing and loss trend and dynamics on the margin as we go through the year.
Yes. For the legacy Arch book, at a high level, our margins are steady and above trend. However, it's important to note that the mix is changing as we shift more towards casualty. This shift may lead to a slight increase in the underlying loss ratio due to increased competition in property. Much of our growth has been in casualty-related lines of business, which are crucial for our profitability. Overall, we still believe the loss ratio we reported this quarter can be maintained at that level.
The next question comes from Andrew Kligerman at TD Securities.
First question is around the reserving. It looked like you had some nice favorable developments, particularly in Reinsurance. But could you call out anything around commercial auto and other liability, net plus or minus in both Insurance and Reinsurance, how did that perform? And how do you feel about the reserving in those lines going forward?
Great question. We review our reserves every quarter. The actual versus expected figures that we monitor closely look promising. However, it's still too early to declare success. We're keeping an eye on everything, and while there are minor fluctuations, some areas saw slight adverse developments which were balanced by other areas where we experienced positive outcomes. Overall, I would say we're relatively stable. Regarding casualty lines like auto and some of the more challenging areas such as umbrella, we feel assured about the indications from our reserves.
Okay, that's good to hear. I have a two-part question. As a well-regarded cycle manager, could you provide some insights on two cycles, specifically casualty and property? How do you see these cycles evolving at this moment? For instance, how much longer do you think property pricing will continue to decline, and how long can casualty pricing remain stable? I realize this is a challenging question, but I would really appreciate your thoughts on it. Additionally, what are you observing with MGAs currently? Are they still growing and competitive? I'll pause there, as I realize I asked quite a few questions.
The two are closely connected. I will begin with the property aspect and then discuss reinsurance. In my opinion, the market is exhibiting more discipline, which has led to a decrease in rates. However, even from the peak, the market still appears attractive. We've not observed any major players acting irrationally. The newcomers are small, and thus, I remain very optimistic about the property catastrophe segment and the overall behavior of the industry in this area. Moving on to property in general, particularly E&S and North American net properties, there are essentially two markets. There's the middle market, which includes more admitted retail where recent catastrophes such as convective storms and wildfires continue to exert pressure on companies, compelling them to secure higher rates to cover their increased catastrophe loads. Then there's the E&S catastrophe segment, which includes coastal and possibly earthquake-driven risks where managing general agents (MGAs) have a larger influence.
To my surprise, the market has responded swiftly by relinquishing double-digit rate increases. It was remarkable how the market reacted in 2023 with greater discipline, pulling back limits in response to substantial losses that the large limit exposure incurred. This trend, where capacity decreases leads to rising rates, has resulted in a notable upswing in re-underwriting along with modified terms and conditions. Approximately a year or a year and a half later, we've seen MGAs, whose capacities had been restricted, return with significantly larger limits. For typical risks, such as a $200 million exposure that typically requires around 20 markets to fully cover, an example would be Arch handling the initial $100 million and then the MGA stepping in for an additional $40 million. This creates a rush to readjust resources, especially if the MGA seeks to increase capacity, which in turn places immense pressure on the rates we've observed.
Overall, the capacity of MGAs has increased this year, and I believe they play a significant role in rapidly making the market more competitive. That's my perspective. In the casualty sector, there are fewer managing general agents. What we've observed is that, similar to property markets, capacity is increasing but not drastically—moving from 10 to 15 rather than 10 to 40. On the casualty side, whether it's excess and surplus lines or others, we've seen a consistent trend. The typical response to losses has been to reduce the limit. The goal is to apply prices to various business risks to enhance diversification, which works better with a lower total number. As a result, we've noticed the reduction of capacity and standard limits from 50s to 25s and down to 15s has created an opportunity for rates to rise, particularly on the excess side. We haven't observed a significant influx of businesses; in fact, many are still reducing their limits. This indicates that we are likely looking at a prolonged pathway to a more competitive market.
The next question comes from David Motemaden at Evercore ISI.
Good morning. I had a question on the $147 million of structured deals that were non-renewed. Just so I'm thinking about it correctly. Were there any other chunkier quarters in 2024 that we should think about where like there were chunky structured deals that might not renew as we go through the rest of 2025?
There are always some significant deals that we write throughout the year. What remains uncertain is whether these will come back or renew at the same level and structure for another year. It's difficult to predict the impact for the rest of the year. We aim to provide additional information on the premium and its fluctuations. Sometimes, it works in our favor as we secure new significant deals that enhance growth or reported growth, but this instance was different. These deals tend to be on the larger side, and it's uncommon for us to have so many deals with such a high premium.
And then on the insurance underlying loss ratio, I think last quarter, you spoke about it running at around the 58% level going forward. It obviously came in nicely below that this quarter. I'm wondering was there anything that drove that? It sounded like you split it out between the legacy Arch and MCE. Was there more improvement on the MCE side? Is that something we can expect to continue? So maybe some color around that would be helpful.
It's hard to determine. The quarterly numbers are important, but we don't place excessive importance on them. Our focus is on maintaining a long-term perspective regarding the underlying profitability of our portfolio. Therefore, I wouldn't anticipate any significant fluctuations, either positive or negative, for the MCE or the legacy business. As you know, last year we faced the Baltimore Bridge situation, which raised the loss ratio, but that was not an issue this quarter. There will always be some unpredictable factors, such as large clients impacting the quarterly loss ratio. Overall, we view the environment as fairly stable, though we do expect some volatility from one quarter to the next based on various developments.
The next question comes from Alex Scott at Barclays.
I thought I'd see if you could provide a little more commentary on what you're seeing in the property cat reinsurance market I guess, specifically, what's your view of the impact of ILS? Is the pricing pressure more at the top of the tower? Any commentary on sort of the way it's affecting these towers and where you play in them?
Yes. What we've observed and what appears to be ongoing is exactly what you mentioned, with increased pressure at the top. The catastrophe bond market is being repriced to offer lower margins, which is also putting pressure on the layers below the cat bond market. While there have been no losses in those lower layers, we have experienced losses at the bottom of the program due to the California wildfire and various storms. The primary area where price decreases seem to be concentrated is indeed at the top of the program. In Florida, the situation will likely be more complex because there isn't much supply available in the marketplace. Therefore, I wouldn't expect it to be as robust as in the Northeast region, where there haven’t been losses among the top players for quite some time, and people are noticing that. So, in my opinion, if any changes occur, it will likely be more pressure at the top of the program, while there may be only moderate pressure at the bottom.
Got it. That's helpful. Next one on capital management. I mean, you had very strong capitalization and growth slowing a little bit, just given the environment. How do you think about priorities there? And how quickly do I ramp up capital return if you don't get the opportunity to grow in the midyear?
Yes, we constantly monitor this as part of our framework. We have always recognized that as growth starts to moderate and we continue to generate solid earnings, we may accumulate more excess capital and look to return much of it to our shareholders. While there might be some minor mergers and acquisitions or other opportunities, it is reasonable to anticipate that we will return a significant amount of capital in the future. We issued a special dividend late last year and we are quite fond of share buybacks. If it makes sense in terms of pricing and metrics, we are more than willing to pursue that option.
The next question comes from Wes Carmichael at Autonomous Research.
In Reinsurance, I think you mentioned a couple of times of primary companies retaining more risk. Just hoping you could provide a little more color on what you're seeing from primaries and maybe where that's most pronounced?
I think we see this trend most noticeably in other properties and some lines of business, such as energy, where results are strong and ceding commissions are favorable. Companies seem more at ease with their outcomes. This is a typical market trend; as time goes on, companies tend to retain more risk. They purchased reinsurance due to the desire to manage volatility or uncertainty in performance, especially after re-evaluating their portfolios. It's not uncommon for companies to feel more confident. At Arch Insurance, for example, we are more comfortable with our risk, leading us to purchase more insurance. Consequently, we shift our reinsurance strategy towards excess of loss, allowing us to retain a larger portion of the premium. Although we haven't seen a significant amount of quota share in excess of loss, we have observed companies, feeling more secure about their risk and financial stability, retaining more risk. Additionally, in structured deals, which are typically intended for capital relief, these arrangements tend to persist as long as the company needs surplus relief. If a situation arises where surplus relief is no longer necessary, then those deals typically dissolve.
That's helpful. And I think in mortgage, prepared remarks touched on headwinds of origination. Can you maybe just talk about what behavior you're seeing in that business? And are you seeing any potential leading indicators of recessionary activity at this point?
It's really too early to tell. While we can make speculations and do the necessary analysis, we believe that if there were a severe recession impacting unemployment and leading to a slight decline in home prices, it could affect our performance. However, we continue to emphasize the strong fundamentals and high credit quality of our borrowers. Homeowners have built up significant equity, which makes this scenario very different from what we experienced in 2008. Although we do have concerns, we feel much more secure in our current position. For a stressful scenario to cause major challenges for Arch, it would need to be extremely severe. Right now, we believe we are in a very good place.
The next question comes from Josh Shanker of Bank of America.
Good morning, everybody. Back in the fourth quarter, you paid a big special dividend, you bought back a little stock. You bought back more stock this quarter. I tend to find it difficult to parse paying special dividends and buy back stock at the same time, either the return on the stock is attractive or you need to give money back to shareholders promptly because it's not so attractive A couple of things there. One, can you talk about, little about your philosophy which is about 3-year ahead book value. But I've done a little bit of the math. And if the 3-year ahead book value rule of thumb applies, the market is very much underestimating your earnings power for the next couple of years. Can you talk about the philosophy of buybacks versus dividends and what that means for this year and what you think about the attractiveness of the stock at this point?
We are definitely favorable towards the stock. However, the main challenge is the speed at which we can execute share buybacks due to daily trading volume limits. Even if the stock price is appealing, dividends allow for a much quicker return of capital compared to the prolonged nature of buybacks. For example, repurchasing $1.9 billion of stock at our current pace would take a significant amount of time, during which we could potentially accumulate more excess capital and fall behind. It's essential to understand that share buyback capabilities are somewhat restricted. Regarding our 3-year payback metric, we might have a different perspective on future book value compared to what others see, but we believe we are still within that 3-year range. There is considerable potential for us to grow book value steadily in the near future, which reassures us that repurchasing stock at this price is a strong method to return capital to our shareholders.
If you started now, do you think you could execute $2 billion in buybacks before year-end and preclude the need for a special dividend?
It would be challenging. There are ways to create some programs, but we prefer to maintain flexibility and keep our options open. Committing to publicly announcing a specific amount we are buying back at a certain price is something we try to avoid. We aim to be opportunistic, and it’s something we continually assess and strive to optimize as best as we can.
Well, thanks for being transparent about the behind the curtain, how the sauce is made.
The next question comes from Andrew Anderson at Jefferies.
Just on the income from operating affiliates, I think it was $17 million in the quarter. It was down a bit year-over-year. I think that Somers is in Coface. Can you maybe just talk about the moving pieces there and perhaps how you're thinking about full year?
Coface has performed exceptionally well for us, and we are very pleased with it. While there may be some pressure on trade credit moving forward, we are monitoring the situation closely. We lack complete visibility on this matter. The decrease in income from operating affiliates was primarily due to the performance of Somers, which functions as a sidecar to Arch Re. This quarter, wildfires affected both us and Somers. Additionally, there was an unusual item related to Bermuda tax reflected in Somers' financials for the first quarter of 2024 that may have made the decline appear more substantial than expected. Generally, this quarter's figures for operating affiliates are lower than what we typically anticipate. When it comes to our returns, we expect to earn around 10% or more on these investments, with over $1 billion in assets in this area.
That's helpful. And then just insurance expense ratio and there was improvement in OpEx but is full year '24 still a good way to think about the rest of the year for the OpEx? Or is there still some headcount costs coming on?
It's a good place, and as we consider our growth and manage our expenses, we are being careful and diligent about whether we need to replace resignations and handle retirements. We expect to benefit from the MCE acquisition, as it offers scale that enhances our leverage. However, we are still looking to hire on the MCE side, particularly for data scientists and a few more actuaries. Overall, we are monitoring our expenses, and that will remain a key focus as we move forward.
The next question comes from Meyer Shields at KBW.
I think I have the same question in two contexts. I think Nicolas started for comments talking about the preference of brokers to work with fewer bigger insurers. And I'm wondering if you could talk about the volume versus profitability implications of that to companies like Arch?
I don’t believe the two are necessarily connected. In my opinion, the best way to approach this is through the London market. In London, the main three brokers control a significant amount of access to the business we conduct. Supporting them where needed and aligning with their strategies is crucial. If we consider how they are structuring the market with their own facilities, they require strong leadership to ensure everything operates smoothly. They also have some follow facilities in place and, ultimately, an open market remains. It’s essential to find a balance; focusing solely on one aspect isn't feasible. Our distribution strategy is a vital part of our future success, and we have dedicated considerable time to exploring how we can better align with our distributors and add value. This can differ depending on whether we are dealing with larger distributors or smaller, mid-market distributors, where they may benefit more from expert input.
For future success, we must critically evaluate the value we deliver in each transaction and cannot be passive in underwriting business. Two key components are approaching the underwriting cycle with care and understanding our role in the chain and the value we provide. We've invested a lot of effort into this thinking, prioritizing the needs of our customers because without them, we have no existence. Focusing on customer value is paramount, and this dynamic is evident both in London and North America. You can't simply wait for business to come your way; you need to be proactive in targeting the right opportunities. If competitors secure the best business, you'll be left with less desirable options. Thus, it’s crucial to put in the effort as relationships and visibility of the targeted business play an important role, which is where our distribution strategy becomes significant.
Okay, perfect. That's very helpful. Second, regarding reinsurance, when cedents retain more of their business, how do you manage the risk of adverse selection when a more knowledgeable cedent decides what to keep and what to reinsure?
A significant part of the business revolves around adverse selection. The key question is whether I have the insight necessary to understand why people are purchasing insurance and whether it makes sense. We dedicate considerable time to generating insights that reveal the needs we are willing to insure or reinsure, while there are areas we choose to avoid because, as I mentioned earlier, we aim for risks where the potential benefits exceed the potential drawbacks. Generally, when risks only present a downside, we prefer to steer clear of them. This environment presents constant risks, and adverse selection is prevalent in the market. I believe it's crucial to consider this when making risk selections. If you are aligned with the right risks, a lot of what underwriters are told often sounds unrealistic. If you buy into these unrealistic narratives, it is unlikely you will succeed in underwriting.
Therefore, it's essential to possess the insight necessary to ask the right questions, uncover the truth, and establish a relationship with clients so they approach you with their genuine concerns where you can truly add value through insurance or reinsurance. We function on both sides; on the insurance side, we encourage our team to act in good faith. When the risk appears sound, the goal is to retain it and have confidence in those decisions. In uncertain situations, we might opt for reinsurance on a quota share basis. Over time, as conviction grows regarding the effectiveness of our underwriting guidelines and pricing, we can choose to retain more risk net. This approach is entirely acceptable, and in my opinion, it reflects the essential role reinsurance plays.
I'm not showing any further questions. Would you like to proceed with any further remarks?
No, thank you. I believe we had a strong quarter despite facing a more challenging and competitive market, but we remain optimistic about our position. As I mentioned in my comments earlier, we aim to stand out. We look forward to seeing you in the next quarter.
Ladies and gentlemen, thank you for participating in today's conference. This concludes the program. You may all disconnect.