Good day, ladies and gentlemen, and welcome to the American Financial Group 2018 Third Quarter Results. 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. [Operator Instructions]. As a reminder, this conference is being recorded. I would now like to introduce your host for today's conference, Diane Weidner, Assistant Vice President, Investor Relations. Ma'am, you may begin.

Good morning, and welcome to American Financial Group’s Third Quarter 2018 Earnings Results Conference Call. I’m joined this morning by Carl Lindner III and Craig Lindner, Co-CEOs of American Financial Group; and Jeff Consolino, AFG's CFO. Our press release, investor supplement and webcast presentation are posted on AFG's Web site. These materials will be referenced during portions of today's call. Before I turn the discussion over to Carl, I would like to draw your attention to the notes on Slide 2 of our webcast. Certain statements made during this call may be considered forward-looking statements as defined under the Private Securities Litigation Reform Act of 1995. These statements are not guarantees of future performance. Investors should consider the risks and uncertainties that could cause actual results and/or financial condition to differ materially from these statements. A detailed description of these risks and uncertainties can be found in AFG's filings with the Securities and Exchange Commission, which are also available on our Web site. We may include references to core net operating earnings, a non-GAAP financial measure in our remarks or responses to questions. A reconciliation of net earnings attributable to shareholders to core net operating earnings is included in our earnings release. And finally, if you're reading a transcript of this call, please note that it may not be authorized or reviewed for accuracy. Thus, it may contain factual or transcription errors that could materially alter the intent or meaning of our statements. Now, I am pleased to turn the call over to Carl Lindner III to discuss our results.

Good morning. We released our 2018 third quarter results yesterday afternoon. If you’d turn to Slide 3 of the webcast slides for an overview. Craig and I are very pleased to report a new third quarter record for AFG’s core operating earnings of $2.19 per share, up 107% from last year’s third quarter which was impacted by significant cat losses. Our results include strong profitability in our Property and Casualty operations and excellent results in our Annuity segment. Third quarter 2018 annualized core operating return on equity was 15.8%. Net earnings per diluted share were $2.26 and included $0.31 per share in realized gains on securities and a $0.24 adjustment to our A&E reserves. Craig and I thank God, our talented management team and our great employees for helping to achieve these results. Based on results through September 30, we're increasing our 2018 core operating earnings guidance for AFG to be in the range of $8.35 to $8.65 per share, up from our previous estimate of $8.10 to $8.60 per share, and an increase of $0.15 per share at the midpoint. Our guidance does include a preliminary estimate of approximately $30 million for pre-tax losses associated with Hurricane Michael and the estimated impact of stock market declines in the fourth quarter to-date on Annuity segment earnings. Craig and I will discuss our guidance for each segment of our business in more detail later in the call. Now I'd like to turn our focus to Property and Casualty operations. Earlier this month, we announced that we reached a definitive agreement to acquire ABA Insurance Services. ABA Insurance Services is a market-leading provider of D&O and other complementary insurance solutions for banks, small businesses, and nonprofit organizations, with a long track record of underwriting success and profitability. We expect the transaction to…

Thank you, Carl. I'll start with a review of our Annuity results for the third quarter, beginning on Slide 7. Statutory Annuity premiums were $1.38 billion in the third quarter of 2018, an increase of 57% from the prior year period. Sales of traditional fixed and indexed annuities in 2018 by AFG and the industry continue to be significantly higher than sales in 2017. We’re pleased with our premium growth and we continue to earn our targeted returns despite a competitive market. While we’ve seen third quarter sales growth in all of our channels, production in the retail and broker-dealer markets continues to be particularly strong due to the launch of several new products and our efforts to expand our penetration of these markets. Rising interest rates as well as the favorable impact of tax reform allowed us to selectively raise credited rates on new business this year. By comparison looking back on 2017, the Annuity industry faced uncertainty related to the proposed Department of Labor Rule, which was later vacated in 2018. Furthermore, interest rates fell in 2017. And in response, AFG implemented several decreases in credited rates in 2017 to maintain appropriate returns on new sales. The rate decreases resulted in a negative impact on premiums in the second half of 2017. Turning to earnings results, pre-tax Annuity earnings were $117 million in the third quarter of 2018 compared to $102 million in the third quarter of 2017, an increase of 15%. The components of fair value accounting are shown on this slide. Under GAAP rules, a portion of the reserves for fixed indexed annuities is considered to be an embedded derivative and is recorded at fair value based on the estimated present value of certain expected future cash flows. Assumptions used in calculating this fair value include,…

Thank you, Craig. Slide 13 summarizes AFG's core operating earnings results on a consolidated basis. The $2.19 of core EPS is based on core net operating earnings in the quarter of $198 million. The year-over-year increase in core earnings in the 2018 third quarter was primarily the result of strong operating earnings in our insurance businesses. Property and Casualty pre-tax operating earnings were 66% higher year-over-year. Specialty P&C underwriting profit was $46 million higher in the 2018 third quarter, primarily due to lower catastrophe losses. P&C net investment income grew $14 million or 15% year-over-year, primarily the result of unusually high returns on certain investments, including limited partnerships and similar investments. 2018 P&C other expenses were $6 million, which was roughly in line with the 2017 third quarter. Pre-tax earnings for our Annuity segment increased 15% year-over-year. Interest and other corporate expenses decreased $2 million. Parent company interest expense decreased by $6 million year-over-year as a result of our 2017 debt refinancing. Starting in Q1 this year, this line item includes income and expenses related to AFG’s previously reported runoff lines of business. Slide 14 provides a reconciliation of core net operating earnings to net earnings. Recall AFG adopted ASU 2016-01 effective January 1, 2018, which requires holding gains or losses on equity securities to be recognized in net earnings. The impact to our income statement will vary each quarter depending on the performance of the securities held in our equity portfolio. In the third quarter of 2018, AFG recognized $27 million or $0.31 per share in net after tax realized gains. Realized gains increased net earnings in the quarter. Net earnings were reduced by an A&E reserve adjustment of $21 million or $0.24 per share. According to data provided by S&P Global Market Intelligence, industry three-year survival ratios for…

Thank you. [Operator Instructions]. Our first question comes from Greg Peters with Raymond James. Your line is now open.

Good afternoon and thank you for the call. I wanted to just focus on as far as the Property and Casualty operations are concerned. I was looking at your supplement and on pages 8, 9, and 10 you provide details on each segment. And there was one line item on each of those pages that caught my attention and that would have been the combined ratio line, excluding catastrophes and prior year development. And I noted that in all three lines, all three segments, the combined ratio excluding catastrophe in prior year reserve development was not only up on a quarter-over-quarter basis but also on a nine-month-over-nine-month basis, so I was wondering if you could help reconcile the moving parts in each of the segments which are causing this upward trend.

Greg, this is Jeff Consolino. First, thank you for studying our investor supplement. We’re pleased when people make use of the information that we provide them with. In past quarters when we talked about trends here, we’ve always started by saying you’ve got to look at each of the sub-segments individually. And I think that each one has a different dynamic at play. Overall, though, just a reminder that we’re aware of these trends and we certainly look at these trends when we provide our guidance for the year. So whatever you’re seeing here on those pages has been fully reflected in our expectations for our earnings results in 2018. If you’ll indulge me for a second, let me just go through each of the pages. I am going to focus on the quarter rather than year-to-date if you don’t mind. So for Property and Transportation, it is correct. We’ve moved up on that ratio. If you split it between the movement in the underlying loss ratio and the expense ratio, it’s 1.2 points higher for the current accident year loss and LAE ratio, excluding cat losses. We talked on our last quarter call about some elevated loss activity in our aviation group and our equine group within this. That plus some of our international business account for that 1.2 point rise. On the expense ratio, that is 1.3 points higher. Now our two biggest business units in Property and Transportation are crop and national interstate. As Carl talked earlier about crop being slightly smaller year-over-year in terms of premium and crop also has the lowest expense ratio in the group, so a lower balance of crop business will necessarily elevate the expense ratio a little bit as the other lines of business in P&C take a bigger share. In…

Well, that’s excellent color. And it’s almost like you were prepared for the question, Jeff. So I’ll stop on that point. Two other topics to discuss. Your investment income guidance and results clearly are tracking ahead of expectations. And I’m curious if you have a view on how, call it, sustained levels of market volatility might affect this line as we think about 2019?

Hi, Greg. This is Craig. What I would say is the returns on mark-to-market assets have been exceptionally strong year-to-date through the first nine months and we don’t expect that to continue. We would project a more normal rate of something in the neighborhood of 10% or so on a go-forward basis. It can be somewhat lumpy, as you know. Our expectation on the lifetime returns would be higher than that. It’d probably be I don’t know what 12% to 15% or some number like that. But in the first year or two, when you make investments in private equity or some of the assets that are mark-to-market, you don’t have earnings. So it weighs the overall returns down a bit. So from a reported earnings standpoint, the investment income standpoint, I would think something more in line with a 10% type number would be a good number to use for projections.

Thank you for that color. Craig, I don’t want to steal your thunder, but I did have a question for you in two parts. First of all, can you talk about the competitive environment in the retail side of your business? It looks like you’re continuing to do a lot better this year than last year. And then secondly, on your guidance, the pre-tax Annuity guidance and this is Slide 9 of your conference call presentation. The range that you updated has been expanded. So – and you lowered it, but you also increased the size of the range. And I’m just curious about the mechanics behind that.

Sure. First of all, on the competitive environment, it is a competitive environment, generally always is a competitive environment. Having said that, the industry premiums are growing at a very strong rate. As you know, we just raised the guidance for higher premiums to overall premiums to up 17% to 20%. We think that the industry will probably be a little bit stronger than that. So here for a number of reasons, sales – and when I say industry sales, I’m talking specifically about traditional fixed and indexed annuities. For a number of reasons including the elimination of the noise over the Department of Labor Fiduciary Rule, higher interest rates, volatility of the stock market, just a number of things are really driving the industry premiums to very healthy picture there even though it is a competitive environment. On the reason for the wide range at this point in the year, it just boils down to the volatility of the stock market, Greg. The earnings are very sensitive to movements in the stock market. So I’ve tried to – this may help you understand kind of the real underlying fundamentals of the Annuity business and what we’re projecting in the quarter. We put out a midpoint of guidance yesterday. We got to finalize that number in the middle of the day. Since then we’ve had a nice recovery in the stock market. But we’ve put out a midpoint of the guidance of $64 million. At that moment in time, the impact of the 9% stock market decline was a little over $32 million. So if you kind of normalize the projection that we put out, it takes you up to the mid-90s. We view – at a normal environment, we view kind of a normal run rate for annuity earnings as being $95 million to $100 million. Certainly that can change with big swings in interest rates or stock market. But that gives you an idea of the sensitivity or the impact of the really major decline in the stock market since September 30. I’ll also tell you that before this conference call, I ran numbers based upon the current level of interest rates and the current level of the stock market. And right before I came into the conference call, it took our best guess from a $64 million midpoint to a high 70s midpoint. So that gives you some idea of the sensitivity. This is just a one day difference and it’s because of the sensitivity of interest rates and stock market.

That’s an interesting answer. Just as a follow up, I think you said the 9% decline cost $32 million. So is it fair to say that we can think going forward that in any given quarter if the market moves for every 1% up or down, we can pick up $3.5 million of incremental earnings or lose $3.5 million of incremental earnings just on your existing block?

There are a lot of items that go into, especially fair value accounting, but let me give you a couple of rules of thumb and they are just that they’re rules of thumb. But in a rising stock market, every 1% change has an impact of $0.5 million to $1 million on both pre-fair value and fair value earnings. For a – at a decreasing stock market environment, each 1% change – I’m sorry, each 1% decline has an impact of $1 million to $2 million on both pre-fair value and fair value accounting earnings, so total of $2 million to $4 million. It isn’t linear, but that is the impact from a decreasing stock market. So, obviously pretty sensitive.

Exactly. Thank you for those benchmarks. And thank you for all the answers.

You bet.

Hi, Greg. This is Jeff. I just wanted to pile on for one moment here. You rightly noted that the range of guidance that extended for the reasons that Craig then explained, you just go forward one page in that slide deck to Slide 10, which is a new slide for us. I think that this is a helpful tool to see really the range of earnings that Craig has presented before fair value accounting is quite tight reflecting our ability to see with great clarity how the business is going before these noneconomic and possibly ephemeral effects of fair value accounting. What drives the wide range? This outlined [ph] line item on Slide 10 impact of fair value accounting, which you can see not only the range for that, then also the assumption with respect to the change in the S&P 500, which in this case is down 5 to down 12. So this is in addition to our slide deck to help you get more grip – more of a grip around the phenomenon you identified of wide range.

I appreciate that slide and actually noted that for the fourth quarter, based on what’s going on with impact to fair value that – and just the market that the year-over-year guidance looks to be down. I guess I can’t help myself, just as we’re talking about how the changes in market affect your earnings for the life block, maybe you could finish up with just how the change in market conditions might affect the sales as well? And I promise that’s my last question.

Sure, Greg. This is Craig again. What I would say is market volatility is very good for sales. Whenever we see a lot of volatility in the stock market or in particular declines in the stock market, we see more people wanting to reduce risk and that’s very good for the sales of fixed annuities and indexed annuities where in any given year you can’t lose money.

Okay. Thank you for your answers.

Thank you. Our next question comes from Paul Newsome with Sandler O’Neill. Your line is now open.

Good morning. Just a few here, small ones I think. First, I want to ask the timing of the two transportation deals. Do we assume – should we assume that that premium shows up in the fourth quarter so there’s sort of an extra benefit there from a revenue perspective?

Paul, this is Jeff. Yes, those shifted to the fourth quarter. And as a consequence, our premium guidance incorporates them coming through in the fourth quarter. Obviously for full year '18, it washes out Q3 to Q4. You would see the impact when you look at Q4’s reported results this year versus last year once we report fourth quarter earnings.

Okay. Should we expect any update of kind of where your capital position and what you would be interested in doing from a capital management before the year-end, or should we wait – would it be normal for you to wait till you report fourth quarter earnings in I guess February?

This is Carl. Yes, I think you can expect an update on capital management between now and year-end. You know in the past year or really in the past conference calls, we’d mentioned that as we see what’s on our plate, as we project – and we get into finalizing our business plans for next year, we’ll review the potential for special dividend sometime over the next 30 to 60 days or so.

And then could you give us a little bit of an update on what’s going on with Neon? There have been some press reports that there might be some changes there.

I’ll let Jeff talk about that since he was in London here just recently.

I’m not sure exactly, Paul, what press reports you’re referring to. But obviously we would not want to comment on any kind of market rumors surrounding Neon’s status. We would say, though, that if you follow the trade press closely, which I’m sure you do, that the environment always is changing. The performance management directorate is taking a very harsh lens and training it on all of the syndicates with a goal towards improving the overall Lloyd’s combined ratio. As a result, many industry observers say there has never been more challenge and more pushback on business plans in the market than there is today that will affect 2019. But that’s an ongoing situation that affects Neon that similarly affects all the syndicates in the market. From us from a big picture perspective in the last couple of quarters, Carl has commented that Neon has made improvement, but still not at the level we’d like it to be at. We did rebrand and fundamentally change the business starting in 2016 under the leadership of a new management team and have cleaned up the balance sheet by taking out the legacy liabilities through a reinsurance to close transaction and redone the business plan and each and every year since then, inclusive of '16, we’ve really hit all the benchmarks we’ve wanted to hit. This new level of scrutiny from Lloyd’s I think does call into question whether that kind of growth strategy is really going to be feasible in the new environment. So time will tell whether this is a point in time thing or a change in Lloyd’s overall philosophy.

Fantastic. Thank you and I’ll let some other folks ask questions. Appreciate it very much.

Thank you. [Operator Instructions]. Our next question comes from Larry Greenberg with Janney Montgomery Scott. Your line is now open.

Good afternoon, at least where I am, and thank you. A couple of questions. I’m just wondering, first, whether you would share what your range of expectations is for partnership income in the Annuity segment for the fourth quarter.

It would be a more normalized number. Time will tell. We don’t get the works for a while, but it would be a more normalized number something in the neighborhood of 10%.

Okay. So you would expect a positive partnership return even given what the stock market has done?

We would. As I said, we aren’t going to get marks here for some period of time. Typically get them, the ones that we’ll book in the fourth quarter. It’s based upon marks at the end of the third quarter. And those were just [indiscernible] now. So, yes, we don’t have a real good handle on what a precise number might look like. We certainly would expect it to be positive.

Okay. Thanks. And then on Slide 10, Jeff, I think you were talking about it. So I’m a little bit curious. Your implied guidance has a range for the S&P of down 5 to down 12 and the commensurate fair value accounting is minus 12 million to minus 42 million. And given that you have kind of 10 million to 12 million kind of built-in of interest on the embedded derivative I would have thought that the negative mark could be a little bit worse. And I’m wondering – so is that just interest rates offsetting the negative impact of the S&P?

Larry, thank you for being a student to fair value accounting --

My head is spinning, but I’m trying.

On that same Slide 10, at the bottom of the slide, we have also our expectation for the change in the average five-year and 15-year corporate A2 rates. That’s the rate at which the – that a derivative is discounted into present value. And as rates rise, that is a benefit. Flipping to the supplement on page 13, you picked off the interest on the embedded derivative. You’ve picked off the change in market. There’s another line item for impact of changes in interest rates, higher or lower than expected. And with rising rates expected in the quarter, that would be an offset to the interest component and the change in markets component.

Okay. Thanks. And then just the last one. For this kind of built-in headwind for the impact of the embedded derivative, is there an offset in terms of pricing on the business or crediting rates that you kind of build into the model?

Larry, we are absolutely including that in the pricing analysis and determining what kind of credited rates we can pay.

Great. Thank you.

Thank you. Our next question comes from DeForest Hinman with Walthausen & Company. Your line is now open.

Hi. Thanks for taking my questions. Just to focus a little bit more on the Property and Transportation business. You cited three areas; aviation, equine and international. Can you walk us through any type of issues there? Is it a continuation of a trend, one-time item, anything we’re doing to kind of address those? I don’t know if I want to use the word unsatisfactory, but not that great results there on the underwriting side.

Yes, this is Carl. I can give a little bit of color. The aviation market, it’s a relatively small business for us when we just started a couple of years ago. And as others have been seeing some severity and volatility and not enough pricing to go along with the business, we’ve seen some of the same thing. I guess the good news/bad news is, is and there have been a number of competitors that have left the market, which provides opportunities. And our pricing actually, we’re beginning to see double-digit increases in pricing there in the quarter. So, right or wrong or otherwise, we’re going to see just how firm this part of the cycle in that business becomes and both pricing and terms are changing. We’re tightening our underwriting guidelines and we’re attempting to improve that business. In the equine mortality, you can get quarters and years where total losses – and horse mortality can be a little bit lumpy in that. So we’ll continue to make the adjustments we need to make in that business. In our international, we started – there are some startup costs that go along with starting a business in Singapore a number of years ago. And some early mistakes on a few accounts or types of business that we wrote that we pretty much work through at this point, but that would be the color around those three businesses. We’re optimistic that we’ve been making the changes in those businesses to see a bright 2019 or a much brighter 2019.

And the comfort level with the fourth quarter cat losses as they relate to the hurricanes, is that based on feet on the ground numbers coming in or is that more a estimate based on some previous results or third-party services?

This is Jeff. This is not based on modeled output. Sometimes people disclose numbers that just take their portfolio and run it through a commercial model and report that. So this is based on reporting back to us from our business unit what they expect their gross exposures will be. And then it reflects the application of our catastrophe reinsurance program. So we have a lot of confidence around the number in part because we are a consistent buyer of catastrophe reinsurance. We’ve indicated in past investor meetings and calls that we’ve got two towers or pillars of catastrophe reinsurance; one that covers our U.S. Property and Casualty group and one that covers Neon. Each one has a $15 million per event net retention. And so a large gross loss that would affect both pillars would result in $15 million to each in a net retention or a sum of 30. And it’s pretty hard to drive that number up since we buy a large amount of recurrence protection vertically. So the number of 30 for Michael, that Carl talked about earlier, would reflect a full retention loss for each of those two pillars and that would pretty much cap us out.

Okay, that’s very helpful. That’s it from me. Thank you.

Thank you. And we do have a follow-up question from Paul Newsome with Sandler O’Neill. Your line is now open.

I thought maybe just if you could weigh in on the workers’ comp frequency trends, issues that seem to be hitting other insurers and does it sound like you’re having some of the same issues, but maybe you could give us some of your thoughts based upon your own experience?

Happy to. We’re not really seeing the same elevated frequency trends as maybe some others are. Republic actually remains negative in our California business. Summit, we really consider Summit relatively flat. The one thing we’re watching closely is a year-to-date frequency through the third quarters up 0.5% year-over-year for lost time claims in all of our Summit states combined. Again, we consider that trend relatively flat, but it’s a little bit of a departure from the negative frequency actually that Summit’s had over the past couple of years. So, we think it may be that little tick-up is partially attributable to a higher percent of lesser experienced workers out there in this economy. But again, except for you or others asking the question, we wouldn’t consider that trend in Summit. We consider that a relatively flat trend in that.

Thank you for all the help. I appreciate it.

Thank you. This concludes today’s Q&A session. I would now like to turn the call back over to Diane Weidner for closing remarks.

Thank you all for joining us this morning and we look forward to talking to you again when we share our results for the fourth quarter.