Edgar Filing: Allied World Assurance Co Holdings, AG

Form 10-Q

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 10-Q

(Mark One)

þ	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended: September 30, 2012

¨	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from to

Commission file number: 001-32938

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

(Exact Name of Registrant as Specified in Its Charter)

Switzerland

98-0681223

(State or Other Jurisdiction of

Incorporation or Organization)

(I.R.S. Employer

Identification No.)

Lindenstrasse 8

6340 Baar

Zug, Switzerland

(Address of Principal Executive Offices and Zip Code)

41-41-768-1080

(Registrant’s Telephone Number, Including Area Code)

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes þ No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):


Large accelerated filer þ	Accelerated filer ¨	Non-accelerated filer ¨	Smaller reporting company ¨
		(Do not check if a smaller reporting company)

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No þ

As of November 5, 2012, 35,242,967 common shares were outstanding.

TABLE OF CONTENTS


PART I FINANCIAL INFORMATION

Item 1.	Financial Statements	1

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	31

Item 3.	Quantitative and Qualitative Disclosures About Market Risk	66

Item 4.	Controls and Procedures	69

PART II

Item 1.	Legal Proceedings	69

Item 1A.	Risk Factors	69

Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	70

Item 3.	Defaults Upon Senior Securities	70

Item 4.	Mine Safety Disclosures	70

Item 5.	Other Information	70

Item 6.	Exhibits	71

SIGNATURES		72

EXHIBIT INDEX

-i-

PART I

FINANCIAL INFORMATION

Item 1. Financial Statements.

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS

as of September 30, 2012 and December 31, 2011

(Expressed in thousands of United States dollars, except share and per share amounts)


	As of September 30, 2012			As of December 31, 2011
ASSETS:
Fixed maturity investments available for sale, at fair value (amortized cost: 2012: $26,954; 2011: $226,397)	$	29,085		$	244,016
Fixed maturity investments trading, at fair value (amortized cost: 2012: $6,934,821; 2011: $6,207,991)		7,125,860			6,254,686
Equity securities trading, at fair value (cost: 2012: $436,983; 2011: $356,370)		490,418			367,483
Other invested assets trading, at fair value		564,702			540,409

Total investments		8,210,065			7,406,594
Cash and cash equivalents		639,517			633,996
Restricted cash		46,923			82,608
Insurance balances receivable		754,978			652,158
Prepaid reinsurance		262,163			226,721
Reinsurance recoverable		1,077,522			1,002,919
Accrued investment income		32,348			38,263
Net deferred acquisition costs		127,527			100,334
Goodwill		268,376			268,376
Intangible assets		51,998			53,898
Balances receivable on sale of investments		756,570			580,443
Net deferred tax assets		23,185			22,646
Other assets		60,817			53,202

Total assets	$	12,311,989		$	11,122,158

LIABILITIES:
Reserve for losses and loss expenses	$	5,450,787		$	5,225,143
Unearned premiums		1,316,399			1,078,412
Reinsurance balances payable		120,432			124,539
Balances due on purchases of investments		1,075,069			616,728
Senior notes		798,147			797,949
Dividends payable		—			14,302
Accounts payable and accrued liabilities		115,369			116,063

Total liabilities	$	8,876,203		$	7,973,136

SHAREHOLDERS’ EQUITY:
Common shares: 2012: par value CHF 12.98 per share and 2011: par value CHF 14.03 per share (2012: 37,083,742; 2011: 40,003,642 shares issued and 2012: 35,402,558; 2011: 37,742,131 shares outstanding)		477,246			557,153
Additional paid-in capital		—			78,225
Treasury shares, at cost (2012: 1,681,184; 2011: 2,261,511)		(120,944	)		(136,590	)
Retained earnings		3,078,099			2,635,750
Accumulated other comprehensive income: net unrealized gains on investments, net of tax		1,385			14,484

Total shareholders’ equity		3,435,786			3,149,022

Total liabilities and shareholders’ equity	$	12,311,989		$	11,122,158

See accompanying notes to the consolidated financial statements.

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

AND COMPREHENSIVE INCOME (LOSS)

for the three and nine months ended September 30, 2012 and 2011

(Expressed in thousands of United States dollars, except share and per share amounts)


	Three Months Ended September 30,						Nine Months Ended September 30,
	2012			2011			2012			2011
REVENUES:
Gross premiums written	$	504,420		$	442,698		$	1,832,219		$	1,522,984
Premiums ceded		(112,883	)		(92,438	)		(357,019	)		(296,050	)

Net premiums written		391,537			350,260			1,475,200			1,226,934
Change in unearned premiums		49,480			21,080			(202,546	)		(165,411	)

Net premiums earned		441,017			371,340			1,272,654			1,061,523
Net investment income		39,121			47,883			128,781			150,459
Net realized investment gains (losses)		149,813			(130,809	)		292,057			(21,555	)
Other income — termination fee		—			35,000			—			35,000

		629,951			323,414			1,693,492			1,225,427

EXPENSES:
Net losses and loss expenses		258,948			205,546			724,530			745,811
Acquisition costs		51,086			39,680			149,812			120,733
General and administrative expenses		78,572			66,007			222,917			201,164
Amortization of intangible assets		633			767			1,900			2,300
Interest expense		13,822			13,748			41,579			41,235
Foreign exchange loss (gain)		1,023			2,966			(77	)		3,708

		404,084			328,714			1,140,661			1,114,951

Income (loss) before income taxes		225,867			(5,300	)		552,831			110,476
Income tax expense		6,220			5,672			18,677			19,028

NET INCOME (LOSS)		219,647			(10,972	)		534,154			91,448

Other comprehensive loss:
Unrealized (losses) gains on investments arising during the period net of applicable deferred income tax benefit (expense) for the three months ended September 30, 2012: $15; 2011:($5,476) and nine months ended September 30, 2012:($81); 2011: ($3,051)		(29	)		20			150			5,656
Reclassification adjustment for net realized investment gains included in net income (loss), net of applicable income tax		—			(5,319	)		(13,249	)		(44,995	)

Other comprehensive loss		(29	)		(5,299	)		(13,099	)		(39,339	)

COMPREHENSIVE INCOME (LOSS)	$	219,618		$	(16,271	)	$	521,055		$	52,109

PER SHARE DATA
Basic earnings (loss) per share	$	6.16		$	(0.29	)	$	14.68		$	2.40
Diluted earnings (loss) per share	$	6.00		$	(0.29	)	$	14.28		$	2.30
Weighted average common shares outstanding		35,652,768			38,110,368			36,379,514			38,078,116
Weighted average common shares and common share equivalents outstanding		36,616,734			38,110,368			37,393,093			39,759,780
Dividends paid per share	$	0.750		$	0.375		$	1.500		$	0.375

See accompanying notes to the consolidated financial statements.

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

for the nine months ended September 30, 2012 and 2011

(Expressed in thousands of United States dollars)


	Share Capital			Additional Paid-in Capital			Treasury Shares			Accumulated Other Comprehensive Income			Retained Earnings			Total
December 31, 2011	$	557,153		$	78,225		$	(136,590	)	$	14,484		$	2,635,750		$	3,149,022
Net income		—			—			—			—			534,154			534,154
Dividends — par value reduction		(40,419	)		—			—			—			—			(40,419	)
Other comprehensive loss		—			—			—			(13,099	)		—			(13,099	)
Stock compensation		—			(23,050	)		36,226			—			—			13,176
Share repurchases		—			—			(207,048	)		—			—			(207,048	)
Shares cancelled		(39,488	)		(55,175	)		186,468			—			(91,805	)		—

September 30, 2012	$	477,246		$	—		$	(120,944	)	$	1,385		$	3,078,099		$	3,435,786


December 31, 2010	$	600,055		$	170,239		$	(112,811	)	$	57,135		$	2,361,202		$	3,075,820
Net income		—			—			—			—			91,448			91,448
Dividends — par value reduction		(28,600	)		—			—			—			—			(28,600	)
Other comprehensive loss		—			—			—			(39,339	)		—			(39,339	)
Stock compensation		—			(42,822	)		60,187			—			—			17,365
Share repurchase		—			—			(60,000	)		—			—			(60,000	)
Repurchase of founder warrants		—			(53,620	)		—			—			—			(53,620	)

September 30, 2011	$	571,455		$	73,797		$	(112,624	)	$	17,796		$	2,452,650		$	3,003,074

See accompanying notes to the consolidated financial statements.

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

for the nine months ended September 30, 2012 and 2011

(Expressed in thousands of United States dollars)


	Nine Months Ended September 30,
	2012			2011
CASH FLOWS PROVIDED BY OPERATING ACTIVITIES:
Net income	$	534,154		$	91,448
Adjustments to reconcile net income to cash provided by operating activities:
Net realized gains on sales of investments		(63,625	)		(78,001	)
Mark to market adjustments		(225,425	)		61,912
Stock compensation expense		13,118			16,917
Changes in:
Reserve for losses and loss expenses, net of reinsurance recoverables		151,041			284,310
Unearned premiums, net of prepaid reinsurance		202,545			165,412
Insurance balances receivable		(102,820	)		(77,343	)
Reinsurance balances payable		(4,107	)		(4,269	)
Net deferred acquisition costs		(27,193	)		(18,267	)
Net deferred tax assets		1,850			(4,081	)
Accounts payable and accrued liabilities		(2,996	)		7,564
Other items, net		23,677			45,903

Net cash provided by operating activities		500,219			491,505

CASH FLOWS USED IN INVESTING ACTIVITIES:
Purchases of available for sale securities		—			(727	)
Purchases of trading securities		(6,328,719	)		(5,555,249	)
Purchases of other invested assets		(52,578	)		(265,720	)
Sales of available for sale securities		215,318			627,392
Sales of trading securities		5,778,138			4,841,580
Sales of other invested assets		110,429			40,129
Purchases of fixed assets		(2,041	)		(7,792	)
Change in restricted cash		35,685			63,120

Net cash used in investing activities		(243,768	)		(257,267	)

CASH FLOWS USED IN FINANCING ACTIVITIES:
Dividends paid — partial par value reduction		(54,721	)		(14,295	)
Proceeds from the exercise of stock options		9,104			5,317
Share repurchases		(204,746	)		(60,000	)
Repurchase of founder warrants		—			(53,620	)

Net cash used in financing activities		(250,363	)		(122,598	)

Effect of exchange rate changes on foreign currency cash		(567	)		685
NET INCREASE IN CASH AND CASH EQUIVALENTS		5,521			112,325
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD		633,996			756,995

CASH AND CASH EQUIVALENTS, END OF PERIOD	$	639,517		$	869,320

Supplemental disclosure of cash flow information:
— Cash paid for income taxes	$	18,912		$	6,294
— Cash paid for interest expense	$	45,750		$	45,750

See accompanying notes to the consolidated financial statements.

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)

1. GENERAL

Allied World Assurance Company Holdings, AG, a Swiss holding company (“Allied World Switzerland”), through its wholly-owned subsidiaries (collectively, the “Company”), provides property and casualty insurance and reinsurance on a worldwide basis through operations in Bermuda, the United States, Europe, Hong Kong and Singapore.

2. BASIS OF PREPARATION AND CONSOLIDATION

These unaudited condensed consolidated financial statements include the accounts of the Company and have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) for interim financial information and with Article 10 of Regulation S-X as promulgated by the U.S. Securities and Exchange Commission (“SEC”). Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for complete financial statements. In the opinion of management, these unaudited condensed consolidated financial statements reflect all adjustments that are normal and recurring in nature and necessary for a fair presentation of financial position and results of operations as of the end of and for the periods presented. The results of operations for any interim period are not necessarily indicative of the results for a full year.

The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. The significant estimates reflected in the Company’s financial statements include, but are not limited to:

•

The premium estimates for certain reinsurance agreements,

•

Recoverability of deferred acquisition costs,

•

The reserve for outstanding losses and loss expenses,

•

Valuation of ceded reinsurance recoverables,

•

Determination of impairment of goodwill and other intangible assets, and

•

Valuation of financial instruments.

Intercompany accounts and transactions have been eliminated on consolidation and all entities meeting consolidation requirements have been included in the consolidation.

These unaudited condensed consolidated financial statements, including these notes, should be read in conjunction with the Company’s audited consolidated financial statements, and related notes thereto, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2011.

3. NEW ACCOUNTING PRONOUNCEMENTS

In October 2010, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2010-26, “Accounting for Costs Associated with Acquiring or Renewing Insurance Contracts” (“ASU 2010-26”). ASU 2010-26 clarifies what costs associated with acquiring or renewing insurance contracts can be deferred and amortized over the coverage period. Under the revised guidance of ASU 2010-26, incremental direct costs that result directly from and are essential to the insurance contract and would not have been incurred had the insurance contract not been written are costs that may be capitalized, including costs relating to activities specifically performed by the Company such as underwriting, policy issuance and processing. The Company adopted ASU 2010-26 retrospectively on January 1, 2012. The adoption of ASU 2010-26 did not have an impact on consolidated shareholders’ equity or net income as the Company had not previously capitalized costs that did not meet the requirement for capitalization of the revised standard.

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)

In May 2011, the FASB issued ASU 2011-04, “Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs” (“ASU 2011-04”). ASU 2011-04 provides a consistent meaning for the term “fair value” between the FASB and International Accounting Standards Board and establishes common requirements for measuring and disclosing information related thereto. The Company adopted ASU 2011-04 prospectively on January 1, 2012. The adoption of ASU 2011-04 did not have an impact on consolidated shareholders’ equity or net income or the Company’s fair value measurements. Refer to Note 6 for the Company’s related disclosures.

In June 2011, the FASB issued ASU 2011-05, “Presentation of Comprehensive Income” (“ASU 2011-05”). ASU 2011-05 eliminates the option to present the components of other comprehensive income as part of the statement of changes in shareholders’ equity, requires consecutive presentation of the statement of net income and other comprehensive income, and requires the presentation of reclassification adjustments on the face of the financial statements from other comprehensive income to net income. In December 2011, ASU 2011-05 was updated by ASU 2011-12, “Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05” (“ASU 2011-12”) to defer the presentation requirements of reclassification adjustments required by ASU 2011-05. The Company adopted ASU 2011-05 on January 1, 2012. The adoption of ASU 2011-05 and the related updates from ASU 2011-12 did not have an impact on the presentation of the financial statements.

In September 2011, the FASB issued ASU 2011-08, “Testing Goodwill for Impairment” (“ASU 2011-08”). ASU 2011-08 simplifies how goodwill is tested for impairment by permitting entities to assess qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount. The results of the qualitative assessment will determine if an entity needs to proceed with the two-step goodwill impairment test. ASU 2011-08 is effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011. The Company adopted ASU 2011-08 on January 1, 2012. The adoption of ASU 2011-08 did not have an impact on consolidated shareholders’ equity or net income.

In July 2012, the FASB issued ASU 2012-02, “Testing Indefinite-Lived Intangible Assets for Impairment” (“ASU 2012-02”). ASU 2012-02 modifies both annual and interim impairment testing and allows the inclusion of qualitative factors in the assessment of whether a quantitative impairment test is necessary. When an entity’s qualitative assessment reveals that indefinite-lived intangible asset impairment is more likely than not, the entity must perform the quantitative impairment test. The amendments did not change the existing accounting guidance on how this impairment test is performed. ASU 2012-02 is effective for annual and interim impairment tests performed for fiscal years beginning after September 15, 2012 and early adoption is permitted. The Company has not elected early adoption. The Company does not expect the adoption of this guidance to have an impact on its consolidated shareholders’ equity or net income.

4. INVESTMENTS

a) Available for Sale Securities

The amortized cost, gross unrealized gains, gross unrealized losses and fair value of the Company’s available for sale investments by category are as follows:


	Amortized Cost		Unrealized Gains		Unrealized Losses			Fair Value
September 30, 2012
U.S. Government and Government agencies	$	26,954	$	2,131	$	—		$	29,085

Total fixed maturity investments, available for sale	$	26,954	$	2,131	$	—		$	29,085

December 31, 2011
U.S. Government and Government agencies	$	31,309	$	2,321	$	—		$	33,630
States, municipalities and political subdivisions		29,128		4,351		—			33,479
Corporate debt:
Financial institutions		17,431		348		(292	)		17,487
Industrials		73,539		4,268		—			77,807
Utilities		74,990		6,623		—			81,613

Total fixed maturity investments, available for sale	$	226,397	$	17,911	$	(292	)	$	244,016

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)

b) Trading Securities

Securities accounted for at fair value with changes in fair value recognized in the unaudited condensed consolidated statements of operations and comprehensive income (loss) (“consolidated income statements”) by category are as follows:


	September 30, 2012				December 31, 2011
	Fair Value		Amortized Cost		Fair Value		Amortized Cost
U.S. Government and Government agencies	$	1,849,492	$	1,831,521	$	1,278,265	$	1,263,948
Non-U.S. Government and Government agencies		309,471		297,424		256,756		251,784
States, municipalities and political subdivisions		41,542		40,327		133,902		128,633
Corporate debt:
Financial institutions		1,031,764		997,781		1,161,904		1,174,308
Industrials		1,145,621		1,128,154		987,006		974,731
Utilities		59,802		57,622		105,564		103,262
Residential mortgage-backed:
Non-agency residential		337,662		287,354		302,827		314,077
Agency residential		1,606,201		1,568,320		1,183,893		1,156,913
Commercial mortgage-backed		308,094		294,901		331,371		326,697
Asset-backed		436,211		431,417		513,198		513,638

Total fixed maturity investments, trading	$	7,125,860	$	6,934,821	$	6,254,686	$	6,207,991


	September 30, 2012				December 31, 2011
	Fair Value		Original Cost		Fair Value		Original Cost
Equity securities	$	490,418	$	436,983	$	367,483	$	356,370
Other invested assets⁽¹⁾		564,702		520,233		540,409		529,851

	$	1,055,120	$	957,216	$	907,892	$	886,221

(1)	Within the Company’s financial statements and footnotes “other invested assets” include the Company’s investments in both hedge funds and private equity funds.

c) Contractual Maturity Dates

The contractual maturity dates of available for sale fixed maturity investments are as follows:


	September 30, 2012
	Amortized Cost		Fair Value
Due within one year	$	6,477	$	6,515
Due after one year through five years		16,408		17,534
Due after five years through ten years		1,073		1,181
Due after ten years		2,996		3,855

	$	26,954	$	29,085

Expected maturities may differ from contractual maturities because borrowers may have the right to prepay obligations with or without prepayment penalties.

d) Other Invested Assets

Included in other invested assets are the Company’s hedge fund and private equity investments. As of the balance sheet date, the Company held interests in 23 funds with a total fair value of $564,702, which comprised 6.4% of the total fair value of its investments and cash and cash equivalents. The fair values of these assets have been estimated using the net asset value per share of the funds.

In general, the Company has invested in hedge funds that require at least 30 days’ notice of redemption, and may be redeemed on a monthly, quarterly, semi-annual, annual or longer basis, depending on the fund. Certain hedge funds have lock-up periods ranging from 1 to 3 years from initial investment. A lock-up period refers to the initial amount of time an investor is contractually required to invest before having the ability to redeem. Funds that provide for periodic redemptions may, depending on the funds’ governing documents, have the ability to deny or delay a redemption request, called a “gate.” The fund may implement this restriction because the aggregate amount of redemption requests as of a particular date exceeds a specified level, generally ranging from 15% to 25% of the fund’s net assets. The gate is a method for executing an orderly redemption process that allows for redemption requests to be

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)

executed in an orderly fashion to reduce the possibility of adversely affecting investors in the fund. Typically, the imposition of a gate delays a portion of the requested redemption, with the remaining portion settled in cash sometime after the redemption date. Certain funds may impose a redemption fee on early redemptions. Interests in private equity funds cannot be redeemed because the investments include restrictions that do not allow for redemption until termination of the fund.

Details regarding the redemption characteristics of the other invested assets portfolio and the Company’s unfunded investment commitments as of September 30, 2012 were as follows:


Fund Type	Fair Value as of September 30, 2012		Investments with Redemption Restrictions		Estimated Remaining Restriction Period		Investments without Redemption Restrictions		Redemption Frequency⁽¹⁾		Redemption Notice Period⁽¹⁾		Unfunded Commitments
Private equity (primary and secondary)	$	87,241	$	87,241		4 - 10 Years	$	—					$	158,129
Mezzanine debt		27,444		27,444		10 Years		—						89,000
Distressed		9,510		9,510		<6 Years		—						8,800

Total private equity		124,195		124,195				—						255,929

Distressed		42,248		212		<2 Years		42,036		Quarterly		45 - 65 Days		—
Equity long/short		170,023		—				170,023		Quarterly		30 - 60 Days		—
Multi-strategy		140,141		26,956		<2 Years		113,185		Quarterly		45 - 90 Days		—
Global macro		19,246		—				19,246		Monthly		3 Days		—
Event driven		68,849		—				68,849		Annual		45 - 60 Days		—

Total hedge funds		440,507		27,168				413,339						—

Total other invested assets	$	564,702	$	151,363			$	413,339					$	255,929

(1)	The redemption frequency and notice periods only apply to the investments without redemption restrictions.

•

Private equity funds: Primary funds may invest in companies and general partnership interests. Secondary funds buy limited partnership interests from existing limited partners of primary private equity funds. As owners of private equity funds seek liquidity, they can sell their existing investments, plus any remaining commitment, to secondary market participants. These funds cannot be redeemed because the investments include restrictions that do not allow for redemption until termination of the fund.

•

Mezzanine debt funds: Mezzanine debt funds primarily focus on providing capital to upper middle market and middle market companies, and private equity sponsors, in connection with leveraged buyouts, mergers and acquisitions, recapitalizations, growth financings and other corporate transactions. The most common position in the capital structure will be between the senior secured debt holder and the equity; however, the funds will utilize a flexible approach when structuring investments, which may include secured debt, subordinated debt, preferred stock and/or private equity. These funds cannot be redeemed because the investments include restrictions that do not allow for redemption until termination of the fund.

•

Distressed funds: In distressed debt investing, managers take positions in the debt of companies experiencing significant financial difficulties, including bankruptcy, or in certain positions of the capital structure of structured securities. The manager relies on the fundamental analysis of these securities, including the claims on the assets and the likely return to bondholders. Certain funds cannot be redeemed because the investments include restrictions that do not allow for redemption until termination of the fund.

•

Equity long/short funds: In equity long/short funds, managers take long positions in companies they deem to be undervalued and short positions in companies they deem to be overvalued. Long/short managers may invest in countries, regions or sectors, and vary by their use of leverage and by their targeted net long position.

•

Multi-strategy funds: These funds may utilize many strategies employed by specialized funds including distressed investing, equity long/short, merger arbitrage, convertible arbitrage, fixed income arbitrage and macro trading.

•

Global macro funds: These funds focus on a top-down analysis of global markets as influenced by major political and economic trends or events. Global macro managers develop investment strategies that aim to forecast movements in interest rates, fund flows, political changes and other wide-ranging systematic factors. The portfolios of these funds can include long or short positions in equities, fixed-income, currencies and commodities in the form of cash or derivatives instruments.

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)

•

Event driven funds: Event driven strategies seek to deploy capital into specific securities whose returns are affected by a specific event that affects the value of one or more securities of a company. Returns for such securities are linked primarily to the specific outcome of the events and not by the overall direction of the bond or stock markets. Examples could include mergers and acquisitions (arbitrage), corporate restructurings and spin-offs, and capital structure arbitrage.

e) Net Investment Income


	Three Months Ended September 30,						Nine Months Ended September 30,
	2012			2011			2012			2011
Fixed maturity investments	$	36,778		$	47,877		$	120,883		$	149,471
Equity securities and other invested assets		5,375			3,397			18,093			10,608
Cash and cash equivalents		640			166			1,797			611
Expenses		(3,672	)		(3,557	)		(11,992	)		(10,231	)

Net investment income	$	39,121		$	47,883		$	128,781		$	150,459

f) Components of Realized Gains and Losses


	Three Months Ended September 30,						Nine Months Ended September 30,
	2012			2011			2012			2011
Gross realized gains on sale of invested assets	$	27,210		$	44,674		$	119,154		$	122,842
Gross realized losses on sale of invested assets		(6,686	)		(10,634	)		(43,355	)		(35,896	)
Net realized and unrealized losses on derivatives		(962	)		(43,285	)		(192	)		(58,821	)
Mark-to-market changes:
Debt securities, trading		99,821			(46,078	)		144,024			(742	)
Equity securities and other invested assets		30,430			(75,486	)		72,426			(48,938	)

Net realized investment gains (losses)	$	149,813		$	(130,809	)	$	292,057		$	(21,555	)

Proceeds from sale of available for sale securities	$	1,000		$	60,043		$	214,716		$	606,234

g) Pledged Assets

As of September 30, 2012 and December 31, 2011, $2,076,294 and $2,029,138, respectively, of cash and cash equivalents and investments were deposited, pledged or held in trust accounts in favor of ceding companies and other counterparties or government authorities to comply with reinsurance contract provisions and insurance laws.

In addition, as of September 30, 2012 and December 31, 2011, a further $1,047,023 and $1,044,236, respectively, of cash and cash equivalents and investments were pledged as collateral for the Company’s letter of credit facility. See Note 11 to these Condensed Consolidated Financial Statements and Note 9 to the Consolidated Financial Statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2011 for details on the credit facility.

h) Analysis of Unrealized Losses

The following table summarizes the market value of those available for sale investments in an unrealized loss position for periods less than and greater than 12 months:


	September 30, 2012				December 31, 2011
	Gross Fair Value		Unrealized Loss		Gross Fair Value		Unrealized Loss
Less than 12 months
Corporate debt:
Financial institutions	$	—	$	—	$	9,440	$	(292	)

Total fixed maturity investments, available for sale	$	—	$	—	$	9,440	$	(292	)

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)

As of September 30, 2012 and December 31, 2011, there were nil and three securities, respectively, in an unrealized loss position.

i) Other-than-temporary impairment charges

Following the Company’s review of the securities in the investment portfolio during the three and nine months ended September 30, 2012 and 2011, no securities were considered to be other-than-temporarily impaired.

5. DERIVATIVE INSTRUMENTS

As of September 30, 2012 and December 31, 2011, none of the Company’s derivatives were designated as hedges. The following table summarizes information on the location and amounts of derivative fair values in the unaudited condensed consolidated balance sheets (“consolidated balance sheets”):


	September 30, 2012								December 31, 2011
	Asset Derivative Notional Amount		Asset Derivative Fair Value		Liability Derivative Notional Amount		Liability Derivative Fair Value		Asset Derivative Notional Amount		Asset Derivative Fair Value		Liability Derivative Notional Amount		Liability Derivative Fair Value
Derivatives not designated as hedging instruments
Put options⁽¹⁾	$	—	$	—	$	—	$	—	$	4,461	$	336	$	—	$	—
Foreign exchange contracts⁽²⁾		95,884		2,436		181,612		3,103		91,162		2,030		339,533		8,934
Interest rate futures⁽²⁾		428,200		1,561		76,900		2,082		680,650		977		292,000		3,467

Total derivatives	$	524,084	$	3,997	$	258,512	$	5,185	$	776,273	$	3,343	$	631,533	$	12,401

(1)	Asset and liability derivatives relating to the put options are classified within “equity securities trading, at fair value” on the consolidated balance sheets.

(2)	All other asset and liability derivatives are classified within “other assets” or “accounts payable and accrued liabilities” on the consolidated balance sheets.

The following table provides the net realized and unrealized losses on derivatives not designated as hedges recorded in the consolidated income statements:


	Three Months Ended September 30,						Nine Months Ended September 30,
	2012			2011			2012			2011
Foreign exchange contracts	$	(676	)	$	(8,075	)	$	(96	)	$	(5,474	)

Total included in foreign exchange (loss) gain		(676	)		(8,075	)		(96	)		(5,474	)

Put options		—			—			(336	)		—
Foreign exchange contracts		(2,751	)		(5,343	)		(641	)		(4,620	)
Interest rate futures		1,789			(37,942	)		785			(54,201	)

Total included in net realized investment gains		(962	)		(43,285	)		(192	)		(58,821	)

Total realized and unrealized losses on derivatives	$	(1,638	)	$	(51,360	)	$	(288	)	$	(64,295	)

Derivative Instruments Not Designated as Hedging Instruments

The Company is exposed to foreign currency risk in its investment portfolio. Accordingly, the fair values of the Company’s investment portfolio are partially influenced by the change in foreign exchange rates. The Company entered into foreign currency forward contracts to manage the effect of this foreign currency risk. These foreign currency hedging activities have not been designated as specific hedges for financial reporting purposes.

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)

The Company’s insurance and reinsurance subsidiaries and branches operate in various foreign countries and consequently the Company’s underwriting portfolio is exposed to foreign currency risk. The Company manages foreign currency risk by seeking to match liabilities under the insurance policies and reinsurance contracts that it writes and that are payable in foreign currencies with cash and investments that are denominated in such currencies. When necessary, the Company may also use derivatives to economically hedge un-matched foreign currency exposures, specifically forward contracts and currency options.

The Company also purchases and sells interest rate future contracts to actively manage the duration and yield curve positioning of its fixed income portfolio. Interest rate futures can efficiently increase or decrease the overall duration of the portfolio. Additionally, interest rate future contracts can be utilized to obtain the desired position along the yield curve in order to protect against certain future yield curve shapes.

The Company purchases options to actively manage the Company’s equity portfolio.

6. FAIR VALUE OF FINANCIAL INSTRUMENTS

In accordance with U.S. GAAP, fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. There is a three-level valuation hierarchy for disclosure of fair value measurements. The valuation hierarchy is based upon whether the inputs to the valuation of an asset or liability are observable or unobservable in the market at the measurement date, with quoted market prices being the highest level (Level 1) and unobservable inputs being the lowest level (Level 3). A fair value measurement will fall within the level of the hierarchy based on the input that is significant to determining such measurement. The three levels are defined as follows:

•

Level 1: Observable inputs to the valuation methodology that are quoted prices (unadjusted) for identical assets or liabilities in active markets.

•

Level 2: Observable inputs to the valuation methodology other than quoted market prices (unadjusted) for identical assets or liabilities in active markets. Level 2 inputs include quoted prices for similar assets and liabilities in active markets, quoted prices for identical assets in markets that are not active and inputs other than quoted prices that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the asset or liability.

•

Level 3: Inputs to the valuation methodology that are unobservable for the asset or liability.

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)

The following table shows the fair value of the Company’s financial instruments and where in the fair value hierarchy the fair value measurements are included as of the dates indicated below:


					Fair value measurement using:
September 30, 2012	Carrying amount		Total fair value		Quoted prices in active markets for identical assets (Level 1)		Significant other observable inputs (Level 2)		Significant unobservable inputs (Level 3)
Available for sale securities:
U.S. Government and Government agencies	$	29,085	$	29,085	$	29,085	$	—	$	—

Total available for sale fixed maturity investments		29,085		29,085

Trading securities:
U.S. Government and Government agencies	$	1,849,492	$	1,849,492	$	1,458,504	$	390,988	$	—
Non-U.S. Government and Government agencies		309,471		309,471		—		309,471		—
States, municipalities and political subdivisions		41,542		41,542		—		41,542		—
Corporate debt		2,237,187		2,237,187		—		2,237,187		—
Mortgage-backed		2,251,957		2,251,957		—		2,082,687		169,270
Asset-backed		436,211		436,211		—		360,444		75,767

Total trading fixed maturity investments		7,125,860		7,125,860

Total fixed maturity investments		7,154,945		7,154,945

Equity securities		490,418		490,418		490,418		—		—
Other invested assets		564,702		564,702		—		—		564,702

Total investments	$	8,210,065	$	8,210,065	$	1,978,007	$	5,422,319	$	809,739

Derivative assets: ⁽¹⁾
Foreign exchange contracts	$	2,436	$	2,436	$	—	$	2,436	$	—
Interest rate futures		1,561		1,561		—		1,561		—

Derivative liabilities: ⁽¹⁾
Foreign exchange contracts	$	3,103	$	3,103	$	—	$	3,103	$	—
Interest rate futures		2,082		2,082		—		2,082		—

Senior notes	$	798,147	$	914,816	$	—	$	914,816	$	—

(1)	Asset and liability derivatives relating to foreign exchange contracts and interest rate futures are classified within “other assets” or “accounts payable and accrued liabilities” on the consolidated balance sheets.

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)


					Fair value measurement using:
December 31, 2011	Carrying amount		Total fair value		Quoted prices in active markets for identical assets (Level 1)		Significant other observable inputs (Level 2)		Significant unobservable inputs (Level 3)
Available for sale securities:
U.S. Government and Government agencies	$	33,630	$	33,630	$	33,630	$	—	$	—
States, municipalities and political subdivisions		33,479		33,479		—		33,479		—
Corporate debt		176,907		176,907		—		176,907		—

Total available for sale fixed maturity investments		244,016		244,016

Trading securities:
U.S. Government and Government agencies	$	1,278,265	$	1,278,265	$	1,054,003	$	224,262	$	—
Non-U.S. Government and Government agencies		256,756		256,756		—		256,756		—
States, municipalities and political subdivisions		133,902		133,902		—		133,902		—
Corporate debt		2,254,474		2,254,474		—		2,254,474		—
Mortgage-backed		1,818,091		1,818,091		—		1,568,887		249,204
Asset-backed		513,198		513,198		—		418,453		94,745

Total trading fixed maturity investments		6,254,686		6,254,686

Total fixed maturity investments		6,498,702		6,498,702

Equity securities		367,483		367,483		367,483		—		—
Other invested assets		540,409		540,409		—		—		540,409

Total investments	$	7,406,594	$	7,406,594	$	1,455,116	$	5,067,120	$	884,358

Derivative assets: ⁽¹⁾
Foreign exchange contracts	$	2,030	$	2,030	$	—	$	2,030	$	—
Interest rate futures		977		977		—		977		—

Derivative liabilities: ⁽¹⁾
Foreign exchange contracts	$	8,934	$	8,934	$	—	$	8,934	$	—
Interest rate futures		3,467		3,467		—		3,467		—

Senior notes	$	797,949	$	872,731	$	—	$	872,731	$	—

(1)	Asset and liability derivatives relating to foreign exchange contracts and interest rate futures are classified within “other assets” or “accounts payable and accrued liabilities” on the consolidated balance sheets.

The following describes the valuation techniques used by the Company to determine the fair value of financial instruments held as of the balance sheet date.

U.S. Government and Government agencies: Comprised primarily of bonds issued by the U.S. Treasury, the Federal Home Loan Bank, the Federal Home Loan Mortgage Corporation and the Federal National Mortgage Association. The fair values of the Company’s U.S. government securities are based on quoted market prices in active markets and are included in the Level 1 fair value hierarchy. The Company believes the market for U.S. Treasury securities is an actively traded market given the high level of daily trading volume. The fair values of U.S. government agency securities are priced using the spread above the risk-free yield curve. As

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)

the yields for the risk-free yield curve and the spreads for these securities are observable market inputs, the fair values of U.S. government agency securities are included in the Level 2 fair value hierarchy.

Non-U.S. Government and Government agencies: Comprised of fixed income obligations of non-U.S. governmental entities. The fair values of these securities are based on prices obtained from international indices and are included in the Level 2 fair value hierarchy.

States, municipalities and political subdivisions: Comprised of fixed income obligations of U.S. domiciled state and municipality entities. The fair values of these securities are based on prices obtained from the new issue market, and are included in the Level 2 fair value hierarchy.

Corporate debt: Comprised of bonds issued by corporations that are diversified across a wide range of issuers and industries. The fair values of corporate bonds that are short-term are priced using spread above the London Interbank Offered Rate yield curve, and the fair value of corporate bonds that are long-term are priced using the spread above the risk-free yield curve. The spreads are sourced from broker-dealers, trade prices and the new issue market. As the significant inputs used to price corporate bonds are observable market inputs, the fair values of corporate bonds are included in the Level 2 fair value hierarchy.

Mortgage-backed: Primarily comprised of residential and commercial mortgages originated by both U.S. government agencies (such as the Federal National Mortgage Association) and non-U.S. government agencies. The fair values of mortgage-backed securities originated by U.S. government agencies and non-U.S. government agencies are based on a pricing model that incorporates prepayment speeds and spreads to determine appropriate average life of mortgage-backed securities. The spreads are sourced from broker-dealers, trade prices and the new issue market. As the significant inputs used to price the mortgage-backed securities are observable market inputs, the fair values of these securities are included in the Level 2 fair value hierarchy, unless the significant inputs used to price the mortgage-backed securities are broker-dealer quotes and the Company is not able to determine if those quotes are based on observable market inputs, in which case the fair value is included in the Level 3 hierarchy.

Asset-backed: Principally comprised of bonds backed by pools of automobile loan receivables, home equity loans, credit card receivables and collateralized loan obligations originated by a variety of financial institutions. The fair values of asset-backed securities are priced using prepayment speed and spread inputs that are sourced from the new issue market or broker-dealer quotes. As the significant inputs used to price the asset-backed securities are observable market inputs, the fair values of these securities are included in the Level 2 fair value hierarchy, unless the significant inputs used to price the asset-backed securities are broker-dealer quotes and the Company is not able to determine if those quotes are based on observable market inputs, in which case the fair value is included in the Level 3 hierarchy.

Equity securities: The fair value of the equity securities are priced from market exchanges and therefore included in the Level 1 fair value hierarchy.

Other invested assets: Comprised of funds invested in a range of diversified strategies. In accordance with U.S. GAAP, the fair values of the funds are based on the net asset value of the funds as reported by the fund manager that the Company believes is an unobservable input, and as such, the fair values of those funds are included in the Level 3 fair value hierarchy.

Derivative instruments: The fair value of foreign exchange contracts and interest rate futures are priced from quoted market prices for similar exchange-traded derivatives and pricing valuation models that utilize independent market data inputs. The fair value of derivatives are included in the Level 2 fair value hierarchy.

Senior notes: The fair value of the senior notes is based on reported trades. As of September 30, 2012, the 7.50% Senior Notes and 5.50% Senior Notes (each as defined in the Company’s Annual Report on Form 10-K for the year ended December 31, 2011) were traded at 117.1% and 109.7% of their principal amount, providing an effective yield of 2.8% and 4.1%, respectively. The fair value of the senior notes is included in the Level 2 fair value hierarchy.

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)

The following is a reconciliation of the beginning and ending balance of financial instruments using significant unobservable inputs (Level 3):


	Fair value measurement using significant unobservable inputs (Level 3):
	Other invested assets			Mortgage-backed			Asset-backed
Three Months Ended September 30, 2012
Opening balance	$	520,890		$	157,959		$	117,586
Realized and unrealized gains included in net income		11,871			4,855			988
Purchases		34,800			40,481			7,466
Sales		(2,859	)		(48,728	)		(7,326	)
Transfers into Level 3 from Level 2		—			14,730			12,495
Transfers out of Level 3 into Level 2⁽¹⁾		—			(27	)		(55,442	)

Ending balance	$	564,702		$	169,270		$	75,767

Three Months Ended September 30, 2011
Opening balance	$	562,267		$	216,660		$	113,310
Realized and unrealized (losses) gains included in net income		(34,729	)		1,876			(1,374	)
Purchases		29,553			46,077			328
Sales		(5,017	)		(7,021	)		(5,708	)
Transfers into Level 3 from Level 2		—			18,170			1,351
Transfers out of Level 3 into Level 2⁽¹⁾		—			(28,299	)		(12,300	)

Ending balance	$	552,074		$	247,463		$	95,607


	Fair value measurement using significant unobservable inputs (Level 3):
	Other invested assets			Mortgage-backed			Asset-backed
Nine Months Ended September 30, 2012
Opening balance	$	540,409		$	249,204		$	94,745
Realized and unrealized gains included in net income		26,753			10,951			1,643
Purchases		52,578			50,302			32,573
Sales		(55,038	)		(124,940	)		(57,325	)
Transfers into Level 3 from Level 2		—			18,461			15,835
Transfers out of Level 3 into Level 2 ⁽¹⁾		—			(34,708	)		(11,704	)

Ending balance	$	564,702		$	169,270		$	75,767

Nine Months Ended September 30, 2011
Opening balance	$	347,632		$	172,558		$	48,707
Realized and unrealized (losses) gains included in net income		(22,236	)		5,103			(788	)
Purchases		274,893			108,681			115,745
Sales		(48,215	)		(50,308	)		(8,933	)
Transfers into Level 3 from Level 2		—			104,255			34,152
Transfers out of Level 3 into Level 2 ⁽¹⁾		—			(92,826	)		(93,276	)

Ending balance	$	552,074		$	247,463		$	95,607

(1)	Transfers out of Level 3 are primarily attributable to the availability of market observable information.

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)

The Company attempts to verify the significant inputs used by broker-dealers in determining the fair value of the securities priced by them. If the Company could not obtain sufficient information to determine if the broker-dealers were using significant observable inputs, such securities have been transferred to the Level 3 fair value hierarchy. The Company believes the prices obtained from the broker-dealers are the best estimate of fair value of the securities being priced as the broker-dealers are typically involved in the initial pricing of the security, and the Company has compared the price per the broker-dealer to other pricing sources and noted no material differences. The Company recognizes transfers between levels at the end of the reporting period. There were no transfers between Level 1 and Level 2 during the period.

The Company’s external investment accounting service provider receives prices from internationally recognized independent pricing services to measure the fair values of its fixed maturity investments. Pricing sources are evaluated and selected in a manner to ensure that the most reliable sources are used. The independent pricing sources obtain market quotations and actual transaction prices for securities that have quoted prices in active markets. Each pricing service has its own proprietary method for determining the fair value of securities that are not actively traded. In general, these methods involve the use of “matrix pricing” in which the independent pricing service uses observable market inputs, including, but not limited to, reported trades, benchmark yields, broker-dealer quotes, interest rates, prepayment speeds, default rates and such other inputs as are available from market sources to determine a reasonable fair value.

All of the Company’s securities classified as Level 3, other than investments in other invested assets, are valued based on unadjusted broker-dealer quotes. This includes less liquid securities such as lower quality asset-backed securities, commercial mortgage-backed securities, and residential mortgage-backed securities. The primary valuation inputs include monthly payment information, the probability of default, loss severity rates and estimated prepayment rates. Significant changes in these inputs in isolation would result in a significantly lower or higher fair value measurement. In general, a change in the assumption of the probability of default is accompanied by a directionally similar change in the assumption used for the loss severity in an event of default and prepayment rates.

The Company records the unadjusted price provided and validates this price through a process that, includes, but is not limited to, monthly and/or quarterly: (i) comparison of prices between two independent sources, with significant differences requiring additional price sources; (ii) quantitative analysis (e.g., comparing the quarterly return for each managed portfolio to their target benchmark, with significant differences identified and investigated); (iii) evaluation of methodologies used by external parties to calculate fair value, including a review of the inputs used for pricing; (iv) comparing the price to the Company’s knowledge of the current investment market; and (v) back-testing, which includes randomly selecting purchased or sold securities and comparing the executed prices to the fair value estimates from the pricing service. In addition to internal controls, management relies on the effectiveness of the valuation controls in place at the Company’s external investment accounting service provider (supported by a Statement on Standards for Attestation Engagements No. 16 report) in conjunction with regular discussion and analysis of the investment portfolio’s structure and performance.

7. RESERVE FOR LOSSES AND LOSS EXPENSES

The reserve for losses and loss expenses consists of the following:


	September 30, 2012		December 31, 2011
Outstanding loss reserves	$	1,430,923	$	1,366,466
Reserves for losses incurred but not reported		4,019,864		3,858,677

Reserve for losses and loss expenses	$	5,450,787	$	5,225,143

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)

The table below is a reconciliation of the beginning and ending liability for unpaid losses and loss expenses. Losses incurred and paid are reflected net of reinsurance recoverables.


	Three Months Ended September 30,						Nine Months Ended September 30,
	2012			2011			2012			2011
Gross liability at beginning of period	$	5,377,518		$	5,251,304		$	5,225,143		$	4,879,188
Reinsurance recoverable at beginning of period		(1,073,612	)		(1,013,951	)		(1,002,919	)		(927,588	)

Net liability at beginning of period		4,303,906			4,237,353			4,222,224			3,951,600

Net losses incurred related to:
Commutation of variable-rated reinsurance contracts		—			—			—			11,529
Current year		315,102			267,070			862,088			895,386
Prior years		(56,154	)		(61,524	)		(137,558	)		(161,104	)

Total incurred		258,948			205,546			724,530			745,811

Net paid losses related to:
Current year		16,323			43,723			36,163			65,002
Prior years		179,666			150,767			542,077			394,363

Total paid		195,989			194,490			578,240			459,365

Foreign exchange revaluation		6,400			(12,499	)		4,751			(2,136	)

Net liability at end of period		4,373,265			4,235,910			4,373,265			4,235,910
Reinsurance recoverable at end of period		1,077,522			1,009,643			1,077,522			1,009,643

Gross liability at end of period	$	5,450,787		$	5,245,553		$	5,450,787		$	5,245,553

For the three months ended September 30, 2012, the Company had net favorable reserve development in each of its segments due to actual loss emergence being lower than initially expected. The majority of the net favorable reserve development was recognized by each segment in the 2006 through 2008 loss years across most lines of business.

For the nine months ended September 30, 2012, the Company had net favorable reserve development in each of its segments due to actual loss emergence being lower than initially expected. The majority of the net favorable reserve development was recognized by each segment in the 2004 through 2008 loss years. The Company had net unfavorable reserve development in its U.S. insurance segment in the 2010 and 2011 loss years, primarily due to higher than expected losses on a terminated program, and in its international insurance segment in the 2011 loss year, primarily due to an individual full-limit general casualty claim.

During the nine months ended September 30, 2011, the Company commuted certain variable-rated reinsurance contracts that have swing-rated provisions, reducing ceded losses by $11,529 in accordance with the terms of the contracts, resulting in a net gain of $865.

For the three months ended September 30, 2011, the Company had net favorable reserve development in each of its segments due to actual loss emergence being lower than the initial expected. The majority of the net favorable reserve development was recognized in each segment in the 2004 through 2007 loss years related to the general casualty and professional liability insurance and reinsurance lines of business and the healthcare insurance line of business.

For the nine months ended September 30, 2011, the Company had net favorable reserve development in each of its segments due to actual loss emergence being lower than the initial expected. The majority of the net favorable reserve development was recognized in the international insurance and reinsurance segments in the 2004 through 2007 loss years related to the general casualty and professional liability insurance and reinsurance lines of business and the healthcare insurance line of business.

While the Company has experienced favorable development in its insurance and reinsurance lines, there is no assurance that conditions and trends that have affected the development of liabilities in the past will continue. It is not appropriate to extrapolate future redundancies based on prior years’ development. The methodology of estimating loss reserves is periodically reviewed to ensure that the key assumptions used in the actuarial models continue to be appropriate.

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)

8. INCOME TAXES

Under Swiss law, a resident company is subject to income tax at the federal, cantonal and communal levels that is levied on net income. Income attributable to permanent establishments or real estate located abroad is excluded from the Swiss tax base. Allied World Switzerland is a holding company and, therefore, is exempt from cantonal and communal income tax. As a result, Allied World Switzerland is subject to Swiss income tax only at the federal level. Allied World Switzerland is a resident of the Canton of Zug and, as such, is subject to an annual cantonal and communal capital tax on the taxable equity of Allied World Switzerland in Switzerland. Allied World Switzerland has a Swiss operating company resident in the Canton of Zug. The operating company is subject to federal, cantonal and communal income tax and to annual cantonal and communal capital tax.

Under current Bermuda law, Allied World Assurance Company Holdings, Ltd (“Allied World Bermuda”) and its Bermuda subsidiaries are not required to pay taxes in Bermuda on either income or capital gains. Allied World Bermuda and Allied World Assurance Company, Ltd have received an assurance from the Bermuda Minister of Finance under the Exempted Undertakings Tax Protection Act 1966 of Bermuda, that in the event of any such taxes being imposed, Allied World Bermuda and Allied World Assurance Company, Ltd will be exempted until March 2035.

Certain subsidiaries of Allied World Switzerland file U.S. federal income tax returns and various U.S. state income tax returns, as well as income tax returns in the United Kingdom, Ireland, Switzerland, Hong Kong and Singapore. To the best of the Company’s knowledge, there are no income tax examinations pending by any tax authority.

Management has deemed all material tax positions to have a greater than 50% likelihood of being sustained based on technical merits if challenged. The Company does not expect any material unrecognized tax benefits within 12 months of January 2012.

9. SHAREHOLDERS’ EQUITY

a) Authorized shares

The issued share capital consists of the following:


	September 30, 2012		December 31, 2011
Common shares issued and fully paid, 2012: CHF 12.98 per share; 2011: CHF 14.03 per share		37,083,742		40,003,642

Share capital at end of period	$	477,246	$	557,153


	Nine Months Ended September 30, 2012
Shares issued at beginning of period		40,003,642
Shares cancelled		(2,919,900	)

Total shares issued at end of period		37,083,742

Treasury shares issued at beginning of period		2,261,511
Shares repurchased		2,942,085
Shares issued out of treasury		(602,512	)
Shares cancelled		(2,919,900	)

Total treasury shares at end of period		1,681,184

Total shares outstanding at end of period		35,402,558

As of September 30, 2012, there were issued and outstanding 35,402,558 voting common shares and nil non-voting common shares.

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)

Effective July 30, 2012, the Company cancelled 2,326,900 voting shares and 173,100 non-voting shares held in treasury, upon completing a required filing with the Swiss Commercial Register in Zug. During the three months ended September 30, 2012, a further 419,900 voting shares repurchased and designated for cancellation were constructively retired and cancelled.

As of September 30, 2012, Allied World Switzerland’s articles of association authorized its board of directors to increase the share capital by a maximum amount of 20% of the share capital registered in the commercial register up to CHF 97,359 or 7,500,728 voting shares, and create conditional capital of 5,200,000 voting shares.

b) Share Warrants

In conjunction with the private placement offering at the formation of Allied World Bermuda, Allied World Bermuda granted warrant agreements to certain founding shareholders to acquire up to 5,500,000 common shares at an exercise price of $34.20 per share. These warrants were exercisable in certain limited conditions, including a public offering of common shares. All warrants granted were repurchased by the Company.

In February 2011, the Company repurchased the last outstanding warrant owned by American International Group, Inc. (“AIG”) in a privately negotiated transaction. The warrant entitled AIG to purchase 2,000,000 of the Company’s common shares for $34.20 per share. The Company repurchased the warrant for an aggregate purchase price of $53,620. The repurchase of the warrant was recognized as a reduction in “additional paid-in capital” on the consolidated balance sheets. The repurchase was executed separately from the share repurchase program discussed in Note 9(d) below. After this repurchase, AIG has no warrants remaining and no other disclosed equity interest in the Company.

c) Dividends

Under Swiss law, distributions to shareholders may be paid only if the Company has sufficient distributable profits from previous fiscal years, or if the Company has freely distributable reserves, each as presented on the audited stand-alone statutory balance sheet. Distributions to shareholders out of the share and participation capital may be made by way of a capital reduction in the form of a reduction to par value to achieve a similar result as the payment of a dividend.

The Company paid the following dividends during the nine months ended September 30, 2012:


Dividend Paid	Partial Par Value Reduction Per Share		Dividend Per Share		Total Amount Paid
September 25, 2012(1)	CHF	0.35	$	0.375	$	13,324
August 6, 2012(1)	CHF	0.36	$	0.375	$	13,394
April 6, 2012(2)	CHF	0.34	$	0.375	$	13,795
January 6, 2012(2)	CHF	0.35	$	0.375	$	14,302

(1)

On May 3, 2012, the shareholders approved the Company’s proposal to pay cash dividends in the form of a distribution by way of par value reductions. The aggregate reduction amount is expected to be paid to shareholders in four installments of $0.375 per share, with the third installment expected to be paid in December 2012 and the final installment expected to be paid in March 2013.

(2)

On May 5, 2011, the shareholders approved the Company’s proposal to pay cash dividends in the form of a distribution by way of par value reductions. The aggregate reduction amount was paid to shareholders in quarterly installments of $0.375 per share, with the last of such quarterly dividend payments being made on April 6, 2012.

d) Share Repurchase

In May 2012, the Company established a new share repurchase program in order to repurchase up to $500 million of its common shares. Repurchases may be effected from time to time through open market purchases, privately negotiated transactions, tender offers or otherwise. The timing, form and amount of the share repurchases under the program will depend on a variety of factors, including market conditions, the Company’s capital position, legal requirements and other factors. Under the terms of this new share repurchase program, common shares repurchased shall be designated for cancellation and shall be cancelled upon shareholder approval.

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)

Shares repurchased by the Company and not designated for cancellation are classified as “Treasury shares, at cost” on the consolidated balance sheets. The Company will issue shares out of treasury principally related to the Company’s employee benefit plans. Shares repurchased and designated for cancellation are constructively retired and recorded as a share cancellation.

The Company’s share repurchases were as follows:


	Three Months Ended September 30,				Nine Months Ended September 30,
	2012		2011		2012		2011
Common shares repurchased		605,898		—		2,942,085		969,163
Total cost of shares repurchased	$	47,590	$	—	$	207,048	$	60,000
Average price per share	$	78.54	$	—	$	70.37	$	61.91

10. EARNINGS PER SHARE

The following table sets forth the comparison of basic and diluted earnings per share:


	Three Months Ended September 30,					Nine Months Ended September 30,
	2012		2011			2012		2011
Basic earnings (loss) per share:
Net income (loss)	$	219,647	$	(10,972	)	$	534,154	$	91,448
Weighted average common shares outstanding		35,652,768		38,110,368			36,379,514		38,078,116

Basic earnings (loss) per share	$	6.16	$	(0.29	)	$	14.68	$	2.40


	Three Months Ended September 30,					Nine Months Ended September 30,
	2012		2011			2012		2011
Diluted earnings (loss) per share:
Net income (loss)	$	219,647	$	(10,972	)	$	534,154	$	91,448
Weighted average common shares outstanding		35,652,768		38,110,368			36,379,514		38,078,116
Share equivalents:
Warrants and options		461,373		—			429,393		413,228
RSUs and long-term incentive plan (“LTIP”) awards		501,633		—			583,226		1,267,221
Employee stock purchase plan		960		—			960		1,215

Weighted average common shares and common share equivalents outstanding — diluted		36,616,734		38,110,368			37,393,093		39,759,780

Diluted earnings (loss) per share	$	6.00	$	(0.29	)	$	14.28	$	2.30

For the three months ended September 30, 2012 a weighted average of 221,008 employee stock options and restricted stock units (“RSUs”) were considered anti-dilutive and were therefore excluded from the calculation of the diluted earnings per share. For the three months ended September 30, 2011, 2,565,428 dilutive securities in the form of employee stock options, RSUs and LTIP awards were considered anti-dilutive as there was a net loss and were therefore excluded from the calculation of the diluted earnings per share.

For the nine months ended September 30, 2012 and 2011, a weighted average of 338,395 and 743,277 employee stock options and RSUs were considered anti-dilutive and were therefore excluded from the calculation of the diluted earnings per share, respectively.

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)

11. CREDIT AGREEMENTS

In the normal course of its operations, the Company enters into agreements with financial institutions to obtain secured and unsecured credit facilities.

On June 7, 2012, Allied World Bermuda amended its existing secured credit facility. The amended $450,000 four-year secured credit facility (the “Amended Secured Credit Facility”) is primarily used for the issuance of standby letters of credit to support obligations in connection with the insurance and reinsurance business of Allied World Bermuda and its subsidiaries. A portion of the facility may also be used for revolving loans for general corporate and working capital purposes, up to a maximum of $150,000. Allied World Bermuda may request that existing lenders under the Amended Secured Credit Facility make additional commitments from time to time, up to $150,000, subject to approval by the lenders. The Amended Secured Credit Facility contains representations, warranties and covenants customary for similar bank loan facilities, including certain covenants that, among other things, require the Company to maintain a certain leverage ratio and financial strength rating.

On June 7, 2012, upon entering into the Amended Secured Credit Facility, Allied World Bermuda terminated its $400,000 unsecured credit facility.

12. SEGMENT INFORMATION

The determination of reportable segments is based on how senior management monitors the Company’s underwriting operations. Management monitors the performance of its direct underwriting operations based on the geographic location of the Company’s offices, the markets and customers served and the type of accounts written. The Company is currently organized into three operating segments: U.S. insurance, international insurance and reinsurance. All product lines fall within these classifications.

The U.S. insurance segment includes the Company’s direct specialty insurance operations in the United States. This segment provides both direct property and specialty casualty insurance primarily to non-Fortune 1000 North American domiciled accounts. The international insurance segment includes the Company’s direct insurance operations in Bermuda, Europe, Singapore and Hong Kong. This segment provides both direct property and casualty insurance primarily to Fortune 1000 North American domiciled accounts from the Bermuda office and non-North American domiciled accounts from the European, Singapore and Hong Kong Offices. The reinsurance segment includes the Company’s reinsurance operations in the U.S., Bermuda, Europe and Asia. This segment provides reinsurance of property, general casualty, professional liability, specialty lines and property catastrophe coverages written by insurance companies. The Company presently writes reinsurance on both a treaty and a facultative basis, targeting several niche reinsurance markets.

Responsibility and accountability for the results of underwriting operations are assigned by major line of business within each segment. Because the Company does not manage its assets by segment, investment income, interest expense and total assets are not allocated to individual reportable segments. General and administrative expenses are allocated to segments based on various factors, including staff count and each segment’s proportional share of gross premiums written.

Management measures results for each segment on the basis of the “loss and loss expense ratio,” “acquisition cost ratio,” “general and administrative expense ratio” and the “combined ratio.” The “loss and loss expense ratio” is derived by dividing net losses and loss expenses by net premiums earned. The “acquisition cost ratio” is derived by dividing acquisition costs by net premiums earned. The “general and administrative expense ratio” is derived by dividing general and administrative expenses by net premiums earned. The “combined ratio” is the sum of the “loss and loss expense ratio,” the “acquisition cost ratio” and the “general and administrative expense ratio.”

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)

The following tables provide a summary of the segment results:


Three Months Ended September 30, 2012	U.S. Insurance			International Insurance			Reinsurance			Total
Gross premiums written	$	263,129		$	121,315		$	119,976		$	504,420
Net premiums written		200,779			71,199			119,559			391,537
Net premiums earned		173,948			85,329			181,740			441,017
Net losses and loss expenses		(109,111	)		(15,099	)		(134,738	)		(258,948	)
Acquisition costs		(22,696	)		266			(28,656	)		(51,086	)
General and administrative expenses		(37,388	)		(22,920	)		(18,264	)		(78,572	)

Underwriting income		4,753			47,576			82			52,411
Net investment income											39,121
Net realized investment gains											149,813
Amortization of intangible assets											(633	)
Interest expense											(13,822	)
Foreign exchange loss											(1,023	)

Income before income taxes										$	225,867


Loss and loss expense ratio		62.7	%		17.7	%		74.1	%		58.7	%
Acquisition cost ratio		13.0	%		(0.3	%)		15.8	%		11.6	%
General and administrative expense ratio		21.5	%		26.9	%		10.0	%		17.8	%

Combined ratio		97.2	%		44.3	%		99.9	%		88.1	%


Three Months Ended September 30, 2011	U.S. Insurance			International Insurance			Reinsurance			Total
Gross premiums written	$	201,522		$	109,612		$	131,564		$	442,698
Net premiums written		157,310			61,386			131,564			350,260
Net premiums earned		150,474			80,175			140,691			371,340
Net losses and loss expenses		(85,720	)		(43,666	)		(76,160	)		(205,546	)
Acquisition costs		(19,549	)		343			(20,474	)		(39,680	)
General and administrative expenses		(28,945	)		(21,558	)		(15,504	)		(66,007	)

Underwriting income		16,260			15,294			28,553			60,107
Net investment income											47,883
Net realized investment losses											(130,809	)
Other income — termination fee											35,000
Amortization of intangible assets											(767	)
Interest expense											(13,748	)
Foreign exchange loss											(2,966	)

Loss before income taxes										$	(5,300	)


Loss and loss expense ratio		57.0	%		54.5	%		54.1	%		55.4	%
Acquisition cost ratio		13.0	%		(0.4	%)		14.6	%		10.7	%
General and administrative expense ratio		19.2	%		26.9	%		11.0	%		17.8	%

Combined ratio		89.2	%		81.0	%		79.7	%		83.9	%

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)


Nine Months Ended September 30, 2012	U.S. Insurance			International Insurance			Reinsurance			Total
Gross premiums written	$	733,314		$	418,498		$	680,407		$	1,832,219
Net premiums written		551,286			255,150			668,764			1,475,200
Net premiums earned		490,091			247,805			534,758			1,272,654
Net losses and loss expenses		(309,889	)		(75,432	)		(339,209	)		(724,530	)
Acquisition costs		(63,918	)		1,376			(87,270	)		(149,812	)
General and administrative expenses		(103,162	)		(66,969	)		(52,786	)		(222,917	)

Underwriting income		13,122			106,780			55,493			175,395
Net investment income											128,781
Net realized investment gains											292,057
Amortization of intangible assets											(1,900	)
Interest expense											(41,579	)
Foreign exchange gain											77

Income before income taxes										$	552,831


Loss and loss expense ratio		63.2	%		30.4	%		63.4	%		56.9	%
Acquisition cost ratio		13.0	%		(0.6	%)		16.3	%		11.8	%
General and administrative expense ratio		21.0	%		27.0	%		9.9	%		17.5	%

Combined ratio		97.2	%		56.8	%		89.6	%		86.2	%


Nine Months Ended September 30, 2011	U.S. Insurance			International Insurance			Reinsurance			Total
Gross premiums written	$	611,562		$	399,530		$	511,892		$	1,522,984
Net premiums written		470,099			245,281			511,554			1,226,934
Net premiums earned		431,812			236,421			393,290			1,061,523
Net losses and loss expenses		(294,146	)		(186,932	)		(264,733	)		(745,811	)
Acquisition costs		(56,527	)		2,946			(67,152	)		(120,733	)
General and administrative expenses		(90,997	)		(62,939	)		(47,228	)		(201,164	)

Underwriting (loss) income		(9,858	)		(10,504	)		14,177			(6,185	)
Net investment income											150,459
Net realized investment losses											(21,555	)
Other income — termination fee											35,000
Amortization of intangible assets											(2,300	)
Interest expense											(41,235	)
Foreign exchange loss											(3,708	)

Income before income taxes										$	110,476


Loss and loss expense ratio		68.1	%		79.1	%		67.3	%		70.3	%
Acquisition cost ratio		13.1	%		(1.2	%)		17.1	%		11.4	%
General and administrative expense ratio		21.1	%		26.6	%		12.0	%		19.0	%

Combined ratio		102.3	%		104.5	%		96.4	%		100.7	%

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)

The following table shows an analysis of the Company’s gross premiums written by geographic location of the Company’s subsidiaries. All intercompany premiums have been eliminated.


	Three Months Ended September 30,				Nine Months Ended September 30,
	2012		2011		2012		2011
United States	$	312,807	$	245,688	$	1,051,355	$	821,512
Bermuda		108,955		113,671		484,313		461,989
Europe		46,836		47,569		182,220		169,857
Singapore		31,902		33,252		101,213		58,819
Hong Kong		3,920		2,518		13,118		10,807

Total gross premiums written	$	504,420	$	442,698	$	1,832,219	$	1,522,984

13. COMMITMENTS AND CONTINGENCIES

In April 2006, a complaint entitled New Cingular Wireless Headquarters, LLC et al. v. Marsh & McLennan Companies, Inc., et al. was filed against numerous brokers and 78 insurers including Allied World Assurance Company, Ltd. Plaintiffs allege that the broker defendants used a variety of illegal schemes and anti-competitive practices that resulted in the plaintiffs either paying more for insurance products or receiving less beneficial terms than the competitive market would have produced. Plaintiffs seek equitable and legal remedies, including injunctive relief, consequential and punitive damages, treble damages and attorneys’ fees. Due to various pending procedural matters, the litigation has not progressed beyond the discovery phase. While it is not possible to predict the outcome of the litigation, the Company does not believe that the outcome will have a material effect on its operations, financial position or cash flow.

The Company, in common with the insurance industry in general, is subject to litigation and arbitration in the normal course of its business. These legal proceedings generally relate to claims asserted by or against the Company in the ordinary course of insurance or reinsurance operations. Estimated amounts payable under these proceedings are included in the reserve for losses and loss expenses in the Company’s consolidated balance sheets. As of September 30, 2012, the Company was not a party to any material legal proceedings arising outside the ordinary course of business that management believes will have a material adverse effect on the Company’s results of operations, financial position or cash flow.

14. OTHER INCOME

On September 15, 2011, the Company reached a mutual agreement with Transatlantic Holdings, Inc. to terminate the previously announced merger agreement. Under the terms of the termination agreement, the Company received an initial termination fee of $35,000, which has been included within “Other income” on the consolidated income statements for the three and nine months ended September 30, 2011. Further to the terms of the termination agreement, the Company received an additional $66,744 in the fourth quarter of 2011.

15. SUBSEQUENT EVENTS

On October 9, 2012, the Company announced plans to expand its asset management business through a strategic partnership between MatlinPatterson Asset Management L.P. (“MatlinPatterson”) and Allied World Financial Services, Ltd (a subsidiary of the Company that was formed in the third quarter 2012 to expand our asset management expertise, invest in strategic business opportunities and diversify the Company’s earnings stream with business relationships that complement the Company’s core property and casualty business). Under the terms of the transaction, the Company will become a minority owner of MatlinPatterson and will provide growth capital for the continued expansion of their asset management platform. Additionally, MatlinPatterson will manage $500 million of the Company’s investment portfolio, over time, in existing and future liquid credit strategies.

In late October, Hurricane Sandy impacted the Mid-Atlantic and Northeast coasts of the United States, ultimately making landfall in New Jersey, with tropical storm force or greater winds. In addition, Hurricane Sandy generated significant storm surge, which contributed to widespread power outages, significant disruptions to travel and devastating flooding throughout a number of states, including New York and New Jersey. The Company is currently assessing its potential claims related to this event, but information as of this filing is not sufficient to arrive at a reasonable estimate.

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)

16. CONDENSED CONSOLIDATED GUARANTOR FINANCIAL STATEMENTS

The following tables present unaudited condensed consolidating financial information as of September 30, 2012 and December 31, 2011 and for the three and nine months ended September 30, 2012 and 2011 for Allied World Switzerland (the “Parent Guarantor”) and Allied World Bermuda (the “Subsidiary Issuer”). The Subsidiary Issuer is a direct, wholly-owned subsidiary of the Parent Guarantor. Investments in subsidiaries are accounted for by the Parent Guarantor under the equity method for purposes of the supplemental consolidating presentation. Earnings of subsidiaries are reflected in the Parent Guarantor’s investment accounts and earnings. The Parent Guarantor fully and unconditionally guarantees the senior notes issued by the Subsidiary Issuer.

Unaudited Condensed Consolidating Balance Sheet:


As of September 30, 2012	Allied World Switzerland (Parent Guarantor)			Allied World Bermuda (Subsidiary Issuer)			Other Allied World Subsidiaries		Consolidating Adjustments			Allied World Switzerland Consolidated
ASSETS:
Investments	$	—		$	—		$	8,210,065	$	—		$	8,210,065
Cash and cash equivalents		24,450			9,573			605,494		—			639,517
Insurance balances receivable		—			—			754,978		—			754,978
Reinsurance recoverable		—			—			1,077,522		—			1,077,522
Net deferred acquisition costs		—			—			127,527		—			127,527
Goodwill and intangible assets		—			—			320,374		—			320,374
Balances receivable on sale of investments		—			—			756,570		—			756,570
Investments in subsidiaries		3,427,446			4,716,399			—		(8,143,845	)		—
Due (to) from subsidiaries		(4,536	)		(6,869	)		11,405		—			—
Other assets		1,813			6,450			417,173		—			425,436

Total assets	$	3,449,173		$	4,725,553		$	12,281,108	$	(8,143,845	)	$	12,311,989

LIABILITIES:
Reserve for losses and loss expenses	$	—		$	—		$	5,450,787	$	—		$	5,450,787
Unearned premiums		—			—			1,316,399		—			1,316,399
Reinsurance balances payable		—			—			120,432		—			120,432
Balances due on purchases of investments		—			—			1,075,069		—			1,075,069
Senior notes		—			798,147			—		—			798,147
Other liabilities		13,387			12,493			89,489		—			115,369

Total liabilities		13,387			810,640			8,052,176		—			8,876,203

Total shareholders’ equity		3,435,786			3,914,913			4,228,932		(8,143,845	)		3,435,786

Total liabilities and shareholders’ equity	$	3,449,173		$	4,725,553		$	12,281,108	$	(8,143,845	)	$	12,311,989

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)


As of December 31, 2011	Allied World Switzerland (Parent Guarantor)			Allied World Bermuda (Subsidiary Issuer)			Other Allied World Subsidiaries		Consolidating Adjustments			Allied World Switzerland Consolidated
ASSETS:
Investments	$	—		$	—		$	7,406,594	$	—		$	7,406,594
Cash and cash equivalents		112,672			8,886			512,438		—			633,996
Insurance balances receivable		—			—			652,158		—			652,158
Reinsurance recoverable		—			—			1,002,919		—			1,002,919
Net deferred acquisition costs		—			—			100,334		—			100,334
Goodwill and intangible assets		—			—			322,274		—			322,274
Balances receivable on sale of investments		—			—			580,443		—			580,443
Investments in subsidiaries		3,064,066			3,964,585			—		(7,028,651	)		—
Due (to) from subsidiaries		(4,853	)		(6,769	)		11,622		—			—
Other assets		1,504			6,367			415,569		—			423,440

Total assets	$	3,173,389		$	3,973,069		$	11,004,351	$	(7,028,651	)	$	11,122,158

LIABILITIES:
Reserve for losses and loss expenses	$	—		$	—		$	5,225,143	$	—		$	5,225,143
Unearned premiums		—			—			1,078,412		—			1,078,412
Reinsurance balances payable		—			—			124,539		—			124,539
Balances due on purchases of investments		—			—			616,728		—			616,728
Senior notes		—			797,949			—		—			797,949
Other liabilities		24,367			17,688			88,310		—			130,365

Total liabilities		24,367			815,637			7,133,132		—			7,973,136

Total shareholders’ equity		3,149,022			3,157,432			3,871,219		(7,028,651	)		3,149,022

Total liabilities and shareholders’ equity	$	3,173,389		$	3,973,069		$	11,004,351	$	(7,028,651	)	$	11,122,158

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)

Unaudited Condensed Consolidating Income Statement:


Three Months Ended September 30, 2012	Allied World Switzerland (Parent Guarantor)			Allied World Bermuda (Subsidiary Issuer)			Other Allied World Subsidiaries			Consolidating Adjustments			Allied World Switzerland Consolidated
Net premiums earned	$	—		$	—		$	441,017		$	—		$	441,017
Net investment income		7			6			39,108			—			39,121
Net realized investment losses		—			—			149,813			—			149,813
Net losses and loss expenses		—			—			(258,948	)		—			(258,948	)
Acquisition costs		—			—			(51,086	)		—			(51,086	)
General and administrative expenses		(6,013	)		(235	)		(72,324	)		—			(78,572	)
Amortization of intangible assets		—			—			(633	)		—			(633	)
Interest expense		—			(13,822	)		—			—			(13,822	)
Foreign exchange gain (loss)		(206	)		(83	)		(734	)		—			(1,023	)
Income tax (expense) benefit		—			—			(6,220	)		—			(6,220	)
Equity in earnings of consolidated subsidiaries		225,859			231,471			—			(457,330	)		—

NET INCOME (LOSS)	$	219,647		$	217,337		$	239,993		$	(457,330	)	$	219,647

Unrealized losses on investments arising during the period net of applicable deferred income tax expense of $96		—			—			(29	)		—			(29	)
Reclassification adjustment for net realized investment gains included in net income, net of applicable income tax		—			—			—			—			—

Other comprehensive loss		—			—			(29	)		—			(29	)

COMPREHENSIVE INCOME (LOSS)	$	219,647		$	217,337		$	239,964		$	(457,330	)	$	219,618


Three Months Ended September 30, 2011	Allied World Switzerland (Parent Guarantor)			Allied World Bermuda (Subsidiary Issuer)			Other Allied World Subsidiaries			Consolidating Adjustments			Allied World Switzerland Consolidated
Net premiums earned	$	—		$	—		$	371,340		$	—		$	371,340
Net investment income		7			3			47,873			—			47,883
Net realized investment gains		—			—			(130,809	)		—			(130,809	)
Other income — termination fee		35,000			—			—			—			35,000
Net losses and loss expenses		—			—			(205,546	)		—			(205,546	)
Acquisition costs		—			—			(39,680	)		—			(39,680	)
General and administrative expenses		(2,110	)		(913	)		(62,984	)		—			(66,007	)
Amortization of intangible assets		—			—			(767	)		—			(767	)
Interest expense		—			(13,748	)		—			—			(13,748	)
Foreign exchange gain (loss)		10			(907	)		(2,069	)		—			(2,966	)
Income tax (expense) benefit		(2,730	)		—			(2,942	)		—			(5,672	)
Equity in earnings of consolidated subsidiaries		(41,148	)		—			—			—			—

NET INCOME (LOSS)	$	(10,971	)	$	(15,565	)	$	(25,584	)	$	—		$	(10,972	)

Unrealized gains on investments arising during the period net of applicable deferred income tax expense of $1,461		—			—			20			—			20
Reclassification adjustment for net realized investment gains included in net income, net of applicable income tax		—			—			(5,319	)		—			(5,319	)

Other comprehensive loss		—			—			(5,299	)		—			(5,299	)

COMPREHENSIVE INCOME (LOSS)	$	(10,971	)	$	(15,565	)	$	(30,883	)	$	—		$	(16,271	)

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)


Nine Months Ended September 30, 2012	Allied World Switzerland (Parent Guarantor)			Allied World Bermuda (Subsidiary Issuer)			Other Allied World Subsidiaries			Consolidating Adjustments			Allied World Switzerland Consolidated
Net premiums earned	$	—		$	—		$	1,272,654		$	—		$	1,272,654
Net investment income		21			17			128,743			—			128,781
Net realized investment losses		—			—			292,057			—			292,057
Net losses and loss expenses		—			—			(724,530	)		—			(724,530	)
Acquisition costs		—			—			(149,812	)		—			(149,812	)
General and administrative expenses		(14,247	)		(2,689	)		(205,981	)		—			(222,917	)
Amortization of intangible assets		—			—			(1,900	)		—			(1,900	)
Interest expense		—			(41,579	)		—			—			(41,579	)
Foreign exchange loss (gain)		343			(150	)		(116	)		—			77
Income tax (expense) benefit		71			—			(18,748	)		—			(18,677	)
Equity in earnings of consolidated subsidiaries		547,966			580,880			—			(1,128,846	)		—

NET INCOME (LOSS)	$	534,154		$	536,479		$	592,367		$	(1,128,846	)	$	534,154

Unrealized gains on investments arising during the period net of applicable deferred income tax expense of $81		—			—			150			—			150
Reclassification adjustment for net realized investment gains included in net income, net of applicable income tax		—			—			(13,249	)		—			(13,249	)

Other comprehensive loss		—			—			(13,099	)		—			(13,099	)

COMPREHENSIVE INCOME (LOSS)	$	534,154		$	536,479		$	579,268		$	(1,128,846	)	$	521,055


Nine Months Ended September 30, 2011	Allied World Switzerland (Parent Guarantor)			Allied World Bermuda (Subsidiary Issuer)			Other Allied World Subsidiaries			Consolidating Adjustments			Allied World Switzerland Consolidated
Net premiums earned	$	—		$	—		$	1,061,523		$	—		$	1,061,523
Net investment income		51			25			150,383			—			150,459
Net realized investment gains		—			—			(21,555	)		—			(21,555	)
Other income — termination fee		35,000			—			—			—			35,000
Net losses and loss expenses		—			—			(745,811	)		—			(745,811	)
Acquisition costs		—			—			(120,733	)		—			(120,733	)
General and administrative expenses		(7,919	)		(5,141	)		(188,104	)		—			(201,164	)
Amortization of intangible assets		—			—			(2,300	)		—			(2,300	)
Interest expense		—			(41,235	)		—			—			(41,235	)
Foreign exchange gain (loss)		11			(1,131	)		(2,588	)		—			(3,708	)
Income tax (expense) benefit		(2,730	)		—			(16,298	)		—			(19,028	)
Equity in earnings of consolidated subsidiaries		67,035			114,243			—			(181,278	)		—

NET INCOME (LOSS)	$	91,448		$	66,761		$	114,517		$	(181,278	)	$	91,448

Unrealized gains on investments arising during the period net of applicable deferred income tax expense of $3,051		—			—			5,656			—			5,656
Reclassification adjustment for net realized investment gains included in net income, net of applicable income tax		—			—			(44,995	)		—			(44,995	)

Other comprehensive loss		—			—			(39,339	)		—			(39,339	)

COMPREHENSIVE INCOME (LOSS)	$	91,448		$	66,761		$	75,178		$	(181,278	)	$	52,109

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)

Unaudited Condensed Consolidating Cash Flows:


Nine Months Ended September 30, 2012	Allied World Switzerland (Parent Guarantor)			Allied World Bermuda (Subsidiary Issuer)		Other Allied World Subsidiaries			Consolidating Adjustments		Allied World Switzerland Consolidated
CASH FLOWS PROVIDED BY (USED IN) OPERATING ACTIVITIES	$	162,141		$	687	$	336,824		$	—	$	499,652

CASH FLOWS PROVIDED BY (USED IN) INVESTING ACTIVITIES:
Purchases trading securities		—			—		(6,328,719	)		—		(6,328,719	)
Purchases of other invested assets		—			—		(52,578	)		—		(52,578	)
Sales of available for sale securities		—			—		215,318			—		215,318
Sales of trading securities		—			—		5,778,138			—		5,778,138
Sales of other invested assets		—			—		110,429			—		110,429
Other		—			—		33,644			—		33,644

Net cash provided by (used in) investing activities		—			—		(243,768	)		—		(243,768	)

CASH FLOWS PROVIDED BY (USED IN) FINANCING ACTIVITIES:
Partial par value reduction		(54,721	)		—		—			—		(54,721	)
Proceeds from the exercise of stock options		9,104			—		—			—		9,104
Share repurchases		(204,746	)		—		—			—		(204,746	)

Net cash provided by (used in) financing activities		(250,363	)		—		—			—		(250,363	)

NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS		(88,222	)		687		93,056			—		5,521
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD		112,672			8,886		512,438			—		633,996

CASH AND CASH EQUIVALENTS, END OF PERIOD	$	24,450		$	9,573	$	605,494		$	—	$	639,517

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)


Nine Months Ended September 30, 2011	Allied World Switzerland (Parent Guarantor)			Allied World Bermuda (Subsidiary Issuer)			Other Allied World Subsidiaries			Consolidating Adjustments		Allied World Switzerland Consolidated
CASH FLOWS PROVIDED BY (USED IN) OPERATING ACTIVITIES:	$	34,318		$	(52,678	)	$	510,550		$	—	$	492,190

CASH FLOWS PROVIDED BY (USED IN) INVESTING ACTIVITIES:
Purchases of available for sale securities		—			—			(727	)		—		(727	)
Purchases of trading securities		—			—			(5,555,249	)		—		(5,555,249	)
Purchases of other invested assets		—			—			(265,720	)		—		(265,720	)
Sales of available for sale securities		—			—			627,392			—		627,392
Sales of trading securities		—			—			4,841,580			—		4,841,580
Sales of other invested assets		—			—			40,129			—		40,129
Other		(4,496	)		—			59,824			—		55,328

Net cash provided by (used in) investing activities		(4,496	)		—			(252,771	)		—		(257,267	)

CASH FLOWS PROVIDED BY (USED IN) FINANCING ACTIVITIES:
Partial par value reduction		(14,295	)		—			—			—		(14,295	)
Proceeds from the exercise of stock options		5,317			—			—			—		5,317
Share repurchases		(60,000	)		—			—			—		(60,000	)
Repurchase of founder warrants		—			(53,620	)		—			—		(53,620	)
Other		(391	)		(820	)		1,211			—		—

Net cash provided by (used in) financing activities		(69,369	)		(54,440	)		1,211			—		(122,598	)

NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS		(39,547	)		(107,118	)		258,990			—		112,325
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD		138,488			125,663			492,844			—		756,995

CASH AND CASH EQUIVALENTS, END OF PERIOD	$	98,941		$	18,545		$	751,834		$	—	$	869,320

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our unaudited condensed consolidated financial statements and related notes included elsewhere in this Form 10-Q. References in this Form 10-Q to the terms “we,” “us,” “our,” “the company” or other similar terms mean the consolidated operations of Allied World Assurance Company Holdings, AG, a Swiss holding company, and our consolidated subsidiaries, unless the context requires otherwise. References in this Form 10-Q to the term “Allied World Switzerland” or “Holdings” means only Allied World Assurance Company Holdings, AG. References to “Allied World Bermuda” mean only Allied World Assurance Company Holdings, Ltd, a Bermuda holding company. References to “our insurance subsidiaries” may include our reinsurance subsidiaries. References in this Form 10-Q to $ are to the lawful currency of the United States and to CHF are to the lawful currency of Switzerland. References in this Form 10-Q to Holdings’ “common shares” mean its registered voting shares.

Note on Forward-Looking Statement

This Form 10-Q and other publicly available documents may include, and our officers and representatives may from time to time make, projections concerning financial information and statements concerning future economic performance and events, plans and objectives relating to management, operations, products and services, and assumptions underlying these projections and statements. These projections and statements are forward-looking statements within the meaning of The Private Securities Litigation Reform Act of 1995 and are not historical facts but instead represent only our belief regarding future events, many of which, by their nature, are inherently uncertain and outside our control. These projections and statements may address, among other things, our strategy for growth, product development, financial results and reserves. Actual results and financial condition may differ, possibly materially, from these projections and statements and therefore you should not place undue reliance on them. Factors that could cause our actual results to differ, possibly materially, from those in the specific projections and statements are discussed throughout this Management’s Discussion and Analysis of Financial Condition and Results of Operations and in “Risk Factors” in Item 1A. of Part I of our 2011 Annual Report on Form 10-K filed with the U.S. Securities and Exchange Commission (“SEC”) on February 29, 2012 (the “2011 Form 10-K”). We are under no obligation (and expressly disclaim any such obligation) to update or revise any forward-looking statement that may be made from time to time, whether as a result of new information, future developments or otherwise.

Overview

Our Business

We write a diversified portfolio of property and casualty insurance and reinsurance internationally through our subsidiaries and branches based in Bermuda, Europe, Hong Kong, Singapore and the United States as well as our Lloyd’s Syndicate 2232. We manage our business through three operating segments: U.S. insurance, international insurance and reinsurance. As of September 30, 2012, we had approximately $12.3 billion of total assets, $3.4 billion of total shareholders’ equity and $4.2 billion of total capital, which includes shareholders’ equity and senior notes.

During the three months ended September 30, 2012, we continued to experience rate increases on property lines that had experienced significant loss activity in the prior year. We also continued to see rate improvement during the quarter on some of our casualty lines of business in certain jurisdictions. We believe that there are opportunities where certain products have attractive premium rates and that the expanded breadth of our operations allows us to target those classes of business. Given these trends, we continue to be selective in the insurance policies and reinsurance contracts we underwrite. Our consolidated gross premiums written increased by $61.7 million, or 13.9%, for the three months ended September 30, 2012 compared to the three months ended September 30, 2011. Our net income was $219.6 million for the three months ended September 30, 2012 compared to a net loss of $11.0 million for the three months ended September 30, 2011, representing a $230.6 million increase. The increase was due to net realized investment gains that increased by $280.6 million for the three months ended September 30, 2012 compared to the same period in 2011. This was partially offset by the non-recurring $35.0 million termination fee recognized in the three months ended September 30, 2011 that related to our previously announced Transatlantic Holdings, Inc. (“Transatlantic”) merger agreement. In addition, we recognized $40.0 million of crop reinsurance losses in the three months ended September 30, 2012.

Our consolidated gross premiums written increased by $309.2 million, or 20.3%, for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011. Our net income increased by $442.7 million to $534.2 million compared to the nine months ended September 30, 2011. The increase was due to net realized investment gains that increased by $313.6 million for the nine months ended September 30, 2012 compared to the same period in 2011, combined with lower net losses and loss

expenses. The nine months ended September 30, 2011 included $233.1 million of property catastrophe losses for the Asia-Pacific catastrophes, Midwestern U.S. storms and Hurricane Irene. This was partially offset by the non-recurring $35.0 million termination fee recognized in the nine months ended September 30, 2011 that related to the previously announced Transatlantic merger agreement. In addition, we recognized $40.0 million of crop reinsurance losses in the nine months ended September 30, 2012.

Financial Highlights


	Three Months Ended September 30,						Nine Months Ended September 30,
	2012			2011			2012			2011
	($ in millions except share, per share and percentage data)
Gross premiums written	$	504.4		$	442.7		$	1,832.2		$	1,523.0
Net income (loss)		219.6			(11.0	)		534.2			91.5
Operating income		79.2			86.2			258.0			89.0
Basic earnings per share:
Net income (loss)	$	6.16		$	(0.29	)	$	14.68		$	2.40
Operating income	$	2.22		$	2.26		$	7.09		$	2.34
Diluted earnings per share:
Net income (loss)	$	6.00		$	(0.29	)	$	14.28		$	2.30
Operating income	$	2.16		$	2.19		$	6.90		$	2.24
Weighted average common shares outstanding:
Basic		35,652,768			38,110,368			36,379,514			38,078,116
Diluted		36,616,734			38,110,368			37,393,093			39,759,780
Basic book value per common share	$	97.05		$	78.73		$	97.05		$	78.73
Diluted book value per common share	$	93.82		$	75.82		$	93.82		$	75.82
Annualized return on average equity (ROAE), net income (loss)		26.2	%		(1.5	%)		21.7	%		4.1	%
Annualized ROAE, operating income		9.4	%		11.5	%		10.5	%		4.0	%

Non-GAAP Financial Measures

In presenting the company’s results, management has included and discussed certain non-GAAP financial measures, as such term is defined in Item 10(e) of Regulation S-K promulgated by the SEC. Management believes that these non-GAAP measures, which may be defined differently by other companies, better explain the company’s results of operations in a manner that allows for a more complete understanding of the underlying trends in the company’s business. However, these measures should not be viewed as a substitute for those determined in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”).

Operating income & operating income per share

Operating income is an internal performance measure used in the management of our operations and represents after-tax operational results excluding, as applicable, net realized investment gains or losses, net impairment charges recognized in earnings, net foreign exchange gain or loss, impairment of intangible assets and other non-recurring items. We exclude net realized investment gains or losses, net impairment charges recognized in earnings, net foreign exchange gain or loss and any other non-recurring items from our calculation of operating income because these amounts are heavily influenced by and fluctuate in part according to the availability of market opportunities and other factors. We have excluded from our operating income the $35.0 million termination fee we received from Transatlantic as this is a non-recurring item. In addition to presenting net income determined in accordance with U.S. GAAP, we believe that showing operating income enables investors, analysts, rating agencies and other users of our financial information to more easily analyze our results of operations and our underlying business performance. Operating income should not be viewed as a substitute for U.S. GAAP net income. The following is a reconciliation of operating income to its most closely related U.S. GAAP measure, net income.


	Three Months Ended September 30,						Nine Months Ended September 30,
	2012			2011			2012			2011
	($ in millions, except share, per share and percentage data)
Net income (loss)	$	219.6		$	(11.0	)	$	534.2		$	91.5
Add after tax effect of:
Net realized investment (gains) losses		(141.4	)		126.5			(276.1	)		26.1
Other income — termination fee		—			(32.3	)		—			(32.3	)
Foreign exchange loss (gain)		1.0			3.0			(0.1	)		3.7

Operating income	$	79.2		$	86.2		$	258.0		$	89.0

Basic per share data:
Net income (loss)	$	6.16		$	(0.29	)	$	14.68		$	2.40
Add after tax effect of:
Net realized investment (gains) losses		(3.97	)		3.32			(7.59	)		0.69
Other income — termination fee		—			(0.85	)		—			(0.85	)
Foreign exchange gain		0.03			0.08			—			0.10

Operating income	$	2.22		$	2.26		$	7.09		$	2.34

Diluted per share data:
Net income (loss)	$	6.00		$	(0.29	)	$	14.28		$	2.30
Add after tax effect of:
Net realized investment (gains) losses		(3.86	)		3.21			(7.38	)		0.66
Other income — termination fee		—			(0.82	)		—			(0.81	)
Foreign exchange gain		0.02			0.09			—			0.09

Operating income	$	2.16		$	2.19		$	6.90		$	2.24

Diluted book value per share

We have included diluted book value per share because it takes into account the effect of dilutive securities; therefore, we believe it is an important measure of calculating shareholder returns.


	As of September 30,
	2012			2011
	($ in millions, except share and per share data)
Price per share at period end	$	77.25		$	53.71
Total shareholders’ equity	$	3,435.8		$	3,003.1
Basic common shares outstanding		35,402,558			38,145,557
Add:
Unvested restricted share units		179,986			256,672
Performance based equity awards		508,130			898,014
Employee share purchase plan		5,925			1,215
Dilutive options/warrants outstanding		1,306,837			1,107,305
Weighted average exercise price per share	$	46.14		$	38.80
Deduct:
Options bought back via treasury method		(780,502	)		(799,914	)

Common shares and common share equivalents outstanding		36,622,934			39,608,849
Basic book value per common share	$	97.05		$	78.73
Diluted book value per common share	$	93.82		$	75.82

Annualized return on average equity

Annualized return on average shareholders’ equity (“ROAE”) is calculated using average equity, excluding the average after tax unrealized gains or losses on investments. We present ROAE as a measure that is commonly recognized as a standard of performance by investors, analysts, rating agencies and other users of our financial information.

Annualized operating return on average shareholders’ equity is calculated using operating income and average shareholders’ equity, excluding the average after tax unrealized gains or losses on investments.


	Three Months Ended September 30,						Nine Months Ended September 30,
	2012			2011			2012			2011
	($ in millions except percentage data)
Opening shareholders’ equity	$	3,283.9		$	3,044.4		$	3,149.0		$	3,075.8
Deduct: accumulated other comprehensive income		(1.4	)		(23.1	)		(14.5	)		(57.1	)

Adjusted opening shareholders’ equity	$	3,282.5		$	3,021.3		$	3,134.5		$	3,018.7

Closing shareholders’ equity	$	3,435.8		$	3,003.1		$	3,435.8		$	3,003.1
Deduct: accumulated other comprehensive income		(1.4	)		(17.8	)		(1.4	)		(17.8	)

Adjusted closing shareholders’ equity	$	3,434.4		$	2,985.3		$	3,434.4		$	2,985.3

Average shareholders’ equity	$	3,358.4		$	3,003.3		$	3,284.5		$	3,002.0

Net income (loss) available to shareholders	$	219.6		$	(11.0	)	$	534.2		$	91.4
Annualized return on average shareholders’ equity — net income (loss) available to shareholders		26.2	%		(1.5	%)		21.7	%		4.1	%


Operating income available to shareholders	$	79.2		$	86.2		$	258.0		$	89.0
Annualized return on average shareholders’ equity — operating income available to shareholders		9.4	%		11.5	%		10.5	%		4.0	%

Relevant Factors

Revenues

We derive our revenues primarily from premiums on our insurance policies and reinsurance contracts, net of any reinsurance or retrocessional coverage purchased. Insurance and reinsurance premiums are a function of the amounts and types of policies and contracts we write, as well as prevailing market prices. Our prices are determined before our ultimate costs, which may extend far into the future, are known. In addition, our revenues include income generated from our investment portfolio, consisting of net investment income and net realized investment gains or losses. Investment income is principally derived from interest and dividends earned on investments, partially offset by investment management expenses and fees paid to our custodian bank. Net realized investment gains or losses include gains or losses from the sale of investments, as well as the change in the fair value of investments that we mark-to-market through net income.

Expenses

Our expenses consist largely of net losses and loss expenses, acquisition costs and general and administrative expenses. Net losses and loss expenses incurred are comprised of three main components:

•

losses paid, which are actual cash payments to insureds and reinsureds, net of recoveries from reinsurers;

•

outstanding loss or case reserves, which represent management’s best estimate of the likely settlement amount for known claims, less the portion that can be recovered from reinsurers; and

•

reserves for losses incurred but not reported, or “IBNR”, which are reserves (in addition to case reserves) established by us that we believe are needed for the future settlement of claims. The portion recoverable from reinsurers is deducted from the gross estimated loss.

Acquisition costs are comprised of commissions, brokerage fees and insurance taxes. Commissions and brokerage fees are usually calculated as a percentage of premiums and depend on the market and line of business. Acquisition costs are reported after (1) deducting commissions received on ceded reinsurance, (2) deducting the part of acquisition costs relating to unearned premiums and (3) including the amortization of previously deferred acquisition costs.

General and administrative expenses include personnel expenses including stock-based compensation expense, rent expense, professional fees, information technology costs and other general operating expenses.

Ratios

Management measures results for each segment on the basis of the “loss and loss expense ratio,” “acquisition cost ratio,” “general and administrative expense ratio,” “expense ratio” and the “combined ratio.” Because we do not manage our assets by segment, investment income, interest expense and total assets are not allocated to individual reportable segments. General and administrative expenses are allocated to segments based on various factors, including staff count and each segment’s proportional share of gross premiums written. The loss and loss expense ratio is derived by dividing net losses and loss expenses by net premiums earned. The acquisition cost ratio is derived by dividing acquisition costs by net premiums earned. The general and administrative expense ratio is derived by dividing general and administrative expenses by net premiums earned. The expense ratio is the sum of the acquisition cost ratio and the general and administrative expense ratio. The combined ratio is the sum of the loss and loss expense ratio, the acquisition cost ratio and the general and administrative expense ratio.

Critical Accounting Policies

It is important to understand our accounting policies in order to understand our financial position and results of operations. Our unaudited condensed consolidated financial statements reflect determinations that are inherently subjective in nature and require management to make assumptions and best estimates to determine the reported values. If events or other factors cause actual results to differ materially from management’s underlying assumptions or estimates, there could be a material adverse effect on our financial condition or results of operations. We believe that some of the more critical judgments in the areas of accounting estimates and assumptions that affect our financial condition and results of operations are related to reserves for losses and loss expenses, reinsurance recoverables, premiums and acquisition costs, valuation of financial instruments and goodwill and other intangible asset impairment valuation. For a detailed discussion of our critical accounting policies, please refer to our 2011 Form 10-K. There were no material changes in the application of our critical accounting estimates subsequent to that report.

Results of Operations

The following table sets forth our selected consolidated statement of operations data for each of the periods indicated.


	Three Months Ended September 30,						Nine Months Ended September 30,
	2012			2011			2012			2011
	($ in millions)
Revenues
Gross premiums written	$	504.4		$	442.7		$	1,832.2		$	1,523.0

Net premiums written	$	391.5		$	350.3		$	1,475.2		$	1,226.9

Net premiums earned	$	441.0		$	371.3		$	1,272.7		$	1,061.5
Net investment income		39.1			47.9			128.8			150.5
Net realized investments gains (losses)		149.8			(130.8	)		292.0			(21.6	)
Other income — termination fee		—			35.0			—			35.0

	$	629.9		$	323.4		$	1,693.5		$	1,225.4

Expenses
Net losses and loss expenses	$	258.9		$	205.5		$	724.5		$	745.8
Acquisition costs		51.1			39.7			149.8			120.7
General and administrative expenses		78.6			66.0			223.0			201.2
Amortization of intangible assets		0.6			0.8			1.9			2.3
Interest expense		13.8			13.7			41.6			41.2
Foreign exchange loss (gain)		1.0			3.0			(0.1	)		3.7

	$	404.0		$	328.7		$	1,140.7		$	1,114.9

Income (loss) before income taxes		225.9			(5.3	)		552.8			110.5
Income tax expense		6.3			5.7			18.6			19.0

Net income (loss)	$	219.6		$	(11.0	)	$	534.2		$	91.5

Ratios
Loss and loss expense ratio		58.7	%		55.4	%		56.9	%		70.3	%
Acquisition cost ratio		11.6	%		10.7	%		11.8	%		11.4	%
General and administrative expense ratio		17.8	%		17.8	%		17.5	%		19.0	%

Expense ratio		29.4	%		28.5	%		29.3	%		30.4	%

Combined ratio		88.1	%		83.9	%		86.2	%		100.7	%

Comparison of Three Months Ended September 30, 2012 and 2011

Premiums

Gross premiums written increased by $61.7 million, or 13.9%, for the three months ended September 30, 2012 compared to the three months ended September 30, 2011. The overall increase in gross premiums written was primarily the result of the following:

•

Gross premiums written in our U.S. insurance segment increased by $61.6 million, or 30.6%. The increase in gross premiums written was primarily due to increased new business and premium rate increases in most lines of business. Growth from new products introduced in 2012, such as mergers and acquisitions and primary construction, and new programs also contributed to the increase for the quarter. This growth was partially offset by the non-renewal of business that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions) and continued competition;

•

Gross premiums written in our international insurance segment increased by $11.7 million, or 10.7%. We saw continued growth from new products, specifically trade credit which grew $7.6 million, and general casualty, which grew by $7.2 million with strong new business writings. This growth was partially offset by the non-renewal of business that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions) and continued competition; and

•

Gross premiums written in our reinsurance segment decreased by $11.6 million, or 8.8%. The decrease in gross premiums written was primarily due to changes in the timing of renewals and downward premium estimates on our crop reinsurance business. This was combined with the non-renewal of business that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions) and continued competition.

The table below illustrates our gross premiums written by geographic location for each of the periods indicated.


	Three Months Ended September 30,				Dollar			Percentage
	2012		2011		Change			Change
			($ in millions)
United States	$	312.9	$	245.7	$	67.2			27.4	%
Bermuda		108.9		113.7		(4.8	)		(4.2	%)
Europe		46.8		47.6		(0.8	)		(1.7	%)
Singapore		31.9		33.2		(1.3	)		(3.9	%)
Hong Kong		3.9		2.5		1.4			56.0	%

	$	504.4	$	442.7	$	61.7			13.9	%

Net premiums written increased by $41.2 million, or 11.8%, for the three months ended September 30, 2012 compared to the three months ended September 30, 2011. The increase in net premiums written was due to the increase in gross premiums written. The difference between gross and net premiums written is the cost to us of purchasing reinsurance coverage, including the cost of property catastrophe reinsurance coverage. We ceded 22.4% of gross premiums written for the three months ended September 30, 2012 compared to 20.9% for the same period in 2011. The increase was due to the change in our mix of business with a lower proportion of our premiums from our reinsurance segment, where we retain substantially all premiums written.

Net premiums earned increased by $69.7 million, or 18.8%, for the three months ended September 30, 2012 compared to the three months ended September 30, 2011 as a result of higher net premiums written in 2012 and 2011.

We evaluate our business by segment, distinguishing between U.S. insurance, international insurance and reinsurance. The following table illustrates the mix of our business on both a gross premiums written and net premiums earned basis.


	Gross Premiums Written						Net Premiums Earned
	Three Months Ended September 30,						Three Months Ended September 30,
	2012			2011			2012			2011
U.S. insurance		52.2	%		45.5	%		39.5	%		40.5	%
International insurance		24.0	%		24.8	%		19.3	%		21.6	%
Reinsurance		23.8	%		29.7	%		41.2	%		37.9	%

Total		100.0	%		100.0	%		100.0	%		100.0	%

Net Investment Income

Net investment income decreased by $8.8 million, or 18.4%, for the three months ended September 30, 2012 compared to the three months ended September 30, 2011. The decrease was due to lower yields on our fixed maturity investments as well as an increased allocation to other invested assets that contribute to our total return but carry little or no current yield. The annualized period book yield of the investment portfolio for the three months ended September 30, 2012 and 2011 was 1.9% and 2.4%, respectively.

As of September 30, 2012, we held 21.1% of our total investments and cash equivalents in U.S. government or government agency securities, compared to 13.1% as of September 30, 2011. Our average duration decreased to 1.9 years as of September 30, 2012 compared to 2.1 years as of September 30, 2011.

Investment management expenses of $3.7 million and $3.6 million were incurred during the three months ended September 30, 2012 and 2011, respectively. The increase in investment management expenses was primarily due to the increase in the size of our investment portfolio, as well as expenses from higher expense asset classes. Investment expenses have decreased to $3.7 million from

$4.4 million in the first quarter of 2012 as we have renegotiated investment management agreements with our investment advisors, or changed advisors, to manage our expenses.

As of September 30, 2012, approximately 90.4% of our fixed income investments consisted of investment grade securities. As of September 30, 2012 and December 31, 2011, the average credit rating of our fixed income portfolio was AA- as rated by Standard & Poor’s and Aa3 as rated by Moody’s.

Realized Investment Gains (Losses)

Net realized investment gains (losses) were comprised of the following:


	Three Months Ended September 30,
	2012			2011
	($ in millions)
Gross realized gains on sale of invested assets	$	27.2		$	44.7
Gross realized losses on sale of invested assets		(6.7	)		(10.6	)

Net realized gains on sale of invested assets		20.5			34.1

Net realized and unrealized losses on derivatives		(1.0	)		(43.3	)

Mark-to-market changes:
Debt securities, trading		99.8			(46.1	)
Other invested assets and equity securities		30.4			(75.5	)

Total mark-to-market changes		130.2			(121.6	)

Net realized investment gains (losses)	$	149.7		$	(130.8	)

During the three months ended September 30, 2012 and 2011, we did not recognize any net impairment charges. The total return of our investment portfolio was 2.2% and (1.1)% for the three months ended September 30, 2012 and 2011, respectively.

The investment portfolio return for the three months ended September 30, 2012 benefited from the favorable financial, economic and business environment during the quarter and the absence of significant market events. Equity markets performed well, with the S&P 500 up over 5% during the quarter. Fixed income securities also benefited from the benign quarter combined with the U.S. Federal Reserve’s announcement of a third round of quantitative easing, resulting in spreads tightening during the quarter.

The investment portfolio return for the three months ended September 30, 2011 was negatively impacted by the credit downgrade of the U.S. Treasury and related securities in early August 2011 and the economic and political turmoil surrounding European sovereign and bank credit risk. The combination of these and other events caused investors to seek safe havens in specific sovereign risks, such as the U.S., Switzerland, Germany and Japan, while selling riskier asset classes, such as equities, corporate bonds and mortgage bonds, and driving down prices.

Other Income

The other income of $35.0 million for the three months ended September 30, 2011 represented a termination fee from our previously announced merger agreement with Transatlantic. There was no other income for the three months ended September 30, 2012.

Net Losses and Loss Expenses

Net losses and loss expenses increased by $53.4 million, or 26.0%, for the three months ended September 30, 2012 compared to the three months ended September 30, 2011. The loss and loss expense ratio increased by 3.3 percentage points for the same period. The increase in net loss and loss expenses was due to growth in net premiums earned and lower net favorable prior year reserve development. In addition, for the three months ended September 30, 2012, we recorded approximately $40.0 million of crop reinsurance-related losses and loss expenses related to drought conditions across much of the United States. This amount is in addition to our anticipated losses and loss expenses prior to the onset of the drought. This was partially offset by significantly lower

catastrophe losses for the three months ended September 30, 2012 compared to the same period in 2011 when we recognized estimated losses from Hurricane Irene, Asia-Pacific catastrophes and Midwestern U.S. storms of $33.5 million.

Excluding the prior year reserve development and property catastrophe losses, the loss and loss expense ratios would have been 70.3% and 61.8% for the three months ended September 30, 2012 and 2011, respectively. The increase was due to the $40.0 million in crop reinsurance losses for the three months ended September 30, 2012 that increased the loss and loss expense ratio by 9.1 percentage points.


	Three Months Ended September 30, 2012						Three Months Ended September 30, 2011						Dollar			Change in Percentage
	Amount			% of NPE⁽¹⁾			Amount			% of NPE⁽¹⁾			Change			Points
							($ in millions)
Non-catastrophe	$	310.1			70.3	%	$	233.6			61.8	%	$	76.5			8.5	Pts
Property catastrophe		5.0			1.1			33.5			7.6			(28.5	)		(6.5	)

Current period		315.1			71.4			267.1			69.4			48.0			2.0
Prior period		(56.2	)		(12.7	)		(61.6	)		(14.0	)		5.4			1.3

Net losses and loss expenses	$	258.9			58.7	%	$	205.5			55.4	%	$	53.4			3.3	Pts

(1)	“NPE” means net premiums earned.

We recorded net favorable reserve development related to prior years of $56.2 million during the three months ended September 30, 2012 compared to net favorable reserve development of $61.6 million for the three months ended September 30, 2011, as shown in the tables below.


	(Favorable) and Unfavorable Loss Reserve Development by Loss Year
	For the Three Months Ended September 30, 2012
	2002			2003			2004			2005			2006			2007			2008			2009			2010			2011			Total
	($ in millions)
U.S. insurance	$	(0.5	)	$	0.6		$	—		$	(1.7	)	$	(7.1	)	$	(6.0	)	$	(2.7	)	$	1.7		$	4.4		$	3.1		$	(8.2	)
International insurance		—			(1.0	)		(2.7	)		9.9			(15.5	)		(12.7	)		(8.9	)		(1.9	)		(0.8	)		(5.4	)		(39.0	)
Reinsurance		(0.3	)		(0.7	)		(0.2	)		2.8			(1.7	)		(6.7	)		(2.4	)		(0.8	)		7.5			(6.5	)		(9.0	)

	$	(0.8	)	$	(1.1	)	$	(2.9	)	$	11.0		$	(24.3	)	$	(25.4	)	$	(14.0	)	$	(1.0	)	$	11.1		$	(8.8	)	$	(56.2	)

The unfavorable reserve development in our U.S. insurance segment for loss years 2009 to 2011 was primarily due to adverse development on a program that commenced writing in 2008 and was terminated during 2011. The unfavorable reserve development in our international insurance segment for the 2005 loss year was primarily due to two product liability claims within our general casualty line of business. The unfavorable reserve development in our reinsurance segment for the 2010 loss year was primarily due to adverse emergence on certain classes of U.S. casualty business.

The following table shows the net favorable reserve development by loss year for each of our segments for the three months ended September 30, 2011.


	(Favorable) and Unfavorable Loss Reserve Development by Loss Year
	For the Three Months Ended September 30, 2011
	2002			2003			2004			2005			2006			2007			2008			2009			2010			Total
	($ in millions)
U.S. insurance	$	(0.1	)	$	(0.7	)	$	(1.1	)	$	(6.8	)	$	(1.8	)	$	(4.4	)	$	(2.7	)	$	(2.0	)	$	(2.3	)	$	(21.9	)
International insurance		(0.2	)		9.2			(3.6	)		(4.8	)		(11.3	)		(8.1	)		(6.8	)		(0.5	)		6.2			(19.9	)
Reinsurance		0.3			(0.4	)		(3.1	)		(4.6	)		(3.1	)		(9.7	)		0.3			(0.1	)		0.6			(19.8	)

	$	—		$	8.1		$	(7.8	)	$	(16.2	)	$	(16.2	)	$	(22.2	)	$	(9.2	)	$	(2.6	)	$	4.5		$	(61.6	)

The unfavorable reserve development in our international insurance segment for the 2003 loss year was primarily due to a directors and officers claim within our professional liability line of business related to a securities fraud class action suit.

The following table shows the components of net losses and loss expenses for each of the periods indicated.


	Three Months Ended September 30,					Dollar
	2012		2011			Change
	($ in millions)
Net losses paid	$	195.8	$	194.5		$	1.3
Net change in reported case reserves		4.9		(10.4	)		15.3
Net change in IBNR		58.2		21.4			36.8

Net losses and loss expenses	$	258.9	$	205.5		$	53.4

The table below is a reconciliation of the beginning and ending reserves for losses and loss expenses. Losses incurred and paid are reflected net of reinsurance recoverables.


	Three Months Ended September 30,
	2012			2011
	($ in millions)
Net reserves for losses and loss expenses, July 1	$	4,303.9		$	4,237.4
Incurred related to:
Current period non-catastrophe		310.1			233.6
Current period property catastrophe		5.0			33.5
Prior period		(56.2	)		(61.6	)

Total incurred		258.9			205.5

Paid related to:
Current period non-catastrophe		16.3			18.1
Current period property catastrophe		—			25.6
Prior period		179.5			150.8

Total paid		195.8			194.5
Foreign exchange revaluation		6.3			(12.5	)

Net reserve for losses and loss expenses, September 30		4,373.3			4,235.9
Losses and loss expenses recoverable		1,077.5			1,009.6

Reserve for losses and loss expenses, September 30	$	5,450.8		$	5,245.5

Acquisition Costs

Acquisition costs increased by $11.4 million, or 28.7%, for the three months ended September 30, 2012 compared to the three months ended September 30, 2011. The increase in acquisition costs was primarily due to the increase in net premiums earned. Acquisition costs as a percentage of net premiums earned were 11.6% for the three months ended September 30, 2012 compared to 10.7% for the same period in 2011. In 2011 we recognized a reduction in profit commission of $2.4 million on our reinsurance business due to declining profitability resulting from loss activity. This decreased the acquisition cost ratio by 0.6 percentage points in 2011.

General and Administrative Expenses

General and administrative expenses increased by $12.6 million, or 19.1%, for the three months ended September 30, 2012 compared to the same period in 2011. The increase in general and administrative expenses was primarily due to increased salary and related costs as average headcount increased by 13% to support our continued growth, combined with an increase in performance-based incentive compensation expense during the quarter as profitability exceeded target levels. During the same period in 2011, we recorded a reduction in expenses due to lower performance-based incentive compensation as profitability was below target and for reimbursement of our merger-related expenses by Transatlantic.

Our general and administrative expense ratio was 17.8% for the three months ended September 30, 2012 and 2011.

The expense ratio is the sum of the acquisition cost ratio and the general and administrative expense ratio. Our expense ratio was 29.4% for the three months ended September 30, 2012 compared to 28.5% for the three months ended September 30, 2011. The increase was due to the 0.9 percentage point increase in the acquisition cost ratio, as discussed above.

Amortization of Intangible Assets

The amortization of intangible assets decreased by $0.2 million, or 25.0%, for the three months ended September 30, 2012 compared to the three months ended September 30, 2011. The decrease is due to certain intangible assets that were fully amortized during 2011.

Interest Expense

Interest expense increased by $0.1 million, or 0.7%, for the three months ended September 30, 2012 compared to the three months ended September 30, 2011.

Net Income

Net income for the three months ended September 30, 2012 was $219.6 million compared to a net loss of $11.0 million for the three months ended September 30, 2011. The $230.6 million increase was primarily the result of realized investment gains of $149.8 million for the three months ended September 30, 2012 compared to realized investment losses of $130.8 million for the same period in 2011.

Comparison of Nine Months Ended September 30, 2012 and 2011

Premiums

Gross premiums written increased by $309.2 million, or 20.3%, for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011. The overall increase in gross premiums written was primarily the result of the following:

•

Gross premiums written in our U.S. insurance increased by $121.7 million, or 19.9%. The increase in gross premiums written was primarily due to increased new business across most lines, combined with premium rate increases in most lines of business and growth from new products introduced since 2010. This growth was partially offset by non-recurring business, the non-renewal of business that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions) and continued competition;

•

Gross premiums written in our international insurance segment increased by $19.0 million, or 4.8%, primarily as a result of increased premiums from new products, specifically our trade credit and small to mid-sized enterprise (“SME”) insurance products, and premium rate increases in select lines of business. This growth was partially offset by non-recurring business, the non-renewal of business that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions) and continued competition; and

•

Gross premiums written in our reinsurance segment increased by $168.5 million, or 32.9%. The increase in gross premiums written was primarily due to new business, both from new products and new regions, increased participations on renewing business and premium rate increases. This growth was partially offset by the non-renewal of business that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions) and continued competition.

The table below illustrates our gross premiums written by geographic location for each of the periods indicated.


	Nine Months Ended September 30,				Dollar		Percentage
	2012		2011		Change		Change
			($ in millions)
United States	$	1,051.4	$	821.5	$	229.9		28.0	%
Bermuda		484.3		462.0		22.3		4.8	%
Europe		182.2		169.9		12.3		7.2	%
Singapore		101.2		58.8		42.4		72.1	%
Hong Kong		13.1		10.8		2.3		21.3	%

	$	1,832.2	$	1,523.0	$	309.2		20.3	%

Net premiums written increased by $248.3 million, or 20.2%, for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011. The increase in net premiums written was due to the increase in gross premiums written. The difference between gross and net premiums written is the cost to us of purchasing reinsurance coverage, including the cost of property catastrophe reinsurance coverage. We ceded 19.5% of gross premiums written for the nine months ended September 30, 2012 compared to 19.4% for the same period in 2011.

Net premiums earned increased by $211.2 million, or 19.9%, for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011 as a result of higher net premiums written in 2011 and 2012.


	Gross Premiums Written						Net Premiums Earned
	Nine Months Ended September 30,						Nine Months Ended September 30,
	2012			2011			2012			2011
U.S. insurance		40.1	%		40.2	%		38.5	%		40.6	%
International insurance		22.8	%		26.2	%		19.5	%		22.3	%
Reinsurance		37.1	%		33.6	%		42.0	%		37.1	%

Total		100.0	%		100.0	%		100.0	%		100.0	%

Net Investment Income

Net investment income decreased by $21.7 million, or 14.4%, for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011. The decrease was due to lower yields on our fixed maturity investments as well as an increased allocation to other invested assets, which contribute to our total return but carry little or no current yield. The annualized period book yield of the investment portfolio for the nine months ended September 30, 2012 and 2011 was 2.1% and 2.6%, respectively.

As of September 30, 2012, we held 21.1% of our total investments and cash equivalents in U.S. government or government agency securities, compared to 15.8% as of September 30, 2011. Our average duration decreased to 1.9 years as of September 30, 2012 compared to 2.1 years as of September 30, 2011.

Investment management expenses of $12.0 million and $10.2 million were incurred during the nine months ended September 30, 2012 and 2011, respectively. The increase in investment management expenses was primarily due to the increase in the size of our investment portfolio, as well as expenses from higher expense asset classes.

Realized Investment Gains

Net realized investment gains were comprised of the following:


	Nine Months Ended September 30,
	2012			2011
	($ in millions)
Gross realized gains on sale of invested assets	$	119.2		$	122.8
Gross realized losses on sale of invested assets		(43.4	)		(35.9	)

Net realized gains on sale of invested assets		75.8			86.9

Net realized and unrealized losses on derivatives		(0.2	)		(58.8	)

Mark-to-market changes:
Debt securities, trading		144.0			(0.7	)
Other invested assets and equity securities		72.4			(48.9	)

Total mark-to-market changes		216.4			(49.6	)

Net realized investment gains (losses)	$	292.0		$	(21.5	)

During the nine months ended September 30, 2012 and 2011, we did not recognize any net impairment charges. The total return of our investment portfolio was 4.9% and 1.1% for the nine months ended September 30, 2012 and 2011, respectively.

Other Income

The other income of $35.0 million for the nine months ended September 30, 2011 represented a termination fee from our previously announced merger agreement with Transatlantic. There was no other income for the nine months ended September 30, 2012.

Net Losses and Loss Expenses

Net losses and loss expenses decreased by $21.3 million, or 2.9%, for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011. The loss and loss expense ratio decreased by 13.4 percentage points for the same period. The decrease in net loss and loss expenses was due to significantly lower catastrophe losses for the nine months ended September 30, 2012 compared to the same period in 2011, when we recognized estimated losses from Asia-Pacific catastrophes, Midwestern U.S. storms and Hurricane Irene of $233.1 million. This was partially offset by lower net favorable prior year reserve development.

Excluding the prior year reserve development, property catastrophe losses and the impact of the commutation, the loss and loss expense ratios would have been 67.3% and 63.1% for the nine months ended September 30, 2012 and 2011, respectively. The increase was due to the $40.0 million in crop reinsurance losses for the nine months ended September 30, 2012 that increased the loss and loss expense ratio by 3.1 percentage points.


	Nine Months Ended September 30, 2012						Nine Months Ended September 30, 2011						Dollar Change			Change in Percentage Points
	Amount			% of NPE			Amount			% of NPE⁽²⁾			Dollar Change			Change in Percentage Points
							($ in millions)
Non-catastrophe	$	857.1			67.3	%	$	662.3			63.1	%	$	194.8			4.2	Pts
Property catastrophe		5.0			0.4			233.1			22.2			(228.1	)		(21.8	)

Current period		862.1			67.7			895.4			85.3			(33.3	)		(17.6	)
Prior period		(137.6	)		(10.8	)		(161.1	)		(15.4	)		23.5			4.6
Impact of commutation⁽¹⁾		—			—			11.5			0.4			(11.5	)		(0.4	)

Net losses and loss expenses	$	724.5			56.9	%	$	745.8			70.3	%	$	(21.3	)		(13.4	)Pts

(1)	Reflects the impact of the commutation of prior year contracts in the nine months ended September 30, 2011, which increased prior year net losses and loss expenses by $11.5 million and increased net premiums earned by $12.4 million.

(2)	Current period and prior period losses as a % of NPE are calculated excluding the effect of the commutation on net premiums.

We recorded net favorable reserve development related to prior years of $137.6 million during the nine months ended September 30, 2012 compared to net favorable reserve development of $161.1 million for the nine months ended September 30, 2011, as shown in the tables below.


	(Favorable) and Unfavorable Loss Reserve Development by Loss Year
	For the Nine Months Ended September 30, 2012
	2002			2003			2004			2005			2006			2007			2008			2009			2010			2011		Total
	($ in millions)
U.S. insurance	$	(0.6	)	$	0.6		$	(1.2	)	$	(5.5	)	$	(17.5	)	$	(24.4	)	$	(1.6	)	$	(3.6	)	$	13.7		$	18.5	$	(21.6	)
International insurance		5.7			(3.4	)		(8.5	)		(0.6	)		(43.8	)		(30.1	)		(14.3	)		(3.7	)		(7.4	)		17.7		(88.4	)
Reinsurance		(0.2	)		(0.0	)		(1.0	)		(4.8	)		(8.7	)		(18.2	)		(4.0	)		1.1			6.2			2.0		(27.6	)

	$	4.9		$	(2.8	)	$	(10.7	)	$	(10.9	)	$	(70.0	)	$	(72.7	)	$	(19.9	)	$	(6.2	)	$	12.5		$	38.2	$	(137.6	)

The net favorable reserve development is a result of actual loss emergence being lower than anticipated. The unfavorable reserve development in our U.S. insurance segment for the 2010 and 2011 loss years was primarily due to adverse development on a program that commenced writing in 2008 and was terminated during 2011. We also experienced adverse development for the 2011 loss year for certain errors and omissions products. The unfavorable reserve development in our international insurance segment for loss year 2011 was due to adverse development on an individual claim, estimated to reach our full limit of $20.0 million, net of reinsurance.

The following table shows the net favorable reserve development by loss year for each of our segments for the nine months ended September 30, 2011.


	(Favorable) and Unfavorable Loss Reserve Development by Loss Year
	For the Nine Months Ended September 30, 2011
	2002			2003			2004			2005			2006			2007			2008			2009			2010			Total
	($ in millions)
U.S. insurance	$	(0.2	)	$	(2.2	)	$	(4.5	)	$	(19.5	)	$	22.0		$	(6.5	)	$	(3.5	)	$	(2.3	)	$	6.8		$	(9.9	)
International insurance		1.0			5.2			(4.6	)		(28.3	)		(25.6	)		(29.9	)		3.4			(7.8	)		26.1			(60.5	)
Reinsurance		(0.3	)		(3.3	)		(7.0	)		(29.3	)		(15.4	)		(16.8	)		(2.7	)		(9.6	)		(6.3	)		(90.7	)

	$	0.5		$	(0.3	)	$	(16.1	)	$	(77.1	)	$	(19.0	)	$	(53.2	)	$	(2.8	)	$	(19.7	)	$	26.6		$	(161.1	)

The unfavorable reserve development of $22.0 million in our U.S. insurance segment for the 2006 loss year was primarily due to directors and officers claims within our professional liability line of business related to a class action suit filed against a number of private equity firms alleging collusion. The unfavorable reserve development in our international insurance segment for the 2010 loss year was primarily due to a casualty claim emanating from an oil field services risk.

The following table shows the components of net losses and loss expenses for each of the periods indicated.


	Nine Months Ended September 30,				Dollar
	2012		2011		Change
			($ in millions)
Net losses paid	$	578.1	$	459.3	$	118.8
Net change in reported case reserves		51.9		218.4		(166.5	)
Net change in IBNR		94.5		68.1		26.4

Net losses and loss expenses	$	724.5	$	745.8	$	(21.3	)

The table below is a reconciliation of the beginning and ending reserves for losses and loss expenses. Losses incurred and paid are reflected net of reinsurance recoverables


	Nine Months Ended September 30,
	2012			2011
	($ in millions)
Net reserves for losses and loss expenses, January 1	$	4,222.2		$	3,951.6
Incurred related to:
Commutation of variable rated reinsurance contracts		—			11.5
Current period non-catastrophe		857.1			662.3
Current period property catastrophe		5.0			233.1
Prior period		(137.6	)		(161.1	)

Total incurred		724.5			745.8

Paid related to:
Current period non-catastrophe		36.1			29.2
Current period property catastrophe		—			35.8
Prior period		542.0			394.3

Total paid		578.1			459.3
Foreign exchange revaluation		4.7			(2.2	)

Net reserve for losses and loss expenses, September 30		4,373.3			4,235.9
Losses and loss expenses recoverable		1,077.5			1,009.6

Reserve for losses and loss expenses, September 30	$	5,450.8		$	5,245.5

Acquisition Costs

Acquisition costs increased by $29.1 million, or 24.1%, for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011. The increase in acquisition costs was primarily due to the increase in net premiums earned. Acquisition costs as a percentage of net premiums earned were 11.8% for the nine months ended September 30, 2012 compared to 11.4% for the same period in 2011. The increase is due to the growth in our reinsurance segment, which has a higher acquisition cost ratio.

General and Administrative Expenses

General and administrative expenses increased by $21.8 million, or 10.8%, for the nine months ended September 30, 2012 compared to the same period in September 30, 2011. The increase in general and administrative expenses was primarily due to increased salary and related costs as average headcount increased by 9% to support our continued growth, combined with increased stock compensation expense resulting from the 22.8% increase in our share price during the nine months ended September 30, 2012 and higher performance-based compensation expense as profitability has exceeded target levels.

Our general and administrative expense ratio was 17.5% for the nine months ended September 30, 2012 compared to 19.0% for the nine months ended September 30, 2011. The decrease was due to the growth in net premiums earned being greater than the increase in expenses.

The expense ratio is the sum of the acquisition cost ratio and the general and administrative expense ratio. Our expense ratio was 29.3% for the nine months ended September 30, 2012 compared to 30.4% for the nine months ended September 30, 2011. The decrease was primarily due to the 1.5 percentage point decrease in the general and administrative expense ratio, as discussed above.

Amortization of Intangible Assets

The amortization of intangible assets decreased by $0.4 million, or 17.4%, for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011. The decrease is due to certain intangible assets that were fully amortized during 2011.

Interest Expense

Interest expense increased by $0.4 million, or 1.0%, for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011. The increase was due to fees associated with the termination of our $400 million unsecured credit facility on June 7, 2012.

Net Income

Net income for the nine months ended September 30, 2012 was $534.2 million compared to $91.5 million for the nine months ended September 30, 2011. The $442.7 million increase was primarily the result of the lower net loss and loss expense ratio due to significantly lower property catastrophe losses in 2012 compared to 2011. The nine months ended September 30, 2011 included $233.1 million of property catastrophe losses for the Asia-Pacific catastrophes, Midwestern U.S. storms and Hurricane Irene. This was combined with realized investment gains of $292.1 million for the nine months ended September 30, 2012 compared to realized investment losses of $21.6 million for the same period in 2011.

Underwriting Results by Operating Segments

Our company is organized into three operating segments:

U.S. Insurance Segment. The U.S. insurance segment includes our direct specialty insurance operations in the United States. This segment provides both direct property and specialty casualty insurance primarily to non-Fortune 1000 North American domiciled accounts.

International Insurance Segment. The international insurance segment includes our direct insurance operations in Bermuda, Europe, Singapore and Hong Kong. This segment provides both direct property and casualty insurance primarily to Fortune 1000 North American domiciled accounts from our Bermuda office and non-North American domiciled accounts from our European, Singapore and Hong Kong offices.

Reinsurance Segment. Our reinsurance segment has operations in Bermuda, Europe, Singapore and the United States. This segment includes the reinsurance of property, general casualty, professional liability, specialty lines and property catastrophe coverages written by insurance companies. We presently write reinsurance on both a treaty and a facultative basis, targeting several niche reinsurance markets.

U.S. Insurance Segment

The following table summarizes the underwriting results and associated ratios for the U.S. insurance segment for each of the periods indicated.


	Three Months Ended September 30,						Nine Months Ended September 30,
	2012			2011			2012			2011
	($ in millions)
Revenues
Gross premiums written	$	263.1		$	201.5		$	733.3		$	611.6
Net premiums written		200.8			157.3			551.3			470.1
Net premiums earned		174.0			150.5			490.1			431.8
Expenses
Net losses and loss expenses	$	109.1		$	85.7		$	309.9		$	294.2
Acquisition costs		22.7			19.5			63.9			56.5
General and administrative expenses		37.4			29.0			103.2			91.0
Underwriting income (loss)		4.8			16.3			13.1			(9.9	)
Ratios
Loss and loss expense ratio		62.7	%		57.0	%		63.2	%		68.1	%
Acquisition cost ratio		13.0	%		13.0	%		13.0	%		13.1	%
General and administrative expense ratio		21.5	%		19.2	%		21.0	%		21.1	%

Expense ratio		34.5	%		32.2	%		34.0	%		34.2	%

Combined ratio		97.2	%		89.2	%		97.2	%		102.3	%

Comparison of Three Months Ended September 30, 2012 and 2011

Premiums. Gross premiums written increased by $61.6 million, or 30.6%, for the three months ended September 30, 2012 compared to the same period in 2011. The increase in gross premiums written was primarily due to new business across most lines that added $92.0 million during the quarter combined with premium rate increases in most lines of business. Growth from new products introduced in 2012, such as mergers and acquisitions and primary construction, contributed $3.6 million for the quarter. This growth was partially offset by the non-renewal of business that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions) and continued competition.

The table below illustrates our gross premiums written by line of business for each of the periods indicated.


	Three Months Ended September 30,				Dollar		Percentage
	2012		2011		Change		Change
			($ in millions)
General casualty	$	77.9	$	54.6	$	23.3		42.7	%
Professional liability		66.4		57.0		9.4		16.5	%
Healthcare		52.3		42.1		10.2		24.2	%
Programs		32.2		26.6		5.6		21.1	%
Other *		18.6		6.3		12.3		195.2	%
General property		15.7		14.9		0.8		5.4	%

	$	263.1	$	201.5	$	61.6		30.6	%

*	Includes our inland marine, environmental and mergers and acquisitions lines of business

Net premiums written increased by $43.5 million, or 27.7%, for the three months ended September 30, 2012 compared to the three months ended September 30, 2011. The increase in net premiums written was primarily due to higher gross premiums written. We ceded 23.7% of gross premiums written for the three months ended September 30, 2012 compared to 21.9% for the same period in

2011. The increase in the cession percentage was due to increased reinsurance placement in our excess casualty book and increased writings in other lines with higher cession percentages.

Net premiums earned increased by $23.5 million, or 15.6%, for the three months ended September 30, 2012 compared to the same period in 2011. The increase was primarily due to the growth of our U.S. insurance operations during 2011 and 2012.

Net losses and loss expenses. Net losses and loss expenses increased by $23.4 million, or 27.3%, for the three months ended September 30, 2012 compared to the three months ended September 30, 2011. The loss and loss expense ratio increased by 5.7 percentage points for the same period. The increase in net losses and loss expenses was primarily due to growth in the U.S. insurance segment combined with lower favorable prior year reserve development. We recognized estimated losses from catastrophes of $1.7 million from Hurricane Isaac for the three months ended September 30, 2012. We recognized estimated losses from catastrophes of $3.5 million related to Hurricane Irene and the Midwestern U.S. storms for the three months ended September 30, 2011. Excluding the prior year reserve development and property catastrophe losses, the loss and loss expense ratios would have been 66.4% and 69.3% for the three months ended September 30, 2012 and 2011, respectively.


	Three Months Ended September 30, 2012						Three Months Ended September 30, 2011						Dollar			Change in Percentage
	Amount			% of NPE			Amount			% of NPE			Change			Points
							($ in millions)
Non-catastrophe	$	115.6			66.4	%	$	104.1			69.3	%	$	11.5			(2.9	)Pts
Property catastrophe		1.7			1.0			3.5			2.3			(1.8	)		(1.3	)

Current period		117.3			67.4			107.6			71.6			9.7			(4.2	)
Prior period		(8.2	)		(4.7	)		(21.9	)		(14.6	)		13.7			9.9

Net losses and loss expenses	$	109.1			62.7	%	$	85.7			57.0	%	$	23.4			5.7	Pts

Overall, our U.S. insurance segment recorded net favorable reserve development of $8.2 million during the three months ended September 30, 2012 compared to net favorable reserve development of $21.9 million for the three months ended September 30, 2011, as shown in the tables below.


	(Favorable) and Unfavorable Loss Reserve Development by Loss Year
	For the Three Months Ended September 30, 2012
	2002			2003			2004			2005			2006			2007			2008			2009			2010			2011			Total
	($ in millions)
Professional liability	$	(0.5	)	$	(0.5	)	$	(1.4	)	$	(0.8	)	$	(0.9	)	$	(3.3	)	$	(1.1	)	$	(1.5	)	$	(1.6	)	$	(0.4	)	$	(12.0	)
General casualty		—			(0.3	)		(0.6	)		(0.2	)		(3.9	)		(0.2	)		(1.4	)		(0.2	)		—			—			(6.8	)
Healthcare		—			1.4			1.7			(0.7	)		(1.5	)		(1.6	)		(0.8	)		(0.1	)		(0.4	)		(0.7	)		(2.7	)
General property		—			—			0.3			—			(0.1	)		—			—			—			(0.1	)		(0.1	)		—
Programs		—			—			—			—			(0.7	)		(0.9	)		0.6			3.5			6.5			4.3			13.3

	$	(0.5	)	$	0.6		$	(0.0	)	$	(1.7	)	$	(7.1	)	$	(6.0	)	$	(2.7	)	$	1.7		$	4.4		$	3.1		$	(8.2	)

The unfavorable reserve development for loss years 2009 to 2011 was due to continued adverse development on a program that commenced writing in 2008 and was terminated during 2011. This program continues to experience unfavorable loss emergence and during the quarter we performed a detailed review of all open claims as part of our reserve review. This was partially offset by favorable development on our active programs.


	(Favorable) and Unfavorable Loss Reserve Development by Loss Year
	For the Three Months Ended September 30, 2011
	2002			2003			2004			2005			2006			2007			2008			2009			2010			Total
	($ in millions)
Professional liability	$	—		$	(0.1	)	$	(0.1	)	$	(0.6	)	$	(0.4	)	$	(2.3	)	$	(0.5	)	$	(1.3	)	$	—		$	(5.3	)
General casualty		—			(0.2	)		(0.3	)		(5.8	)		—			1.0			—			—			0.4			(4.9	)
Healthcare		(0.1	)		(0.4	)		(0.5	)		(0.2	)		(1.1	)		(0.5	)		(1.6	)		—			(1.0	)		(5.4	)
General property		—			—			(0.2	)		0.1			—			(1.1	)		—			(0.6	)		(1.8	)		(3.6	)
Programs		—			—			—			(0.3	)		(0.3	)		(1.5	)		(0.6	)		(0.1	)		0.1			(2.7	)
Other		—			—			—			—			—			—			—			—			—			—

	$	(0.1	)	$	(0.7	)	$	(1.1	)	$	(6.8	)	$	(1.8	)	$	(4.4	)	$	(2.7	)	$	(2.0	)	$	(2.3	)	$	(21.9	)

Acquisition costs. Acquisition costs increased by $3.2 million, or 16.4%, for the three months ended September 30, 2012 compared to the three months ended September 30, 2011. The increase was primarily caused by increased net premiums earned. The acquisition cost ratio was 13.0% for the three months ended September 30, 2012 and 2011.

General and administrative expenses. General and administrative expenses increased by $8.4 million, or 29.0%, for the three months ended September 30, 2012 compared to the three months ended September 30, 2011. The increase was due to the continued growth of the U.S. insurance operations, combined with higher performance-based incentive compensation expense due to improved profitability in 2012 compared to 2011. As a result, the general and administrative ratio increased to 21.5% for the three months ended September 30, 2012 from 19.2% for the same period in 2011.

Comparison of Nine Months Ended September 30, 2012 and 2011

Premiums. Gross premiums written increased by $121.7 million, or 19.9%, for the nine months ended September 30, 2012 compared to the same period in 2011. The increase in gross premiums written was primarily due to new business across most lines that added $241.0 million during the nine months ended September 30, 2012, combined with premium rate increases in most lines of business. Growth from new products introduced in 2012, such as mergers and acquisitions and primary construction, contributed a further $4.9 million for the period. This growth was partially offset by the non-renewal of business that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions) and continued competition.

The table below illustrates our gross premiums written by line of business for each of the periods indicated.


	Nine Months Ended September 30,				Dollar		Percentage
	2012		2011		Change		Change
			($ in millions)
General casualty	$	204.6	$	152.1	$	52.5		34.5	%
Professional liability		192.3		170.8		21.5		12.6	%
Healthcare		145.6		137.7		7.9		5.7	%
Programs		81.1		66.8		14.3		21.4	%
General property		71.3		61.4		9.9		16.1	%
Other*		38.4		22.8		15.6		68.4	%

	$	733.3	$	611.6	$	121.7		19.9	%

*	Includes our inland marine, environmental and mergers and acquisitions lines of business

Net premiums written increased by $81.2 million, or 17.3%, for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011. The increase in net premiums written was primarily due to higher gross premiums written, partially offset by the impact of the commutation of prior year contracts in 2011. The nine months ended September 30, 2011 included a $12.4 million reduction in premiums ceded due to the commutation of certain variable-rated reinsurance contracts that had swing-rated provisions. We ceded 24.8% of gross premiums written for the nine months ended September 30, 2012 compared to 23.1% for the same period in 2011. The increase in the cession percentage was due to the impact of the commutation on the prior year.

Net premiums earned increased by $58.3 million, or 13.5%, for the nine months ended September 30, 2012 compared to the same period in 2011. The increase was primarily due to the growth of our U.S. insurance operations during 2012 and 2011, partially offset by the $12.4 million impact of the commutation of prior year contracts in 2011, which was fully earned.

Net losses and loss expenses. Net losses and loss expenses increased by $15.7 million, or 5.3%, for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011. The loss and loss expense ratio decreased by 4.9 percentage points for the same period. The increase in net losses and loss expenses was primarily due to growth in the U.S. insurance segment, partially offset by higher favorable prior year reserve development in 2012 and the $11.5 million impact of the commutation of prior year contracts in 2011. We recognized estimated losses from catastrophes of $1.7 million from Hurricane Isaac for the nine months ended September 30, 2012, compared to $8.5 million related to Asia-Pacific catastrophes, Midwestern U.S. storms and Hurricane Irene for the same period in 2011. Excluding the prior year reserve development, property catastrophe losses and the impact of the commutation, the loss and loss expense ratios would have been 67.3% and 67.7% for the nine months ended September 30, 2012 and 2011, respectively.


	Nine Months Ended September 30, 2012						Nine Months Ended September 30, 2011						Dollar Change			Change in Percentage Points
	Amount			% of NPE			Amount			% of NPE ⁽²⁾			Dollar Change			Change in Percentage Points
	($ in millions)
Non-catastrophe	$	329.8			67.3	%	$	284.1			67.7	%	$	45.7			(0.4	)Pts
Property catastrophe		1.7			0.3			8.5			2.0			(6.8	)		(1.7	)

Current period		331.5			67.6			292.6			69.7			38.9			(2.1	)
Prior period		(21.6	)		(4.4	)		(9.9	)		(2.4	)		(11.7	)		(2.0	)
Impact of commutation ⁽¹⁾		—			—			11.5			0.8			(11.5	)		(0.8	)

Net losses and loss expenses	$	309.9			63.2	%	$	294.2			68.1	%	$	15.7			(4.9	)Pts

(1)	Reflects the impact of the commutation of prior year contracts in the nine months ended September 30, 2011, which increased prior year net losses and loss expenses by $11.5 million and increased net premiums earned by $12.4 million.

(2)	Current period and prior period losses as a % of NPE are calculated excluding the effect of the commutation on net premiums earned.

Overall, our U.S. insurance segment recorded net favorable reserve development of $21.6 million during the nine months ended September 30, 2012 compared to net favorable reserve development of $9.9 million for the nine months ended September 30, 2011, as shown in the tables below.


	(Favorable) and Unfavorable Loss Reserve Development by Loss Year
	For the Nine Months Ended September 30, 2012
	2002			2003			2004			2005			2006			2007			2008			2009			2010			2011			Total
	($ in millions)
Professional liability	$	(0.5	)	$	(0.5	)	$	(1.5	)	$	(1.1	)	$	(0.8	)	$	(18.4	)	$	(1.2	)	$	(4.3	)	$	(2.5	)	$	9.8		$	(21.0	)
General casualty		(0.1	)		(0.6	)		0.3			(0.8	)		(12.0	)		(0.3	)		(2.4	)		(0.6	)		(0.1	)		—			(16.6	)
Healthcare		—			1.7			(1.0	)		(3.3	)		(3.8	)		(4.4	)		0.3			(1.8	)		3.1			(0.2	)		(9.4	)
Other		—			—			—			—			—			—			—			—			—			(0.2	)		(0.2	)
General property		—			—			1.0			(0.3	)		(0.1	)		(0.2	)		1.7			(0.4	)		(0.6	)		1.0			2.1
Programs		—			—			—			—			(0.8	)		(1.1	)		—			3.5			13.8			8.1			23.5

	$	(0.6	)	$	0.6		$	(1.2	)	$	(5.5	)	$	(17.5	)	$	(24.4	)	$	(1.6	)	$	(3.6	)	$	13.7		$	18.5		$	(21.6	)

The unfavorable reserve development for the 2010 and 2011 loss years was primarily due to adverse development on a program that commenced writing in 2008 and was terminated during 2011. This was partially offset by favorable development on our active programs. We also experienced adverse development for the 2011 loss year for certain errors and omissions products.


	(Favorable) and Unfavorable Loss Reserve Development by Loss Year
	For the Nine Months Ended September 30, 2011
	2002			2003			2004			2005			2006			2007			2008			2009			2010			Total
	($ in millions)
Professional liability	$	—		$	(0.1	)	$	(0.2	)	$	(1.9	)	$	23.7		$	(4.6	)	$	—		$	(4.1	)	$	7.0		$	19.8
General casualty		0.1			(0.7	)		(1.6	)		(16.9	)		—			1.0			—			0.1			0.4			(17.6	)
Healthcare		(0.3	)		(1.4	)		(2.3	)		0.1			(1.4	)		0.2			(3.3	)		1.2			(1.9	)		(9.1	)
General property		—			—			(0.4	)		(0.6	)		—			(1.1	)		(0.4	)		(0.6	)		(0.3	)		(3.4	)
Programs		—			—			—			(0.2	)		(0.3	)		(2.0	)		0.2			1.1			1.6			0.4

	$	(0.2	)	$	(2.2	)	$	(4.5	)	$	(19.5	)	$	22.0		$	(6.5	)	$	(3.5	)	$	(2.3	)	$	6.8		$	(9.9	)

The unfavorable reserve development of $22.0 million for the 2006 loss year was primarily due to directors and officers claims within our professional liability line of business related to a class action suit filed against a number of private equity firms alleging collusion.

Acquisition costs. Acquisition costs increased by $7.4 million, or 13.1%, for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011. The increase was primarily caused by increased net premiums earned. The acquisition cost ratio decreased slightly to 13.0% for the nine months ended September 30, 2012 from 13.1% for the same period in 2011.

General and administrative expenses. General and administrative expenses increased by $12.2 million, or 13.4%, for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011, due to the continued growth of our U.S. insurance operations. The general and administrative expense ratio decreased slightly to 21.0% for the nine months ended September 30, 2012 from 21.1% in the same period in 2011 as a result of our increased net premiums earned.

International Insurance Segment

The following table summarizes the underwriting results and associated ratios for the international insurance segment for each of the periods indicated.


	Three Months Ended September 30,						Nine Months Ended September 30,
	2012			2011			2012			2011
	($ in millions)
Revenues
Gross premiums written	$	121.3		$	109.6		$	418.5		$	399.5
Net premiums written		71.1			61.4			255.1			245.3
Net premiums earned		85.3			80.2			247.8			236.4
Expenses
Net losses and loss expenses	$	15.1		$	43.7		$	75.4		$	186.9
Acquisition costs		(0.3	)		(0.3	)		(1.4	)		(2.9	)
General and administrative expenses		22.9			21.5			67.0			62.9
Underwriting income (loss)		47.6			15.3			106.8			(10.5	)
Ratios
Loss and loss expense ratio		17.7	%		54.5	%		30.4	%		79.1	%
Acquisition cost ratio		(0.3	%)		(0.4	%)		(0.6	%)		(1.2	%)
General and administrative expense ratio		26.9	%		26.9	%		27.0	%		26.6	%

Expense ratio		26.6	%		26.5	%		26.4	%		25.4	%

Combined ratio		44.3	%		81.0	%		56.8	%		104.5	%

Comparison of Three Months Ended September 30, 2012 and 2011

Premiums. Gross premiums written increased by $11.7 million, or 10.7%, for the three months ended September 30, 2012 compared to the same period in 2011. The increase was primarily a result of new business and premium rate increases in select lines of business. We saw continued growth from new products, specifically trade credit which grew $7.6 million, and general casualty, which grew by $7.2 million with strong new business writings. However, this increase was partially offset by decreases in other lines due to the non-renewal of business that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions), continued competition and a reduction in limits deployed for the international general property line of business, which decreased $5.7 million.

The table below illustrates our gross premiums written by line of business for each of the periods indicated.


	Three Months Ended September 30,				Dollar			Percentage
	2012		2011		Change			Change
	($ in millions)
Professional liability	$	37.8	$	38.9	$	(1.1	)		(2.8	%)
General casualty		32.6		25.5		7.1			27.8	%
General property		22.2		24.4		(2.2	)		(9.0	%)
Healthcare		17.8		17.4		0.4			2.3	%
Other *		10.9		3.4		7.5			220.6	%

	$	121.3	$	109.6	$	11.7			10.7	%

*	Includes our trade credit line of business

Net premiums written increased by $9.7 million, or 15.8%, for the three months ended September 30, 2012 compared to the three months ended September 30, 2011. Net premiums written increased primarily due to an increase in gross premiums written. We ceded to reinsurers 41.4% of gross premiums written for the three months ended September 30, 2012 compared to 44.0% for the three

months ended September 30, 2011. The decrease was due to the change in mix of business, combined with the reduction in catastrophe cover ceded premiums as we increased our retentions.

Net premiums earned increased by $5.1 million, or 6.4%, primarily due to higher net premiums written in the latter half of 2011 and the nine months ended September 30, 2012.

Net losses and loss expenses. Net losses and loss expenses decreased by $28.6 million, or 65.4%, for the three months ended September 30, 2012 compared to the three months ended September 30, 2011. The loss and loss expense ratio decreased by 36.8 percentage points for the same period. The decrease in net losses and loss expenses was primarily due to lower catastrophe losses in 2012 of $2.3 million for Hurricane Isaac, compared to the same period in 2011, which included $10.5 million in catastrophe losses related to Hurricane Irene and the Midwestern U.S. storms. This was combined with higher net favorable prior year reserve development in 2012 compared to the same period in 2011. Excluding the prior year reserve development and property catastrophe losses, the loss and loss expense ratios would have been 60.7% and 66.2% for the three months ended September 30, 2012 and 2011, respectively. The decrease is due to the change in mix of business combined with the reduction in catastrophe cover ceded premiums and benign loss experience on short-tail lines of business.


	Three Months Ended September 30, 2012						Three Months Ended September 30, 2011						Dollar			Change in Percentage
	Amount			% of NPE			Amount			% of NPE			Change			Points
	($ in millions)
Non-catastrophe	$	51.8			60.7	%	$	53.1			66.2	%	$	(1.3	)		(5.5	)Pts
Property catastrophe		2.3			2.7			10.5			13.1			(8.2	)		(10.4	)

Current period		54.1			63.4			63.6			79.3			(9.5	)		(15.9	)
Prior period		(39.0	)		(45.7	)		(19.9	)		(24.8	)		(19.1	)		(20.9	)

Net losses and loss expenses	$	15.1			17.7	%	$	43.7			54.5	%	$	(28.6	)		(36.8	)Pts

Overall, our international insurance segment recorded net favorable reserve development of $39.0 million during the three months ended September 30, 2012 compared to net favorable reserve development of $19.9 million for the three months ended September 30, 2011, as shown in the tables below.


	(Favorable) and Unfavorable Loss Reserve Development by Loss Year
	For the Three Months Ended September 30, 2012
	2002		2003			2004			2005			2006			2007			2008			2009			2010			2011			Total
	($ in millions)
General property	$	—	$	—		$	0.6		$	(0.1	)	$	1.3		$	(0.5	)	$	—		$	(0.3	)	$	(0.8	)	$	(5.4	)	$	(5.2	)
Professional liability		—		—			(0.5	)		(1.9	)		(12.5	)		(2.0	)		(4.1	)		—			—			—			(21.0	)
General casualty		—		(0.8	)		(2.6	)		12.8			(3.5	)		(9.5	)		(1.1	)		(1.6	)		—			—			(6.3	)
Healthcare		—		(0.2	)		(0.2	)		(0.9	)		(0.8	)		(0.7	)		(3.7	)		—			—			—			(6.5	)

	$	—	$	(1.0	)	$	(2.7	)	$	9.9		$	(15.5	)	$	(12.7	)	$	(8.9	)	$	(1.9	)	$	(0.8	)	$	(5.4	)	$	(39.0	)

The unfavorable reserve development for the 2005 loss year was primarily due to two product liability claims within our general casualty line of business.


	(Favorable) and Unfavorable Loss Reserve Development by Loss Year
	For the Three Months Ended September 30, 2011
	2002			2003			2004			2005			2006			2007			2008			2009			2010		Total
	($ in millions)
Professional liability	$	—		$	9.7		$	(1.2	)	$	(2.7	)	$	(2.4	)	$	(5.1	)	$	(1.5	)	$	—		$	—	$	(3.2	)
Healthcare		—			0.5			(0.5	)		(0.5	)		(0.5	)		(3.1	)		—			0.1			—		(4.0	)
General casualty		(0.2	)		(1.0	)		(1.2	)		(1.7	)		(8.2	)		(1.0	)		(3.3	)		—			—		(16.6	)
General property		—			—			(0.7	)		0.1			(0.2	)		1.1			(2.0	)		(0.6	)		6.2		3.9

	$	(0.2	)	$	9.2		$	(3.6	)	$	(4.8	)	$	(11.3	)	$	(8.1	)	$	(6.8	)	$	(0.5	)	$	6.2	$	(19.9	)

The unfavorable reserve development for the 2003 loss year was primarily due to a directors and officers claim within our professional liability line of business related to a securities fraud class action suit.

Acquisition costs. Acquisition costs were unchanged for the three months ended September 30, 2012 compared to the three months ended September 30, 2011. The negative cost represents ceding commissions received on ceded premiums in excess of the brokerage fees and commissions paid on gross premiums written. The acquisition cost ratio was negative 0.3% for the three months ended September 30, 2012 compared to negative 0.4% for the three months ended September 30, 2011.

General and administrative expenses. General and administrative expenses increased by $1.4 million, or 6.5%, for the three months ended September 30, 2012 compared to the three months ended September 30, 2011. The increase in general and administrative expenses was primarily due to increased salary and related costs incurred as we continue to expand internationally, combined with higher incentive compensation due to increased profitability. The general and administrative expense ratio was 26.9% for the three months ended September 30, 2012 and 2011.

Comparison of Nine Months Ended September 30, 2012 and 2011

Premiums. Gross premiums written increased by $19.0 million, or 4.8%, for the nine months ended September 30, 2012 compared to the same period in 2011. The increase was primarily a result of new business, including $15.3 million from new products, specifically our trade credit and SME insurance products, growth in Asia and premium rate increases in select lines of business. However, this increase was partially offset by decreases in other lines due to the non-renewal of business that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions), continued competition and a reduction in limits deployed for the international general property line of business.

The table below illustrates our gross premiums written by line of business for each of the periods indicated.


	Nine Months Ended September 30,				Dollar Change			Percentage Change
	2012		2011		Dollar Change			Percentage Change
	($ in millions)
Professional liability	$	121.6	$	116.0	$	5.6			4.8	%
General property		120.2		124.9		(4.7	)		(3.8	%)
General casualty		97.5		94.2		3.3			3.5	%
Healthcare		58.1		57.3		0.8			1.4	%
Other *		21.1		7.1		14.0			197.2	%

	$	418.5	$	399.5	$	19.0			4.8	%

*	Includes our trade credit line of business

Net premiums written increased by $9.8 million, or 4.0%, for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011. We ceded to reinsurers 39.0% of gross premiums written for the nine months ended September 30, 2012 compared to 38.6% for the nine months ended September 30, 2011.

Net premiums earned increased by $11.4 million, or 4.8%, primarily due to higher net premiums written in the latter half of 2011 and for the nine months ended September 30, 2012.

Net losses and loss expenses. Net losses and loss expenses decreased by $111.5 million, or 59.7%, for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011. The loss and loss expense ratio decreased by 48.7 percentage points for the same period. The decrease in net losses and loss expenses was primarily due to significantly lower catastrophe losses in 2012 of $2.3 million for Hurricane Isaac, compared to the same period in 2011, which included $84.1 million in catastrophe losses related to Asia-Pacific catastrophes, Midwestern U.S. storms and Hurricane Irene. This was combined with higher net favorable prior year reserve development in 2012 compared to the same period in 2011. Excluding the prior year reserve development and property catastrophe losses, the loss and loss expense ratios would have been 65.2% and 69.1% for the nine months ended September 30, 2012 and 2011, respectively. The decrease is due to the change in mix of business combined with the reduction in catastrophe cover ceded premiums and benign loss experience on short-tail lines of business.


	Nine Months Ended						Nine Months Ended									Change in
	September 30, 2012						September 30, 2011						Dollar			Percentage
	Amount			% of NPE			Amount			% of NPE			Change			Points
	($ in millions)
Non-catastrophe	$	161.5			65.2	%	$	163.3			69.1	%	$	(1.8	)		(3.9	)Pts
Property catastrophe		2.3			0.9			84.1			35.6			(81.8	)		(34.7	)

Current period		163.8			66.1			247.4			104.7			(83.6	)		(38.6	)
Prior period		(88.4	)		(35.7	)		(60.5	)		(25.6	)		(27.9	)		(10.1	)

Net losses and loss expenses	$	75.4			30.4	%	$	186.9			79.1	%	$	(111.5	)		(48.7	)Pts

Overall, our international insurance segment recorded net favorable reserve development of $88.4 million during the nine months ended September 30, 2012 compared to net favorable reserve development of $60.5 million for the nine months ended September 30, 2011, as shown in the tables below.


	(Favorable) and Unfavorable Loss Reserve Development by Loss Year
	For the Nine Months Ended September 30, 2012
	2002			2003			2004			2005			2006			2007			2008			2009			2010			2011			Total
	($ in millions)
Professional liability	$	—		$	(0.2	)	$	(2.8	)	$	(5.0	)	$	(27.6	)	$	(9.2	)	$	2.9		$	—		$	—		$	—		$	(41.9	)
Healthcare		(0.1	)		(0.8	)		(0.8	)		(2.0	)		(1.6	)		(4.8	)		(6.3	)		—			—			—			(16.4	)
General casualty		5.8			(2.4	)		(5.7	)		8.0			(14.9	)		(16.7	)		(8.7	)		(1.6	)		—			20.0			(16.2	)
General property		—			—			0.8			(1.6	)		0.3			0.6			(2.2	)		(2.1	)		(7.4	)		(2.3	)		(13.9	)

	$	5.7		$	(3.4	)	$	(8.5	)	$	(0.6	)	$	(43.8	)	$	(30.1	)	$	(14.3	)	$	(3.7	)	$	(7.4	)	$	17.7		$	(88.4	)

The net favorable reserve development for loss years 2003 to 2010 is a result of actual loss emergence being lower than anticipated. The unfavorable reserve development in our general casualty line for loss year 2011 was due to adverse development on an individual claim, estimated to reach our full limit of $20.0 million, net of reinsurance.


	(Favorable) and Unfavorable Loss Reserve Development by Loss Year
	For the Nine Months Ended September 30, 2011
	2002			2003			2004			2005			2006			2007			2008			2009			2010		Total
	($ in millions)
Professional liability	$	2.0		$	8.6		$	(5.1	)	$	(10.4	)	$	(12.4	)	$	(9.2	)	$	21.5		$	—		$	—	$	(5.0	)
Healthcare		(0.1	)		—			(1.4	)		(1.5	)		(9.3	)		(7.1	)		—			0.1			—		(19.3	)
General casualty		(0.9	)		(3.4	)		3.3			(14.2	)		(4.0	)		(13.1	)		(3.3	)		7.2			22.5		(5.9	)
General property		—			—			(1.4	)		(2.2	)		0.1			(0.5	)		(14.8	)		(15.1	)		3.6		(30.3	)

	$	1.0		$	5.2		$	(4.6	)	$	(28.3	)	$	(25.6	)	$	(29.9	)	$	3.4		$	(7.8	)	$	26.1	$	(60.5	)

The unfavorable reserve development for the 2010 loss year was primarily due to a casualty claim emanating from an oil field services risk.

Acquisition costs. Acquisition costs increased by $1.5 million, or 51.7%, for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011. The negative cost represents ceding commissions received on ceded premiums in excess of the brokerage fees and commissions paid on gross premiums written. The acquisition cost ratio was negative 0.6% for the nine months ended September 30, 2012 and negative 1.2% for the nine months ended September 30, 2011.

General and administrative expenses. General and administrative expenses increased by $4.1 million, or 6.5%, for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011. The increase in general and administrative expenses was primarily due to increased salary and related costs incurred as we continue to expand internationally, combined with higher incentive compensation due to increased profitability. The general and administrative expense ratios for the nine months ended September 30, 2012 and 2011 were 27.0% and 26.6%, respectively. The increase was due to higher expenses, partially offset by higher net premiums earned.

Reinsurance Segment

The following table summarizes the underwriting results and associated ratios for the reinsurance segment for each of the periods indicated.


	Three Months Ended September 30,						Nine Months Ended September 30,
	2012			2011			2012			2011
	($ in millions)
Revenues
Gross premiums written	$	120.0		$	131.6		$	680.4		$	511.9
Net premiums written		119.6			131.6			668.8			511.5
Net premiums earned		181.7			140.7			534.8			393.3
Expenses
Net losses and loss expenses	$	134.7		$	76.2		$	339.2		$	264.7
Acquisition costs		28.7			20.5			87.3			67.2
General and administrative expenses		18.3			15.5			52.8			47.2
Underwriting income		—			28.5			55.5			14.2
Ratios
Loss and loss expense ratio		74.1	%		54.1	%		63.4	%		67.3	%
Acquisition cost ratio		15.8	%		14.6	%		16.3	%		17.1	%
General and administrative expense ratio		10.0	%		11.0	%		9.9	%		12.0	%

Expense ratio		25.8	%		25.6	%		26.2	%		29.1	%

Combined ratio		99.9	%		79.7	%		89.6	%		96.4	%

Comparison of Three Months Ended September 30, 2012 and 2011

Premiums. Gross premiums written decreased by $11.6 million, or 8.8%, for the three months ended September 30, 2012 compared to the same period in 2011. The decrease was due to $13.5 million of gross premiums written in the third quarter of 2011 that was written in the second quarter of 2012 as a result of the earlier timing of renewal business, combined with unfavorable premium estimates on our crop reinsurance business of $11.7 million. This was combined with the non-renewal of business that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions) and continued competition. This was partially offset by $14.7 million of other favorable premium estimates and growth in our international book of business.

The table below illustrates our gross premiums written by geographic location for our reinsurance operations.


	Three Months Ended September 30,				Dollar			Percentage
	2012		2011		Change			Change
	($ in millions)
United States	$	49.7	$	44.1	$	5.6			12.7	%
Bermuda		26.3		41.1		(14.8	)		(36.0	%)
Singapore		29.9		32.9		(3.0	)		(9.1	%)
Europe		14.1		13.5		0.6			4.4	%

	$	120.0	$	131.6	$	(11.6	)		(8.8	%)

The table below illustrates our gross premiums written by line of business for each of the periods indicated.


	Three Months Ended September 30,					Dollar			Percentage
	2012			2011		Change			Change
	($ in millions)
Property	$	59.4		$	66.1	$	(6.7	)		(10.1	%)
Casualty		60.7			56.0		4.7			8.4	%
Specialty		(0.1	)		9.5		(9.6	)		(101.1	%)

	$	120.0		$	131.6	$	(11.6	)		(8.8	%)

Net premiums written decreased by $12.0 million, or 9.1%, consistent with the decrease in gross premiums written.

Net premiums earned increased by $41.0 million, or 29.1%, as a result of the increase in net premiums written during the year ended December 31, 2011 and the nine months ended September 30, 2012. Premiums related to our reinsurance business earn at a slower rate than those related to our direct insurance business. Direct insurance premiums typically earn ratably over the term of a policy. Reinsurance premiums under a quota share reinsurance contract are typically earned over the same period as the underlying policies, or risks, covered by the contract. As a result, the earning pattern of a quota share reinsurance contract may extend up to 24 months, reflecting the inception dates of the underlying policies. Property catastrophe premiums, crop reinsurance premiums and premiums for other treaties written on a losses occurring basis generally earn ratably over the term of the reinsurance contract.

Net losses and loss expenses. Net losses and loss expenses increased by $58.5 million, or 76.8%, for the three months ended September 30, 2012 compared to the three months ended September 30, 2011. The loss and loss expense ratio increased by 20.0 percentage points for the same period. The increase in net losses and loss expenses was due to growth in net premiums earned and lower prior year net favorable reserve development for the three months ended September 30, 2012 compared to the same period in 2011. In addition, for the three months ended September 30, 2012, we recorded $40.0 million of crop reinsurance-related losses and loss expenses related to drought conditions across much of the United States. This amount is in addition to our anticipated losses and loss expenses for this line of business prior to the onset of drought. This was partially offset by lower catastrophe losses in 2012 compared to the same period in 2011, which included $19.5 million for Hurricane Irene, the Asia-Pacific catastrophes and Midwestern U.S. storms.

Excluding the prior year reserve development and property catastrophe losses, the loss and loss expense ratios would have been 78.5% and 54.3% for the three months ended September 30, 2012 and 2011, respectively. The increase was due to the $40.0 million in crop reinsurance losses for the three months ended September 30, 2012 that increased the loss and loss expense ratio by 22.0 percentage points.


	Three Months Ended September 30, 2012						Three Months Ended September 30, 2011						Dollar			Change in Percentage
	Amount			% of NPE			Amount			% of NPE			Change			Points
	($ in millions)
Non-catastrophe	$	142.7			78.5	%	$	76.5			54.3	%	$	66.2			24.2	Pts
Property catastrophe		1.0			0.6			19.5			13.9			(18.5	)		(13.3	)

Current period		143.7			79.1			96.0			68.2			47.7			10.9
Prior period		(9.0	)		(5.0	)		(19.8	)		(14.1	)		10.8			9.1

Net losses and loss expenses	$	134.7			74.1	%	$	76.2			54.1	%	$	58.5			20.0	Pts

Overall, our reinsurance segment recorded net favorable reserve development of $9.0 million during the three months ended September 30, 2012 compared to net favorable reserve development of $19.8 million for the three months ended September 30, 2011, as shown in the tables below.


	(Favorable) and Unfavorable Loss Reserve Development by Loss Year
	For the Three Months Ended September 30, 2012
	2002			2003			2004			2005			2006			2007			2008			2009			2010		2011			Total
	($ in millions)
Property	$	—		$	0.1		$	(0.1	)	$	0.2		$	0.1		$	(2.5	)	$	(1.5	)	$	(1.6	)	$	0.2	$	(7.4	)	$	(12.5	)
Specialty		(0.1	)		(0.1	)		(0.2	)		(0.3	)		(0.7	)		(1.4	)		—			0.3			1.1		(1.0	)		(2.4	)
Casualty		(0.2	)		(0.7	)		0.1			2.9			(1.1	)		(2.8	)		(0.9	)		0.5			6.2		1.9			5.9

	$	(0.3	)	$	(0.7	)	$	(0.2	)	$	2.8		$	(1.7	)	$	(6.7	)	$	(2.4	)	$	(0.8	)	$	7.5	$	(6.5	)	$	(9.0	)

The unfavorable reserve development for the 2010 loss year was primarily due to adverse emergence on certain classes of U.S. casualty business.


	(Favorable) and Unfavorable Loss Reserve Development by Loss Year
	For the Three Months Ended September 30, 2011
	2002			2003			2004			2005			2006			2007			2008			2009			2010			Total
	($ in millions)
Property	$	(0.1	)	$	(0.2	)	$	(0.8	)	$	(0.9	)	$	(0.4	)	$	0.2		$	0.9		$	0.1		$	1.1		$	(0.1	)
Specialty		—			—			0.2			—			—			—			—			—			(0.5	)		(0.3	)
Casualty		0.4			(0.2	)		(2.5	)		(3.7	)		(2.7	)		(9.9	)		(0.6	)		(0.2	)		—			(19.4	)

	$	0.3		$	(0.4	)	$	(3.1	)	$	(4.6	)	$	(3.1	)	$	(9.7	)	$	0.3		$	(0.1	)	$	0.6		$	(19.8	)

Acquisition costs. Acquisition costs increased by $8.2 million, or 40.0%, for the three months ended September 30, 2012 compared to the three months ended 2011, primarily due to the increase in net premiums earned. The acquisition cost ratio was 15.8% for the three months ended September 30, 2012 compared to 14.6% for the three months ended 2011. The increase was primarily due to a reduction in profit commissions recognized in 2011 due to higher loss activity.

General and administrative expenses. General and administrative expenses increased by $2.8 million, or 18.1%, for the three months ended September 30, 2012 compared to the same period in 2011. The increase was due to higher salary and related costs due to higher headcount to support our growing operations, combined with higher incentive compensation due to increased profitability. The general and administrative expense ratios for the three months ended September 30, 2012 and 2011 were 10.0% and 11.0%, respectively, reflecting the higher growth in net premiums earned relative to expenses in 2012.

Comparison of Nine Months Ended September 30, 2012 and 2011

Premiums. Gross premiums written increased by $168.5 million, or 32.9%, for the nine months ended September 30, 2012 compared to the same period in 2011. The increase in gross premiums written was primarily due to new business, from both new products and new regions, as well as increased participations on renewing business combined with premium rate increases. Within our specialty unit, crop reinsurance premiums increased by $47.8 million while marine contributed a further $16.8 million. Our North American property reinsurance business also increased by $40.5 million due to a combination of new business opportunities and premium rate increases. This was partially offset by the non-renewal of business that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions) and continued competition.

The table below illustrates our gross premiums written by geographic location for our reinsurance operations.


	Nine Months Ended September 30,				Dollar Change		Percentage Change
	2012		2011		Dollar Change		Percentage Change
	($ in millions)
United States	$	318.0	$	209.9	$	108.1		51.5	%
Bermuda		195.9		193.5		2.4		1.2	%
Singapore		97.2		57.8		39.4		68.2	%
Europe		69.3		50.7		18.6		36.7	%

	$	680.4	$	511.9	$	168.5		32.9	%

The table below illustrates our gross premiums written by line of business for each of the periods indicated.


	Nine Months Ended September 30,				Dollar		Percentage
	2012		2011		Change		Change
	($ in millions)
Property	$	334.7	$	249.3	$	85.4		34.3	%
Casualty		209.1		200.8		8.3		4.1	%
Specialty		136.6		61.8		74.8		121.0	%

	$	680.4	$	511.9	$	168.5		32.9	%

Net premiums written increased by $157.3 million, or 30.8%, consistent with the increase in gross premiums written.

Net premiums earned increased by $141.5 million, or 36.0%, as a result of the increase in net premiums written during the year ended December 31, 2011 and the nine months ended September 30, 2012.

Net losses and loss expenses. Net losses and loss expenses increased by $74.5 million, or 28.1%, for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011. The loss and loss expense ratio decreased by 3.9 percentage points for the same period. The increase in net losses and loss expenses was due to growth in net premiums earned, lower prior year net favorable reserve development for the nine months ended September 30, 2012 compared to the same period in 2011 and the $40.0 million of crop reinsurance-related losses recorded in 2012. This was partially offset by the significantly lower catastrophe losses in 2012 compared to the same period in 2011, which included $121.0 million for Hurricane Irene, the Asia-Pacific catastrophes and Midwestern U.S. storms.

Excluding the prior year reserve development and property catastrophe losses, the loss and loss expense ratios would have been 68.4% and 54.7% for the nine months ended September 30, 2012 and 2011, respectively. The increase was due to the $40.0 million in crop reinsurance losses for the nine months ended September 30, 2012 that increased the loss and loss expense ratio by 7.5 percentage points.


	Nine Months Ended September 30, 2012						Nine Months Ended September 30, 2011						Dollar			Change in Percentage
	Amount			% of NPE			Amount			% of NPE			Change			Points
	($ in millions)
Non-catastrophe	$	365.8			68.4	%	$	214.9			54.7	%	$	150.9			13.7	Pts
Property catastrophe		1.0			0.2			140.5			35.7			(139.5	)		(35.5	)

Current period		366.8			68.6			355.4			90.4			11.4			(21.8	)
Prior period		(27.6	)		(5.2	)		(90.7	)		(23.1	)		63.1			17.9

Net losses and loss expenses	$	339.2			63.4	%	$	264.7			67.3	%	$	74.5			(3.9	)Pts

Overall, our reinsurance segment recorded net favorable reserve development of $27.6 million during the nine months ended September 30, 2012 compared to net favorable reserve development of $90.7 million for the nine months ended September 30, 2011, as shown in the tables below.


	(Favorable) and Unfavorable Loss Reserve Development by Loss Year
	For the Nine Months Ended September 30, 2012
	2002			2003			2004			2005			2006			2007			2008			2009		2010			2011			Total
	($ in millions)
Specialty	$	(0.1	)	$	(0.4	)	$	(3.4	)	$	(5.4	)	$	(2.5	)	$	(3.6	)	$	(0.1	)	$	0.3	$	1.1		$	(3.0	)	$	(17.1	)
Property		—			0.1			(0.9	)		0.4			—			(2.4	)		(1.8	)		0.4		(1.0	)		(1.9	)		(7.1	)
Casualty		(0.1	)		0.3			3.3			0.2			(6.2	)		(12.2	)		(2.1	)		0.4		6.1			6.9			(3.4	)

	$	(0.2	)	$	—		$	(1.0	)	$	(4.8	)	$	(8.7	)	$	(18.2	)	$	(4.0	)	$	1.1	$	6.2		$	2.0		$	(27.6	)


	(Favorable) and Unfavorable Loss Reserve Development by Loss Year
	For the Nine Months Ended September 30, 2011
	2002			2003			2004			2005			2006			2007			2008			2009			2010			Total
	($ in millions)
Specialty	$	—		$	—		$	—		$	0.1		$	—		$	(0.8	)	$	(0.2	)	$	(5.7	)	$	(3.8	)	$	(10.4	)
Property		(0.2	)		(0.9	)		(1.5	)		(2.9	)		(1.4	)		(3.7	)		(0.9	)		(3.7	)		(5.3	)		(20.5	)
Casualty		(0.1	)		(2.4	)		(5.5	)		(26.5	)		(14.0	)		(12.3	)		(1.6	)		(0.2	)		2.8			(59.8	)

	$	(0.3	)	$	(3.3	)	$	(7.0	)	$	(29.3	)	$	(15.4	)	$	(16.8	)	$	(2.7	)	$	(9.6	)	$	(6.3	)	$	(90.7	)

Acquisition costs. Acquisition costs increased by $20.1 million, or 29.9%, for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011 primarily due to the increase in net premiums earned. The acquisition cost ratio was 16.3% for the nine months ended September 30, 2012, compared to 17.1% for the nine months ended September 30, 2011. The decrease was primarily due to a change in mix of business.

General and administrative expenses. General and administrative expenses increased by $5.6 million, or 11.9%, for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011. The increase was due to higher salary and related costs due to higher headcount to support our growing operations, combined with higher incentive compensation due to increased profitability. The general and administrative expense ratios for the nine months ended September 30, 2012 and 2011 were 9.9% and 12.0%, respectively, reflecting the higher growth in net premiums earned relative to expenses in 2012.

Reserves for Losses and Loss Expenses

Reserves for losses and loss expenses by segment were comprised of the following:


	U.S. Insurance						International Insurance						Reinsurance						Total
	Sep. 30, 2012			Dec. 31, 2011			Sep. 30, 2012			Dec. 31, 2011			Sep. 30, 2012			Dec. 31, 2011			Sep. 30, 2012			Dec. 31, 2011
	($ in millions)
Case reserves	$	461.9		$	387.6		$	508.8		$	522.6		$	460.2		$	456.2		$	1,430.9		$	1,366.4
IBNR		1,345.5			1,274.8			1,700.3			1,726.4			974.1			857.5			4,019.9			3,858.7

Reserve for losses and loss expenses		1,807.4			1,662.4			2,209.1			2,249.0			1,434.3			1,313.7			5,450.8			5,225.1
Reinsurance recoverables		(482.1	)		(438.3	)		(594.1	)		(564.3	)		(1.3	)		(0.3	)		(1,077.5	)		(1,002.9	)

Net reserve for losses and loss expenses	$	1,325.3		$	1,224.1		$	1,615.0		$	1,684.7		$	1,433.0		$	1,313.4		$	4,373.3		$	4,222.2

We participate in certain lines of business where claims may not be reported for many years. Accordingly, management does not solely rely upon reported claims on these lines for estimating ultimate liabilities. We also use statistical and actuarial methods to estimate expected ultimate losses and loss expenses. Loss reserves do not represent an exact calculation of liability. Rather, loss reserves are estimates of what we expect the ultimate resolution and administration of claims will cost. These estimates are based on various factors including underwriters’ expectations about loss experience, actuarial analysis, comparisons with the results of industry benchmarks and loss experience to date. Loss reserve estimates are refined as experience develops and as claims are reported and resolved. Establishing an appropriate level of loss reserves is an inherently uncertain process. Ultimate losses and loss expenses may differ from our reserves, possibly by material amounts.

The following tables provide our ranges of loss and loss expense reserve estimates by business segment as of September 30, 2012:


	Reserve for Losses and Loss Expenses Gross of Reinsurance Recoverable
	Carried Reserves		Low Estimate		High Estimate
	($ in millions)
U.S. insurance	$	1,807.4	$	1,369.0	$	2,042.4
International insurance		2,209.1		1,669.5		2,523.1
Reinsurance		1,434.3		1,155.3		1,673.4
Consolidated ⁽¹⁾		5,450.8		4,493.4		5,939.5


	Reserve for Losses and Loss Expenses Net of Reinsurance Recoverable
	Carried Reserves		Low Estimate		High Estimate
	($ in millions)
U.S. insurance	$	1,325.3	$	1,009.7	$	1,514.3
International insurance		1,615.0		1,213.9		1,846.1
Reinsurance		1,433.0		1,155.6		1,674.2
Consolidated ⁽¹⁾		4,373.3		3,621.6		4,792.1

(1)	For statistical reasons, it is not appropriate to add together the ranges of each business segment in an effort to determine the low and high range around the consolidated loss reserves.

Our range for each business segment was determined by utilizing multiple actuarial loss reserving methods along with various assumptions of reporting patterns and expected loss ratios by loss year. The various outcomes of these techniques were combined to determine a reasonable range of required loss and loss expense reserves. While we believe our approach to determine the range of loss and loss expense is reasonable, there are no assurances that actual loss experience will be within the ranges of loss and loss expense noted above.

Our selection of the actual carried reserves is generally above the midpoint of the range. We believe that we should be prudent in our reserving practices due to the lengthy reporting patterns and relatively large limits of net liability for any one risk of our direct excess casualty business and of our casualty reinsurance business. Thus, due to this uncertainty regarding estimates for reserve for losses and loss expenses, we have carried our consolidated reserve for losses and loss expenses, net of reinsurance recoverable, above the midpoint of the low and high estimates for the consolidated net losses and loss expenses. We believe that relying on the more prudent actuarial indications is appropriate for these lines of business.

Reinsurance Recoverable

The following table illustrates our reinsurance recoverable as of September 30, 2012 and December 31, 2011:


	September 30, 2012		December 31, 2011
	($ in millions)
Ceded case reserves	$	204.2	$	196.5
Ceded IBNR reserves		873.3		806.4

Reinsurance recoverable	$	1,077.5	$	1,002.9

We remain obligated for amounts ceded in the event our reinsurers do not meet their obligations. Accordingly, we have evaluated the reinsurers that are providing reinsurance protection to us and will continue to monitor their credit ratings and financial stability. We generally have the right to terminate our treaty reinsurance contracts at any time, upon prior written notice to the reinsurer, under specified circumstances, including the assignment to the reinsurer by A.M. Best of a financial strength rating of less than “A-.” Approximately 95% of ceded reserves as of September 30, 2012 were recoverable from reinsurers who had an A.M. Best rating of “A-” or higher.

Liquidity and Capital Resources

Liquidity

Liquidity is a measure of our ability to access sufficient cash flows to meet the short-term and long-term cash requirements of our business operations. The Company believes that its cash flows from operations and investments will provide sufficient liquidity for the foreseeable future.

Holdings is a holding company and transacts no business of its own. Cash flows to Holdings may comprise dividends, advances and loans from its subsidiary companies. Holdings is therefore reliant on receiving dividends and other permitted distributions from its subsidiaries to make dividend payments on its common shares.

Our operating subsidiaries depend upon cash inflows from premium receipts, net of commissions, investment income and proceeds from sales and redemptions of investments. Cash outflows for our operating subsidiaries are in the form of claims payments, reinsurance premium payments, purchase of investments, operating expenses and income tax payments as well as dividend payments to the holding company.

Historically, our operating subsidiaries have generated sufficient cash flows to meet all of their obligations. Because of the inherent volatility of our business, the seasonality in the timing of payments by insureds and cedents, the irregular timing of loss payments, and the impact of a change in interest rates and credit spreads on the investment income as well as seasonality in coupon payment dates for fixed income securities, cash flows from operating activities may vary between periods. In the unlikely event that paid losses exceed operating cash flows in any given period, we would use our cash balances available, or liquidate a portion of our investment portfolio in order to meet our short-term liquidity needs. Our total investments and cash totaled $8.9 billion as of September 30, 2012, the main components of which were investment grade fixed income securities and cash and cash equivalents.

Dividend Restrictions

The jurisdictions in which our operating subsidiaries are licensed to write business impose regulations requiring companies to maintain or meet various defined statutory ratios, including solvency and liquidity requirements. Some jurisdictions also place restrictions on the declaration and payment of dividends and other distributions. See Liquidity and Capital Resources in Item 7 of Part II of the Company’s 2011 Form 10-K.

Cash Flows


	Nine Months Ended September 30,
	2012			2011
	($ in millions)
Cash flows provided by operating activities	$	500.2		$	491.5
Cash flows used in investing activities		(243.8	)		(257.3	)
Cash flows used in financing activities		(250.4	)		(122.6	)
Effect of exchange rate changes on foreign currency cash		(0.5	)		0.7

Net increase in cash and cash equivalents		5.5			112.3
Cash and cash equivalents, beginning of period		634.0			757.0

Cash and cash equivalents, end of period	$	639.5		$	869.3

The increase in cash flows from operations was due to higher premiums collected, net of reinsurance, due to continued growth in 2012. This was partially offset by the $118.8 million increase in paid losses resulting from the growth in operations and the 2011 catastrophe events.

In our casualty lines of business, claims may be reported and settled several years after the coverage period has terminated. As a result, we expect that we will generate significant operating cash flow as we accumulate casualty loss reserves on our balance sheet. In our property lines of business, claims are generally reported and paid within a relatively short period of time and we expect volatility in our operating cash flows as losses are incurred. We expect increases in the amount of expected loss payments in future periods with a resulting decrease in operating cash flow; however, we do not expect loss payments to exceed the premiums generated.

Actual premiums written and collected and losses and loss expenses paid in any period could vary materially from our expectations and could have a significant and adverse effect on operating cash flow.

Cash flows from investing activities consist primarily of proceeds on the sale of investments and payments for investments acquired in addition to changes in restricted cash. The decrease in cash flows used in investing activities reflects net purchases of trading securities as excess cash was invested during the quarter.

Cash flows from financing activities consist primarily of capital raising activities, which include the issuance of common shares or debt, the repurchase of our shares, the payment of dividends and the repayment of debt. The increase in cash flows used in financing activities was due to the $144.7 million increase in share repurchases for the nine months ended September 30, 2012 compared to the same period in 2011. No shares were repurchased in the six months ended September 30, 2011 because of the merger negotiations with Transatlantic Holdings, Inc. However, $53.6 million in founder warrants were repurchased in February 2011. In addition, dividends paid as a partial par value reduction increased $40.4 million as no dividends were paid in the first half of 2011 due to the redomestication of our holding company from Bermuda to Switzerland. During the nine months ended September 30, 2012, we did not utilize the revolving loan available under the Amended Secured Credit Facility (as defined below).

Investments

Our funds are primarily invested in liquid, high-grade fixed income securities. As of September 30, 2012 and December 31, 2011, 90.4% and 92.6%, respectively, of our fixed income portfolio consisted of investment grade securities. The maturity distribution of our fixed income portfolio (on a fair value basis) as of September 30, 2012 and December 31, 2011 was as follows:


	September 30, 2012		December 31, 2011
	($ in millions)
Due in one year or less	$	647.4	$	661.6
Due after one year through five years		3,180.8		2,686.1
Due after five years through ten years		571.7		725.5
Due after ten years		66.8		94.2
Mortgage-backed		2,252.0		1,818.1
Asset-backed		436.2		513.2

Total	$	7,154.9	$	6,498.7

We have investments in other invested assets, comprising interests in hedge funds and private equity funds, the market value of which was $564.7 million as of September 30, 2012. Some of these funds have redemption notice requirements. For each of our funds, liquidity is allowed after certain defined periods based on the terms of each fund. See Note 4(d) “Investments — Other Invested Assets” to our unaudited condensed consolidated financial statements for additional details on our other invested assets.

We do not believe that inflation has had a material effect on our consolidated results of operations. The potential exists, after a catastrophe loss, for the development of inflationary pressures in a local economy. The effects of inflation are considered implicitly in pricing. Loss reserves are established to recognize likely loss settlements at the date payment is made. Those reserves inherently recognize the effects of inflation. The actual effects of inflation on our results cannot be accurately known, however, until claims are ultimately resolved.

Pledged Assets

Allied World Assurance Company, Ltd uses trust accounts primarily to meet security requirements for inter-company and certain reinsurance transactions. We also have cash and cash equivalents and investments on deposit with various state or government insurance departments or pledged in favor of ceding companies in order to comply with reinsurance contract provisions and relevant insurance regulations. In addition, Allied World Assurance Company, Ltd currently has access to up to $1.35 billion in letters of credit under two letter of credit facilities, a $900 million uncommitted facility with Citibank Europe plc and a $450 million committed Amended Secured Credit Facility. These facilities are used to provide security to reinsureds and are collateralized by us, at least to the extent of letters of credit outstanding at any given time.

Security arrangements with ceding insurers may subject our assets to security interests or require that a portion of our assets be pledged to, or otherwise held by, third parties. Both of our letter of credit facilities are fully collateralized by assets held in custodial accounts at the Bank of New York Mellon held for the benefit of the banks. Although the investment income derived from our assets while held in trust accrues to our benefit, the investment of these assets is governed by the terms of the letter of credit facilities or the investment regulations of the state or territory of domicile of the ceding insurer, which may be more restrictive than the investment regulations otherwise applicable to us. The restrictions may result in lower investment yields on these assets, which may adversely affect our profitability.

As of September 30, 2012 and December 31, 2011, $2,076.3 million and $2,029.1 million, respectively, of cash and cash equivalents and investments were deposited, pledged or held in escrow accounts in favor of ceding companies and other counterparties or government authorities to comply with reinsurance contract provisions and insurance laws.

In addition, as of September 30, 2012 and December 31, 2011, a further $1,047.0 million and $1,044.2 million, respectively, of cash and cash equivalents and investments were pledged as collateral for our credit facilities.

We do not currently anticipate that the restrictions on liquidity resulting from restrictions on the payment of dividends by our subsidiary companies or from assets committed in trust accounts or to collateralize the letter of credit facilities will have a material impact on our ability to carry out our normal business activities, including interest and dividend payments, respectively, on our senior notes (described below) and common shares.

Financial Strength Ratings

Financial strength ratings represent the opinions of rating agencies on our capacity to meet our obligations. In the event of a significant downgrade in ratings, our ability to write business and to access the capital markets could be impacted. Our financial strength ratings as of September 30, 2012 have not changed since December 31, 2011, except that Fitch Ratings has assigned us an insurance financial strength rating of “A+”. See Item 1. “Business” in our 2011 Form 10-K.

Capital Resources

The table below sets forth the capital structure of the Company as of September 30, 2012 and December 31, 2011:


	As of September 30, 2012		As of December 31, 2011
	($ in millions)
Senior notes	$	798.1	$	798.0
Shareholders’ equity		3,435.8		3,149.0

Total capitalization	$	4,233.9	$	3,947.0

Share Repurchases

In May 2012, we established a new $500 million share repurchase program. Under the terms of this new share repurchase program, common shares repurchased shall be designated for cancellation and shall be cancelled upon prior shareholder approval.

During the three and nine months ended September 30, 2012, our share repurchases were as follows:


	Three Months Ended September 30, 2012		Nine Months Ended September 30, 2012
Common shares repurchased		605,898		2,942,085
Total cost of shares repurchased	$	47,590	$	207,048
Average price per share	$	78.54	$	70.37

We have classified the repurchased shares not designated for cancellation as “treasury shares, at cost” on the consolidated balance sheets. Shares repurchased and designated for cancellation are constructively retired and recorded as a share cancellation.

Long-Term Debt

In July 2006, Allied World Bermuda issued $500.0 million aggregate principal amount of 7.50% senior notes due August 1, 2016, with interest payable August 1 and February 1 each year. Allied World Bermuda can redeem the senior notes prior to maturity, subject to payment of a “make-whole” premium; however, Allied World Bermuda currently has no intention of redeeming the notes.

In November 2010, Allied World Bermuda issued $300.0 million aggregate principal amount of 5.50% senior notes due November 1, 2020, with interest payable May 15 and November 15 each year, commencing May 15, 2011. Allied World Bermuda can redeem the senior notes prior to maturity, subject to payment of a “make-whole” premium; however, Allied World Bermuda currently has no intention of redeeming the notes.

The senior notes issued in 2006 and 2010 have been unconditionally and irrevocably guaranteed for the payment of the principal and interest by Holdings.

Credit Facility

In the normal course of our operations, we enter into agreements with financial institutions to obtain secured and unsecured credit facilities.

On June 7, 2012, Allied World Bermuda amended its existing secured credit facility. The amended $450 million four-year secured credit facility (the “Amended Secured Credit Facility”) is with a syndication of lenders and is primarily for the issuance of standby letters of credit to support obligations in connection with the insurance and reinsurance business of Allied World Bermuda and its subsidiaries. A portion of the facility may also be used for revolving loans for general corporate and working capital purposes, up to a maximum of $150 million. Allied World Bermuda may request that existing lenders under the Amended Secured Credit Facility make additional commitments from time to time, up to $150 million, subject to approval by the lenders. The Amended Secured Credit Facility contains representations, warranties and covenants customary for similar bank loan facilities, including certain covenants that, among other things, require us to maintain a certain leverage ratio and financial strength rating. We are in compliance with all covenants under the Facility.

On June 7, 2012, upon entering into the Amended Secured Credit Facility, Allied World Bermuda terminated its $400 million unsecured credit facility.

As of September 30, 2012, we had a combined unused letters of credit capacity of $458.2 million from the Amended Secured Credit Facility and Citibank Europe plc. We believe that this remaining capacity is sufficient to meet our future letter of credit needs.

Off-Balance Sheet Arrangements

As of September 30, 2012, we did not have any off-balance sheet arrangements.

Item 3. Quantitative and Qualitative Disclosures About Market Risk.

We believe that we are principally exposed to three types of market risk: interest rate risk, credit risk and currency risk.

The fixed income securities in our investment portfolio are subject to interest rate risk and credit risk. Any changes in interest rates and credit spreads have a direct effect on the market values of fixed income securities. As interest rates rise, the market values fall, and vice versa. As credit spreads widen, the market values fall, and vice versa.

In the table below changes in market values as a result of changes in interest rates is determined by calculating hypothetical September 30, 2012 ending prices based on yields adjusted to reflect the hypothetical changes in interest rates, comparing such hypothetical ending prices to actual ending prices, and multiplying the difference by the principal amount of the security. The sensitivity analysis is based on estimates. The estimated changes of our fixed maturity investments and cash and cash equivalents are presented below and actual changes for interest rate shifts could differ significantly.


	Interest Rate Shift in Basis Points
	-200			-100			-50			—			+50			+100			+200
	($ in millions)
Total market value	$	8,038.8		$	7,953.0		$	7,906.6		$	7,841.4		$	7,767.8		$	7,690.0		$	7,520.7
Market value change from base		197.4			111.6			65.2			—			(73.6	)		(151.4	)		(320.7	)
Change in unrealized appreciation/(depreciation)		2.5	%		1.4	%		0.8	%		0	%		(0.9	%)		(1.9	%)		(4.1	%)

In the table below changes in market values as a result of changes in credit spreads are determined by calculating hypothetical September 30, 2012 ending prices adjusted to reflect the hypothetical changes in credit spreads, comparing such hypothetical ending prices to actual ending prices, and multiplying the difference by the principal amount of the security. The sensitivity analysis is based on estimates. The estimated changes of our non-cash, non-U.S. Treasury fixed maturity investments are presented below and actual changes in credit spreads could differ significantly.


	Credit Spread Shift in Basis Points
	-200			-100			-50			—			+50			+100			+200
	($ in millions)
Total market value	$	5,893.7		$	5,780.5		$	5,723.9		$	5,667.4		$	5,610.8		$	5,554.2		$	5,441.0
Market value change from base		226.3			113.1			56.5			—			(56.6	)		(113.2	)		(226.4	)
Change in unrealized appreciation/(depreciation)		4.0	%		2.0	%		1.0	%		0	%		(1.0	%)		(2.0	%)		(4.0	%)

In addition to credit spread risk, our portfolio is also exposed to the risk of securities being downgraded or of issuers defaulting. In an effort to minimize this risk, our investment guidelines have been defined to ensure that the assets held are well diversified and are primarily high-quality securities.

The following table shows the types of securities in our portfolio, their fair market values, average rating and portfolio percentage as of September 30, 2012.


	Fair Value September 30, 2012		Average Rating	Portfolio Percentage
	($ in millions)
Cash and cash equivalents	$	686.4	AAA		7.7	%


U.S. government securities	$	1,487.6	AA+		16.7	%
U.S. government agencies		391.0	AA+		4.4	%
Non-U.S. government and government agencies		309.5	AA+		3.5	%
State, municipalities and political subdivisions		41.5	AA-		0.5	%
Mortgage-backed securities (“MBS”):
Agency MBS		1,606.2	AA+		18.1	%
Non-agency Residential MBS		107.4	A		1.2	%
Non-agency Residential MBS - Non investment grade		230.3	CCC		2.6	%
Commercial MBS		308.1	AA+		3.4	%

Total mortgage-backed securities		2,252.0			25.3	%
Corporate securities:
Financials		1,031.8	A+		11.6	%
Industrials		1,145.6	BBB		12.9	%
Utilities		59.8	BBB		0.6	%

Total corporate securities		2,237.2			25.1	%
Asset-backed securities:
Credit cards		26.1	AAA		0.3	%
Auto receivables		34.4	AAA		0.4	%
Student Loans		160.0	AA+		1.8	%
Collateralized loan obligations		193.7	AA+		2.2	%
Other		22.0	AAA		0.2	%

Total asset-backed securities		436.2			4.9	%

Total fixed income securities	$	7,155.0			80.4	%


Private equity	$	124.2	N/A		1.4	%
Hedge funds		440.5	N/A		5.0	%
Equities		490.4	N/A		5.5	%

Total investment portfolio	$	8,896.5			100.0	%

As of September 30, 2012, we held $7.2 billion of fixed income securities. Of those assets, approximately 90.4% were rated investment grade (Baa3/BBB- or higher) with the remaining 9.6% rated in the below investment grade category. The average credit quality of the fixed maturity portfolios was AA- by Standard & Poor’s.

Our agency pass-through mortgage-backed securities are exposed to prepayment risk, which occurs when holders of individual mortgages increase the frequency with which they prepay the outstanding principal before the maturity date to refinance at a lower interest rate cost. Given the proportion that these securities comprise of the overall portfolio, and the current interest rate environment and condition of the credit market, prepayment risk is not considered significant at this time.

Our non-agency commercial mortgage-backed securities are subject to the risk of non-payment due to increased levels of delinquencies, defaults and losses on commercial loans that cumulatively create shortfalls beyond the level of subordination in our specific securities. As of September 30, 2012, 31.3% of our non-agency commercial mortgage-backed securities were rated below Aaa/AAA.

As of September 30, 2012, we held investments in other invested assets with a fair value of $564.7 million. Investments in these funds involve certain risks related to, among other things, the illiquid nature of the fund shares, the limited operating history of the

fund, as well as risks associated with the strategies employed by the managers of the funds. The funds’ objectives are generally to seek attractive long-term returns with lower volatility by investing in a range of diversified investment strategies. As our reserves and capital continue to build, we may consider additional investments in these or other alternative investments.

During 2011, concerns about sovereign and corporate credits throughout the European Economic Area became elevated. As of September 30, 2012, our direct exposure to European credit across all of Europe was $751.6 million and is included within “fixed maturity investments trading, at fair value” and “equity securities trading, at fair value” in the consolidated balance sheets. Of that, approximately $222.8 million was invested in debt issued or guaranteed by European nations, $32.7 million was invested in structured products and $496.1 million was invested in debt and equity securities of European corporations (not guaranteed by a sovereign nation) as outlined in the table below. As of September 30, 2012, we had no direct sovereign exposure to Greece, Ireland, Italy, Portugal or Spain.


	September 30, 2012
	Sovereign and Sovereign Guaranteed		Structured Products		Corporate Bonds and Equities		Total Exposure
	($ in millions)
Belgium	$	22.0	$	—	$	24.6	$	46.6
Denmark		34.9		—		—		34.9
France		—		6.6		61.5		68.1
Germany		71.1		2.8		18.4		92.3
Ireland		—		—		0.1		0.1
Italy		—		—		3.1		3.1
Luxembourg		—		—		13.3		13.3
Netherlands		39.9		—		44.8		84.7
Norway		12.8		—		61.9		74.7
Russia		—		—		12.3		12.3
Spain		—		—		13.2		13.2
Sweden		—		—		34.5		34.5
Switzerland		10.7		—		44.3		55.0
United Kingdom		31.4		23.3		164.1		218.8

Total exposure	$	222.8	$	32.7	$	496.1	$	751.6

The U.S. dollar is our reporting currency and the functional currency of all of our operating subsidiaries. However, we enter into insurance and reinsurance contracts where the premiums receivable and losses payable are denominated in currencies other than the U.S. dollar. In addition, we maintain a portion of our investments and liabilities in currencies other than the U.S. dollar, primarily Euro, British Sterling, Swiss Franc and the Canadian dollar. Receivables in non-U.S. currencies are generally converted into U.S. dollars at the time of receipt. When we incur a liability in a non-U.S. currency, we carry such liability on our books in the original currency. These liabilities are converted from the non-U.S. currency to U.S. dollars at the time of payment. As a result, we have an exposure to foreign currency risk resulting from fluctuations in exchange rates. We utilize a hedging strategy to minimize the potential loss of value caused by currency fluctuations by using foreign currency forward contract derivatives that expire in 90 days from purchase.

As of September 30, 2012 and December 31, 2011, less than 3.6% and 3.1%, respectively, of our total investments and cash and cash equivalents were denominated in currencies other than the U.S. dollar. Of our business written during the nine months ended September 30, 2012 and 2011, approximately 13% and 12%, respectively, was written in currencies other than the U.S. dollar.

Item 4. Controls and Procedures.

In connection with the preparation of this quarterly report, our management has performed an evaluation, with the participation of our Chief Executive Officer and Chief Financial Officer, of the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934 (the “Exchange Act”)) as of September 30, 2012. Disclosure controls and procedures are designed to ensure that information required to be disclosed in reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported within the time periods specified by SEC rules and forms and that such information is accumulated and communicated to management, including our Chief Executive Officer and Chief Financial Officer, to allow for timely decisions regarding required disclosures. Based on their evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, as of September 30, 2012, our company’s disclosure controls and procedures were effective to ensure that information required to be disclosed in our reports filed under the Exchange Act is recorded, processed, summarized and reported within the time periods specified by SEC rules and forms and accumulated and communicated to management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow for timely decisions regarding required disclosures.

Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent all error and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide an absolute assurance that all control issues and instances of fraud, if any, within our company have been detected.

No changes were made in our internal controls over financial reporting, as such term is defined in Exchange Act Rule 13a-15(f), during the quarter ended September 30, 2012 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

PART II

OTHER INFORMATION

Item 1. Legal Proceedings.

Item 1A. Risk Factors.

Our business is subject to a number of risks, including those identified in Item 1A. of Part I of our 2011 Form 10-K, that could have a material adverse effect on our business, results of operations, financial condition and/or liquidity and that could cause our operating results to vary significantly from period to period. There have been no material changes to the risk factors described in our 2011 Form 10-K. The risks described in our 2011 Form 10-K are not the only risks we face. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also could have a material adverse effect on our business, results of operations, financial condition and/or liquidity.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.

(c) The following table summarizes our repurchases of our common shares during the three months ended September 30, 2012:


Period	Total Number of Shares Purchased		Average Price Paid per Share		Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs		Maximum Dollar Value (or Approximate Dollar Value) of Shares that May Yet be Purchased Under the Plans or Programs
July 1 - 31, 2012		185,998	$	79.11		185,998	$	500,000,000
August 1 - 31, 2012		229,900		78.39		229,900		481,978,738
September 1 - 30, 2012		190,000		78.18		190,000		467,124,363

Total		605,898	$	78.54		605,898	$	467,124,363	(1)

(1)	At the 2012 Annual Shareholder Meeting on May 3, 2012, Holdings’ shareholders approved a new, two-year $500 million share repurchase program. Share repurchases may be effected from time to time through open market purchases, privately negotiated transactions, tender offers or otherwise.

Item 3. Defaults Upon Senior Securities.

None.

Item 4. Mine Safety Disclosures.

Not applicable.

Item 5. Other Information.

None.

Item 6. Exhibits.


Exhibit Number		Description
3.1(1)		Articles of Association of Allied World Assurance Company Holdings, AG, as amended and restated.

3.2(2)		Organizational Regulations of Allied World Assurance Company Holdings, AG, as amended and restated.

10.1(3)†		Form of Indemnification Agreement for Thomas A. Bradley.

31.1		Certification by Chief Executive Officer, as required by Section 302 of the Sarbanes-Oxley Act of 2002.

31.2		Certification by Chief Financial Officer, as required by Section 302 of the Sarbanes-Oxley Act of 2002.

32.1*		Certification by Chief Executive Officer, as required by Section 906 of the Sarbanes-Oxley Act of 2002.

32.2*		Certification by Chief Financial Officer, as required by Section 906 of the Sarbanes-Oxley Act of 2002.

101.1**		Interactive data files pursuant to Rule 405 of Regulation S-T: (i) the Consolidated Balance Sheets as of September 30, 2012 and December 31, 2011, (ii) the Consolidated Statements of Operations and Comprehensive Income for the three and nine months ended September 30, 2012 and 2011, (iii) the Consolidated Statements of Shareholders’ Equity for the nine months ended September 30, 2012 and 2011, (iv) the Consolidated Statements of Cash Flows for the nine months ended September 30, 2012 and 2011 and (v) the Notes to the Consolidated Financial Statements.

(1)	Incorporated herein by reference to the Current Report on Form 8-K of Allied World Assurance Company Holdings, AG filed with the SEC on September 24, 2012.

(2)	Incorporated herein by reference to the Current Report on Form 8-K of Allied World Assurance Company Holdings, AG filed with the SEC on August 3, 2012.

(3)

Incorporated herein by reference to the Current Report on Form 8-K of Allied World Assurance Company Holdings, AG filed with the SEC on December 1, 2010. The Indemnification Agreement, dated as of September 24, 2012, for Thomas A. Bradley is materially identical to the form filed as Exhibit 10.4 thereto.

†	Management contract or compensatory plan, contract or arrangement.

*	These certifications are being furnished solely pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (subsections (a) and (b) of Section 1350, chapter 63 of title 18 United States Code) and are not being filed as part of this report.

In accordance with Rule 406T of Regulation S-T, the information in Exhibit 101.1 to this Quarterly Report on Form 10-Q is deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act, is deemed not filed for purposes of Section 18 of the Exchange Act and otherwise is not subject to liability under these sections.

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.


	ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG

Dated: November 9, 2012	By:	/s/ Scott A. Carmilani
		Name: Scott A. Carmilani
		Title: President and Chief Executive Officer

Dated: November 9, 2012	By:	/s/ Thomas A. Bradley
		Name: Thomas A. Bradley
		Title: Executive Vice President and Chief Financial Officer

EXHIBIT INDEX


Exhibit Number		Description
3.1(1)		Articles of Association of Allied World Assurance Company Holdings, AG, as amended and restated.

3.2(2)		Organizational Regulations of Allied World Assurance Company Holdings, AG, as amended and restated.

10.1(3)†		Form of Indemnification Agreement for Thomas A. Bradley.

31.1		Certification by Chief Executive Officer, as required by Section 302 of the Sarbanes-Oxley Act of 2002.

31.2		Certification by Chief Financial Officer, as required by Section 302 of the Sarbanes-Oxley Act of 2002.

32.1*		Certification by Chief Executive Officer, as required by Section 906 of the Sarbanes-Oxley Act of 2002.

32.2*		Certification by Chief Financial Officer, as required by Section 906 of the Sarbanes-Oxley Act of 2002.

101.1**		Interactive data files pursuant to Rule 405 of Regulation S-T: (i) the Consolidated Balance Sheets as of September 30, 2012 and December 31, 2011, (ii) the Consolidated Statements of Operations and Comprehensive Income for the three and nine months ended September 30, 2012 and 2011, (iii) the Consolidated Statements of Shareholders’ Equity for the nine months ended September 30, 2012 and 2011, (iv) the Consolidated Statements of Cash Flows for the nine months ended September 30, 2012 and 2011 and (v) the Notes to the Consolidated Financial Statements.

(1)	Incorporated herein by reference to the Current Report on Form 8-K of Allied World Assurance Company Holdings, AG filed with the SEC on September 24, 2012.

(2)	Incorporated herein by reference to the Current Report on Form 8-K of Allied World Assurance Company Holdings, AG filed with the SEC on August 3, 2012.

(3)

†	Management contract or compensatory plan, contract or arrangement.

*	These certifications are being furnished solely pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (subsections (a) and (b) of Section 1350, chapter 63 of title 18 United States Code) and are not being filed as part of this report.