**UNITEDSTATES**

**SECURITIES AND EXCHANGECOMMISSION**

**WASHINGTON, D.C.  20549**

**FORM 10-Q**

**QuarterlyReport Under Section 13 or 15(d)**

**of the Securities Exchange Act of1934**

**For theQuarterly Period Ended**     **June 30, 2006**

**Commissionfile number**               **0-15886**

**The Navigators Group, Inc.**

(Exact name ofRegistrant as specified in its charter)

| **Delaware**                              | ** ** | **13-3138397**       |
|-------------------------------------------|------------|----------------------|
| (State or other  jurisdiction of          |       | (IRS Employer        |
| incorporation or  organization)           |       | Identification  No.) |
|                                      |       |                 |
| **One  Penn Plaza, New York, New York**   |       | **10119**            |
| (Address of  principal executive offices) |       | (Zip Code)           |
|                                      |       |                 |

**(212)244-2333**

(Registrant’s telephone number, including area code)

(Former name, former address and former fiscal year,if changed since last report.)

Indicateby check mark whether the Registrant: (1) has filed all reports required to befiled by Section 13 or 15(d) of the Securities Exchange Act of 1934 during thepreceding 12 months (or for such shorter period that the Registrant wasrequired to file such reports), and (2) has been subject to such filingrequirements for the past 90 days.  Yes      x      No      o

Indicate by check markwhether the registrant is a large accelerated filer, an accelerated filer or anon-accelerated filer.  See definition of“accelerated filer and large accelerated filer” in Rule 12b-2 of the ExchangeAct.  (Check One):

Large Accelerated Filer   o   Accelerated Filer   x   Non-Accelerated Filer   o

Indicate by check markwhether the registrant is a shell company (as defined in Rule 12b-2 of theExchange Act).  Yes  o  No  x

The number ofcommon shares outstanding as of July 24, 2006 was 16,670,566.

 

----

** **

**THENAVIGATORS GROUP, INC. AND SUBSIDIARIES**

**INDEX**
| Part I. FINANCIAL  INFORMATION:                                                                     |   |   |
|-----------------------------------------------------------------------------------------------------|--------|--------|
|                                                                                                |   |   |
| Item 1. Financial  Statements                                                                       |   |   |
|                                                                                                |   |   |
| Consolidated  Balance SheetsJune 30,  2006 (Unaudited) and December 31, 2005                        |   |   |
|                                                                                                |   |   |
| Consolidated  Statements of Income (Unaudited)                                                      |   |   |
| Three  Months Ended June 30, 2006 and 2005                                                          |   |   |
| Six Months Ended  June 30, 2006 and 2005                                                            |   |   |
|                                                                                                |   |   |
| Consolidated  Statements of Stockholders’ Equity (Unaudited)June  30, 2006 and 2005            |   |   |
|                                                                                                |   |   |
| Consolidated  Statements of Comprehensive Income (Unaudited)                                        |   |   |
| Three  Months Ended June 30, 2006 and 2005                                                          |   |   |
| Six Months Ended  June 30, 2006 and 2005                                                            |   |   |
|                                                                                                |   |   |
| Consolidated  Statements of Cash Flows (Unaudited)Six  Months Ended June 30, 2006 and 2005          |   |   |
|                                                                                                |   |   |
| Notes  to Interim Consolidated Financial Statements (Unaudited)                                     |   |   |
|                                                                                                |   |   |
| Item 2. Management’s Discussion  and Analysis of Financial Condition and Results of Operations |   |   |
|                                                                                                |   |   |
| Item 3. Quantitative and  Qualitative Disclosures About Market Risk                                 |   |   |
|                                                                                                |   |   |
| Item 4.  Controls and Procedures                                                                    |   |   |
|                                                                                                |   |   |
| Part II. OTHER INFORMATION                                                                          |   |   |
|                                                                                                |   |   |
| Item 1. Legal Proceedings                                                                           |   |   |
|                                                                                                |   |   |
| Item 1A. Risk  Factors                                                                              |   |   |
|                                                                                                |   |   |
| Item  2. Unregistered Sales of Equity Securities and Use of Proceeds                                |   |   |
|                                                                                                |   |   |
| Item  3. Defaults Upon Senior Securities                                                            |   |   |
|                                                                                                |   |   |
| Item  4. Submissions of Matters to a Vote of Security Holders                                       |   |   |
|                                                                                                |   |   |
| Item 5. Other  Information                                                                          |   |   |
|                                                                                                |   |   |
| Item 6. Exhibits                                                                                    |   |   |
|                                                                                                |   |   |
| Signature                                                                                           |   |   |
|                                                                                                |   |   |
| Index of Exhibits                                                                                   |   |   |

2

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** **

**Part 1.    Financial Information**

##### **Item 1.        FinancialStatements**

**THE NAVIGATORS GROUP, INC. ANDSUBSIDIARIES**

**CONSOLIDATEDBALANCE SHEETS**

*($ inthousands, except share data)*
| ** **                                                                                                                                                           | ** **   | **June 30,** | ** **   | **December 31,** | ** **   |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------------|-------------------|--------------|-----------------------|--------------|
| ** **                                                                                                                                                           | ** **   | **2006**          | ** **   | **2005**              | ** **   |
| ** **                                                                                                                                                           | *** *** | **(Unaudited)**   | *** *** | *** ***          | *** *** |
| **ASSETS**                                                                                                                                                           |         |              |         |                  |         |
| Investments and cash:                                                                                                                                                |         |              |         |                  |         |
| Fixed  maturities, available-for-sale, at fair value  (amortized cost: 2006, $1,187,261; 2005, $986,726)                                                             |         | $                 | 1,158,996    |                  | $            | 984,113 |   |
| Equity  securities, available-for-sale, at fair value (cost: 2006, $26,212; 2005,  $19,667)                                                                          |         | 27,668            |         | 20,911                |         |
| Short-term  investments, at cost which approximates fair value                                                                                                       |         | 107,542           |         | 164,047               |         |
| Cash                                                                                                                                                                 |         | 14,345            |         | 13,165                |         |
| Total investments  and cash                                                                                                                                          |         | 1,308,551         |         | 1,182,236             |         |
|                                                                                                                                                                 |         |              |         |                  |         |
| Premiums in  course of collection                                                                                                                                    |         | 227,121           |         | 155,977               |         |
| Commissions  receivable                                                                                                                                              |         | 2,524             |         | 3,467                 |         |
| Prepaid  reinsurance premiums                                                                                                                                        |         | 186,854           |         | 136,341               |         |
| Reinsurance  receivable on paid losses                                                                                                                               |         | 86,358            |         | 37,055                |         |
| Reinsurance receivable  on unpaid losses and loss adjustment expenses                                                                                                |         | 984,887           |         | 979,015               |         |
| Net deferred  income tax benefit                                                                                                                                     |         | 39,523            |         | 28,317                |         |
| Deferred policy  acquisition costs                                                                                                                                   |         | 43,358            |         | 29,697                |         |
| Accrued  investment income                                                                                                                                           |         | 12,762            |         | 10,297                |         |
| Goodwill and  other intangible assets                                                                                                                                |         | 7,706             |         | 7,341                 |         |
| Other assets                                                                                                                                                         |         | 16,368            |         | 13,506                |         |
|                                                                                                                                                                 |         |              |         |                  |         |
| Total assets                                                                                                                                                         |         | $                 | 2,916,012    |                  | $            | 2,583,249 |   |
|                                                                                                                                                                 |         |              |         |                  |         |
| **LIABILITIES  AND STOCKHOLDERS’ EQUITY**                                                                                                                       | ** **   | ** **        | ** **   | ** **            | ** **   |
| Liabilities:                                                                                                                                                         |         |              |         |                  |         |
| Reserves for  losses and loss adjustment expenses                                                                                                                    |         | $                 | 1,618,783    |                  | $            | 1,557,991 |   |
| Unearned premium                                                                                                                                                     |         | 423,020           |         | 316,516               |         |
| Reinsurance  balances payable                                                                                                                                        |         | 205,184           |         | 180,059               |         |
| Senior notes                                                                                                                                                         |         | 123,506           |         | —                |         |
| Federal income  tax payable                                                                                                                                          |         | 1,558             |         | 1,274                 |         |
| Payable for  securities purchased                                                                                                                                    |         | 3,681             |         | 823                   |         |
| Accounts payable  and other liabilities                                                                                                                              |         | 49,805            |         | 56,348                |         |
| Total liabilities                                                                                                                                                    |         | 2,425,537         |         | 2,113,011             |         |
|                                                                                                                                                                 |         |              |         |                  |         |
| Stockholders’ equity:                                                                                                                                           |         |              |         |                  |         |
| Preferred stock,  $.10 par value, authorized 1,000,000 shares, none issued                                                                                           |         | —            |         | —                |         |
| Common stock,  $.10 par value, shares authorized: 50,000,000 for 2006 and 20,000,000 for  2005; issued and outstanding: 16,670,566 for 2006 and 16,616,781 for 2005. |         | 1,667             |         | 1,662                 |         |
| Additional  paid-in capital                                                                                                                                          |         | 284,413           |         | 282,463               |         |
| Retained  earnings                                                                                                                                                   |         | 220,524           |         | 186,901               |         |
| Accumulated  other comprehensive (loss)                                                                                                                              |         | (16,129           | )            | (788                  | )            |
| Total  stockholders’ equity                                                                                                                                     |         | 490,475           |         | 470,238               |         |
|                                                                                                                                                                 |         |              |         |                  |         |
| Total  liabilities and stockholders’ equity                                                                                                                     |         | $                 | 2,916,012    |                  | $            | 2,583,249 |   |

See accompanying notes tointerim consolidated financial statements

3

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####  

#### **THE NAVIGATORS GROUP, INC. AND SUBSIDIARIES**

**CONSOLIDATEDSTATEMENTS OF INCOME**

*($ andshares in thousands, except net income per share)*
| ** **                                        | ** ** | **Three Months Ended** | ** ** |
|---------------------------------------------------|------------|----------------------------------|------------|
| ** **                                        | ** ** | **June 30,**                | ** ** |
| ** **                                        | ** ** | **2006**                         | ** ** | **2005** | ** ** |
| ** **                                        | ** ** | **(Unaudited)**                  | ** ** |
| ** **                                        | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Gross written premium                             |       | $                                | 252,365    |   | $ | 190,133 |   |
| Revenues:                                         |       |                             |       |   |   |
| Net written  premium                              |       | $                                | 129,248    |   | $ | 93,257 |   |
| (Increase) in  unearned premium                   |       | (14,707                          | )          | (7,425 | ) |
| Net earned  premium                               |       | 114,541                          |       | 85,832 |   |
| Commission  income                                |       | 540                              |       | 1,514 |   |
| Net investment  income                            |       | 14,003                           |       | 8,961 |   |
| Net realized  capital gains (losses) .            |       | (192                             | )          | 416 |   |
| Other income                                      |       | 44                               |       | 470 |   |
| Total revenues                                    |       | 128,936                          |       | 97,193 |   |
|                                              |       |                             |       |   |   |
| Operating expenses:                               |       |                             |       |   |   |
| Net losses and  loss adjustment expenses incurred |       | 66,627                           |       | 53,611 |   |
| Commission  expense                               |       | 13,624                           |       | 9,242 |   |
| Other operating  expenses                         |       | 19,927                           |       | 17,628 |   |
| Interest expense                                  |       | 1,820                            |       | — |   |
| Total operating  expenses                         |       | 101,998                          |       | 80,481 |   |
|                                              |       |                             |       |   |   |
| Income before income  tax expense                 |       | 26,938                           |       | 16,712 |   |
|                                              |       |                             |       |   |   |
| Income tax expense  (benefit):                    |       |                             |       |   |   |
| Current                                           |       | 10,034                           |       | 8,069 |   |
| Deferred                                          |       | (1,194                           | )          | (2,637 | ) |
| Total income tax  expense                         |       | 8,840                            |       | 5,432 |   |
|                                              |       |                             |       |   |   |
| Net income                                        |       | $                                | 18,098     |   | $ | 11,280 |   |
|                                              |       |                             |       |   |   |
| Net income per common  share:                     |       |                             |       |   |   |
| Basic                                             |       | $                                | 1.09       |   | $ | 0.88 |   |
| Diluted                                           |       | $                                | 1.08       |   | $ | 0.88 |   |
|                                              |       |                             |       |   |   |
| Average common shares  outstanding:               |       |                             |       |   |   |
| Basic                                             |       | 16,668                           |       | 12,763 |   |
| Diluted                                           |       | 16,791                           |       | 12,853 |   |

See accompanying notes tointerim consolidated financial statements.

4

----

 

#### **THE NAVIGATORS GROUP, INC. AND SUBSIDIARIES**

**CONSOLIDATEDSTATEMENTS OF INCOME**

*($ andshares in thousands, except net income per share)*
| ** **                                        | ** ** | **Six Months Ended** | ** ** |
|---------------------------------------------------|------------|--------------------------------|------------|
| ** **                                        | ** ** | **June 30,**              | ** ** |
| ** **                                        | ** ** | **2006**                       | ** ** | **2005** | ** ** |
| ** **                                        | ** ** | **(Unaudited)**                | ** ** |
| ** **                                        | ** ** | ** **                     | ** ** | ** ** | ** ** |
| Gross written premium                             |       | $                              | 516,149    |   | $ | 407,129 |   |
| Revenues:                                         |       |                           |       |   |   |
| Net written  premium                              |       | $                              | 272,674    |   | $ | 210,347 |   |
| (Increase) in  unearned premium                   |       | (54,411                        | )          | (46,977 | ) |
| Net earned  premium                               |       | 218,263                        |       | 163,370 |   |
| Commission  income                                |       | 1,826                          |       | 2,784 |   |
| Net investment  income                            |       | 26,553                         |       | 16,583 |   |
| Net realized  capital gains (losses)              |       | (616                           | )          | 583 |   |
| Other income                                      |       | 230                            |       | 1,367 |   |
| Total revenues                                    |       | 246,256                        |       | 184,687 |   |
|                                              |       |                           |       |   |   |
| Operating expenses:                               |       |                           |       |   |   |
| Net losses and  loss adjustment expenses incurred |       | 128,744                        |       | 99,832 |   |
| Commission  expense                               |       | 27,329                         |       | 18,846 |   |
| Other operating  expenses                         |       | 38,335                         |       | 35,072 |   |
| Interest expense                                  |       | 1,820                          |       | — |   |
| Total operating  expenses                         |       | 196,228                        |       | 153,750 |   |
|                                              |       |                           |       |   |   |
| Income before income  tax expense                 |       | 50,028                         |       | 30,937 |   |
|                                              |       |                           |       |   |   |
| Income tax expense  (benefit):                    |       |                           |       |   |   |
| Current                                           |       | 19,366                         |       | 13,241 |   |
| Deferred                                          |       | (2,961                         | )          | (3,283 | ) |
| Total income tax  expense                         |       | 16,405                         |       | 9,958 |   |
|                                              |       |                           |       |   |   |
| Net income                                        |       | $                              | 33,623     |   | $ | 20,979 |   |
|                                              |       |                           |       |   |   |
| Net income per common  share:                     |       |                           |       |   |   |
| Basic                                             |       | $                              | 2.02       |   | $ | 1.65 |   |
| Diluted                                           |       | $                              | 2.00       |   | $ | 1.64 |   |
|                                              |       |                           |       |   |   |
| Average common shares  outstanding:               |       |                           |       |   |   |
| Basic                                             |       | 16,654                         |       | 12,720 |   |
| Diluted                                           |       | 16,839                         |       | 12,815 |   |

 

See accompanyingnotes to interim consolidated financial statements.

5

----

 

**THE NAVIGATORS GROUP, INC. ANDSUBSIDIARIES**

**CONSOLIDATEDSTATEMENTS OF STOCKHOLDERS’ EQUITY**

*($ inthousands)*
| ** **                                               | ** ** | **Six Months Ended** | ** ** |
|----------------------------------------------------------|------------|--------------------------------|------------|
| ** **                                               | ** ** | **June 30,**              | ** ** |
| ** **                                               | ** ** | **2006**                       | ** ** | **2005** | ** ** |
| ** **                                               | ** ** | **(Unaudited)**                | ** ** |
| Preferred Stock                                          |       |                           |       |   |   |
| Balance at  beginning and end of period                  |       | $                              | —     |   | $ | — |   |
|                                                     |       |                           |       |   |   |
| Common stock                                             |       |                           |       |   |   |
| Balance at beginning of  year                            |       | $                              | 1,662      |   | $ | 1,266 |   |
| Shares issued under  stock plans                         |       | 5                              |       | 12 |   |
| Balance at end of  period                                |       | $                              | 1,667      |   | $ | 1,278 |   |
|                                                     |       |                           |       |   |   |
| Additional paid-in  capital                              |       |                           |       |   |   |
| Balance at beginning of  year                            |       | $                              | 282,463    |   | $ | 154,670 |   |
| Effect of SFAS 123 for  stock options                    |       | 469                            |       | 517 |   |
| Shares issued under  stock plans                         |       | 1,481                          |       | 1,872 |   |
| Balance at end of  period                                |       | $                              | 284,413    |   | $ | 157,059 |   |
|                                                     |       |                           |       |   |   |
| Retained earnings                                        |       |                           |       |   |   |
| Balance at beginning of  year                            |       | $                              | 186,901    |   | $ | 163,337 |   |
| Net income                                               |       | 33,623                         |       | 20,979 |   |
| Balance at end of  period                                |       | $                              | 220,524    |   | $ | 184,316 |   |
|                                                     |       |                           |       |   |   |
| Accumulated other  comprehensive income (loss)           |       |                           |       |   |   |
| Net unrealized gains  (losses) on securities, net of tax |       |                           |       |   |   |
| Balance at beginning of  year                            |       | $                              | (884       | ) | $ | 7,416 |   |
| Change in period                                         |       | (16,542                        | )          | 842 |   |
| Balance at end of  period                                |       | (17,426                        | )          | 8,258 |   |
| Cumulative translation  adjustments, net of tax          |       |                           |       |   |   |
| Balance at beginning of  year                            |       | 96                             |       | 1,889 |   |
| Net adjustment for  period                               |       | 1,201                          |       | (727 | ) |
| Balance at end of  period                                |       | 1,297                          |       | 1,162 |   |
| Balance at end of  period                                |       | $                              | (16,129    | ) | $ | 9,420 |   |
|                                                     |       |                           |       |   |   |
| Total stockholders’ equity at end of period         |       | $                              | 490,475    |   | $ | 352,073 |   |

 

See accompanying notes to interim consolidated financial statements.

6

----

 

**THENAVIGATORS GROUP, INC. AND SUBSIDIARIES**

**CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME**

*($ in thousands)*
| ** **                                                                                                                                      | ** ** | **Three Months Ended** | ** ** |
|-------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                                                                                                                      | ** ** | **June 30,**                | ** ** |
| ** **                                                                                                                                      | ** ** | **2006**                         | ** ** | **2005** | ** ** |
| ** **                                                                                                                                      | ** ** | **(Unaudited)**                  | ** ** |
| ** **                                                                                                                                      | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Net income                                                                                                                                      |       | $                                | 18,098     |   | $ | 11,280 |   |
| Other comprehensive  income (loss):                                                                                                             |       |                             |       |   |   |
| Change in net  unrealized gains (losses) on securities, net of tax expense (benefit) of  ($3,884) and $3,947 in 2006 and 2005, respectively (1) |       | (7,212                           | )          | 7,329 |   |
| Change in  foreign currency translation gains (losses), net of tax expense (benefit) of  $517 and ($411) in 2006 and 2005, respectively         |       | 959                              |       | (839 | ) |
| Other  comprehensive income (loss)                                                                                                              |       | (6,253                           | )          | 6,490 |   |
|                                                                                                                                            |       |                             |       |   |   |
| Comprehensive income                                                                                                                            |       | $                                | 11,845     |   | $ | 17,770 |   |

 

----

(1)         Disclosureof reclassification amount, net of tax:
| Unrealized  holding gains (losses) arising during period                         |   | $    | (7,336 | )   | $      | 7,599 |   |
|----------------------------------------------------------------------------------|--------|------|--------|-----|--------|-------|--------|
| Less:  reclassification adjustment for net gains (losses) included in net income |   | (124 | )      | 270 |   |
| Change in net  unrealized gains (losses) on securities                           |   | $    | (7,212 | )   | $      | 7,329 |   |

 

See accompanying notes to interim consolidated financial statements.

7

----

 

**THENAVIGATORS GROUP, INC. AND SUBSIDIARIES**

**CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME**

*($ in thousands)*
| ** **                                                                                                                                   | ** ** | **Six Months Ended** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------------|------------|
| ** **                                                                                                                                   | ** ** | **June 30,**              | ** ** |
| ** **                                                                                                                                   | ** ** | **2006**                       | ** ** | **2005** | ** ** |
| ** **                                                                                                                                   | ** ** | **(Unaudited)**                | ** ** |
|                                                                                                                                         |       |                           |       |   |   |
| Net income                                                                                                                                   |       | $                              | 33,623     |   | $ | 20,979 |   |
| Other comprehensive  income (loss):                                                                                                          |       |                           |       |   |   |
| Change in net  unrealized gains (losses) on securities, net of tax expense (benefit) of  ($8,908) and $454 in 2006 and 2005, respectively(1) |       | (16,542                        | )          | 842 |   |
| Change in foreign  currency translation gains (losses), net of tax expense (benefit) of $647 and  ($391) in 2006 and 2005, respectively      |       | 1,201                          |       | (727 | ) |
| Other comprehensive  income (loss)                                                                                                           |       | (15,341                        | )          | 115 |   |
|                                                                                                                                         |       |                           |       |   |   |
| Comprehensive income                                                                                                                         |       | $                              | 18,282     |   | $ | 21,094 |   |

 

----

(1)         Disclosureof reclassification amount, net of tax:
| Unrealized holding gains  (losses) arising during period                         |   | $    | (16,942 | )   | $      | 1,221 |   |
|----------------------------------------------------------------------------------|--------|------|---------|-----|--------|-------|--------|
| Less: reclassification  adjustment for net gains (losses) included in net income |   | (400 | )       | 379 |   |
| Change in net unrealized  gains (losses) on securities                           |   | $    | (16,542 | )   | $      | 842   |   |

 

See accompanying notes to interim consolidated financial statements.

8

----

**THE NAVIGATORS GROUP, INC. AND SUBSIDIARIESCONSOLIDATED STATEMENTS OF CASH FLOWS***($ in thousands)*
| ** **                                                                                   | ** ** | **Six Months Ended** | ** ** |
|----------------------------------------------------------------------------------------------|------------|--------------------------------|------------|
| ** **                                                                                   | ** ** | **June 30,**              | ** ** |
| ** **                                                                                   | ** ** | **2006**                       | ** ** | **2005** | ** ** |
| ** **                                                                                   | ** ** | **(Unaudited)**                | ** ** |
| Operating activities:                                                                        |       |                           |       |   |   |
| Net income                                                                                   |       | $                              | 33,623     |   | $ | 20,979 |   |
| Adjustments to  reconcile net income to net cash provided by (used in) operating activities: |       |                           |       |   |   |
| Depreciation  & amortization                                                             |       | 1,238                          |       | 800 |   |
| Net deferred  income tax (benefit)                                                           |       | (2,961                         | )          | (3,283 | ) |
| Net realized  capital (gains) losses                                                         |       | 616                            |       | (582 | ) |
| Changes in  assets and liabilities:                                                          |       |                           |       |   |   |
| Reinsurance  receivable on paid and unpaid losses and loss adjustment expenses               |       | (55,175                        | )          | (21,284 | ) |
| Reserve for losses  and loss adjustment expenses                                             |       | 60,792                         |       | 39,721 |   |
| Prepaid  reinsurance premiums                                                                |       | (50,513                        | )          | (22,037 | ) |
| Unearned premium                                                                             |       | 106,504                        |       | 67,772 |   |
| Premiums in  course of collection                                                            |       | (71,144                        | )          | (2,144 | ) |
| Commissions  receivable                                                                      |       | 943                            |       | (841 | ) |
| Deferred policy  acquisition costs                                                           |       | (13,661                        | )          | (10,802 | ) |
| Accrued  investment income                                                                   |       | (2,465                         | )          | (1,131 | ) |
| Reinsurance  balances payable                                                                |       | 25,125                         |       | 17,268 |   |
| Federal income  tax                                                                          |       | 284                            |       | 2,432 |   |
| Other                                                                                        |       | (16,534                        | )          | 29,038 |   |
| Net cash  provided by operating activities                                                   |       | 16,672                         |       | 115,906 |   |
|                                                                                         |       |                           |       |   |   |
| Investing activities:                                                                        |       |                           |       |   |   |
| Fixed  maturities, available-for-sale                                                        |       |                           |       |   |   |
| Redemptions and  maturities                                                                  |       | 83,829                         |       | 16,745 |   |
| Sales                                                                                        |       | 92,253                         |       | 161,192 |   |
| Purchases                                                                                    |       | (367,296                       | )          | (259,847 | ) |
| Equity  securities, available-for-sale                                                       |       |                           |       |   |   |
| Sales                                                                                        |       | 2,682                          |       | 3,375 |   |
| Purchases                                                                                    |       | (8,800                         | )          | (2,855 | ) |
| Change in  payable for securities                                                            |       | 2,858                          |       | 3,425 |   |
| Net change in  short-term investments                                                        |       | 56,505                         |       | (33,821 | ) |
| Purchase of  property and equipment                                                          |       | (1,583                         | )          | (1,390 | ) |
| Net cash (used  in) investing activities                                                     |       | (139,552                       | )          | (113,176 | ) |
|                                                                                         |       |                           |       |   |   |
| Financing activities:                                                                        |       |                           |       |   |   |
| Net proceeds  from senior notes                                                              |       | 123,485                        |       | — |   |
| Proceeds of  stock issued from employee stock purchase plan                                  |       | 222                            |       | 212 |   |
| Proceeds of stock  issued from exercise of stock options                                     |       | 353                            |       | 1,166 |   |
| Net cash provided  by financing activities                                                   |       | 124,060                        |       | 1,378 |   |
|                                                                                         |       |                           |       |   |   |
| Increase in cash                                                                             |       | 1,180                          |       | 4,108 |   |
| Cash at beginning of  year                                                                   |       | 13,165                         |       | 14,676 |   |
| Cash at end of period                                                                        |       | $                              | 14,345     |   | $ | 18,784 |   |
|                                                                                         |       |                           |       |   |   |
| Supplemental  disclosures of cash flow information:                                          |       |                           |       |   |   |
| Federal, state  and local income tax paid                                                    |       | $                              | 17,356     |   | $ | 10,798 |   |
| Issuance of stock to  directors                                                              |       | 140                            |       | 123 |   |

See accompanyingnotes to interim consolidated financial statements.

9

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###### **THE NAVIGATORS GROUP, INC.  AND SUBSIDIARIES**

**Notes to Interim Consolidated FinancialStatements***(Unaudited)*

**Note1.  Accounting Policies**

Theinterim consolidated financial statements are unaudited but reflect alladjustments which, in the opinion of management, are necessary to provide afair statement of the results of The Navigators Group, Inc. and itssubsidiaries for the interim periods presented on the basis of accountingprinciples generally accepted in the United States of America (“GAAP” or “U.S.GAAP”).  All such adjustments are of anormal recurring nature.  All significantintercompany transactions and balances have been eliminated.  The preparation of these financial statementsrequires management to make estimates and assumptions that affect the reportedamounts of assets and liabilities and disclosures of contingent assets andliabilities at the date of the financial statements and the reported revenuesand expenses during the reporting periods. The results of operations for any interim period are not necessarilyindicative of results for the full year. The terms “we”, “us”, “our” and “the Company” as used herein mean TheNavigators Group, Inc. and its subsidiaries, unless the context otherwiserequires.  The term “Parent” or “ParentCompany” is used to mean The Navigators Group, Inc. without itssubsidiaries.  These financial statementsshould be read in conjunction with the consolidated financial statements andnotes contained in the Company’s 2005 Annual Report on Form 10-K.  Certain amounts for the prior year have been reclassifiedor restated to conform to the current year’s presentation.

**Note2.  Reinsurance Ceded**

The Company’s cededearned premiums were $105.6 million and $90.2 million for the three monthsended June 30, 2006 and 2005, respectively, and were $194.5 million and $173.6million for the six months ended June 30, 2006 and 2005, respectively.  The Company’s ceded incurred losses were$61.7 million and $30.2 million for the three months ended June 30, 2006 and2005, respectively, and were $124.8 million and $83.6 million for the sixmonths ended June 30, 2006 and 2005, respectively.

**Note3.  Segment Information**

The Company’ssubsidiaries are primarily engaged in the underwriting and management ofproperty and casualty insurance.

Effective in 2006, theCompany classifies its business into two underwriting segments consisting ofthe Insurance Companies and the Lloyd’s Operations, which are separatelymanaged, and a Corporate segment. Segment data for each of the two underwriting segments includeallocations of revenues and expenses of the Navigators Agencies’ and ParentCompany’s expenses and related income tax amounts previously reportedseparately.  The Corporate segmentconsists of the Parent Company’s investment income, interest expense and therelated tax effect.  Each segmentmaintains its own investments, on which it earns income and realizes capitalgains or losses.  Income tax expense isrecorded based on the respective income of each segment.  Segment data for 2005 and prior periods havebeen restated to reflect this change in segment reporting.

The Insurance Companiesconsist of Navigators Insurance Company with its U.K. Branch and NIC InsuranceCompany.  They are primarily engaged inunderwriting marine insurance and related lines of business, specialty lines ofbusiness including contractors’ general liability insurance, commercial andpersonal umbrella and excess casualty businesses, and professional liabilityinsurance.  The Lloyd’s Operationsprimarily underwrite marine and related lines of business at Lloyd’s of Londonthrough Lloyd’s Syndicate 1221 (“Syndicate 1221”).  The Navigators Agencies are underwritingmanagement companies which produce, manage and underwrite insurance andreinsurance for the Company.  Allsegments are evaluated based on their GAAP results.

10

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The Insurance Companies’and the Lloyd’s Operations’ performances are measured based on underwritingresults and the related combined ratio, which are both non-GAAP measures ofunderwriting profitability.  Underwritingprofit or loss is calculated from net earned premiums, less net losses and LAE,commission expense and other operating expenses related to underwritingactivities.  The combined ratio isderived by taking such net losses and LAE and operating expenses divided by netearned premiums.  A combined ratio ofless than 100% indicates an underwriting profit and over 100% indicates anunderwriting loss.

Financial data bysegment for the three months ended June 30, 2006 and 2005 was as follows:
| ** **                                    | ** ** | **Three Months Ended June 30, 2006** | ** ** |
|-----------------------------------------------|------------|---------------------------------------------------------------|------------|
| ** **                                    | ** ** | **Insurance**                                                 | ** ** | **Lloyd’s** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                                    | ** ** | **Companies**                                                 | ** ** | **Operations** | ** ** | **Corporate** | ** ** | **Total (1)** | ** ** |
| ** **                                    | ** ** | **($ in thousands)**                                | ** ** |
| ** **                                    | ** ** | ** **                                                    | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Gross written  premium                        |       | $                                                             | 170,296    |   | $ | 82,072 |   |   |   | $ | 252,365 |   |
| Net written  premium                          |       | 92,445                                                        |       | 36,803 |   |   |   | 129,248 |   |
|                                          |       |                                                          |       |   |   |   |   |   |   |
| Net earned  premium                           |       | 78,488                                                        |       | 36,053 |   |   |   | 114,541 |   |
| Net losses and  loss adjustment expenses      |       | (47,676                                                       | )          | (18,951 | ) |   |   | (66,627 | ) |
| Commission  expense                           |       | (7,912                                                        | )          | (5,712 | ) |   |   | (13,624 | ) |
| Other operating  expenses                     |       | (13,966                                                       | )          | (5,961 | ) |   |   | (19,927 | ) |
| Commission  income and other income (expense) |       | 794                                                           |       | (210 | ) |   |   | 584 |   |
|                                          |       |                                                          |       |   |   |   |   |   |   |
| Underwriting  profit                          |       | 9,728                                                         |       | 5,219 |   |   |   | 14,947 |   |
|                                          |       |                                                          |       |   |   |   |   |   |   |
| Investment  income                            |       | 12,023                                                        |       | 1,667 |   | $ | 313 |   | 14,003 |   |
| Net realized  capital gains (losses)          |       | (225                                                          | )          | 33 |   | — |   | (192 | ) |
| Interest expense                              |       | —                                                        |       | — |   | (1,820 | ) | (1,820 | ) |
| Income before  income taxes                   |       | 21,526                                                        |       | 6,919 |   | (1,507 | ) | 26,938 |   |
|                                          |       |                                                          |       |   |   |   |   |   |   |
| Income tax  expense (benefit)                 |       | 6,868                                                         |       | 2,422 |   | (450 | ) | 8,840 |   |
| Net income  (loss)                            |       | $                                                             | 14,658     |   | $ | 4,497 |   | $ | (1,057 | ) | $ | 18,098 |   |
|                                          |       |                                                          |       |   |   |   |   |   |   |
| Identifiable  Assets                          |       | $                                                             | 2,018,556  |   | $ | 845,599 |   | $ | 48,563 |   | $ | 2,916,012 |   |
|                                          |       |                                                          |       |   |   |   |   |   |   |
| Loss and loss  expenses ratio                 |       | 60.7                                                          | %          | 52.6 | % |   |   | 58.2 | % |
| Commission  expense ratio                     |       | 10.1                                                          | %          | 15.8 | % |   |   | 11.9 | % |
| Other operating  expense ratio (2)            |       | 16.8                                                          | %          | 17.1 | % |   |   | 16.9 | % |
| Combined ratio                                |       | 87.6                                                          | %          | 85.5 | % |   |   | 87.0 | % |

 

----

(1)             Certainamounts included in the segment columns include inter-segment transactionscausing certain rows not to crossfoot.

(2)             Includes *other operating expenses* and *commissionincome and other income (expense).*

11

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| ** **                                    | ** ** | **Three Months Ended June 30, 2005** | ** ** |
|-----------------------------------------------|------------|---------------------------------------------------------------|------------|
| ** **                                    | ** ** | **Insurance**                                                 | ** ** | **Lloyd’s** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                                    | ** ** | **Companies**                                                 | ** ** | **Operations** | ** ** | **Corporate** | ** ** | **Total (1)** | ** ** |
| ** **                                    | ** ** | **($ in thousands)**                                | ** ** |
| ** **                                    | ** ** | ** **                                                    | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Gross written  premium                        |       | $                                                             | 130,680    |   | $ | 58,547 |   |   |   | $ | 190,133 |   |
| Net written  premium                          |       | 66,675                                                        |       | 26,582 |   |   |   | 93,257 |   |
|                                          |       |                                                          |       |   |   |   |   |   |   |
| Net earned  premium                           |       | $                                                             | 59,107     |   | $ | 26,725 |   |   |   | $ | 85,832 |   |
| Net losses and  loss adjustment expenses      |       | (38,682                                                       | )          | (14,929 | ) |   |   | (53,611 | ) |
| Commission  expense                           |       | (4,409                                                        | )          | (4,833 | ) |   |   | (9,242 | ) |
| Other operating  expenses                     |       | (12,316                                                       | )          | (5,312 | ) |   |   | (17,628 | ) |
| Commission  income and other income (expense) |       | 1,624                                                         |       | 360 |   |   |   | 1,984 |   |
|                                          |       |                                                          |       |   |   |   |   |   |   |
| Underwriting  profit                          |       | 5,324                                                         |       | 2,011 |   |   |   | 7,335 |   |
|                                          |       |                                                          |       |   |   |   |   |   |   |
| Investment  income                            |       | 7,486                                                         |       | 1,454 |   | $ | 21 |   | 8,961 |   |
| Net realized  capital gains (losses)          |       | 681                                                           |       | (265 | ) | — |   | 416 |   |
| Income before  income taxes                   |       | 13,491                                                        |       | 3,200 |   | 21 |   | 16,712 |   |
|                                          |       |                                                          |       |   |   |   |   |   |   |
| Income tax  expense                           |       | 4,304                                                         |       | 1,120 |   | 8 |   | 5,432 |   |
| Net income                                    |       | $                                                             | 9,187      |   | $ | 2,080 |   | $ | 13 |   | $ | 11,280 |   |
|                                          |       |                                                          |       |   |   |   |   |   |   |
| Identifiable  Assets                          |       | $                                                             | 1,420,958  |   | $ | 570,647 |   | $ | 17,191 |   | $ | 1,927,872 |   |
|                                          |       |                                                          |       |   |   |   |   |   |   |
| Loss and loss  expenses ratio                 |       | 65.4                                                          | %          | 55.9 | % |   |   | 62.5 | % |
| Commission  expense ratio                     |       | 7.5                                                           | %          | 18.1 | % |   |   | 10.9 | % |
| Other operating  expense ratio (2)            |       | 18.1                                                          | %          | 18.5 | % |   |   | 18.2 | % |
| Combined ratio                                |       | 91.0                                                          | %          | 92.5 | % |   |   | 91.6 | % |

 

----

(1)             Certain amountsincluded in the segment columns include inter-segment transactions causingcertain rows not to crossfoot.

(2)             Includes *other operating expenses* and *commissionincome and other income (expense).*

12

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Financial data by segmentfor the six months ended June 30, 2006 and 2005 was as follows:
| ** **                                    | ** ** | **Six Months Ended June 30, 2006** | ** ** |
|-----------------------------------------------|------------|-------------------------------------------------------------|------------|
| ** **                                    | ** ** | **Insurance**                                               | ** ** | **Lloyd’s** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                                    | ** ** | **Companies**                                               | ** ** | **Operations** | ** ** | **Corporate** | ** ** | **Total (1)** | ** ** |
| ** **                                    | ** ** | **($ in thousands)**                              | ** ** |
| ** **                                    | ** ** | ** **                                                  | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Gross written premium                         |       | $                                                           | 332,543    |   | $ | 183,820 |   |   |   | $ | 516,149 |   |
| Net written premium                           |       | 182,089                                                     |       | 90,585 |   |   |   | 272,674 |   |
|                                          |       |                                                        |       |   |   |   |   |   |   |
| Net earned premium                            |       | 145,840                                                     |       | 72,423 |   |   |   | 218,263 |   |
| Net losses and loss  adjustment expenses      |       | (87,630                                                     | )          | (41,114 | ) |   |   | (128,744 | ) |
| Commission expense                            |       | (15,036                                                     | )          | (12,293 | ) |   |   | (27,329 | ) |
| Other operating  expenses                     |       | (27,399                                                     | )          | (10,936 | ) |   |   | (38,335 | ) |
| Commission income and  other income (expense) |       | 2,000                                                       |       | 56 |   |   |   | 2,056 |   |
|                                          |       |                                                        |       |   |   |   |   |   |   |
| Underwriting profit                           |       | 17,775                                                      |       | 8,136 |   |   |   | 25,911 |   |
|                                          |       |                                                        |       |   |   |   |   |   |   |
| Investment income                             |       | 22,433                                                      |       | 3,674 |   | $ | 446 |   | 26,553 |   |
| Net realized capital  (losses)                |       | (300                                                        | )          | (316 | ) | — |   | (616 | ) |
| Interest expense                              |       | —                                                      |       | — |   | (1,820 | ) | (1,820 | ) |
| Income before income  taxes                   |       | 39,908                                                      |       | 11,494 |   | (1,374 | ) | 50,028 |   |
|                                          |       |                                                        |       |   |   |   |   |   |   |
| Income tax expense  (benefit)                 |       | 12,784                                                      |       | 4,023 |   | (402 | ) | 16,405 |   |
| Net income                                    |       | $                                                           | 27,124     |   | $ | 7,471 |   | $ | (972 | ) | $ | 33,623 |   |
|                                          |       |                                                        |       |   |   |   |   |   |   |
| Identifiable Assets                           |       | $                                                           | 2,018,556  |   | $ | 845,599 |   | $ | 48,563 |   | $ | 2,916,012 |   |
|                                          |       |                                                        |       |   |   |   |   |   |   |
| Loss and loss expenses  ratio                 |       | 60.1                                                        | %          | 56.8 | % |   |   | 59.0 | % |
| Commission expense  ratio                     |       | 10.3                                                        | %          | 17.0 | % |   |   | 12.5 | % |
| Other operating expense  ratio (2)            |       | 17.4                                                        | %          | 15.0 | % |   |   | 16.6 | % |
| Combined ratio                                |       | 87.8                                                        | %          | 88.8 | % |   |   | 88.1 | % |

 

----

(1)             Certain amountsincluded in the segment columns include inter-segment transactions causingcertain rows not to crossfoot.

(2)             Includes *other operating expenses* and*commissionincome and other income (expense)*.

13

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|                                               | ** ** | **Six Months Ended June 30, 2005** | ** ** |
|-----------------------------------------------|------------|-------------------------------------------------------------|------------|
| ** **                                    | ** ** | **Insurance**                                               | ** ** | **Lloyd’s** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                                    | ** ** | **Companies**                                               | ** ** | **Operations** | ** ** | **Corporate** | ** ** | **Total (1)** | ** ** |
| ** **                                    | ** ** | **($ in thousands)**                              | ** ** |
| ** **                                    | ** ** | ** **                                                  | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Gross written  premium                        |       | $                                                           | 259,968    |   | $ | 146,377 |   |   |   | $ | 407,129 |   |
| Net written  premium                          |       | 140,256                                                     |       | 70,091 |   |   |   | 210,347 |   |
|                                          |       |                                                        |       |   |   |   |   |   |   |
| Net earned  premium                           |       | 106,470                                                     |       | 56,900 |   |   |   | 163,370 |   |
| Net losses and  loss adjustment expenses      |       | (67,524                                                     | )          | (32,308 | ) |   |   | (99,832 | ) |
| Commission  expense                           |       | (9,132                                                      | )          | (9,714 | ) |   |   | (18,846 | ) |
| Other operating  expenses                     |       | (24,255                                                     | )          | (10,817 | ) |   |   | (35,072 | ) |
| Commission  income and other income (expense) |       | 2,895                                                       |       | 1,256 |   |   |   | 4,151 |   |
|                                          |       |                                                        |       |   |   |   |   |   |   |
| Underwriting  profit                          |       | 8,454                                                       |       | 5,317 |   |   |   | 13,771 |   |
|                                          |       |                                                        |       |   |   |   |   |   |   |
| Investment  income                            |       | 14,343                                                      |       | 2,203 |   | $ | 37 |   | 16,583 |   |
| Net realized  capital gains (losses)          |       | 947                                                         |       | (364 | ) | — |   | 583 |   |
| Income before  income taxes                   |       | 23,744                                                      |       | 7,156 |   | 37 |   | 30,937 |   |
|                                          |       |                                                        |       |   |   |   |   |   |   |
| Income tax  expense                           |       | 7,440                                                       |       | 2,505 |   | 13 |   | 9,958 |   |
| Net income                                    |       | $                                                           | 16,304     |   | $ | 4,651 |   | $ | 24 |   | $ | 20,979 |   |
|                                          |       |                                                        |       |   |   |   |   |   |   |
| Identifiable  Assets                          |       | $                                                           | 1,420,958  |   | $ | 570,647 |   | $ | 17,191 |   | $ | 1,927,872 |   |
|                                          |       |                                                        |       |   |   |   |   |   |   |
| Loss and loss  expenses ratio                 |       | 63.4                                                        | %          | 56.8 | % |   |   | 61.1 | % |
| Commission  expense ratio                     |       | 8.6                                                         | %          | 17.1 | % |   |   | 11.5 | % |
| Other operating  expense ratio (2)            |       | 20.1                                                        | %          | 16.8 | % |   |   | 19.0 | % |
| Combined ratio                                |       | 92.1                                                        | %          | 90.7 | % |   |   | 91.6 | % |

 

----

(1)             Certain amountsincluded in the segment columns include inter-segment transactions causingcertain rows not to crossfoot.

(2)             Includes *other operating expenses* and *commissionincome and other income (expense).*

 

TheInsurance Companies’ net earned premium includes $13.1 million and $12.3million of net earned premium from the U.K. Branch for the three months endedJune 30, 2006 and 2005, respectively, and $21.3 million and $20.6 million ofnet earned premium from the U.K. Branch for the six months ended June 30, 2006and 2005, respectively.

**Note4.  Comprehensive Income**

Comprehensiveincome encompasses net income, net unrealized capital gains and losses onavailable for sale securities, and foreign currency translation adjustments,all of which are net of tax.  Pleaserefer to the *Consolidated Statements of Stockholders’Equity* and the *Consolidated Statements ofComprehensive Income*, included herein, for the components of *accumulated other comprehensive income (loss)* and of *comprehensive income (loss)*, respectively.

14

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**Note5.  Stock-Based Compensation**

Stockbased compensation is expensed as the stock awards vest with the expense beingincluded in *other operating expenses* for the periodsindicated.  The amount charged to expensefor stock grants was $900,000 and $358,000 for the three months ended June 30,2006 and 2005, respectively, and $1,322,000 and $736,000 for the six monthsended June 30, 2006 and 2005, respectively. The amount charged to expense for stock options was $228,000 and$271,000 for the three months ended June 30, 2006 and 2005, respectively, and$469,000 and $517,000 for the six months ended June 30, 2006 and 2005,respectively.  Stock appreciation rightsresulted in a benefit of $807,000 and expense of $259,000 for the three months endedJune 30, 2006 and 2005, respectively, and expense of $22,000 and $334,000 forthe six months ended June 30, 2006 and 2005, respectively.

Inaddition, $52,500 was expensed in each of the three months ended June 30, 2006and 2005 and $87,500 was expensed in each of the six months ended June 30, 2006and 2005 for stock issued annually to non-employee directors as part of theirdirectors’ compensation for serving on the Company’s Board of Directors.

**Note6.  Application of New AccountingStandards**

InDecember 2004, the Financial Accounting Standards Board (the “FASB”) issuedStatement of Financial Accounting Standard (“SFAS”) No. 123 (revised 2004), *Share Based Payment*, which is a revision of SFAS 123, *Accounting for Stock-Based Compensation*, eliminating thealternative use of APB 25.  The adoptionof SFAS No. 123 (revised 2004) on January 1, 2006 had no material effect on theCompany’s results of operations or financial condition since the Companyadopted the fair value recognition provisions of SFAS No. 123 in 2003.

In July 2006, the FASB issued Interpretation No. 48, *Accounting for Uncertainty in Income Taxes*(“FIN 48”),**an interpretation of FASB Statement No. 109.  FIN 48 establishes the threshold forrecognizing the benefits of tax-return positions in the financial statements asmore-likely-than-not to be sustained by the taxing authorities, and prescribesa measurement methodology for those positions meeting the recognitionthreshold.  The Company has not yet determinedthe estimated impact on its financial condition or results of operations, ifany, of adopting FIN 48 which becomes effective in 2007.

**Note7.  Lloyd’s Syndicate**

Werecord our pro rata share of Syndicate 1221’s assets, liabilities, revenues andexpenses, after making adjustments to convert Lloyd’s accounting to U.S.GAAP.  The most significant U.S. GAAPadjustments relate to income recognition. Lloyd’s syndicates determineunderwriting results by year of account at the end of three years.  We record adjustments to recognizeunderwriting results as incurred, including the expected ultimate cost oflosses incurred.  These adjustments tolosses are based on actuarial analysis of syndicate accounts, includingforecasts of expected ultimate losses provided by the syndicates.  At theend of the Lloyd’s three year period for determining underwriting results foran account year, the syndicate will close the account year by reinsuringoutstanding claims on that account year with the participants for the account’snext underwriting year.  The amount toclose an underwriting year into the next year is referred to as the “reinsuranceto close”.  The reinsurance to closetransaction is recorded in the fourth quarter as additional written and earnedpremium, losses incurred, loss reserves and receivables, all in the sameamount.  No gain or loss is recorded onthe reinsurance to close transaction.

Syndicate1221’s stamp capacity is £112.5 million ($201.6 million) in 2006 compared to£135.0 million ($246.0 million) in 2005. Stamp capacity is a measure of the amount of premium a Lloyd’s syndicateis authorized to write based on a business plan approved by the Council ofLloyd’s.  Syndicate 1221’s capacity isexpressed net of commission (as is standard at Lloyd’s) of approximately21%.  The Syndicate 1221 premium recordedin the Company’s financial statements is gross of commission.  The Company participates for 100% and 97.5%of Syndicate 1221’s capacity for the 2006 and 2005 underwriting years,respectively.  The Lloyd’s

15

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Operationsincluded in the consolidated financial statements represent the Company’sparticipation in Syndicate 1221.

TheCompany provides letters of credit to Lloyd’s to support its Syndicate 1221capacity.  If the Company increases itsparticipation or if Lloyd’s changes the capital requirements, the Company maybe required to supply additional letters of credit or other collateralacceptable to Lloyd’s, or reduce the capacity of Syndicate 1221.  The letters of credit are provided through acredit facility which the Company maintains with a consortium of banks.  The credit facility agreement requires thatthe banks vote periodically whether or not to renew the credit facility.  If the banks decide not to renew the creditfacility, the Company will need to find other sources to provide the letters ofcredit or other collateral in order to continue to participate in Syndicate1221.  The renewal amendment executed inJanuary 2005 renewed the letter of credit facility until June 30, 2007.  The bank facility is collateralized by all ofthe common stock of Navigators Insurance Company.

**Note 8. Income Tax - Valuation Allowance**

TheCompany had state and local operating loss carryforwards amounting to potentialfuture tax benefits of $5.7 million and $5.0 million at June 30, 2006 andDecember 31, 2005, respectively.  Avaluation allowance was established for the full amount of these potentialfuture tax benefits due to the uncertainty associated with their realization.

**Note 9. Commitments and Contingencies**

Exceptas follows, the Company is not a party to, or the subject of, any materiallegal proceedings which depart from the ordinary routine litigation incident tothe kinds of business it conducts.

Atthe end of April 2006, the Company was served as a defendant in an action inthe Northern District Court of Georgia captioned *New CingularWireless Headquarters, LLC, et al. v. Marsh & McLennan Companies, Inc., etal*., along with approximately 100 other defendants.  While it is not possible at this verypreliminary stage to predict the outcome of this litigation, the Companybelieves the allegations, which involve contingent commissions and bid-riggingin the insurance industry, to be without merit and intends to vigorously defenditself against them.

**Note 10. Senior Notes Due May 1, 2016**

OnApril 17, 2006, the Company completed a public debt offering of $125 millionprincipal amount of 7% senior unsecured notes due May 1, 2016 (the “SeniorNotes”) and received net proceeds of $123.5 million.  The Company contributed $100 million of theproceeds to the capital and surplus of Navigators Insurance Company andretained the remainder at the Parent Company for general corporatepurposes.  Interest will be paid on theSenior Notes each May 1 and November 1 with the first payment due on November1, 2006.  The effective interest raterelated to the Senior Notes, based on the proceeds net of discount and allissuance costs, is approximately 7.17%.

TheSenior Notes, the Company’s only senior unsecured obligation, will rank equallywith future senior unsecured indebtedness. The Company may redeem the Senior Notes at any time and from time totime, in whole or in part, at a “make-whole” redemption price.  The terms of the Senior Notes contain variousrestrictive business and financial covenants typical for debt obligations ofthis type, including limitations on mergers, and liens or dispositions of thecommon stock of certain subsidiaries.  Asof June 30, 2006, the Company was in compliance with all such covenants.

Theinterest expense from April 17, 2006 to June 30, 2006 was $1.8 million.  The fair value, which is based on the quotedmarket price at June 30, 2006, was $123.1 million.

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**Item 2.****                       Management’sDiscussion and Analysis of Financial Condition and Results of Operations**

**Note on Forward-LookingStatements**

Someof the statements in this Quarterly Report on Form 10-Q are ‘‘forward-lookingstatements’’ as defined in the Private Securities Litigation Reform Act of1995.  Whenever used in this report, thewords “estimate”, “expect”, “believe” or similar expressions are intended toidentify such forward-looking statements. Forward-looking statements are derived from information that we currentlyhave and assumptions that we make.  Wecannot assure that anticipated results will be achieved, since results maydiffer materially because of both known and unknown risks and uncertaintieswhich we face.  We undertake noobligation to publicly update or revise any forward-looking statements, whetheras a result of new information, future events or otherwise.  Factors that could cause actual results todiffer materially from our forward-looking statements include, but are notlimited to:

·      theeffects of domestic and foreign economic conditions, and conditions whichaffect the market for property and casualty insurance;

·      changesin the laws, rules and regulations which apply to our insurance companies;

·      theeffects of emerging claim and coverage issues on our business, includingadverse judicial or regulatory decisions and rulings;

·      theeffects of competition from banks and other insurers and the trend towardself-insurance;

·      risksthat we face in entering new markets and diversifying the products and serviceswe offer;

·      unexpectedturnover of our professional staff;

·      changinglegal and social trends and inherent uncertainties in the loss estimationprocess that can adversely impact the adequacy of loss reserves and theallowance for reinsurance recoverables, including our estimates relating toultimate asbestos liabilities and related reinsurance recoverables;

·      risksinherent in the collection of reinsurance recoverable amounts from ourreinsurers over many years into the future based on their financial ability andintent to meet such obligations to the Company;

·      risksassociated with our continuing ability to obtain reinsurance covering ourexposures at appropriate prices and/or in sufficient amounts and the relatedrecoverability of our reinsured losses;

·      weather-relatedevents and other catastrophes (including acts of terrorism) impacting ourinsureds and/or reinsurers, including, without limitation, the impact ofHurricanes Katrina, Rita, and Wilma and the possibility that our estimates oflosses from Hurricanes Katrina, Rita and Wilma will prove to be materiallyinaccurate;

·      ourability to attain adequate prices, obtain new business and retain existingbusiness consistent with our expectations;

·      thepossibility of downgrades in our claims-paying and financial strength ratingssignificantly adversely affecting us, including reducing the number ofinsurance policies we write generally, or causing clients who require aninsurer with a certain rating level to use higher-rated insurers;

·      theinability of our internal control framework to provide absolute assurance thatall incidents of fraud or unintended material errors will be detected andprevented;

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·      therisk that our investment portfolio suffers reduced returns or investment losseswhich could reduce our profitability; and

·      otherrisks that we identify in future filings with the Securities and ExchangeCommission (the “SEC”), including without limitation the risks described underthe caption “Risk Factors” in our Annual Report on Form 10-K for the year endedDecember 31, 2005.

Inlight of these risks, uncertainties and assumptions, any forward-looking eventsdiscussed in this Form 10-Q may not occur. You are cautioned not to place undue reliance on any forward-lookingstatements, which speak only as of their respective dates.

*The discussion and analysis of our financial condition andresults of operations contained herein should be read in conjunction with ourconsolidated financial statements and accompanying notes which appear elsewherein this Form 10-Q.  It containsforward-looking statements that involve risks and uncertainties.  Please see ‘‘Note on Forward-LookingStatements’’ for more information.  Ouractual results could differ materially from those anticipated in theseforward-looking statements as a result of various factors, including thosediscussed below and elsewhere in this Form 10-Q.*

**Overview**

Weare an international insurance holding company focusing on specialty productsfor niches within the overall property/casualty insurance market.  The Company’s underwriting segments consistsof insurance company operations and operations at Lloyd’s of London.  Our largest product line and mostlong-standing area of specialization is ocean marine insurance.  We have also developed specialty niches inprofessional liability insurance, and in specialty liability insuranceprimarily consisting of contractors’ liability coverages.  We conduct operations through our insurancecompany subsidiaries, our operations at Lloyd’s of London (the “Lloyd’sOperations”) and our underwriting agencies (the “Navigators Agencies”).  Our insurance company subsidiaries (the “InsuranceCompanies”) consist of Navigators Insurance Company, which includes a UnitedKingdom Branch (the “U.K. Branch”), and NIC Insurance Company, whichunderwrites specialty and professional liability insurance on an excess andsurplus lines basis fully reinsured by Navigators Insurance Company.    Our Lloyd’s Operations include NavigatorsUnderwriting Agency Ltd. (“NUAL”), a Lloyd’s of London (“Lloyd’s”) underwritingagency which manages Lloyd’s Syndicate 1221 (“Syndicate 1221”).  We participate in the capacity of Syndicate1221 through two wholly-owned Lloyd’s corporate members.  The Navigators Agencies consist ofwholly-owned insurance underwriting agencies which produce, manage andunderwrite insurance and reinsurance for the Company and are reimbursed fortheir costs by the Insurance Companies and the Lloyd’s Operations.

Whilemanagement takes into consideration a wide range of factors in planning theCompany’s business strategy and evaluating results of operations, there arecertain factors that management believes are fundamental to understanding howthe Company is managed.  First,underwriting profit is consistently emphasized as a primary goal, above premiumgrowth.  Management’s assessment of ourtrends and potential growth in underwriting profit is the dominant factor inits decisions with respect to whether or not to expand a business line, enterinto a new niche, product or territory or, conversely, to contract capacity inany business line.  In addition,management focuses on managing the costs of our operations.  Management believes that careful monitoringof the costs of existing operations and assessment of costs of potential growthopportunities are important to our profitability.  Access to capital also has a significantimpact on management’s outlook for our operations.  The Insurance Companies’ operations andability to grow their business and take advantage of market opportunities areparticularly constrained by regulatory capital requirements and rating agencyassessments of capital adequacy.

Thediscussions that follow include tables, which contain both our consolidated andsegment operating results for each of the three and six month periods endedJune 30, 2006 and 2005.  In presentingour financial results we have discussed our performance with reference tounderwriting profit or loss and the related combined

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ratio, both ofwhich are non-GAAP measures of underwriting profitability.  We consider such measures, which may bedefined differently by other companies, to be important in the understanding ofour overall results of operations.  Underwritingprofit or loss is calculated from premiums earned, less net losses and lossadjustment expenses (“LAE”), commission expense and other operating expensesrelated to underwriting activities.  Thecombined ratio is derived by taking such net losses and LAE and expensesdivided by earned premiums.  A combinedratio of less than 100% indicates an underwriting profit and over 100%indicates an underwriting loss.

Althoughnot a financial measure, management’s decisions are also greatly influenced byaccess to specialized underwriting and claims expertise in our lines ofbusiness.  We have chosen to operate inspecialty niches with certain common characteristics which we believe provideus with the opportunity to use our technical underwriting expertise in order torealize underwriting profit.  As aresult, we have focused on underserved markets for businesses characterized byhigher severity and lower frequency of loss where we believe our intellectualcapital and financial strength bring meaningful value.  In contrast, we have avoided niches that webelieve have a high frequency of loss activity and/or are subject to a highlevel of regulatory coverage requirements, such as workers compensation andpersonal automobile insurance, because we do not believe our technicalexpertise is of as much value in these types of businesses.  Examples of niches that have thecharacteristics we look for include bluewater hull which provides coverage forphysical damage to, for example, highly valued cruise ships, and directors andofficers liability insurance (“D&O”) which covers litigation exposure of acorporation’s directors and officers. These types of exposures require substantial technical expertise.  We attempt to mitigate the financial impactof severe claims on our results by conservative and detailed underwriting,prudent use of reinsurance and a balanced portfolio of risks.

Ourrevenue is primarily comprised of premiums and investment income.  The Insurance Companies derive their premiumsprimarily from business written by the Navigators Agencies.  The Lloyd’s Operations derive their premiumsfrom business written by NUAL.  Beginningin 2006, the Navigators Agencies produce and manage business only for theInsurance Companies and are reimbursed for actual costs.  Prior to 2006, the Navigators Agenciesreceived commissions and, in some cases, profit commissions on the businessproduced on behalf of the Insurance Companies and other unaffiliatedinsurers.  NUAL is reimbursed for itsactual costs and, where applicable, profit commissions on the business producedfor Lloyd’s Syndicate 1221.

Overthe past three to four years, we have experienced generally beneficial marketchanges in our lines of business.  As aresult of several large industry losses in the second quarter of 2001, themarine insurance market began to experience diminished capacity and rateincreases, initially in the offshore energy line of business.  The marine rate increases began to level offin 2004 and into 2005.  As a result ofthe substantial insurance industry losses resulting from Hurricanes Katrina andRita, the marine insurance market is experiencing diminished capacity and rateincreases, particularly for the offshore energy risks located in the Gulf ofMexico.  The 2006 second quarter and sixmonth average renewal rate increases for all marine lines of business includingoffshore energy approximated 17% and 14%, respectively, in the InsuranceCompanies and 16% and 13%, respectively, in the Lloyd’s Operations.  Included in the marine rate increases for thefirst six months of 2006 are offshore energy rate increases of approximately76% in the Insurance Companies and 47% in the Lloyd’s Operations.  Specialty liability losses over the pastseveral years, particularly for our California construction liability business,also resulted in diminished capacity in the market in which we compete, as manyformer competitors who lacked the expertise to selectively underwrite thisbusiness have been forced to withdraw from the market resulting in approximaterate increases of 13% in 2004 and 49% in 2003. This was followed by a slight decline in rates of approximately 1% in2005.  Both the second quarter and sixmonth renewal rates for the California construction liability business declinedapproximately 7% primarily due to additional competition in themarketplace.  In the professional liabilitymarket, the enactment of the Sarbanes-Oxley Act of 2002, together withfinancial and accounting scandals at publicly traded corporations and theincreased frequency of securities-related class action litigation, has led toheightened interest in professional liability insurance generally.  Average professional liability renewalpremium rates increased approximately 3% in both the 2006 second quarter andsix months, compared to relatively level rates in 2005 and a decrease ofapproximately 3% in 2004 which followed substantial rate increases in 2003 and2002, particularly for D&O insurance. The D&O insurance premium rates

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increasedapproximately 2% in both the 2006 second quarter and six months, afterdecreases of approximately 2% in 2005 and 10% in 2004.

Ourbusiness is cyclical and influenced by many factors.  These factors include price competition,economic conditions, interest rates, weather-related events and othercatastrophes including natural and man-made disasters (for example hurricanes andterrorism), state regulations, court decisions and changes in the law.  The incidence and severity of catastrophesare inherently unpredictable.  Althoughwe will attempt to manage our exposure to such events, the frequency andseverity of catastrophic events could exceed our estimates, which could have amaterial adverse effect on our financial condition.  Additionally, because our insurance productsmust be priced, and premiums charged, before costs have fully developed, ourliabilities are required to be estimated and recorded in recognition of futureloss and settlement obligations.  Due tothe inherent uncertainty in estimating these liabilities, we cannot assure youthat our actual liabilities will not exceed our recorded amounts.

**CatastropheRisk Management**

OurInsurance Companies and Lloyd’s Operations have exposure to losses caused byhurricanes and other natural and man-made catastrophic events.  The frequency and severity of catastrophesare unpredictable.

Theextent of losses from a catastrophe is a function of both the total amount ofinsured exposure in an area affected by the event and the severity of theevent.  We continually assess ourconcentration of underwriting exposures in catastrophe exposed areas globallyand attempt to manage this exposure through individual risk selection andthrough the purchase of reinsurance.  Wealso use modeling technologies and concentration management tools that allow usto better monitor and control our accumulations of potential losses fromcatastrophe exposures.  Despite theseefforts, there remains uncertainty about the characteristics, timing and extentof insured losses given the nature of catastrophes.  The occurrence of one or more severecatastrophic events could have a material adverse effect on the Company’sresults of operations, financial condition or liquidity.

As aresult of the offshore energy losses suffered by the marine and energy marketin 2005 stemming from Hurricanes Katrina and Rita, the 2006 marine reinsurancecapacity has declined, reinsurance terms and conditions have tightened andreinsurance costs have dramatically increased, particularly for excess of lossreinsurance protection.  As a result,through the first six months of 2006, the Company has achieved significantimprovements in pricing, terms and conditions for the offshore energy businessas it renews while reducing its aggregate loss exposures in the Gulf ofMexico.  The Company will also have anincreased net retention and increased reinstatement premium cost for acatastrophic offshore energy loss in 2006 compared to 2005 as a result of lessavailable reinsurance protection at an increased reinsurance cost.

Theoccurrence of additional large loss events could reduce the reinsurancecoverage that is available to us and could further weaken the financialcondition of our reinsurers, which could have a material adverse effect on ourresults of operations.  Although thereinsurance agreements make the reinsurers liable to us to the extent the riskis transferred or ceded to the reinsurer, ceded reinsurance arrangements do noteliminate our obligation to pay claims to our policyholders.  Accordingly, we bear credit risk with respectto our reinsurers.  Specifically, ourreinsurers may not pay claims made by us on a timely basis, or they may not paysome or all of these claims. Either of these events would increase our costsand could have a material adverse effect on our business.  We are required to pay the losses even if areinsurer fails to meet its obligations under the reinsurance agreement.  Hurricanes Katrina and Rita increased ourreinsurance recoverables significantly, which increased our credit risk.

**Corporateand Industry Investigations**

Publiccompanies have become the subject of increasing scrutiny regarding the timingand dating of employee stock option awards. The Securities and Exchange Commission and the U.S. Department ofJustice have been investigating stock option award practices at a number ofpublic companies.

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As amatter of prudent corporate governance, the Company undertook its own internalreview with respect to its stock option award practices.  In this recently completed internal inquiry,the Company did not find any evidence that it has engaged in any of the stockoption award practices that are at the center of these corporateinvestigations.

The insurance industry has become the subject ofincreasing scrutiny with respect to insurance broker and agent compensationarrangements, and certain sales practices. The New York State Attorney General and other state and federalregulators have commenced investigations and other proceedings relating to thepayment of contingent commissions by insurance companies to insurance brokersand agents and the extent to which such compensation has been disclosed, andthe solicitation and provision of fictitious or inflated quotes.  These investigations and proceedings couldresult in legal precedents and new industry-wide practices or legislation,rules or regulations that could significantly affect our industry and may also causestock price volatility for companies in the insurance industry.

The Company has completed its own internal review withrespect to such contingent commission arrangements and the anti-competitivesales practices discussed above.  In thisinternal inquiry, the Company did not find any evidence that it has engaged inthe bid-rigging and price-fixing activities that are at the core of theindustry investigations into these anti-competitive practices.  The Company is supportive of industry effortsto encourage transparency in the disclosure of contingent commissions paid tobrokers by insurers.

The reinsurance industry has also become the subjectof increasing scrutiny with respect to the alleged improper use of reinsuranceagreements to manipulate financial reporting results.  The New York State Attorney General and otherstate and federal regulators have commenced investigations and otherproceedings related to reinsurance agreements in which the insurance risk transferredbetween the ceding company and reinsurer may have been insufficient to properlyaccount for such transactions as reinsurance in financial statements filed withinsurance regulatory authorities and the SEC. Such transactions may include separate or “side” agreements that reduce,limit or mitigate the indemnification against loss or liability relating to theinsurance risk transferred to the reinsurer in a reinsurance agreement.

As a result of these industry investigations,accounting and reporting requirements for reinsurance transactions, includingrisk transfer guidance used to determine when sufficient insurance risk hasbeen transferred by the ceding company to properly account for suchtransactions as reinsurance, may change.

The Company believes that all of its reinsurancetransactions meet the risk transfer requirements to be accounted for asprospective reinsurance in its financial statements, and also believes it hasno separate side agreements that would limit the insurance risk transferred tothe reinsurer under its reinsurance agreements. The Company is unable to determine any reinsurance industry financialreporting changes that could occur as a result of such investigations and theeffects, if any, on its financial reporting of reinsurance transactions.

**CriticalAccounting Policies**

Itis important to understand our accounting policies in order to understand ourfinancial statements. Management considers certain of these policies to becritical to the presentation of the financial results, since they requiremanagement to make estimates and assumptions. These estimates and assumptions affect the reported amounts of assets,liabilities, revenues, expenses, and related disclosures at the financialreporting date and throughout the reporting period.  Certain of the estimates result fromjudgments that can be subjective and complex, and consequently actual resultsmay differ from these estimates, which would be reflected in future periods.

Ourmost critical accounting policies involve the reporting of the reserves forlosses and loss adjustment expenses (“LAE”) (including losses that haveoccurred but were not reported to us by the financial reporting date),reinsurance recoverables, written and unearned premium, the recoverability ofdeferred tax assets, the impairment of invested assets, accounting for Lloyd’sresults and the translation of foreign currencies.

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***Reserves for Losses and LAE.***  Reserves for losses and LAE represent anestimate of the expected cost of the ultimate settlement and administration oflosses, based on facts and circumstances then known.  Actuarial methodologies are employed toassist in establishing such estimates and include judgments relative toestimates of future claims severity and frequency, length of time to develop toultimate, judicial theories of liability and other third party factors whichare often beyond our control.  Due to theinherent uncertainty associated with the reserving process, the ultimateliability may be different from the original estimate.  Such estimates are regularly reviewed and updatedand any resulting adjustments are included in the current year’s results.

***Reinsurance Recoverables.***  Reinsurance recoverables are established forthe portion of the loss reserves that are ceded to reinsurers.  Reinsurance recoverables are determined basedupon the terms and conditions of reinsurance contracts which could be subjectto interpretations that differ from our own based on judicial theories ofliability.  In addition, we bear creditrisk with respect to our reinsurers which can be significant considering thatcertain of the reserves remain outstanding for an extended period of time.  We are required to pay losses even if areinsurer fails to meet its obligations under the applicable reinsuranceagreement.

***Written and Unearned Premium.***  Written premium is recorded based on theinsurance policies that have been reported to us and the policies that havebeen written by agents but not yet reported to us.  We must estimate the amount of writtenpremium not yet reported based on judgments relative to current and historicaltrends of the business being written. Such estimates are regularly reviewed and updated and any resultingadjustments are included in the current year’s results.  An unearned premium reserve is established toreflect the unexpired portion of each policy at the financial reporting date.

Substantially all of ourbusiness is placed through agents and brokers. Since the vast majority of the Company’s gross written premium isprimary or direct as opposed to assumed, the delays in reporting assumedpremium generally do not have a significant effect on the Company’s financialstatements, since we record estimates for both unreported direct and assumedpremium.  We also record the cededportion of the estimated gross written premium and related acquisitioncosts.  The earned gross, ceded and netpremiums are calculated based on our earning methodology which is generallypro-rata over the policy period.  Lossesare also recorded in relation to the earned premium.  The estimate for losses incurred on theestimated premium is based on an actuarial calculation consistent with themethodology used to determine incurred but not reported loss reserves forreported premiums.

Aportion of the Company’s premium is estimated for unreported premium, mostlyfor the marine business written by our U.K. Branch and Lloyd’s Operations.  We generally do not experience anysignificant backlog in processing premiums. Such premium estimates are generally based on submission data receivedfrom brokers and agents and recorded when the insurance policy or reinsurancecontract is written or bound.  Theestimates are regularly reviewed and updated taking into account the premiumreceived to date versus the estimate and the age of the estimate.  To the extent that the actual premium variesfrom the estimates, the difference, along with the related loss reserves andunderwriting expenses, is recorded in current operations.

***Deferred Tax Assets.***  We apply the asset and liability method ofaccounting for income taxes whereby deferred assets and liabilities arerecognized for the future tax consequences attributable to differences betweenthe financial statement carrying amounts of existing assets and liabilities andtheir respective tax basis.  In assessingthe realization of deferred tax assets, management considers whether it is morelikely than not that the deferred tax assets will be realized.

***Impairment of Investment Securities.***  Impairment of investment securities resultsin a charge to operations when a market decline below cost isother-than-temporary.  Managementregularly reviews our fixed maturity and equity securities portfolios toevaluate the necessity of recording impairment losses for other-than-temporarydeclines in the fair value of investments. In general, we focus our attention on those securities whose marketvalue was less than 80% of their cost or amortized cost, as appropriate, forsix or more consecutive months.  Factorsconsidered in evaluating potential impairment include, but are not limited to,the current fair value as compared to cost or amortized cost of the security,as appropriate, the length of time the investment has

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been below cost oramortized cost and by how much, our intent and ability to retain the investmentfor a period of time sufficient to allow for an anticipated recovery in value,specific credit issues related to the issuer and current economicconditions.  Other-than-temporaryimpairment losses result in a permanent reduction of the cost basis of theunderlying investment.  Significantchanges in the factors we consider when evaluating investments for impairmentlosses could result in a significant change in impairment losses reported inthe consolidated financial statements.

Asmentioned above, the Company considers its intent and ability to hold asecurity until the value recovers as part of the process of evaluatingwhether a security’s unrealized loss represents an other-than- temporarydecline.  The Company’s ability to holdsuch securities is supported by sufficient cash flow from its operations andfrom maturities within its investment portfolio in order to meet its claimspayment and other disbursement obligations arising from its underwritingoperations without selling such investments. With respect to securities where the decline in value is determined tobe temporary and the security’s value is not written down, a subsequentdecision may be made to sell that security and realize a loss.  Subsequent decisions on security sales aremade within the context of overall risk monitoring, changing information,market conditions and assessing value relative to other comparablesecurities.  Management of the Company’sinvestment portfolio is outsourced to third party investment managers.  While these investment managers may, at a givenpoint in time, believe that the preferred course of action is to holdsecurities with unrealized losses that are considered temporary until suchlosses are recovered, the dynamic nature of the portfolio management may resultin a subsequent decision to sell the security and realize the loss, based upona change in market and other factors described above.  The Company believes that subsequentdecisions to sell such securities are consistent with the classification of theCompany’s portfolio as available for sale.

***Accounting for Lloyd’s Results.***  We record our pro rata share of Syndicate1221’s assets, liabilities, revenues and expenses, after making adjustments toconvert Lloyd’s accounting to U.S. GAAP. The most significant GAAP adjustments relate to income recognition.Lloyd’s syndicates determine underwriting results by year of account at the endof three years.  We record adjustments torecognize underwriting results as incurred, including the expected ultimatecost of losses incurred.  These adjustmentsto losses are based on actuarial analysis of syndicate accounts, includingforecasts of expected ultimate losses provided by the syndicate.  At the end of the Lloyd’s three-year periodfor determining underwriting results for an account year, the syndicate willclose the account year by reinsuring outstanding claims on that account yearwith the participants for the account’s next underwriting year.  The amount to close an underwriting year intothe next year is referred to as the reinsurance to close (“RITC”).  The RITC transaction is recorded in thefourth quarter as additional written and earned premium, losses incurred, lossreserves and receivables, all in the same amount.  There are no gains or losses recorded on theRITC transaction.

***Translation of Foreign Currencies****. *Financialstatements of subsidiaries expressed in foreign currencies are translated intoU.S. dollars in accordance with SFAS No. 52, *ForeignCurrency Translation,* issued by the FASB.  Under SFAS 52, functional currency assets andliabilities are translated into U.S. dollars using period end rates of exchangeand the related translation adjustments are recorded as a separate component of*accumulated**othercomprehensive income*. Functional currencies are generally the currencies of the localoperating environment.  Statement ofincome amounts expressed in functional currencies are translated using averageexchange rates.  Gains and lossesresulting from foreign currency transactions are recorded in *other income (expense)* in the Company’s ConsolidatedStatements of Income.

**Resultsof Operations and Overview**

Thefollowing is a discussion and analysis of our consolidated and segment resultsof operations for the three and six month periods ended June 30, 2006 and2005.  All earnings per share data ispresented on a per diluted share basis.

Netincome for the three month period ended June 30, 2006 was $18.1 million or$1.08 per share compared to $11.3 million or $0.88 per share for the threemonth period ended June 30, 2005. Included in these

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results were netrealized capital gains (losses) of ($0.01) per share and $0.02 per share forthe three months ended June 30, 2006 and 2005, respectively.

Netincome for the six month period ended June 30, 2006 was $33.6 million or $2.00per share compared to $21.0 million or $1.64 per share for the six month periodended June 30, 2005.  Included in theseresults were net realized capital gains (losses) of ($0.02) per share and $0.03per share for the six months ended June 30, 2006 and 2005, respectively.

Cashflow from operations was $16.7 million for the six months of 2006 compared to$115.9 million for the comparable period in 2005.  The positive cash flow contributed to thegrowth in invested assets and net investment income.  The 2006 cash flow was reduced by gross losspayments of approximately $52.5 million for 2005 hurricane losses and $14.0million for settled asbestos claims of which $47.8 million and $8.4 million,respectively are expected to be collected from reinsurers in subsequent accountingperiods.  The 2005 cash flow includedapproximately $24 million attributable to the settlement of the 2002underwriting year reinsurance to close premium recorded by Syndicate 1221 inthe 2004 fourth quarter.

Consolidated stockholders’equity increased 4.3% to $490.5 million or $29.42 per share at June 30, 2006compared to $470.2 million or $28.30 per share at December 31, 2005.  The increase was primarily due to net incomeof $33.6 million for the first six months of 2006, partially offset by anincrease of $15.3 million in other comprehensive loss substantially all due tonet unrealized losses in the investment portfolios due to rising interestrates.

On April 17, 2006, theCompany completed a public debt offering of $125 million principal amount of 7%senior unsecured notes due May 1, 2016 and received net proceeds of $123.5million of which $100 million was contributed to the capital and surplus ofNavigators Insurance Company.

On May 9, 2006, theCompany announced the establishment of an Inland Marine Division focusing ontraditional inland marine insurance products including builders’ risk,contractors’ tools and equipment, fine arts, EDP equipment and motor truckcargo.  On May 17, 2006, the Companyannounced the establishment of a Primary Casualty Division focusing on primarycasualty business produced by wholesale insurance brokers.  The Primary Casualty Division writesconstruction business east of the Rocky Mountains and non-construction risksnationwide.

**Revenues.**  Gross written premium increased to $252.3million and $516.1 million in the second quarter and first six months of 2006,respectively, from $190.1 million and $407.1 million in the second quarter andfirst six months of 2005, increases of 33% and 27%, respectively.  The growth in gross written premium reflectsa combination of business expansion in both new and existing lines of businesscoupled with premium rate changes on renewal policies.  The marine business experienced growth of 23%in the 2006 second quarter and 21% in the first six months of 2006 compared tothe same periods in 2005 primarily as a result of significant rate increases inthe offshore energy line of business coupled with a more modest net increase inpremiums in the other classes of business. Gross written premium for professional liability business written bothin the Insurance Companies and Lloyd’s Operations increased 28% in the 2006second quarter and 21% for the first six months of 2006 compared to the sameperiods in 2005 primarily as a result of diversification and expansion of thebusiness written by our Lloyd’s Operations. Specialty business grew 44% in both the second quarter and first sixmonths of 2006 compared to the same periods in 2005 primarily due to continuedproduct diversification and geographic expansion.

Thepremium rate changes discussed above and below for marine, specialty andprofessional liability are calculated primarily by comparing premium amounts onpolicies that have renewed.  The premiumsare judgmentally adjusted for exposure factors when deemed significant andsometimes represent an aggregation of several lines of business.  The rate change calculations provide anindicated pricing trend and are not meant to be a precise analysis of thenumerous factors that affect premium rates or the adequacy of such rates tocover all

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underwriting costsand generate an underwriting profit.  Thecalculation can also be affected quarter by quarter depending on the particularpolicies and the number of policies that renew during that period.  Due to market conditions, these rate changesmay or may not apply to new business which may be more competitively pricedcompared to renewal business.  Thefollowing table sets forth our gross and net written premium and net earnedpremium by segment and line of business for the periods indicated:

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| ** **                    | ** ** | **Three Months Ended June 30,** | ** ** |
|-------------------------------|------------|-----------------------------------------------------|------------|
| ** **                    | ** ** | **2006**                                            | ** ** | **2005** | ** ** |
| ** **                    | ** ** | **Gross**                                           | ** ** | ** ** | ** ** | **Net** | ** ** | **Net** | ** ** | **Gross** | ** ** | ** ** | ** ** | **Net** | ** ** | **Net** | ** ** |
| ** **                    | ** ** | **Written**                                         | ** ** | ** ** | ** ** | **Written** | ** ** | **Earned** | ** ** | **Written** | ** ** | ** ** | ** ** | **Written** | ** ** | **Earned** | ** ** |
| ** **                    | ** ** | **Premium**                                         | ** ** | **%** | ** ** | **Premium** | ** ** | **Premium** | ** ** | **Premium** | ** ** | **%** | ** ** | **Premium** | ** ** | **Premium** | ** ** |
| ** **                    | ** ** | **($ in thousands)**                      | ** ** |
| Insurance Companies:          |       |                                                |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
|                          |       |                                                |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Marine                        |       | $                                                   | 74,018     |   | 29.3 | % | $ | 35,810 |   | $ | 28,887 |   | $ | 60,132 |   | 31.6 | % | $ | 26,464 |   | $ | 23,330 |   |
|                          |       |                                                |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Specialty                     |       | 72,037                                              |       | 28.6 | % | 42,804 |   | 39,765 |   | 50,198 |   | 26.4 | % | 33,280 |   | 29,442 |   |
|                          |       |                                                |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Professional Liability        |       | 24,182                                              |       | 9.6 | % | 13,818 |   | 9,824 |   | 21,250 |   | 11.2 | % | 7,831 |   | 6,990 |   |
|                          |       |                                                |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Assumed from Lloyd’s     |       | 4                                                   |       | 0.0 | % | 4 |   | 4 |   | (930 | ) | -0.5 | % | (922 | ) | (675 | ) |
|                          |       |                                                |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Other                         |       | 55                                                  |       | 0.0 | % | 9 |   | 8 |   | 30 |   | 0.0 | % | 22 |   | 20 |   |
|                          |       |                                                |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Insurance Companies  Total    |       | 170,296                                             |       | 67.5 | % | 92,445 |   | 78,488 |   | 130,680 |   | 68.7 | % | 66,675 |   | 59,107 |   |
|                          |       |                                                |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Lloyd’s Operations:      |       |                                                |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
|                          |       |                                                |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Marine                        |       | 66,257                                              |       | 26.2 | % | 31,880 |   | 34,187 |   | 47,189 |   | 24.8 | % | 22,730 |   | 25,563 |   |
|                          |       |                                                |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Professional Liability        |       | 5,069                                               |       | 2.0 | % | 2,116 |   | 364 |   | 1,587 |   | 0.8 | % | 624 |   | 166 |   |
|                          |       |                                                |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Other                         |       | 10,746                                              |       | 4.3 | % | 2,807 |   | 1,502 |   | 9,771 |   | 5.2 | % | 3,228 |   | 996 |   |
|                          |       |                                                |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Lloyd’s Operations Total |       | 82,072                                              |       | 32.5 | % | 36,803 |   | 36,053 |   | 58,547 |   | 30.8 | % | 26,582 |   | 26,725 |   |
|                          |       |                                                |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Intercompany elimination      |       | (3                                                  | )          | 0.0 | % | — |   | — |   | 906 |   | 0.5 | % | — |   | — |   |
|                          |       |                                                |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Total                         |       | $                                                   | 252,365    |   | 100.0 | % | $ | 129,248 |   | $ | 114,541 |   | $ | 190,133 |   | 100.0 | % | $ | 93,257 |   | $ | 85,832 |   |

 

26

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| ** **                     | ** ** | **Six Months Ended June 30,** | ** ** |
|--------------------------------|------------|---------------------------------------------------|------------|
| ** **                     | ** ** | **2006**                                          | ** ** | **2005** | ** ** |
| ** **                     | ** ** | **Gross**                                         | ** ** | ** ** | ** ** | **Net** | ** ** | **Net** | ** ** | **Gross** | ** ** | ** ** | ** ** | **Net** | ** ** | **Net** | ** ** |
| ** **                     | ** ** | **Written**                                       | ** ** | ** ** | ** ** | **Written** | ** ** | **Earned** | ** ** | **Written** | ** ** | ** ** | ** ** | **Written** | ** ** | **Earned** | ** ** |
| ** **                     | ** ** | **Premium**                                       | ** ** | **%** | ** ** | **Premium** | ** ** | **Premium** | ** ** | **Premium** | ** ** | **%** | ** ** | **Premium** | ** ** | **Premium** | ** ** |
| ** **                     | ** ** | **($ in thousands)**                    | ** ** |
| Insurance Companies:           |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
|                           |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Marine                         |       | $                                                 | 155,812    |   | 30.2 | % | $ | 77,325 |   | $ | 51,388 |   | $ | 128,416 |   | 31.6 | % | $ | 56,811 |   | $ | 43,209 |   |
|                           |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Specialty                      |       | 134,168                                           |       | 26.0 | % | 83,323 |   | 75,899 |   | 93,147 |   | 22.9 | % | 69,678 |   | 49,464 |   |
|                           |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Professional  Liability        |       | 42,316                                            |       | 8.2 | % | 21,444 |   | 18,556 |   | 39,180 |   | 9.6 | % | 14,510 |   | 13,707 |   |
|                           |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Assumed  from Lloyd’s     |       | 220                                               |       | 0.0 | % | 17 |   | 17 |   | (805 | ) | -0.2 | % | (796 | ) | 36 |   |
|                           |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Other                          |       | 27                                                |       | 0.0 | % | (20 | ) | (20 | ) | 30 |   | 0.0 | % | 53 |   | 54 |   |
|                           |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Insurance  Companies Total     |       | 332,543                                           |       | 64.4 | % | 182,089 |   | 145,840 |   | 259,968 |   | 63.9 | % | 140,256 |   | 106,470 |   |
|                           |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Lloyd’s Operations:       |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
|                           |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Marine                         |       | 157,112                                           |       | 30.4 | % | 83,283 |   | 69,903 |   | 121,120 |   | 29.7 | % | 62,790 |   | 55,190 |   |
|                           |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Professional  Liability        |       | 7,089                                             |       | 1.4 | % | 2,945 |   | 605 |   | 1,587 |   | 0.4 | % | 624 |   | 166 |   |
|                           |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Other                          |       | 19,619                                            |       | 3.8 | % | 4,357 |   | 1,915 |   | 23,670 |   | 5.8 | % | 6,677 |   | 1,544 |   |
|                           |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Lloyd’s  Operations Total |       | 183,820                                           |       | 35.6 | % | 90,585 |   | 72,423 |   | 146,377 |   | 35.9 | % | 70,091 |   | 56,900 |   |
|                           |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Intercompany elimination       |       | (214                                              | )          | 0.0 | % | — |   | — |   | 784 |   | 0.2 | % | — |   | — |   |
|                           |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Total                          |       | $                                                 | 516,149    |   | 100.0 | % | $ | 272,674 |   | $ | 218,263 |   | $ | 407,129 |   | 100.0 | % | $ | 210,347 |   | $ | 163,370 |   |

 

27

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**Gross Written Premium**

Insurance Companies’ GrossWritten Premium

*Marine Premium.*  Thegross written premium for the first six months of 2006 consisted of 32% marine liability,22% offshore energy, 10% transport, 10% protection and indemnity (P&I) and8% bluewater hull with the remainder in several other marine related classes ofbusiness.

The marine gross written premium for the 2006 second quarter and firstsix months increased 23% and 21%, respectively, compared to the same periods in2005 reflecting growth across several lines of business including offshoreenergy, liability and P&I.  Theaverage renewal premium rates during the second quarter and first six months of2006 increased by approximately 17% and 14%, respectively, compared to the sameperiods in 2005.  Navigators InsuranceCompany has in the past obtained its marine business through participation inthe marine pool managed by the Navigators Agencies.  Commencing in 2006, the marine pool has beeneliminated and, therefore, all of the marine business generated by theNavigators Agencies is exclusively for the Insurance Companies.  Navigators Insurance Company participated for85% of the marine pool in 2005.

*Specialty Premium.* The gross written premium written in thefirst six months of 2006 consisted of 52% general liability business for smallgeneral and artisan contractors, 21% excess casualty business, 12% personalumbrella business and 15% other targeted commercial risks.  The specialty gross written premium increased44% for both the second quarter and first six months of 2006 compared to thesame 2005 periods reflecting growth across all lines of business including premiumsgenerated from our excess casualty business which started in the first quarterof 2005.  The average renewal premiumrates decreased by approximately 7% for the contractors’ liability business inboth the 2006 second quarter and first six months compared to the same periodsin 2005.

*Professional Liability Premium.* Our insurance company subsidiaries writeprofessional liability insurance.  Thegross written premium for the first six months of 2006 consisted of 66% D&Oliability coverage for privately held and publicly traded corporations, 27%professional liability coverage for lawyers and other professionals and 7%professional liability coverage for architects and engineers. In 2002, theprofessional liability business was expanded to include errors and omissionsinsurance and employment practices liability coverages.  Commencing in October 2004, our U.K. Branchbegan writing professional liability coverages for U.K. solicitors and, in2005, we began writing professional liability coverages for architects andengineers.  The professional liabilitygross written premium for the 2006 second quarter and first six monthsincreased 14% and 8%, respectively, compared to the same periods in 2005.  Approximately $3.4 million of internationalprofessional liability business written by the Insurance Companies in 2005 hasbeen renewed in the Lloyd’s Operations in 2006. Average overall renewal premium rates for the professional liabilitybusiness increased by approximately 3% in both the 2006 second quarter andfirst six months compared to the same periods in 2005.  D&O rates, included in the overallprofessional liability rate change, increased by approximately 2% in both the2006 second quarter and first six months compared to the same periods in 2005.

During the 2006 first quarter, the Company entered into an agreement toacquire the renewal rights to the D&O and employment practices liabilitypolicy portfolios of Genesis Professional Liability Managers, Inc. (“Genesis”).  The transaction does not include any past orexisting liabilities of the policy portfolios. The Company will pay an annual override or fee to Genesis based on grosswritten premium for a two year period to the extent the Genesis business isunderwritten and renewed by the Company. The Company believes that it may renew between $5 million to $10 millionof premium from such business over an annual period.  However, the amount renewed may be a lesseror greater amount than expected.

28

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Lloyd’sOperations’ Gross Written Premium

*Marine Premium.*The gross written premium for the first sixmonths of 2006**consisted of 31% cargo and specie, 24%offshore energy and 20% marine liability with the remainder in several othermarine related classes of business.

Our gross written premium is based on thestamp capacity of Syndicate 1221 and the percentage of such stamp capacity weprovide.  Our percentage of participationin the stamp capacity is 100% for 2006 compared to 97.5% for 2005.  Stamp capacity is a measure of the amount ofpremium a Lloyd’s syndicate is authorized to write as determined based on abusiness plan approved by the Council of Lloyd’s.  The stamp capacity for Syndicate 1221 hasbeen reduced to £112.5 million ($201.6 million) in 2006 from £135 million($246.0 million) in 2005.  The 2006 stampcapacity could be increased by the Company during the 2006 calendar year basedon opportunities in the market place subject to approval by Lloyd’s.  The marine gross written premium for the 2006second quarter and first six months increased 40% and 30%, respectively,compared to the same periods in 2005 reflecting growth across several lines ofbusiness, but primarily in offshore energy. The average renewal premium rates during the second quarter and firstsix months of 2006 increased by approximately 16% and 13%, respectively,compared to the same periods in 2005.

*Professional Liability Premium.*  Our Lloyd’s Operations commenced writinginternational professional liability business during the 2005 second quarterand produced $5.1 million and $7.1 million of gross written premium in the 2006second quarter and first six months, respectively, versus $1.6 million for thesecond quarter and first six months of 2005.

*Other Premium. *Other premiumconsists of premium for engineering and construction business which providescoverage for construction projects including machinery, equipment and loss ofuse due to delays and of premium for onshore energy business which principallyfocuses on the oil and gas, chemical and petrochemical industries withcoverages primarily for property damage and business interruption.

**Ceded Written Premium****.**  Inthe ordinary course of business, we reinsure certain insurance risks withunaffiliated insurance companies for the purpose of limiting our maximum lossexposure, protecting against catastrophic losses, and maintaining desiredratios of net premiums written to statutory surplus. The relationship of cededto written premium varies based upon the types of business written and whetherthe business is written by the Insurance Companies or the Lloyd’s Operations.

29

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The following tables set forth our ceded writtenpremium by segment and major lines of business for the periods indicated:
|                           | ** ** | **Three Months Ended June 30,** | ** ** |
|---------------------------|------------|-----------------------------------------------------|------------|
| ** **                | ** ** | **2006**                                            | ** ** | **2005** | ** ** |
| ** **                | ** ** | ** **                                          | ** ** | **% of** | ** ** | ** ** | ** ** | **% of** | ** ** |
| ** **                | ** ** | **Ceded**                                           | ** ** | **Gross** | ** ** | **Ceded** | ** ** | **Gross** | ** ** |
| ** **                | ** ** | **Written**                                         | ** ** | **Written** | ** ** | **Written** | ** ** | **Written** | ** ** |
| ** **                | ** ** | **Premium**                                         | ** ** | **Premium** | ** ** | **Premium** | ** ** | **Premium** | ** ** |
| ** **                | ** ** | **($ in thousands)**                      | ** ** |
| ** **                | * *   | * *                                            | * *   | * * | * * | * * | * * | * * | * * |
| Insurance  Companies:     |       |                                                |       |   |   |   |   |   |   |
| Marine                    |       | $                                                   | 38,208     |   | 51.6 | % | $ | 33,668 |   | 56.0 | % |
| Specialty                 |       | 29,233                                              |       | 40.6 | % | 16,918 |   | 33.7 | % |
| Professional Liability    |       | 10,364                                              |       | 42.9 | % | 13,419 |   | 63.1 | % |
| Assumed from Lloyd’s |       | (0                                                  | )          | NM |   | (8 | ) | NM |   |
| Other                     |       | 46                                                  |       | NM |   | 8 |   | NM |   |
| Subtotal                  |       | 77,851                                              |       | 45.7 | % | 64,005 |   | 49.0 | % |
|                      |       |                                                |       |   |   |   |   |   |   |
| Lloyd’s  Operations: |       |                                                |       |   |   |   |   |   |   |
| Marine                    |       | 34,377                                              |       | 51.9 | % | 24,459 |   | 51.8 | % |
| Professional Liability    |       | 2,953                                               |       | 58.3 | % | 963 |   | NM |   |
| Other                     |       | 7,939                                               |       | 73.9 | % | 6,543 |   | 67.0 | % |
| Subtotal                  |       | 45,269                                              |       | 55.2 | % | 31,965 |   | 54.6 | % |
|                      |       |                                                |       |   |   |   |   |   |   |
| Intercompany  elimination |       | (3                                                  | )          | NM |   | 906 |   | NM |   |
|                      |       |                                                |       |   |   |   |   |   |   |
| Total                     |       | $                                                   | 123,117    |   | 48.8 | % | $ | 96,876 |   | 51.0 | % |

 

----

NM = not meaningful

30

----

 
|                           | ** ** | **Six Months Ended June 30,** | ** ** |
|---------------------------|------------|---------------------------------------------------|------------|
| ** **                | ** ** | **2006**                                          | ** ** | **2005** | ** ** |
| ** **                | ** ** | ** **                                        | ** ** | **% of** | ** ** | ** ** | ** ** | **% of** | ** ** |
| ** **                | ** ** | **Ceded**                                         | ** ** | **Gross** | ** ** | **Ceded** | ** ** | **Gross** | ** ** |
| ** **                | ** ** | **Written**                                       | ** ** | **Written** | ** ** | **Written** | ** ** | **Written** | ** ** |
| ** **                | ** ** | **Premium**                                       | ** ** | **Premium** | ** ** | **Premium** | ** ** | **Premium** | ** ** |
| ** **                | ** ** | **($ in thousands)**                    | ** ** |
| ** **                | * *   | * *                                          | * *   | * * | * * | * * | * * | * * | * * |
| Insurance  Companies:     |       |                                              |       |   |   |   |   |   |   |
| Marine                    |       | $                                                 | 78,487     |   | 50.4 | % | $ | 71,605 |   | 55.8 | % |
| Specialty                 |       | 50,845                                            |       | 37.9 | % | 23,469 |   | 25.2 | % |
| Professional Liability    |       | 20,872                                            |       | 49.3 | % | 24,670 |   | 63.0 | % |
| Assumed from Lloyd’s |       | 203                                               |       | 92.3 | % | (9 | ) | 1.1 | % |
| Other (includes run-off)  |       | 47                                                |       | NM |   | (23 | ) | NM |   |
| Subtotal                  |       | 150,454                                           |       | 45.2 | % | 119,712 |   | 46.0 | % |
|                      |       |                                              |       |   |   |   |   |   |   |
| Lloyd’s  Operations: |       |                                              |       |   |   |   |   |   |   |
| Marine                    |       | 73,829                                            |       | 47.0 | % | 58,330 |   | 48.2 | % |
| Professional Liability    |       | 4,144                                             |       | 58.5 | % | 963 |   | 60.7 | % |
| Other                     |       | 15,262                                            |       | 77.8 | % | 16,993 |   | 71.8 | % |
| Subtotal                  |       | 93,235                                            |       | 50.7 | % | 76,286 |   | 52.1 | % |
|                      |       |                                              |       |   |   |   |   |   |   |
| Intercompany  elimination |       | (214                                              | )          | NM |   | 784 |   | NM |   |
|                      |       |                                              |       |   |   |   |   |   |   |
| Total                     |       | $                                                 | 243,475    |   | 47.2 | % | $ | 196,782 |   | 48.3 | % |

 

----

NM = not meaningful

 

The ratios of ceded written premium to gross written premium in the2006 second quarter and six month periods were 48.8% and 47.2%, respectively,compared to the 2005 second quarter and six month periods of 51.0% and 48.3%,respectively.  The decrease in the ratioof ceded written premium to gross written premium in the 2006 periods comparedto the same periods in 2005 was due to a combination of factors.

Commencing with the 2006 underwriting year, the marine pool has beeneliminated and therefore, all of the marine business generated by theNavigators Agencies is exclusively for the Insurance Companies.  The 2005 underwriting year marine businesswas ceded 15% to pool members and 85% retained by the Insurance Companies.  In 2005, members shared the 15% pro ratacosts and benefits of all quota share and excess of loss reinsurance ceded bythe pool which was also eliminated in 2006.

Also commencing with the 2006 underwriting year, our Lloyd’s Operationsis retaining more of Syndicate 1221’s business with the 2005 purchase of the2.5% minority interest in Syndicate 1221 and the replacement of a 5% capacityprovider with our own letter of credit funding.

Somewhat offsetting the reduction in ceded premiums due to the marinepool elimination and increased retention of business in Syndicate 1221 werechanges in the 2006 reinsurance structure and amounts ceded under marine quotashare and excess of loss agreements for the Insurance Companies and the Lloyd’sOperations reflecting higher reinsurance costs resulting from the tightenedmarket conditions for catastrophe loss protection as a result of the 2005industry-wide hurricane losses.

31

----

Additionally, as the professional liability business we have beenwriting since 2001 matures, we have been retaining more of the business byincreasing our net retentions on the professional liability pro ratareinsurance treaty renewals each April 1.

The net effects of the items discussed above on the decrease in theratio of ceded written premium to gross written premium for the six monthsended 2006 were somewhat offset as the 2005 first quarter ceded premium wasreduced by approximately $14.5 million resulting from the cancellation of aquota share reinsurance agreement for specialty business effective March 31,2005.  Such amount represented theunearned portion of the premium ceded to the reinsurance agreement that wasretained.  This retained amount wasoffset by $8.2 million of premiums ceded to the reinsurance agreement duringthe 2005 first quarter.  The 2005 sixmonth ratio of ceded written premium to gross premium was 49.9% excluding theseamounts

**Net Written Premium**.*** ***Net written premium increased39% in the 2006 second quarter and increased 30% in the first six months of2006 compared to the same periods in 2005. The increase in netwritten premium for the 2006 second quarter and six month period is principallydue to business expansion in all of the Company’s business units coupled withretaining more of the business written.

**Net Earned Premium**.  Net earned premium, which generally lags theincrease in net written premium, increased 33% in the 2006 second quarter andincreased 34% in the first six months of 2006 compared to the same periods in2005 as a result of the increased net written premium discussed above.

**CommissionIncome****.** Commission income from unaffiliated business was $0.5 million and $1.8million in the 2006 second quarter and six month periods, respectively,compared to $1.5 million and $2.8 million in the second quarter and first sixmonths of 2005, respectively.  Thedeclines are primarily due to the Company eliminating the marine pool beginningwith the 2006 underwriting year and therefore not receiving commission incomefrom the unaffiliated pool members on the 2006 marine business.

**NetInvestment Income****.* ***Net investmentincome increased 56% in the 2006 second quarter and 60% in the first six monthsof 2006 compared to the same periods in 2005 due to the increase in investedassets as a result of the positive cash flow from the increased premium volume,the $123.8 million of net proceeds from the October 2005 common stock offeringand the $123.5 million of net proceeds from the April 2006 7% Senior Notesoffering.

**NetRealized Capital Gains and Losses****.** Pre-tax net income included a net realized capital loss of $192,000 forthe three months ended June 30, 2006 compared to a net realized capital gain of$416,000 for the 2005 second quarter.  Onan after-tax basis, the net realized capital loss was $125,000 or $0.01 pershare compared to a net realized capital gain of $270,000 or $0.02 per sharefor the 2005 second quarter.  Pre-tax netincome included a net realized capital loss of $616,000 for the six monthsended June 30, 2006 compared to a net realized capital gain of $583,000 for thefirst six months of 2005.  On anafter-tax basis, the net realized capital loss was $400,000 or $0.02 per sharefor the first six months of 2006 compared to a net realized capital gain of$379,000 or $0.03 per share for the first six months of 2005.

**OtherIncome/(Expense)****.**  Otherincome/(expense) for the second quarters and first six months of both 2006 and2005 consisted primarily of foreign exchange gains and losses from our Lloyd’sOperations and inspection fees related to the specialty insurance business.

**Operating Expenses**

*Net Losses and Loss Adjustment Expenses Incurred*.  The ratios of net losses andloss adjustment expenses incurred to net earned premium (loss ratios) for the2006 and 2005 second quarters were 58.2% and 62.5%, respectively, and 59.0% and61.1% for the first six months of 2006 and 2005, respectively.  The 2006 second quarter and six month lossratios were favorably impacted by 2.5 and 3.1 loss ratio points, respectively,resulting from a redundancy of prior year loss reserves.

32

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The following tables set forth our net loss and LAEreserves by segment and line of insurance business and the total case reservesand incurred but not reported (“IBNR”) reserves as of June 30, 2006 andDecember 31, 2005:
|                                       | ** ** | **June 30,**              | ** ** | **December 31,** | ** ** |
|---------------------------------------|------------|--------------------------------|------------|-----------------------|------------|
| ** **                            | ** ** | **2006**                       | ** ** | **2005**              | ** ** |
| ** **                            | ** ** | **($ in thousands)** | ** ** |
| Insurance  Companies:                 |       |                           |       |                  |       |
| Marine                                |       | $                              | 170,476    |                  | $          | 162,644 |   |
| Specialty                             |       | 221,466                        |       | 193,755               |       |
| Professional Liability                |       | 42,482                         |       | 33,133                |       |
| Assumed from Lloyd’s Operations  |       | 926                            |       | 1,218                 |       |
| Other (primarily run-off business)    |       | 18,490                         |       | 19,613                |       |
| Total Insurance Companies             |       | 453,840                        |       | 410,363               |       |
|                                  |       |                           |       |                  |       |
| Lloyd’s  Operations:             |       |                           |       |                  |       |
| Marine                                |       | 164,745                        |       | 161,262               |       |
| Other                                 |       | 15,311                         |       | 7,351                 |       |
| Total Lloyd’s Operations         |       | 180,056                        |       | 168,613               |       |
|                                  |       |                           |       |                  |       |
| Total net loss reserves               |       | $                              | 633,896    |                  | $          | 578,976 |   |
|                                  |       |                           |       |                  |       |
| Total net case  loss and LAE reserves |       | $                              | 232,281    |                  | $          | 228,423 |   |
| Total net IBNR  loss and LAE reserves |       | 401,615                        |       | 350,553               |       |
| ** **                            | ** ** | ** **                     | ** ** | ** **            | ** ** |
| Total net loss  and LAE reserves      |       | $                              | 633,896    |                  | $          | 578,976 |   |

 

Our reserving practices and the establishment of any particular reservereflect management’s judgment concerning sound financial practice and do notrepresent any admission of liability with respect to any claims made againstus.  No assurance can be given thatactual claims made and related payments will not be in excess of the amountsreserved.  During the loss settlementperiod, it often becomes necessary to refine and adjust the estimates ofliability on a claim either upward or downward. Even after such adjustments, ultimate liability may exceed or be lessthan the revised estimates.

There are a number of factors that could cause actual losses and lossadjustment expenses to differ materially from the amount that we have reservedfor losses and loss adjustment expenses.

The process of establishing loss reserves is complex and imprecise asit must take into account many variables that are subject to the outcome offuture events.  As a result, informedsubjective judgments as to our ultimate exposure to losses are an integralcomponent of our loss reserving process.

IBNR loss reserves are calculated by the Company’s actuaries usingseveral standard actuarial methodologies, including the paid and incurred lossdevelopment and the paid and incurred Bornheutter-Ferguson loss methods.  Additional analyses, such as frequency/severityanalyses, are performed for certain books of business.

While an annual loss reserve study is conducted for each line ofbusiness, the timing of such studies varies throughout the year.  Additionally, a review of the emergence ofactual losses relative to expectations for each line of business is conductedeach quarter.  A separate analysis of ourasbestos and environmental liability

33

----

exposuresis also performed annually and updated quarterly.  Any adjustments that result from this revieware recorded in the quarter in which they are identified.

The actuarial methods generally utilize analysis of historical patternsof the development of paid and reported losses for each line of business byunderwriting year.  This process relieson the basic assumption that past experience, adjusted for the effects ofcurrent developments and likely trends, is an appropriate basis for predictingfuture outcomes.  This basic assumptionis particularly relevant for our marine and energy business written by ourInsurance Companies and Lloyd’s Operations where we generally rely on thesubstantial loss development data accumulated over many years to establish IBNRloss reserves for immature underwriting years.

For certain long tail classes of business where anticipated loss experienceis less predictable because of the small number of claims and/or erratic claimseverity patterns, estimates are based on both expected losses and actualreported losses.  These classes includeour California contractors’ liability business and directors and officersliability business, among others.  Forthese classes, we set ultimate losses for each underwriting year reflectingseveral factors, including our evaluation of loss trends and the current riskenvironment.  The expected ultimatelosses are adjusted as the underwriting year matures.

While we have a significant amount of loss development data that isutilized by our actuaries to establish the IBNR loss reserves for ourCalifornia contractors’ liability business, there have been significant changesrelating to this product and its market that could affect the applicability ofour data.  For example, one factor thatmay affect reserves and claim frequency is legislation implemented inCalifornia, which generally provides consumers who experience constructiondefects a method other than litigation to obtain defect repairs.  The law, which became effective July 1, 2002with a sunset provision effective January 1, 2011, provides for an alternativedispute resolution system that attempts to involve all parties to the claim atan early stage.  This legislation mayimpact claim severity, frequency and length of settlement assumptionsunderlying our reserves.  Accordingly, ourultimate liability may exceed or be less than current estimates due to thisvariable, among others.  There wereapproximately 987 specialty construction liability claims open at June 30, 2006compared to 1,012 at December 31, 2005.

The professional liability business generates third-party claims whichalso are longer tail in nature.  Theprofessional liability policies mostly provide coverage on a claims-made basis,whereby coverage is generally provided only for those claims that are madeduring the policy period.  These claimsoften involve a lengthy litigation period after being reported.  Our professional liability business isrelatively immature, as we first began writing the business in late 2001.  Accordingly, it will take some time to betterunderstand the reserve trends on this business. Given the limited history of this business, the actuaries generallyutilize industry data to initially establish IBNR loss reserves, which aresubsequently adjusted based on actual and expected claim emergence as eachunderwriting year matures.  There wereapproximately 859 professional liability claims open at June 30, 2006 comparedto 638 at December 31, 2005.

At the start of each underwriting year, our actuaries and managementdetermine an initial selected ultimate loss ratio for each line ofbusiness.  Management participationgenerally includes the underwriter for the particular line of business,executive management, and claims and finance personnel.  Generally, such determinations are based onprior year history modified where deemed appropriate for observed changes inpremium rates, terms, conditions, exposures, and loss trends.  Industry data is generally utilized for newlines of business.

As underwriting years age, for each subsequent quarter and followingyears, our actuaries, with management, continue to update and refine their estimatesof selected ultimate loss ratios for each line of business, by underwritingyear, using the actuarial methods referred to above and incorporating relevantfactors that generally include actual loss development, recent claims activity,number and dollar amount of open claims, risk characteristics of the particularline of business, the potential effects of changes in underwriting and claimsprocedures, historic performance relative to expectations and the relationshipof the IBNR reserve levels across underwriting years and between similar linesof business.  The output of this processresults in refinements to the

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ultimateloss ratios.  Such refinements to theultimate loss ratios for the prior underwriting years generate prior yearredundancies or deficiencies recorded in the year such refinements are made.

The following tables set forth our net loss and LAE reserves for ourspecialty liability and professional liability businesses as of June 30, 2006and December 31, 2005:

|                                   | ** ** | **June 30, 2006**    | ** ** |
|-----------------------------------|------------|--------------------------------|------------|
| ** **                        | ** ** | ** **                     | ** ** | ** ** | ** ** | **Total** | ** ** | **% of IBNR** | ** ** |
| **Type of**                  | ** ** | **Net Reported**          | ** ** | **Net** | ** ** | **Net Loss** | ** ** | **to Total Net** | ** ** |
| **Business**                      | ** ** | **Reserves**                   | ** ** | **IBNR** | ** ** | **Reserves** | ** ** | **Loss Reserves** | ** ** |
| ** **                        | ** ** | **($ in thousands)** | ** ** |
|                              | * *   | * *                       | * *   | * * | * * | * * | * * | * * | * * |
| Specialty  construction liability |       | $                              | 27,302     |   | $ | 157,774 |   | $ | 185,076 |   | 85.2 | % |
| Professional  liability           |       | 10,714                         |       | 34,090 |   | 44,804 |   | 76.1 | % |
|                              |       |                           |       |   |   |   |   |   |   |
| Total                             |       | $                              | 38,016     |   | $ | 191,864 |   | $ | 229,880 |   | 83.5 | % |

 

|                                   | ** ** | **December 31, 2005** | ** ** |
|-----------------------------------|------------|---------------------------------|------------|
| ** **                        | ** ** | ** **                      | ** ** | ** ** | ** ** | **Total** | ** ** | **% of IBNR** | ** ** |
| **Type of**                  | ** ** | **Net Reported**           | ** ** | **Net** | ** ** | **Net Loss** | ** ** | **to Total Net** | ** ** |
| **Business**                      | ** ** | **Reserves**                    | ** ** | **IBNR** | ** ** | **Reserves** | ** ** | **Loss Reserves** | ** ** |
| ** **                        | ** ** | **($ in thousands)**  | ** ** |
|                              | * *   | * *                        | * *   | * * | * * | * * | * * | * * | * * |
| Specialty  construction liability |       | $                               | 25,329     |   | $ | 141,078 |   | $ | 166,407 |   | 84.8 | % |
| Professional  liability           |       | 6,142                           |       | 28,079 |   | 34,221 |   | 82.1 | % |
|                              |       |                            |       |   |   |   |   |   |   |
| Total.                            |       | $                               | 31,471     |   | $ | 169,157 |   | $ | 200,628 |   | 84.3 | % |

 

*Asbestos Liability.* Our exposure to asbestos liabilityprincipally stems from marine liability insurance written on an occurrencebasis during the mid-1980s.  In general,our participation on such risks is in the excess layers, which requires theunderlying coverage to be exhausted prior to coverage being triggered in ourlayer.  In many instances we are one ofmany insurers who participate in the defense and ultimate settlement of theseclaims, and we are generally a minor participant in the overall insurancecoverage and settlement.

The reserves we have established for asbestos exposures at June 30,2006 and December 31, 2005 are for: (i) the 2005 fourth quarter settlements oftwo large claims aggregating approximately $28 million for excess insurance policylimits exposed to class action suits against two insureds involved in themanufacturing or distribution of asbestos products, each settlement to be paidover two years; (ii) the 2004 settlement of a large claim approximating $25million exposed to a class action suit which settlement will be paid over sevenyears starting in June 2005; (iii) other insureds not directly involved in themanufacturing or distribution of asbestos products, but that have more thanincidental asbestos exposure for their purchase or use of products thatcontained asbestos; and (iv) attritional asbestos claims that could be expectedto occur over time.

The Company has now settled the four large asbestos claims where excesspolicy limits were exposed to class action suits which gave rise to the reserveaction taken in the fourth quarter of 2003. The Company believes that there are no remaining known claims where itwould suffer a material loss as a result of excess policy limits being exposedto class action suits for insureds involved in the manufacturing ordistribution of asbestos

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products.  There can be no assurances, however, thatmaterial loss development may not arise in the future from existing asbestosclaims or new claims given the evolving and complex legal environment that maydirectly impact the outcome of the asbestos exposures of our insureds.

Substantially all of our asbestos liability reserves are included inour marine loss reserves.
|                           | ** ** | **Six Months Ended** | ** ** | **Year Ended**             | ** ** |
|---------------------------|------------|--------------------------------|------------|---------------------------------|------------|
| ** **                | ** ** | **June 30, 2006**    | ** ** | **December 31, 2005** | ** ** |
| ** **                | ** ** | **($ in thousands)** | ** ** |
| ** **                |       |                           | * *   | * *                        | * *   |
| **Gross  of Reinsurance** |       |                           |       |                            |       |
| Beginning reserve         |       | $                              | 56,838     |                            | $          | 78,421 |   |
| Incurred losses & LAE |       | 160                            |       | (17,409                         | )          |
| Calendar year payments    |       | 14,012                         |       | 4,174                           |       |
| Ending reserves           |       | $                              | 42,986     |                            | $          | 56,838 |   |
|                      |       |                           |       |                            |       |
| **Net of  Reinsurance**   |       |                           |       |                            |       |
| Beginning reserve         |       | $                              | 30,372     |                            | $          | 31,394 |   |
| Incurred losses & LAE |       | 153                            |       | 529                             |       |
| Calendar year payments    |       | 5,601                          |       | 1,551                           |       |
| Ending reserves           |       | $                              | 24,924     |                            | $          | 30,372 |   |

*Hurricanes Katrina and Rita*

During the 2005 third quarter, the Company recorded gross and net loss estimatesof $471 million and $22.3 million, respectively, exclusive of $14.5 million forthe cost of excess of loss reinstatement premiums related to Hurricanes Katrinaand Rita.  Such estimates remainunchanged through June 30, 2006.
|                           | ** ** | **Six Months Ended** | ** ** | **Year Ended**             | ** ** |
|---------------------------|------------|--------------------------------|------------|---------------------------------|------------|
| ** **                | ** ** | **June 30, 2006**    | ** ** | **December 31, 2005** | ** ** |
| ** **                | ** ** | **($ in thousands)** | ** ** |
| **Gross  of Reinsurance** |       |                           |       |                            |       |
| Beginning reserves        |       | $                              | 465,728    |                            | $          | — |   |
| Incurred loss & LAE   |       | —                         |       | 471,027                         |       |
| Calendar year payments    |       | 52,458                         |       | 5,299                           |       |
| Ending reserves           |       | $                              | 413,270    |                            | $          | 465,728 |   |
|                      |       |                           |       |                            |       |
| **Net of  Reinsurance**   |       |                           |       |                            |       |
| Beginning reserves        |       | $                              | 17,800     |                            | $          | — |   |
| Incurred loss & LAE   |       | —                         |       | 22,288                          |       |
| Calendar year payments    |       | 4,699                          |       | 4,488                           |       |
| Ending reserves           |       | $                              | 13,101     |                            | $          | 17,800 |   |

 

Our management believes that the overall estimates for the reserves forlosses and loss adjustment expenses are adequate to cover the ultimate cost oflosses and loss adjustment expenses on reported and

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unreportedclaims.  However, it is possible that theultimate liability may exceed or be less than such estimates.  To the extent that reserves are deficient orredundant, the amount of such deficiency or redundancy is treated as a chargeor credit to earnings in the period in which the deficiency or redundancy isidentified.

*Commission Expense.* Commission expense paid to unaffiliatedbrokers and agents is generally based on a percentage of the gross writtenpremium and is reduced by ceding commissions the Company may receive on theceded written premium.  Commissions aregenerally deferred and recorded as deferred policy acquisition costs to theextent that they relate to unearned premium. Commission expense as a percentage of earned premium in the 2006 secondquarter and six month periods was 11.9% and 12.5%, respectively, compared to10.8% and 11.5% for the 2005 comparable periods.  The increase in the 2006 commission ratioprincipally reflects the reduction of ceding commissions from quota sharereinsurance as more business written is being retained by the Company.

*Other Operating Expenses.* The 13% and 9% increase in other operatingexpenses in the second quarter and first six months of 2006, respectively,compared to the same periods in 2005 are attributable primarily toemployee-related expenses resulting from expansion of the business.  Included in the three and six months endedJune 30, 2006 were $1.9 million and $1.8 million in the aggregate for employeestock options, stock grants and stock appreciation rights expense compared to$0.9 million and $1.6 million for the same periods in 2005.

**Income Taxes**. The income tax expensewas $8.8 million and $5.4 million for the second quarters of 2006 and 2005,respectively.  The effective tax ratesfor the 2006 and 2005 second quarters were 32.8% and 32.5%, respectively.  The tax expense for the first six months of2006 and 2005 was $16.4 million and $10.0 million, respectively, resulting ineffective tax rates of 32.8% and 32.2%, respectively.  As of June 30, 2006 and December 31, 2005,the net deferred Federal, foreign, state and local tax assets were $39.5million and $28.3 million, respectively.

We are subject tothe tax regulations of the United States and foreign countries in which weoperate.  The Company files aconsolidated federal tax return, which includes all domestic subsidiaries andthe U.K. Branch.   The income from theforeign operations is designated as either U.S connected income or non-U.S.connected income.   Lloyd’s is requiredto pay U.S. income tax on U.S. connected income (U.S. source income) written byLloyd’s syndicates. Lloyd’s and the IRS have entered into an agreement wherebythe amount of tax due on U.S. connected income is calculated by Lloyd’s andremitted directly to the IRS.  Theseamounts are then charged to the corporate members in proportion to theirparticipation in the relevant syndicates. The Company’s corporate members aresubject to this agreement and will receive U.K. tax credits for any U.S. incometax incurred up to the U.K. income tax charge on the U.S. income.  The non-U.S. connected insurance income wouldgenerally constitute taxable income under the Subpart F income section of theInternal Revenue Code since less than 50% of the Company’s premium is derivedwithin the U.K. and would therefore be subject to U.S. taxation when the Lloyd’syear of account closes.  Taxes areaccrued at a 35% rate on our foreign source insurance income and foreign taxcredits, where available, are utilized to offset U.S. tax as permitted.   U.S. taxes are not accrued on the earningsof the Company’s foreign agencies as these earnings are not subject to theSubpart F tax regulations.  Theseearnings are subject to taxes under U.K. tax regulations at a 30% rate.

We have notprovided for U.S. deferred income taxes on the undistributed earnings ofapproximately $16.0 million of our non-U.S. subsidiaries since these earningsare intended to be permanently reinvested in the foreign subsidiary.  However, in the future, if such earnings weredistributed to the Company, taxes of approximately $0.8 million would bepayable on such undistributed earnings and would be reflected in the taxprovision for the year in which these earnings are no longer intended to bepermanently reinvested in the foreign subsidiary assuming all foreign taxcredits are realized.

The Company hadstate and local operating loss carryforwards amounting to potential future taxbenefits of $5.7million and $5.0 million at June30, 2006 and December 31, 2005, respectively. A valuation allowance was established for the full amount of thesepotential future tax benefits due to the uncertainty associated with theirrealization.  The Company’s state andlocal tax carryforwards at June 30, 2006 expire from 2021 to 2026.

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InJuly 2006, the Financial Accounting Standards Board (“FASB”) issuedInterpretation No. 48, *Accounting for Uncertaintyin Income Taxes*(“FIN 48”),**aninterpretation of FASB Statement No. 109. FIN 48 establishes the threshold for recognizing the benefits oftax-return positions in the financial statements as more-likely-than-not to besustained by the taxing authorities, and prescribes a measurement methodologyfor those positions meeting the recognition threshold.  The Company has not yet determined theestimated impact on its financial condition or results of operations, if any,of adopting FIN 48.

**Segment Information**

Effective in 2006,the Company classifies its business into two underwriting segments consistingof the Insurance Companies and the Lloyd’s Operations, which are separatelymanaged, and a Corporate segment. Segment data for each of the two underwriting segments includeallocations of revenues and expenses of Navigators Agencies and the ParentCompany’s expenses and related income tax amounts previously reportedseparately.  The Corporate segmentconsists of the Parent Company’s investment income, interest expense and therelated tax effect.  Segment data for2005 and prior periods have been restated to reflect this change in segmentreporting.

We evaluate the performance of each segment based on its underwritingand net income results.  The InsuranceCompanies’ and the Lloyd’s Operations’ results are measured by taking intoaccount net premiums earned, incurred losses and loss adjustment expenses,commission expense and other underwriting expenses.  The Corporate segment consists of the ParentCompany’s investment income and related tax effect.  Each segment also maintains its owninvestments, on which it earns income and realizes capital gains orlosses.  Our underwriting performance isevaluated separately from the performance of our investment portfolios.

Following are the financial results of the Company’s two underwritingsegments.

***Insurance Companies***

Our Insurance Companies consist of Navigators Insurance Company,including its U.K. Branch, and NIC Insurance Company. Navigators InsuranceCompany is our largest insurance subsidiary and has been active since 1983. Itspecializes principally in underwriting marine insurance and related lines ofbusiness, specialty liability insurance and professional liability insurance.NIC Insurance Company, a wholly owned subsidiary of Navigators InsuranceCompany, began operations in 1990. It underwrites specialty and professionalliability insurance on an excess and surplus lines basis fully reinsured byNavigators Insurance Company.  The NavigatorsAgencies produce business for the Insurance Companies.

Following are the results of operations for the Insurance Companies forthe three and six months ended June 30, 2006 and 2005:

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|                                      | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|--------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                           | ** ** | **June 30,**                | ** ** | **June 30,**              | ** ** |
| ** **                           | ** ** | **2006**                         | ** ** | **2005**                       | ** ** | **2006** | ** ** | **2005** | ** ** |
| ** **                           | ** ** | **($ in thousands)**   | ** ** |
| ** **                           | * *   | * *                         | * *   | * *                       | * *   | * * | * * | * * | * * |
| Gross written  premium               |       | $                                | 170,296    |                           | $          | 130,680 |   | $ | 332,543 |   | $ | 259,968 |   |
| Net written  premium                 |       | 92,445                           |       | 66,675                         |       | 182,089 |   | 140,256 |   |
|                                 |       |                             |       |                           |       |   |   |   |   |
| Net earned  premium                  |       | $                                | 78,488     |                           | $          | 59,107 |   | $ | 145,840 |   | $ | 106,470 |   |
| Net losses and LAE                   |       | (47,676                          | )          | (38,682                        | )          | (87,630 | ) | (67,524 | ) |
| Commission  expense                  |       | (7,912                           | )          | (4,409                         | )          | (15,036 | ) | (9,132 | ) |
| Other operating  expenses            |       | (13,966                          | )          | (12,316                        | )          | (27,399 | ) | (24,255 | ) |
| Commission  income and other income  |       | 794                              |       | 1,624                          |       | 2,000 |   | 2,895 |   |
|                                 |       |                             |       |                           |       |   |   |   |   |
| Underwriting  profit                 |       | 9,728                            |       | 5,324                          |       | 17,775 |   | 8,454 |   |
|                                 |       |                             |       |                           |       |   |   |   |   |
| Investment  income                   |       | 12,023                           |       | 7,486                          |       | 22,433 |   | 14,343 |   |
| Net realized  capital gains (losses) |       | (225                             | )          | 681                            |       | (300 | ) | 947 |   |
| Income before  income taxes          |       | 21,526                           |       | 13,491                         |       | 39,908 |   | 23,744 |   |
|                                 |       |                             |       |                           |       |   |   |   |   |
| Income tax  expense                  |       | 6,868                            |       | 4,304                          |       | 12,784 |   | 7,440 |   |
| Net income                           |       | $                                | 14,658     |                           | $          | 9,187 |   | $ | 27,124 |   | $ | 16,304 |   |
|                                 |       |                             |       |                           |       |   |   |   |   |
| Loss and LAE  ratio                  |       | 60.7                             | %          | 65.4                           | %          | 60.1 | % | 63.4 | % |
| Commission  expense ratio            |       | 10.1                             | %          | 7.5                            | %          | 10.3 | % | 8.6 | % |
| Other operating  expense ratio (1)   |       | 16.8                             | %          | 18.1                           | %          | 17.4 | % | 20.1 | % |
| Combined ratio                       |       | 87.6                             | %          | 91.0                           | %          | 87.8 | % | 92.1 | % |

 

----

(1)  Includes *otheroperating*expenses and *commission income andother income (expense).*

39

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Following are theunderwriting results of the Insurance Companies for the three and six monthsended June 30, 2006 and 2005:
| ** **                | ** ** | **Three Months Ended June 30, 2006** | ** ** |
|---------------------------|------------|---------------------------------------------------------------|------------|
| ** **                | ** ** | **($ in thousands)**                                | ** ** |
| ** **                | ** ** | **Net**                                                       | ** ** | **Losses** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                | ** ** | **Earned**                                                    | ** ** | **and LAE** | ** ** | **Underwriting** | ** ** | **Underwriting** | ** ** | **Combined Ratio** | ** ** |
| ** **                | ** ** | **Premium**                                                   | ** ** | **Incurred** | ** ** | **Expenses** | ** ** | **Profit(Loss)** | ** ** | **Loss** | ** ** | **Expense** | ** ** | **Total** | ** ** |
| Insurance Companies:      | ** ** | ** **                                                    | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Marine                    |       | $                                                             | 28,887     |   | $ | 17,045 |   | $ | 7,296 |   | $ | 4,546 |   | 59.0 | % | 25.3 | % | 84.3 | % |
| Specialty                 |       | 39,765                                                        |       | 23,804 |   | 11,075 |   | 4,886 |   | 59.9 | % | 27.9 | % | 87.8 | % |
| Professional Liability    |       | 9,824                                                         |       | 6,989 |   | 2,750 |   | 85 |   | 71.1 | % | 28.0 | % | 99.1 | % |
| Assumed from Lloyd’s |       | 4                                                             |       | (221 | ) | (2 | ) | 227 |   | NM |   | NM |   | NM |   |
| Other                     |       | 8                                                             |       | 59 |   | (35 | ) | (16 | ) | NM |   | NM |   | NM |   |
| Total                     |       | $                                                             | 78,488     |   | $ | 47,676 |   | $ | 21,084 |   | $ | 9,728 |   | 60.7 | % | 26.9 | % | 87.6 | % |

 
| ** **                | ** ** | **Three Months Ended June 30, 2005** | ** ** |
|---------------------------|------------|--------------------------------------|------------|
| ** **                | ** ** | **($ in thousands)**            | ** ** |
| ** **                | ** ** | **Net**                              | ** ** | **Losses** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                | ** ** | **Earned**                           | ** ** | **and LAE** | ** ** | **Underwriting** | ** ** | **Underwriting** | ** ** | **Combined Ratio** | ** ** |
| ** **                | ** ** | **Premium**                          | ** ** | **Incurred** | ** ** | **Expenses** | ** ** | **Profit(Loss)** | ** ** | **Loss** | ** ** | **Expense** | ** ** | **Total** | ** ** |
| Insurance Companies:      | ** ** | ** **                           | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Marine                    |       | $                                    | 23,330     |   | $ | 15,868 |   | $ | 4,462 |   | $ | 3,000 |   | 68.0 | % | 19.1 | % | 87.1 | % |
| Specialty                 |       | 29,442                               |       | 18,922 |   | 9,172 |   | 1,348 |   | 64.3 | % | 31.2 | % | 95.5 | % |
| Professional Liability    |       | 6,990                                |       | 5,031 |   | 2,180 |   | (221 | ) | 72.0 | % | 31.2 | % | 103.2 | % |
| Assumed from Lloyd’s |       | (675                                 | )          | (888 | ) | (18 | ) | 231 |   | NM |   | NM |   | NM |   |
| Other                     |       | 20                                   |       | (251 | ) | (695 | ) | 966 |   | NM |   | NM |   | NM |   |
| ** **                |       | $                                    | 59,107     |   | $ | 38,682 |   | $ | 15,101 |   | $ | 5,324 |   | 65.4 | % | 25.6 | % | 91.0 | % |

 

40

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| ** **                | ** ** | **Six Months Ended June 30, 2006** | ** ** |
|---------------------------|------------|-------------------------------------------------------------|------------|
| ** **                | ** ** | **($ in thousands)**                              | ** ** |
| ** **                | ** ** | **Net**                                                     | ** ** | **Losses** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                | ** ** | **Earned**                                                  | ** ** | **and LAE** | ** ** | **Underwriting** | ** ** | **Underwriting** | ** ** | **Combined Ratio** | ** ** |
| ** **                | ** ** | **Premium**                                                 | ** ** | **Incurred** | ** ** | **Expenses** | ** ** | **Profit(Loss)** | ** ** | **Loss** | ** ** | **Expense** | ** ** | **Total** | ** ** |
| Insurance Companies:      | ** ** | ** **                                                  | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Marine                    |       | $                                                           | 51,388     |   | $ | 30,545 |   | $ | 13,342 |   | $ | 7,501 |   | 59.4 | % | 26.0 | % | 85.4 | % |
| Specialty                 |       | 75,899                                                      |       | 44,961 |   | 21,599 |   | 9,339 |   | 59.2 | % | 28.5 | % | 87.7 | % |
| Professional Liability    |       | 18,556                                                      |       | 12,298 |   | 5,461 |   | 797 |   | 66.3 | % | 29.4 | % | 95.7 | % |
| Assumed from Lloyd’s |       | 17                                                          |       | (206 | ) | (9 | ) | 232 |   | NM |   | NM |   | NM |   |
| Other                     |       | (20                                                         | )          | 32 |   | 42 |   | (94 | ) | NM |   | NM |   | NM |   |
| Total                     |       | $                                                           | 145,840    |   | $ | 87,630 |   | $ | 40,435 |   | $ | 17,775 |   | 60.1 | % | 27.7 | % | 87.8 | % |

 
| ** **                | ** ** | **Six Months Ended June 30, 2005** | ** ** |
|---------------------------|------------|-------------------------------------------------------------|------------|
| ** **                | ** ** | **($ in thousands)**                              | ** ** |
| ** **                | ** ** | **Net**                                                     | ** ** | **Losses** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                | ** ** | **Earned**                                                  | ** ** | **and LAE** | ** ** | **Underwriting** | ** ** | **Underwriting** | ** ** | **Combined Ratio** | ** ** |
| ** **                | ** ** | **Premium**                                                 | ** ** | **Incurred** | ** ** | **Expenses** | ** ** | **Profit(Loss)** | ** ** | **Loss** | ** ** | **Expense** | ** ** | **Total** | ** ** |
| Insurance Companies:      | ** ** | ** **                                                  | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Marine                    |       | $                                                           | 43,209     |   | $ | 28,611 |   | $ | 10,591 |   | $ | 4,007 |   | 66.2 | % | 24.5 | % | 90.7 | % |
| Specialty                 |       | 49,464                                                      |       | 30,455 |   | 16,144 |   | 2,865 |   | 61.6 | % | 32.6 | % | 94.2 | % |
| Professional Liability    |       | 13,707                                                      |       | 9,471 |   | 4,093 |   | 143 |   | 69.1 | % | 29.9 | % | 99.0 | % |
| Assumed from Lloyd’s |       | 36                                                          |       | (315 | ) | 303 |   | 48 |   | NM |   | NM |   | NM |   |
| Other                     |       | 54                                                          |       | (698 | ) | (639 | ) | 1,391 |   | NM |   | NM |   | NM |   |
| ** **                |       | $                                                           | 106,470    |   | $ | 67,524 |   | $ | 30,492 |   | $ | 8,454 |   | 63.4 | % | 28.7 | % | 92.1 | % |

 

Net earned premiums of theInsurance Companies increased 33% and 34% in the 2006 second quarter and sixmonth periods, respectively, compared to the same periods last year reflectiveof business expansion in all business units coupled with increased retention ofthe business written.

Underwriting results generally reflect the favorableindustry market conditions over the last three to four years coupled withsatisfactory loss trends in the aforementioned periods.  The 2006 second quarter and six month lossratios were favorably impacted by prior year loss reserve redundancies of $0.6million and $4.4 million, respectively, or 0.8 and 3.0 loss ratio points,respectively.

The approximate annualized pre-tax yields on theInsurance Companies’ investment portfolio, excluding net realized capital gainsand losses, for the 2006 second quarter and six month period were 4.8% and4.6%, respectively, compared to 4.3% and 4.2% for the comparable 2005periods.  Net investment income increasedin the 2006 second quarter and six month period compared to the same periods in2005 due to the increase in the yield and the positive cash flows resulting ina larger investment portfolio including the statutory surplus contributions of$120 million from the net proceeds of our October 2005 equity offering and $100million from the net proceeds of our April 2006 7% Senior Notes offering, in anenvironment of gradually increasing interest rates as monetary policytightened.

41

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***Lloyd’s Operations***

The Lloyd’s Operations consist of NUAL, whichmanages Lloyd’s Syndicate 1221, Millennium Underwriting Ltd. and NavigatorsCorporate Underwriters Ltd. Both Millennium Underwriting Ltd. and NavigatorsCorporate Underwriters Ltd. are Lloyd’s corporate members with limitedliability and provide capacity to Lloyd’s Syndicate 1221. NUAL owns NavigatorsUnderwriting Ltd., an underwriting managing agency with its principal office inManchester, England, which underwrites cargo and engineering business for Lloyd’sSyndicate 1221.  In January 2005, weformed Navigators NV in Antwerp, Belgium, a wholly owned subsidiary ofNUAL.  Navigators NV produces transportliability, cargo and marine liability premium on behalf of Syndicate 1221.  The Lloyd’s Operations and NavigatorsManagement (UK) Limited, a Navigators Agency which produces business for theU.K. Branch, are subsidiaries of Navigators Holdings (UK) Limited located inthe United Kingdom.

Syndicate 1221 has stamp capacity of £112.5 million ($201.6 million) in2006 compared to £135 million ($246.0 million) in 2005.  Stamp capacity is a measure of the amount ofpremium a Lloyd’s syndicate is authorized to write based on a business planapproved by the Council of Lloyd’s. We provide 100% and 97.5% of Syndicate 1221’stotal stamp capacity in 2006 and 2005, respectively.  In September 2005, the Company purchased theremaining outstanding minority interest of the Syndicate 1221’s capacity forthe 2006 underwriting year.

Syndicate 1221’s stamp capacity is expressed net of commission (as isstandard at Lloyd’s) of approximately 21%. The Syndicate 1221 premium recorded in the Company’s financialstatements is gross of commission.  TheLloyd’s marine business had been subject to deteriorating pricing beginning inthe mid-1990’s.  The pricing competitionshowed some signs of stabilizing in 2000 and prices increased from 2001 through2003.  The marine rate increases began tolevel off in 2004 and into 2005.  As aresult of substantial insurance industry losses resulting from HurricanesKatrina and Rita in August and September 2005, the global marine insurancemarket is experiencing diminished capacity and rate increases, particularly forthe Gulf of Mexico offshore energy lines of business.  Lloyd’s presents its results on anunderwriting year basis, generally closing each underwriting year after threeyears.  We make estimates for eachunderwriting year and timely accrue the expected results.  Our Lloyd’s Operations included in theconsolidated financial statements represent our participation in Syndicate1221.

Lloyd’s syndicates report the amounts of premiums, claims, and expensesrecorded in an underwriting account for a particular year to the companies orindividuals that participate in the syndicates. The syndicates generally keep accounts open for three years.  Traditionally, three years have beennecessary to report substantially all premiums associated with an underwritingyear and to report most related claims, although claims may remain unsettledafter the underwriting year is closed.  ALloyd’s syndicate typically closes an underwriting year by reinsuringoutstanding claims on that underwriting year with the participants for the nextunderwriting year.  The cedingparticipants pay the assuming participants an amount based on the unearnedpremiums and outstanding claims in the underwriting year at the date of theassumption.  Our participation in Lloyd’sSyndicate 1221 is represented by and recorded as our proportionate share of theunderlying assets and liabilities and results of operations of the syndicatesince (i) we hold an undivided interest in each asset, (ii) we areproportionately liable for each liability and (iii) Syndicate 1221 is not aseparate legal entity. At Lloyd’s, the amount to close an underwriting yearinto the next year is referred to as the reinsurance to close (“RITC”)transaction.  The RITC amounts representthe transfer of the assets and liabilities from the participants of a closingunderwriting year to the participants of the next underwriting year.  To the extent our participation in thesyndicate changes, the RITC amounts vary accordingly.  The RITC transaction is recorded in thefourth quarter as additional written and earned premium, losses incurred, lossreserves and receivables, all in the same amount.  There are no gains or losses recorded on theRITC transaction.

We provide letters of credit to Lloyd’s to support our participation inSyndicate 1221’s stamp capacity as discussed below under the caption *Liquidity and Capital Resources*.

42

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Whenever a member of Lloyd’s is unable to pay itsdebts to policyholders, such debts may be payable by the Lloyd’s CentralFund.  If Lloyd’s determines that theCentral Fund needs to be increased, it has the power to assess premium levieson current Lloyd’s members up to 3% of a member’s underwriting capacity in anyone year.  The Company does not believethat any assessment is likely in the foreseeable future and has not providedany allowance for such an assessment. However, based on the Company’s 2006 capacity at Lloyd’s of £112.5million, the June 30, 2006 exchange rate of £1 equals $1.85 and in the event ofa maximum 3% assessment, the Company would be assessed approximately $6.2million.  In addition, beginning with the2005 underwriting year, Lloyd’s added a second tier of assets to the existingcentral fund.  This second tier is beingbuilt up through a compulsory interest bearing loan to the Society of Lloyd’sfrom the Lloyd’s members based on the stamp capacity of each syndicate for therespective underwriting year.  The fundsare invested in assets eligible for Society of Lloyd’s solvency.  The loans will be repaid on a rolling yearbasis as each year closes.  At June 30,2006, the Company had $3.4 million of assets loaned to this fund.

Following are the results of operations of the Lloyd’sOperations for the three and six months ended June 30, 2006 and 2005:
|                                               | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|-----------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                    | ** ** | **June 30,**                | ** ** | **June 30,**              | ** ** |
| ** **                                    | ** ** | **2006**                         | ** ** | **2005**                       | ** ** | **2006** | ** ** | **2005** | ** ** |
| ** **                                    | ** ** | **($ in thousands)**   | ** ** |
| ** **                                    | ** ** | ** **                       | ** ** | ** **                     | ** ** | ** ** | ** ** | ** ** | ** ** |
| Gross written  premium                        |       | $                                | 82,072     |                           | $          | 58,547 |   | $ | 183,820 |   | $ | 146,377 |   |
| Net written  premium                          |       | 36,803                           |       | 26,582                         |       | 90,585 |   | 70,091 |   |
|                                          |       |                             |       |                           |       |   |   |   |   |
| Net earned  premium                           |       | 36,053                           |       | 26,725                         |       | 72,423 |   | 56,900 |   |
| Net losses and  LAE                           |       | (18,951                          | )          | (14,929                        | )          | (41,114 | ) | (32,308 | ) |
| Commission  expense                           |       | (5,712                           | )          | (4,833                         | )          | (12,293 | ) | (9,714 | ) |
| Other operating  expenses                     |       | (5,961                           | )          | (5,312                         | )          | (10,936 | ) | (10,817 | ) |
| Commission  income and other income (expense) |       | (210                             | )          | 360                            |       | 56 |   | 1,256 |   |
|                                          |       |                             |       |                           |       |   |   |   |   |
| Underwriting  profit                          |       | $                                | 5,219      |                           | $          | 2,011 |   | $ | 8,136 |   | $ | 5,317 |   |
|                                          |       |                             |       |                           |       |   |   |   |   |
| Investment  income                            |       | 1,667                            |       | 1,454                          |       | 3,674 |   | 2,203 |   |
| Net realized  capital gains (losses)          |       | 33                               |       | (265                           | )          | (316 | ) | (364 | ) |
| Income before  income taxes                   |       | 6,919                            |       | 3,200                          |       | 11,494 |   | 7,156 |   |
|                                          |       |                             |       |                           |       |   |   |   |   |
| Income tax  expense                           |       | 2,422                            |       | 1,120                          |       | 4,023 |   | 2,505 |   |
| Net income                                    |       | $                                | 4,497      |                           | $          | 2,080 |   | $ | 7,471 |   | $ | 4,651 |   |
|                                          |       |                             |       |                           |       |   |   |   |   |
| Loss and LAE  ratio                           |       | 52.6                             | %          | 55.9                           | %          | 56.8 | % | 56.8 | % |
| Commission  expense ratio                     |       | 15.8                             | %          | 18.1                           | %          | 17.0 | % | 17.1 | % |
| Other operating  expense ratio (1)            |       | 17.1                             | %          | 18.5                           | %          | 15.0 | % | 16.8 | % |
| Combined ratio                                |       | 85.5                             | %          | 92.5                           | %          | 88.8 | % | 90.7 | % |

 

----

(1)  Includes *other operating expenses* and *commissionincome and other income (expense).*

The Lloyd’s Operations have been experiencing business expansioncoupled with improving underwriting results as a result of the generallyfavorable market conditions for marine and energy business from

43

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late 2001 through 2003, and continuing to a lesserextent in 2004.  Premium rate increasesoccurred in 2005 and continued into 2006 following Hurricanes Katrina and Rita,particularly in the offshore energy business. Net earned premium ceded to the Insurance Companies in the first sixmonths of 2006 and 2005 was $17,000 and $36,000, respectively.

The 2006 second quarter andsix month loss ratios were favorably impacted by 6.4 and 3.2 loss ratio points,respectively, from a $2.3 million redundancy of prior year loss reservesrecorded in the 2006 second quarter.

The approximate annualized pre-tax yields on theLloyd’s Operations’ investment portfolio, excluding net realized capital gainsand losses, for the 2006 second quarter and six month period were 3.0% and3.3%, respectively, compared to 2.7% and 2.2% for the comparable 2005periods.  Generally, funds invested atLloyd’s have been invested with a relatively short average duration in order tomeet liquidity needs.  The averageduration of our Lloyd’s Operations invested assets at June 30, 2006 was 1.4years.  Such yields are net of interestcredits to certain reinsurers for funds withheld by our Lloyd’s Operations.

**Off-Balance Sheet Transactions**

There have been no material changes in theinformation concerning off-balance sheet transactions as stated in the Company’s2005 Annual Report on Form 10-K.

**Tabular Disclosure of Contractual Obligations**

There have been no material changes in the operatinglease or capital lease information concerning contractual obligations as statedin the Company’s 2005 Annual Report on Form 10-K.

Total reserves for losses and LAE were $1.6 billionat both June 30, 2006 and December 31, 2005. There were no significant changes in the Company’s lines of business orclaims handling that would create a material change in the percentagerelationship of the projected payments by period to the total reserves.

**Investments**

The objective of the Company’s investment policy,guidelines and strategy is to maximize total investment return in the contextof preserving and enhancing shareholder value and statutory surplus of theInsurance Companies.  Secondarily, animportant consideration is to optimize the after-tax book income.

The investments are managed by outside professionalfixed-income and equity portfolio managers. The Company seeks to achieve its investment objectives by investing incash equivalents and money market funds, municipal bonds, U.S. Government bonds,U.S. Government agency guaranteed and non-guaranteed securities, corporatebonds, mortgage-backed and asset-backed securities and common and preferredstocks.  Our investment guidelinesrequire that the amount of the consolidated fixed-income portfolio rated below ‘‘A-’’by Standard & Poor’s (“S&P”) or A3 by Moody’s shall not exceed 20% ofthe statutory surplus of the Insurance Companies.  Securities rated below BBB- by S&P orBaa3 by Moody’s are not eligible to be purchased.  Up to 15% of the statutory surplus of theInsurance Companies may be invested in equity securities that are activelytraded on major U.S. stock exchanges. Our investment guidelines prohibit investments in derivatives other thanas a hedge against foreign currency exposures or the writing of covered calloptions on the equity portfolio.

TheInsurance Companies’ investments are subject to the direction and control ofeach company’s Board of Directors and our Finance Committee.  The investment portfolio and the performanceof the investment managers are reviewed quarterly.  These investments must comply with theinsurance laws of New York State, the domiciliary state of Navigators InsuranceCompany and NIC Insurance Company.  Theselaws prescribe the type, quality and concentration of investments which may bemade by insurance companies.  In general,these

44

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laws permit investments, within specified limits and subject to certainqualifications, in Federal, state and municipal obligations, corporate bonds,preferred stocks, common stocks, mortgages and real estate.

The Lloyd’s Operations’ investments are subject tothe direction and control of the Board of Directors and the InvestmentCommittee of NUAL, as well as the Company’s Board of Directors and FinanceCommittee, and represent our share of the investments held by Syndicate1221.  These investments must comply withthe rules and regulations imposed by Lloyd’s and by certain overseasregulators.  The investment portfolio andthe performance of the investment managers are reviewed quarterly.

The majority of the investment income of theNavigators Agencies is derived from fiduciary funds invested in accordance withthe guidelines of various state insurance departments.  These guidelines typically requireinvestments in short-term instruments. This investment income is paid to Navigators Insurance Company.

All fixed maturity andequity securities are carried at fair value. The fair value is based on quoted market prices or dealer quotesprovided by independent pricing services. The following tables show our cash and investments as of June 30, 2006and December 31, 2005:

45

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|                                                                     | ** ** | ** **                     | ** ** | **Gross**      | ** ** | **Gross**      | ** ** | **Cost or** | ** ** |
|---------------------------------------------------------------------|------------|--------------------------------|------------|----------------|------------|----------------|------------|------------------|------------|
| ** **                                                          | ** ** | **Fair**                       | ** ** | **Unrealized** | ** ** | **Unrealized** | ** ** | **Amortized**    | ** ** |
| **June 30, 2006**                                         | ** ** | **Value**                      | ** ** | **Gains**      | ** ** | **(Losses)**   | ** ** | **Cost**         | ** ** |
| ** **                                                          | ** ** | **($ in thousands)** | ** ** |
| Fixed maturities:                                                   |       |                           |       |           |       |           |       |             |       |
|                                                                |       |                           |       |           |       |           |       |             |       |
| U.S. Government  Treasury Bonds, GNMAs and foreign government bonds |       | $                              | 208,690    |           | $          | 420            |       | $                | (6,696     | ) | $ | 214,966 |   |
| States, municipalities  and political subdivisions                  |       | 317,393                        |       | 523            |       | (6,094         | )          | 322,964          |       |
| Mortgage- and  asset-backed securities (excluding GNMAs).           |       | 427,588                        |       | 162            |       | (11,393        | )          | 438,819          |       |
| Corporate bonds.                                                    |       | 205,325                        |       | 547            |       | (5,734         | )          | 210,512          |       |
|                                                                |       |                           |       |           |       |           |       |             |       |
| Total fixed maturities (1)                                          |       | 1,158,996                      |       | 1,652          |       | (29,917        | )          | 1,187,261        |       |
|                                                                |       |                           |       |           |       |           |       |             |       |
| Equity securities -  common stocks                                  |       | 27,668                         |       | 2,170          |       | (714           | )          | 26,212           |       |
|                                                                |       |                           |       |           |       |           |       |             |       |
| Cash and short-term  investments.                                   |       | 121,887                        |       | —         |       | —         |       | 121,887          |       |
|                                                                |       |                           |       |           |       |           |       |             |       |
| Total.                                                              |       | $                              | 1,308,551  |           | $          | 3,822          |       | $                | (30,631    | ) | $ | 1,335,360 |   |

 

----

(1)             Approximately 5.1%and 16.1% of total fixed maturities investments are direct and collateralizedobligations, respectively, of FNMA and FHLMC.

 

|                                                                     | ** ** | ** **                     | ** ** | **Gross**      | ** ** | **Gross**      | ** ** | **Cost or** | ** ** |
|---------------------------------------------------------------------|------------|--------------------------------|------------|----------------|------------|----------------|------------|------------------|------------|
| ** **                                                          | ** ** | **Fair**                       | ** ** | **Unrealized** | ** ** | **Unrealized** | ** ** | **Amortized**    | ** ** |
| **December 31, 2005**                                     | ** ** | **Value**                      | ** ** | **Gains**      | ** ** | **(Losses)**   | ** ** | **Cost**         | ** ** |
| ** **                                                          | ** ** | **($ in thousands)** | ** ** |
| Fixed maturities:                                                   |       |                           |       |           |       |           |       |             |       |
|                                                                |       |                           |       |           |       |           |       |             |       |
| U.S. Government  Treasury Bonds, GNMAs and foreign government bonds |       | $                              | 244,890    |           | $          | 2,432          |       | $                | (2,249     | ) | $ | 244,707 |   |
| States, municipalities  and political  subdivisions            |       | 216,345                        |       | 1,563          |       | (2,115         | )          | 216,897          |       |
| Mortgage- and  asset-backed securities (excluding GNMAs)            |       | 358,062                        |       | 758            |       | (3,682         | )          | 360,986          |       |
| Corporate bonds.                                                    |       | 164,816                        |       | 2,115          |       | (1,435         | )          | 164,136          |       |
|                                                                |       |                           |       |           |       |           |       |             |       |
| Total fixed maturities (1)                                          |       | 984,113                        |       | 6,868          |       | (9,481         | )          | 986,726          |       |
|                                                                |       |                           |       |           |       |           |       |             |       |
| Equity securities -  common stocks                                  |       | 20,911                         |       | 1,893          |       | (649           | )          | 19,667           |       |
|                                                                |       |                           |       |           |       |           |       |             |       |
| Cash and short-term  investments.                                   |       | 177,212                        |       | —         |       | —         |       | 177,212          |       |
|                                                                |       |                           |       |           |       |           |       |             |       |
| Total.                                                              |       | $                              | 1,182,236  |           | $          | 8,761          |       | $                | (10,130    | ) | $ | 1,183,605 |   |

 

----

(1)             Approximately 5.6%and 10.7% of total fixed maturities investments are direct and collateralizedobligations, respectively, of FNMA and FHLMC.

AtJune 30, 2006 and December 31, 2005, all fixed-maturity and equity securitiesheld by us were classified as available-for-sale.

46

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We regularly review our fixed maturity and equitysecurities portfolios to evaluate the necessity of recording impairment lossesfor other-than-temporary declines in the fair value of investments.  In general, we focus our attention on thosesecurities whose market value was less than 80% of their cost or amortizedcost, as appropriate, for six or more consecutive months.  Other factors considered in evaluatingpotential impairment include the current fair value as compared to cost oramortized cost, as appropriate, our intent and ability to retain the investmentfor a period of time sufficient to allow for an anticipated recovery in value,specific credit issues related to the issuer and current economic conditions.

As mentioned above, the Company considers its intentand ability to hold a security until the value recovers as part of the processof evaluating whether a security’s unrealized loss represents another-than-temporary decline.  TheCompany’s ability to hold such securities is supported by sufficient cash flowfrom its operations and from maturities within its investment portfolio inorder to meet its claims payment and other disbursement obligations arisingfrom its underwriting operations without selling such investments.  With respect to securities where the declinein value is determined to be temporary and the security’s value is not writtendown, a subsequent decision may be made to sell that security and realize aloss.  Subsequent decisions on securitysales are made within the context of overall risk monitoring, changinginformation, market conditions and assessing value relative to other comparablesecurities.  Management of the Company’sinvestment portfolio is outsourced to third party investment managers.  While these investment managers may, at agiven point in time, believe that the preferred course of action is to holdsecurities with unrealized losses that are considered temporary until suchlosses are recovered, the dynamic nature of the portfolio management may resultin a subsequent decision to sell the security and realize the loss, based upona change in market and other factors described above.  The Company believes that subsequentdecisions to sell such securities are consistent with the classification of theCompany’s portfolio as available for sale.

When a security in our investment portfolio has anunrealized loss that is deemed to be other-than-temporary, we write thesecurity down to fair value through a charge to operations.  Significant changes in the factors weconsider when evaluating investments for impairment losses could result in asignificant change in impairment losses reported in the consolidated financialstatements.  There were no impairmentlosses recorded in our fixed maturity or equity securities portfolios in thefirst six months of 2006 or 2005.

Thefollowing table summarizes all securities in an unrealized loss position atJune 30, 2006 and December 31, 2005, showing the aggregate fair value and grossunrealized loss by the length of time those securities have continuously beenin an unrealized loss position:

47

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| ** **                                                          | ** ** | **June 30, 2006**    | ** ** | **December 31, 2005** | ** ** |
|---------------------------------------------------------------------|------------|--------------------------------|------------|---------------------------------|------------|
| ** **                                                          | ** ** | **Fair**                       | ** ** | **Gross**                       | ** ** | **Fair** | ** ** | **Gross** | ** ** |
| ** **                                                          | ** ** | **Value**                      | ** ** | **Unrealized Loss**        | ** ** | **Value** | ** ** | **Unrealized Loss** | ** ** |
| ** **                                                          | ** ** | **($ in thousands)** | ** ** |
| ** **                                                          | ** ** | ** **                     | ** ** | ** **                      | ** ** | ** ** | ** ** | ** ** | ** ** |
| Fixed Maturities:                                                   |       |                           |       |                            |       |   |   |   |   |
| U.S. Government  Treasury Bonds, GNMAs and foreign government bonds |       |                           |       |                            |       |   |   |   |   |
| 0-6 Months                                                          |       | $                              | 66,212     |                            | $          | 2,000 |   | $ | 66,229 |   | $ | 772 |   |
| 7-12 Months                                                         |       | 20,949                         |       | 1,171                           |       | 52,994 |   | 690 |   |
| > 12 Months                                                      |       | 84,672                         |       | 3,525                           |       | 51,234 |   | 787 |   |
| Subtotal                                                            |       | 171,833                        |       | 6,696                           |       | 170,457 |   | 2,249 |   |
|                                                                |       |                           |       |                            |       |   |   |   |   |
| States, municipalities  and political subdivisions                  |       |                           |       |                            |       |   |   |   |   |
| 0-6 Months                                                          |       | 156,600                        |       | 2,196                           |       | 82,167 |   | 696 |   |
| 7-12 Months                                                         |       | 15,027                         |       | 321                             |       | 43,875 |   | 776 |   |
| > 12 Months                                                      |       | 119,521                        |       | 3,577                           |       | 24,786 |   | 643 |   |
| Subtotal                                                            |       | 291,148                        |       | 6,094                           |       | 150,828 |   | 2,115 |   |
|                                                                |       |                           |       |                            |       |   |   |   |   |
| Mortgage- and  asset-backed securities (excluding GNMAs)            |       |                           |       |                            |       |   |   |   |   |
| 0-6 Months                                                          |       | 176,074                        |       | 2,911                           |       | 184,145 |   | 1,847 |   |
| 7-12 Months                                                         |       | 81,473                         |       | 3,061                           |       | 53,485 |   | 942 |   |
| > 12 Months                                                      |       | 140,176                        |       | 5,421                           |       | 52,115 |   | 893 |   |
| Subtotal                                                            |       | 397,723                        |       | 11,393                          |       | 289,745 |   | 3,682 |   |
|                                                                |       |                           |       |                            |       |   |   |   |   |
| Corporate bonds                                                     |       |                           |       |                            |       |   |   |   |   |
| 0-6 Months                                                          |       | 105,988                        |       | 2,500                           |       | 45,995 |   | 576 |   |
| 7-12 Months                                                         |       | 17,652                         |       | 819                             |       | 9,109 |   | 202 |   |
| > 12 Months                                                      |       | 56,696                         |       | 2,415                           |       | 26,904 |   | 657 |   |
| Subtotal                                                            |       | 180,336                        |       | 5,734                           |       | 82,008 |   | 1,435 |   |
|                                                                |       |                           |       |                            |       |   |   |   |   |
| Total Fixed Maturities                                              |       | $                              | 1,041,040  |                            | $          | 29,917 |   | $ | 693,038 |   | $ | 9,481 |   |
|                                                                |       |                           |       |                            |       |   |   |   |   |
| Equity securities -  common stocks                                  |       |                           |       |                            |       |   |   |   |   |
| 0-6 Months                                                          |       | $                              | 5,327      |                            | $          | 315 |   | $ | 2,200 |   | $ | 167 |   |
| 7-12 Months                                                         |       | 1,263                          |       | 158                             |       | 3,120 |   | 235 |   |
| > 12 Months                                                      |       | 2,315                          |       | 241                             |       | 756 |   | 247 |   |
|                                                                |       |                           |       |                            |       |   |   |   |   |
| Total Equity Securities                                             |       | $                              | 8,905      |                            | $          | 714 |   | $ | 6,076 |   | $ | 649 |   |

 

Weanalyze the unrealized losses quarterly to determine if any areother-than-temporary.  The aboveunrealized losses have been determined to be temporary and generally resultfrom changes in market conditions.

48

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The following table shows the composition byNational Association of Insurance Commissioners (“NAIC”) rating and thegenerally equivalent Standard & Poor’s (“S&P”) and Moody’s ratings ofthe fixed maturity securities in our portfolio with gross unrealized losses atJune 30, 2006.  Not all of the securitiesare rated by S&P and/or Moody’s.

 
| ** ** | ** ** | ** **     | ** ** | ** **       | ** ** | **Gross**                | ** ** | ** **                     | ** ** |
|------------|------------|----------------|------------|------------------|------------|--------------------------|------------|--------------------------------|------------|
| ** ** | ** ** | **Equivalent** | ** ** | **Equivalent**   | ** ** | **Unrealized Loss** | ** ** | **Fair Value**            | ** ** |
| **NAIC**   | ** ** | **S&P**    | ** ** | **Moody’s** | ** ** | ** **               | ** ** | **Percent**                    | ** ** | ** ** | ** ** | **Percent** | ** ** |
| **Rating** | ** ** | **Rating**     | ** ** | **Rating**       | ** ** | **Amount**               | ** ** | **of Total**              | ** ** | **Amount** | ** ** | **of Total** | ** ** |
| ** ** | ** ** | ** **     | ** ** | ** **       | ** ** | ** **               | ** ** | **($ in thousands)** | ** ** | ** ** | ** ** |
|       |       |           |       |             |       |                     |       |                           |       |   |   |   |   |
| 1          |       | AAA/AA/A       |       | Aaa/Aa/A         |       | $                        | 27,653     |                           | 92         | % | $ | 984,470 |   | 95 | % |
| 2          |       | BBB            |       | Baa              |       | 2,256                    |       | 8                              | %          | 56,433 |   | 5 | % |
| 3          |       | BB             |       | Ba               |       | 8                        |       | 0                              | %          | 137 |   | 0 | % |
| 4          |       | B              |       | B                |       | —                   |       | —                         |       | — |   | — |   |
| 5          |       | CCC  or lower  |       | Caa  or lower    |       | —                   |       | —                         |       | — |   | — |   |
| 6          |       | N/A            |       | N/A              |       | —                   |       | —                         |       | — |   | — |   |
|       |       |           |       | Total            |       | $                        | 29,917     |                           | 100        | % | $ | 1,041,040 |   | 100 | % |

 

At June 30, 2006, the gross unrealized losses in thetable directly above are related to fixed maturity securities that are ratedinvestment grade, except for $137,000 rated below investment grade.  Investment grade is defined as a securityhaving a NAIC rating of 1 or 2, a S&P rating of “BBB–” or higher, or aMoody’s rating of “Baa3” or higher. Unrealized losses on investment grade securities principally relate tochanges in interest rates or changes in sector-related credit spreads since thesecurities were acquired.  Any suchunrealized losses are recognized in income, if the securities are sold, or ifthe decline in fair value is deemed other-than-temporary.

Thescheduled maturity dates for fixed maturity securities in an unrealized lossposition at June 30, 2006 are shown in the following table:

 
| ** **                                               | ** ** | **Gross**                      | ** ** | ** **          | ** ** |
|----------------------------------------------------------|------------|--------------------------------|------------|---------------------|------------|
| ** **                                               | ** ** | **Unrealized Loss**       | ** ** | **Fair Value** | ** ** |
| ** **                                               | ** ** | ** **                     | ** ** | **Percent**         | ** ** | ** ** | ** ** | **Percent** | ** ** |
| ** **                                               | ** ** | **Amount**                     | ** ** | **of Total**   | ** ** | **Amount** | ** ** | **of Total** | ** ** |
| ** **                                               | ** ** | **($ in thousands)** | ** ** |
|                                                     |       |                           |       |                |       |   |   |   |   |
| Due in one year or less                                  |       | $                              | 661        |                | 2          | % | $ | 58,601 |   | 6 | % |
| Due after one year  through five years                   |       | 5,211                          |       | 17                  | %          | 228,262 |   | 22 | % |
| Due after five years  through ten years.                 |       | 4,723                          |       | 16                  | %          | 153,793 |   | 15 | % |
| Due after ten years                                      |       | 7,929                          |       | 27                  | %          | 202,661 |   | 19 | % |
| Mortgage- and asset-backed  securities (excluding GNMAs) |       | 11,393                         |       | 38                  | %          | 397,723 |   | 38 | % |
|                                                     |       |                           |       |                |       |   |   |   |   |
| Total fixed income  securities                           |       | $                              | 29,917     |                | 100        | % | $ | 1,041,040 |   | 100 | % |

 

Expectedmaturities may differ from contractual maturities because issuers may have theright to call or prepay obligations with or without call or prepaymentpenalties.  Due to the periodic repaymentof principal, the mortgage-backed and asset-backed securities are estimated tohave an effective maturity of approximately 4.9 years.

49

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Our realized capital gains and losses for the threeand six months ended June 30, 2006 and 2005 were as follows:

 
| ** **                           | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|--------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                           | ** ** | **June 30,**                | ** ** | **June 30,**              | ** ** |
| ** **                           | ** ** | **2006**                         | ** ** | **2005**                       | ** ** | **2006** | ** ** | **2005** | ** ** |
| ** **                           | ** ** | **($ in thousands)**   | ** ** |
|                                 |       |                             |       |                           |       |   |   |   |   |
| Fixed  maturities:                   |       |                             |       |                           |       |   |   |   |   |
| Gains                                |       | $                                | 69         |                           | $          | 546 |   | $ | 341 |   | $ | 1,259 |   |
| (Losses)                             |       | (241                             | )          | (411                           | )          | (1,407 | ) | (957 | ) |
|                                 |       | (172                             | )          | 135                            |       | (1,066 | ) | 302 |   |
| Equity  securities:                  |       |                             |       |                           |       |   |   |   |   |
| Gains                                |       | 3                                |       | 415                            |       | 484 |   | 415 |   |
| (Losses)                             |       | (23                              | )          | (134                           | )          | (34 | ) | (134 | ) |
|                                 |       | (20                              | )          | 281                            |       | 450 |   | 281 |   |
|                                 |       |                             |       |                           |       |   |   |   |   |
| Net realized capital  gains (losses) |       | $                                | (192       | )                              | $          | 416 |   | $ | (616 | ) | $ | 583 |   |

 

The following tabledetails realized losses in excess of $250,000 from sales and impairments duringthe first six months of 2006 and 2005 and the related circumstances giving riseto the loss:

** **
| ** **                       | ** ** | ** **                     | ** ** | ** **         | ** ** | ** **         | ** ** | ** **     | ** ** | ** **                  | ** ** | ** **     | ** ** | **# of Months** | ** ** |
|----------------------------------|------------|--------------------------------|------------|--------------------|------------|--------------------|------------|----------------|------------|-----------------------------|------------|----------------|------------|---------------------------|------------|
| ** **                       | ** ** | ** **                     | ** ** | ** **         | ** ** | ** **         | ** ** | ** **     | ** ** | ** **                  | ** ** | ** **     | ** ** | **Unrealized Loss**  | ** ** |
| ** **                       | ** ** | ** **                     | ** ** | ** **         | ** ** | ** **         | ** ** | ** **     | ** ** | ** **                  | ** ** | **Net**        | ** ** | **Exceeded 20%**     | ** ** |
| ** **                       | ** ** | **Date of**               | ** ** | **Proceeds**       | ** ** | **(Loss) on** | ** ** | ** **     | ** ** | **Holdings at**        | ** ** | **Unrealized** | ** ** | **of Cost or**  | ** ** |
| **Description**                  | ** ** | **Sale**                       | ** ** | **from Sale** | ** ** | **Sale**           | ** ** | **Impairment** | ** ** | **June 30, 2006** | ** ** | **(Loss)**     | ** ** | **Amortized Cost**   | ** ** |
| ** **                       | ** ** | **($ in thousands)** | ** ** |
| Six months ended June  30, 2006: |       |                           |       |               |       |               |       |           |       |                        |       |           |       |                      |       |
|                             |       |                           |       |               |       |               |       |           |       |                        |       |           |       |                      |       |
| TIPS (1)                         |       | 3/31/2006                      |       | $                  | 15,418     |               | $          | (305           | )          | —                      |       | —         |       | —                    |       | — |   |
|                             |       |                           |       |               |       |               |       |           |       |                        |       |           |       |                      |       |
| Six months ended June  30, 2005: |       |                           |       |               |       |               |       |           |       |                        |       |           |       |                      |       |
|                             |       |                           |       |               |       |               |       |           |       |                        |       |           |       |                      |       |
| None                             |       |                           |       |               |       |               |       |           |       |                        |       |           |       |                      |       |
|                                  |            |                                |            |                    |            |                    |            |                |            |                             |            |                |            |                           |            |  |  |

 

----

(1)    Treasury inflation protection securities (TIPS)were sold during the 2006 first quarter due to the widening breakeven yieldspread between TIPS and Treasuries.

 

**Reinsurance Recoverables**

Weutilize reinsurance principally to reduce our exposure on individual risks, toprotect against catastrophic losses, to maintain desired ratios of net writtenpremium to statutory surplus and to stabilize loss ratios and underwritingresults.  Although reinsurance makes thereinsurer liable to us to the extent the risk is transferred or ceded to thereinsurer, ceded reinsurance arrangements do not eliminate our obligation topay claims to our policyholders. Accordingly, we bear credit risk with respect to our reinsurers.  Specifically, our reinsurers may not payclaims made by us on a timely basis, or they may not pay some or all of theseclaims.

50

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Either of these events would increase our costs and could have amaterial adverse effect on our business. We are required to pay the losses even if the reinsurer fails to meetits obligations under the reinsurance agreement.  Hurricanes Katrina and Rita increased ourreinsurance recoverables significantly which increased our credit risk.

We are protected by various treaty and facultativereinsurance agreements. Our exposure to credit risk from any one reinsurer ismanaged through diversification by reinsuring with a number of differentreinsurers, principally in the United States and European reinsurancemarkets.  To meet our standards ofacceptability, when the reinsurance is placed, a reinsurer generally must havean A.M. Best Company and/or Standard & Poor’s rating of ‘‘A’’ or better, orequivalent financial strength if not rated, plus at least $250 million inpolicyholders’ surplus.  Our ReinsuranceSecurity Committee monitors the financial strength of our reinsurers and therelated reinsurance receivables and periodically reviews the list of acceptablereinsurers.  The reinsurance is placedeither directly by us or through reinsurance intermediaries.  The reinsurance intermediaries arecompensated by the reinsurers.

Charges (recoveries) for uncollectible reinsuranceamounts, all of which were recorded to incurred losses, were $153,000 and($420,000) for the three months ended June 30, 2006 and 2005, respectively, and$299,000 and $613,000 for the six months ended June 30, 2006 and 2005,respectively.

The Company continues to periodically monitor thefinancial condition and ongoing activities of its reinsurers, in order toassess the adequacy of its allowance for uncollectible reinsurance.

**Liquidityand Capital Resources**

Cash flow provided by operations was $16.7 millionand $115.9 million for the six months ended June 30, 2006 and 2005,respectively.  The positive operatingcash flow in the first six months of 2006 was primarily due to the increase innet written premium.  Operating cash flowwas used primarily to acquire additional investment assets.

The cumulative inception to date payment of grosslosses from Hurricanes Katrina and Rita at June 30, 2006 approximated $57.8million of which $52.5 million was paid in 2006.  Such payments reduce cash flow for the grossamount paid until the ceded portion of the loss is collected from thereinsurers.

Investments and cash increased to $1,309 million atJune 30, 2006 from $1,182 million at December 31, 2005.  The increase was due to the positive cashflow and the $123.5 million of net proceeds from the 7% Senior Notes offeringcompleted in April 2006.  Net investmentincome was $14.0 million and $9.0 million for the three months ended June 30,2006 and 2005, respectively, and $26.6 million and $16.6 million for the sixmonths ended June 30, 2006 and 2005, respectively.

The approximate annualized pre-tax investment yieldsof the portfolio, excluding net realized capital gains and losses, for both the2006 and 2005 second quarters were 4.5% and 3.9%, respectively.  The increase in the pre-tax investment yieldwas due to the increase in interest rates as monetary policy continued totighten and an increase in the duration of the portfolio from 3.7 years at June30, 2005 to 4.1 years at June 30, 2006. The positive cash flow along with the proceeds from maturities, callsand redemptions were reinvested at the higher prevailing interest rates.  As of June 30, 2006 and December 31, 2005,all fixed maturity securities and equity securities held by us were classifiedas available-for-sale.

AtJune 30, 2006, the weighted average rating of our fixed maturity investmentswas ‘‘AA’’ by Standard & Poor’s and ‘‘Aa’’ by Moody’s.  We believe that we have no significantexposure to credit risk since the fixed maturity investment portfolio consistsof investment-grade bonds.  At June 30,2006, our portfolio had an average maturity of 5.4 years and duration of 4.1years.  Management continually monitorsthe composition and cash flow of the investment portfolio in order to maintainthe appropriate levels of liquidity in an effort to ensure our ability tosatisfy claims.

51

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We have a credit facility provided through aconsortium of banks.  The credit facilitywas amended in January 2005 to increase the letters of credit available underthe facility from $80 million to $115 million and to add a $10 million line ofcredit facility.  The expiration of thecredit facility was also extended from November 10, 2005 to June 30, 2007.  If at that time the banks do not renew thecredit facility, we will need to find other sources to provide the letters ofcredit or other collateral in order to continue our participation in Syndicate1221.  The credit facility, which isdenominated in U.S. dollars, is utilized primarily by Navigators CorporateUnderwriters Ltd. and Millennium Underwriting Ltd. to fund our participation inSyndicate 1221 which is denominated in British pounds.  At June 30, 2006, letters of credit with anaggregate face amount of $85.9 million were issued under the creditfacility.  The credit line was unused atJune 30, 2006.

The credit facility is collateralized by all of thecommon stock of Navigators Insurance Company. The credit agreement contains covenants common to transactions of thistype, including restrictions on indebtedness and liens, limitations on mergersand the sale of assets, maintaining certain consolidated tangible net worth,statutory surplus and other financial ratios. Cash dividends to shareholders are limited to $5.0 million peryear.  No dividends have been declared orpaid through June 30, 2006.  At June 30,2006, we were in compliance with all covenants.

An amendment to the credit facility was approved bythe bank consortium in April 2006 for the primary purpose of permitting theCompany to issue $125 million of senior unsecured notes.  The public debt offering of the senior noteswas completed on April 17, 2006.

At June 30, 2006, our consolidated stockholders’equity was $490.5 million or $29.42 per share compared to $470.2 million or$28.30 per share at December 31, 2005. The increase was primarily due to netincome of $33.6 million for the first six months of 2006 partially offset by anincrease of $15.3 million in other comprehensive loss substantially all due tonet unrealized losses in the investment portfolios due to rising interestrates.

Our reinsurance has been placed with various U.S.and foreign insurance companies and with selected syndicates at Lloyd’s.  Pursuant to the implementation of Lloyd’sPlan of Reconstruction and Renewal, a portion of our recoverables are nowreinsured by Equitas (a separate United Kingdom authorized reinsurance companyestablished to reinsure outstanding liabilities of all Lloyd’s members for allrisks written in the 1992 or prior years of account).

Time lags do occur in the normal course of businessbetween the time gross losses are paid by the Company and the time such grosslosses are billed and collected from reinsurers.  Recoverable amounts at June 30, 2006 areanticipated to be billed and collected over the next several years as grosslosses are paid by the Company.

Generally, for pro-rata or quota share reinsurers,including pool participants, the Company issues quarterly settlement statementsfor premiums less commissions and paid loss activity, which are expected to besettled by the end of the subsequent quarter. The Company has the ability to issue “cash calls” requiring suchreinsurers to pay losses whenever paid loss activity for a claim ceded to aparticular reinsurance treaty exceeds a predetermined amount (generally notmore than $1 million) as set forth in the pro-rata treaty.  For the Insurance Companies, cash calls mustgenerally be paid within 30 calendar days. There is generally no specific settlement period for the Lloyd’s Operationscash call provisions, but such billings are usually paid within 45 calendardays.

Generally,for excess of loss reinsurers the Company pays monthly or quarterly depositpremiums based on the estimated subject premiums over the contract period(usually one year) which are subsequently adjusted based on actual premiumsdetermined after the expiration of the applicable reinsurance treaty.  Paid losses subject to excess of lossrecoveries are generally billed as they occur and are usually settled by reinsurerswithin 30 calendar days for the Insurance Companies and 30 business days forthe Lloyd’s Operations.

52

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The Company sometimes withholds funds fromreinsurers and may apply ceded loss billings against such funds in accordancewith the applicable reinsurance agreements.

At June 30, 2006, ceded asbestos paid and unpaidlosses recoverable were $26.2 million of which $14.2 million was due fromEquitas.  We expect that approximately74% of the gross asbestos reserves will be paid by the Company over the nexttwo years.  The Company generallyexperiences significant collection delays for a large portion of such balancesgiven that certain reinsurers are in run-off or otherwise no longer active inthe reinsurance business.  Suchcircumstances are considered in the Company’s ongoing assessment of suchreinsurance recoverables.

The Company believes that it has adequately managedits cash flow requirements related to reinsurance recoveries from its positivecash flows and the use of available short-term funds when applicable.  However, there can be no assurances that theCompany will be able to continue to adequately manage such recoveries in thefuture or that collection disputes or reinsurer insolvencies will not arisethat could materially increase the collection time lags or result inrecoverable write-offs causing additional incurred losses and liquidityconstraints to the Company.  The paymentof gross claims and related collections from reinsurers with respect toHurricanes Katrina and Rita could significantly impact the Company’s liquidityneeds.  However, we expect to pay the2005 hurricane losses over a period of years from cash flow and, if needed,short-term investments and expect to collect our paid reinsurance recoverablesgenerally under the terms described above.

We primarily rely upon dividends from oursubsidiaries to meet our holding company obligations.  The dividends have historically comeprimarily from Navigators Insurance Company. At March 31, 2006, the maximum amount available for the payment ofdividends by Navigators Insurance Company without prior regulatory approval was$37.4 million.  No dividends have beenpaid by Navigators Insurance Company in 2006.

We believe that the cash flow generated by theoperating activities of our subsidiaries will provide sufficient funds for usto meet our liquidity needs over the next twelve months.  Beyond the next twelve months, cash flowavailable to us may be influenced by a variety of factors, including generaleconomic conditions and conditions in the insurance and reinsurance markets, aswell as fluctuations from year to year in claims experience.

In April 2006, the Company completed a public debtoffering of $125 million 7% senior unsecured notes due May 1, 2016 andcontributed $100 million of the proceeds to Navigators Insurance Company.  The remaining net proceeds were retained inthe Parent Company for general corporate purposes.

Condensed Parent Company balance sheets as of June30, 2006 (unaudited) and December 31, 2005 are shown in the table below:

53

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|                                                  | ** ** | **June 30, 2006**    | ** ** | **December 31, 2005** | ** ** |
|--------------------------------------------------|------------|--------------------------------|------------|---------------------------------|------------|
| ** **                                       | ** ** | **($ in thousands)** | ** ** |
|                                             |       |                           |       |                            |       |
| Cash and  investments                            |       | $                              | 38,249     |                            | $          | 16,926 |   |
| Investments in  subsidiaries                     |       | 572,721                        |       | 453,023                         |       |
| Goodwill and  other intangible assets            |       | 2,534                          |       | 2,534                           |       |
| Other assets                                     |       | 7,781                          |       | 3,695                           |       |
| Total assets                                     |       | $                              | 621,285    |                            | $          | 476,178 |   |
|                                             |       |                           |       |                            |       |
| Accounts payable  and other liabilities          |       | $                              | 1,528      |                            | $          | 1,800 |   |
| Accrued interest  payable                        |       | 1,799                          |       | —                          |       |
| Deferred  compensation payable                   |       | 3,977                          |       | 4,140                           |       |
| 7% Senior Notes  due May 1, 2016                 |       | 123,506                        |       | —                          |       |
| Total liabilities                                |       | 130,810                        |       | 5,940                           |       |
|                                             |       |                           |       |                            |       |
| Stockholders’  equity                       |       | 490,475                        |       | 470,238                         |       |
| Total liabilities and  stockholders’ equity |       | $                              | 621,285    |                            | $          | 476,178 |   |

 

AtJune 30, 2006 approximately $4.1 million of investments are held in a taxescrow account on behalf of Navigators Insurance Company until the two-year taxloss carryback periods expire.

Deferredcompensation payable represents accrued costs for employee stock appreciationrights which are paid by the operating subsidiaries when such stockappreciation rights are exercised.

##### **Item3.  Quantitative and QualitativeDisclosures About Market Risk**

Therehave been no material changes in the information concerning market risk asstated in the Company’s 2005 Annual Report on Form 10-K.

##### **Item4.  Controls and Procedures**

(a)          The Chief Executive Officer and Chief Financial Officer of the Companyhave evaluated the effectiveness of our disclosure controls and procedures (asdefined in Rules 13a-15(e) and 15d-15(e) under of the Securities Exchange Actof 1934, as amended (the “Exchange Act”)), as of the end of the period coveredby this quarterly report.  Based on such evaluation,such officers have concluded that as of the end of such period the Company’sdisclosure controls and procedures are effective in identifying, on a timelybasis, material information required to be disclosed in our reports filed orsubmitted under the Exchange Act.

(b)         There have been no changes during our second fiscal quarter in ourinternal control over financial reporting that have materially affected, or arereasonably likely to materially affect, the Company’s internal control overfinancial reporting.

**Part II -Other Information**

**Item 1.****                                   LegalProceedings**

Exceptas follows, the Company is not a party to, or the subject of, any materiallegal proceedings which depart from the ordinary routine litigation incident tothe kinds of business it conducts.

54

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Atthe end of April 2006, the Company was served as a defendant in an action inthe Northern District Court of Georgia captioned *New CingularWireless Headquarters, LLC, et al. v. Marsh & McLennan Companies, Inc., etal*., along with approximately 100 other defendants.  While it is not possible at this verypreliminary stage to predict the outcome of this litigation, the Companybelieves the allegations, which involve contingent commissions and bid-riggingin the insurance industry, to be without merit and intends to vigorously defenditself against them.

**Item 1A.****                          RiskFactors**

Therehave been no material changes from the risk factors as previously disclosed inthe Company’s 2005 Annual Report on Form 10-K.

**Item 2.****                                   UnregisteredSales of Equity Securities and Use of Proceeds**

None.

**Item 3.****                                   DefaultsUpon Senior Securities**

None.

**Item 4.****                                   Submissionsof Matters to a Vote of Security Holders**

On May 31, 2006, the Company’s stockholders votedfor the following matters at the annual stockholders’ meeting:

a)               The election of nine (9) directors to serveuntil the 2007 Annual Meeting of Stockholders or until their respectivesuccessors have been duly elected and qualified.  The results of the voting were as follows:
| Name                    | ** ** | **For**    | ** ** | **Withheld** |
|-------------------------|------------|------------|------------|--------------|
|                    |       |       |       |         |
| H. J. Mervyn  Blakeney  |       | 14,992,216 |       | 1,110,373    |
| Peter A. Cheney         |       | 15,008,191 |       | 1,094,398    |
| Terence N. Deeks        |       | 14,287,453 |       | 1,815,136    |
| Robert W. Eager,  Jr.   |       | 15,008,191 |       | 1,094,398    |
| Stanley A.  Galanski    |       | 14,461,347 |       | 1,641,242    |
| Leandro S.  Galban, Jr. |       | 13,972,176 |       | 2,130,413    |
| John F. Kirby           |       | 14,992,216 |       | 1,110,373    |
| Marc M. Tract           |       | 13,564,514 |       | 2,538,075    |
| Robert F. Wright        |       | 14,069,550 |       | 2,033,039    |

 

b)              The amendment tothe Company’s restated Certificate of Incorporation to increase the number ofauthorized shares of the Company’s common stock from 20,000,000 shares to50,000,000 shares was approved with 12,629,636 votes for, 3,472,853 votesagainst and 100 votes abstaining.

c)               The appointment ofKPMG LLP as the Company’s independent auditors for 2006 was ratified with16,069,083 votes for, 33,406 votes against and 100 votes abstaining.

**Item 5.****                                   OtherInformation**

None.

55

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**Item 6.****                                  ****Exhibits**
| Exhibit No. | ** ** | **Description of Exhibit** | ** **                                                                                                                                                                                                                                                                                                                                                           |
|-------------|------------|----------------------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 3-1         |       |                       | Certificate of Amendment to the Restated Certificate  of Incorporation                                                                                                                                                                                                                                                                                               | * |
| 11-1        |       |                       | Statement re Computation of Per Share Earnings                                                                                                                                                                                                                                                                                                                       | * |
| 31-1        |       |                       | Certification of CEO per Section 302 of the  Sarbanes-Oxley Act                                                                                                                                                                                                                                                                                                      | * |
| 31-2        |       |                       | Certification of CFO per Section 302 of the  Sarbanes-Oxley Act                                                                                                                                                                                                                                                                                                      | * |
| 32-1        |       |                       | Certification of CEO per Section 906 of the  Sarbanes-Oxley Act                                                                                                                                                                                                                                                                                                      | * |
|        |       |                       | (This exhibit is intended to be furnished in  accordance with Regulation S-K item 601(b)(32)(ii) and shall not be deemed to  be filed for purposes of section 18 of the Securities Exchange Act of 1934,  as amended, or incorporated by reference into any filing under the Securities  Act of 1933, except as shall be expressly set forth by specific reference). |   |
| 32-2        |       |                       | Certification of CFO per Section 906 of the  Sarbanes-Oxley Act                                                                                                                                                                                                                                                                                                      | * |
|        |       |                       | (This exhibit is intended to be furnished in  accordance with Regulation S-K item 601(b)(32)(ii) and shall not be deemed to  be filed for purposes of section 18 of the Securities Exchange Act of 1934,  as amended, or incorporated by reference into any filing under the Securities  Act of 1933, except as shall be expressly set forth by specific reference). |   |

 

----

**Included herein*.

56

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SIGNATURE

 

Pursuantto the requirements of the Securities Exchange Act of 1934, the registrant hasduly caused this report to be signed on its behalf by the undersigned thereuntoduly authorized.
|                  | The Navigators Group, Inc.   |   |
|-----------------------|------------------------------|--------|
|                  | (Registrant)                 |   |
|                  |                         |
| Date: August 1,  2006 | /s / Paul J. Malvasio        |   |
|                  | Paul J. Malvasio             |
|                  | Executive Vice  President    |
|                  | and Chief  Financial Officer |

 

57

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**INDEX OFEXHIBITS**

 
| Exhibit No. | ** ** | **Description of Exhibit** | ** **                                                                                                                                                                                                                                                                                                                                                           |
|-------------|------------|----------------------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 3-1         |       |                       | Certificate of Amendment to the Restated Certificate  of Incorporation                                                                                                                                                                                                                                                                                               | * |
| 11-1        |       |                       | Statement re Computation of Per Share Earnings                                                                                                                                                                                                                                                                                                                       | * |
| 31-1        |       |                       | Certification of CEO per Section 302 of the  Sarbanes-Oxley Act                                                                                                                                                                                                                                                                                                      | * |
| 31-2        |       |                       | Certification of CFO per Section 302 of the  Sarbanes-Oxley Act                                                                                                                                                                                                                                                                                                      | * |
| 32-1        |       |                       | Certification of CEO per Section 906 of the  Sarbanes-Oxley Act                                                                                                                                                                                                                                                                                                      | * |
|        |       |                       | (This exhibit is intended to be furnished in  accordance with Regulation S-K item 601(b)(32)(ii) and shall not be deemed to  be filed for purposes of section 18 of the Securities Exchange Act of 1934,  as amended, or incorporated by reference into any filing under the Securities  Act of 1933, except as shall be expressly set forth by specific reference). |   |
| 32-2        |       |                       | Certification of CFO per Section 906 of the  Sarbanes-Oxley Act                                                                                                                                                                                                                                                                                                      | * |
|        |       |                       | (This exhibit is intended to be furnished in  accordance with Regulation S-K item 601(b)(32)(ii) and shall not be deemed to  be filed for purposes of section 18 of the Securities Exchange Act of 1934,  as amended, or incorporated by reference into any filing under the Securities  Act of 1933, except as shall be expressly set forth by specific reference). |   |

 

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*  *Included herein.*

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