We believe it is important to communicate our expectations to investors. However, there may be events in the future we are not able to predict accurately or that we do not fully control, which could cause actual results to differ materially from those expressed or implied by our forward-looking statements, including:
Combined ratio is our losses, LAE and underwriting expenses divided by our net earned premiums. We report combined ratio as a percentage. For example, a combined ratio of 95% means that for every dollar of premium earned, 95 cents is spent on losses, LAE and underwriting expenses, and 5 cents is underwriting profit. A lower combined ratio reflects better underwriting results than a higher combined ratio.
Case-Basis Reserves - For reported losses, we establish a reserve estimate for each claim based on the known facts regarding the claim and the parameters of the coverage that our policy provides. Case-basis reserves are adjusted as additional facts become available to us. Case-basis reserves are reduced as we make payments for our reported claims.
Expected loss ratios and IBNR-to-earned premiums percentages are developed based on our analysis of prior accident years supplemented with data about changes in our book of business, changes in the external environment in which we operate,
There is uncertainty in our estimates of ultimate losses. This uncertainty can stem from such factors as irregular claim reporting and payment patterns and changes in our mix of business. We consider this uncertainty by looking at historical claim patterns by line of business and by examining our historical reserve accuracy. For each line, we consider expected volatility when estimating and recording reserves.
Changes in our business - Changes in our claims-handling practices, changes in our writings of large versus small- to mid-sized accounts, and changes in the mix of types of business can affect our ability to predict ultimate payout based on historical data.
51.7% relates to our runoff assumed reinsurance operations and our exposure to syndicates and pools.
Our IBNR reserves were 19.8% of our loss and ALAE reserves for asbestos claims at December 31, 2006 and 24.5% of our loss and ALAE reserves from asbestos claims at December 31, 2005.
Reinsurance - The amount we expect to be reimbursed by our reinsurers
The favorable development from 2003 through 2006 was primarily due to:
Net investment income - Our net investment income increased 4.9% in 2006 compared with 2005, and increased 4.4% in 2005 compared with 2004. The increase in 2006 compared with 2005 was due to slightly higher interest rates in 2006. The increase in net investment income in 2005 compared with 2004 was due to an increase in average invested assets, as a result of positive operating cash flows partially offset by lower yields on new investments compared with yields on matured or called investments.
Losses on debt repurchases - In 2006, we repurchased $57.0 in principal amount of debt. Including transaction costs, this resulted in a pretax loss on debt repurchases of $4.5. In 2005, we repurchased $25.9 in principal amount of debt. Including transaction costs, this resulted in a pretax loss on debt repurchases of $4.0. In 2004, we used $735.2 of the proceeds from the sale of L&I to repurchase $618.4 in principal amount of debt and capital securities. Including transaction costs, this resulted in a pretax loss on debt repurchases of $121.0.
Combined ratios show the relationship between underwriting profit or loss and net earned premiums. Using ratios helps us see our operating trends without the effect of changes in net earned premiums:
Net earned premiums decreased $4.3, or 0.5%, in 2006 compared with 2005, and decreased $7.3, or 0.8%, in 2005 compared with 2004. This reflected:
Business Growth - As we continue to increase our new business, our geographic mix of business will shift. We expect to increase our market share in Texas and Eastern states. While we seek to grow our business in all states where we write Property business, our greatest growth challenges remain in the Central states, where we have priced our policies to cover our wind and hail exposure. We reduced our rates in California by 20.1% in January 2007. We expect this revision to stimulate additional growth. In addition to taking targeted rate decreases to reflect improved loss trends and lower expense ratios, we also are introducing additional coverage options to round out our product offerings. The focus of the new offerings will be to provide coverage choices that enable our customers to customize their coverage to their specific needs. New-business trends are favorable, and we expect further improvement.
We analyze our reinsurance recoverables according to the credit ratings and types of reinsurers. At year-end 2006:
The first $200.0 of any property catastrophe loss is entirely ours. This is our retention - the amount of losses we absorb before the reinsurers reimburse us.
Miscellaneous corporate investment and other activities, including real estate holdings, contributions to Safeco Insurance Foundation and transactions and losses on debt repurchases