Fitch Affirms Arch Capital; Outlook Stable

Arch Capital Group, Ltd.

--Issuer Default Rating (IDR) at 'A';

--7.35% senior unsecured notes at 'A-';

--8.00% Series A preferred shares at 'BBB+';

--7.875% Series B preferred shares at 'BBB+'.

Arch Reinsurance Ltd. (Arch Re)

--Insurer Financial Strength (IFS) rating at 'A+'.

The Rating Outlooks are Stable.

The affirmations reflect ACGL's solid capitalization, high-quality investment portfolio, and consistently good underwriting results. Partially offsetting these positive factors is the effect of lower underwriting margins and very difficult investment environment that adversely affected profitability in 2008.

ACGL's 2008 earnings suffered from comparatively high catastrophe and investment related losses. For the year, the company's net income declined 68% to $265 million and included $350 million (pretax) of losses from Hurricanes Ike and Gustav and $185 million (pretax) of realized investment losses, primarily on fixed maturities investments. Fitch views the decline in earnings as significant but generally views ACGL's 2008 operating performance as comparable to those of its peers.

ACGL utilizes a reasonable amount of operating and asset leverage and a modest amount of financial leverage. Although the company's equity base declined by 15% in 2008 reflecting the effects of share repurchases completed in the first half of the year and lower earnings, ACGL's operating leverage ratios remained materially unchanged from recent levels. Additionally, ACGL's equity-credit-adjusted debt plus preferred equity-to-capital ratios at year-end 2008 was materially unchanged at 11%.

ACGL maintains a high-quality and liquid investment portfolio. At year-end 2008 the company's invested assets totaled $10 billion, 94% of which were fixed income or short-term investments, and the fixed income portfolio's weighted average credit rating was 'AA+'. ACGL's investment portfolio included $980 million of non-agency residential and commercial mortgage backed securities (MBS) at year-end 2008. Fitch generally considers investments in non-agency MBS securities as being highly exposed to the current poor real estate market conditions. In ACGL's case, the vast majority of these MBS securities were rated 'AAA' at year-end 2008 and thus Fitch views the company's ultimate credit exposure from these securities to be manageable.

Fitch views (re)insurers' combined ratios, along with the volatility of those combined ratios over extended periods as key measures of underwriting performance. ACGL's 2004-2008 average calendar year combined ratio was 90.5% with a 5.0% standard deviation, both of which were modestly lower than the average combined ratios and standard deviations of those of peers that write comparable business lines. The company's 2008 calendar year combined ratio was 95% and included 12.3 percentage points for catastrophe-related losses and a 10.9 percentage point benefit from favorable prior accident year reserve development.

Fitch believes that ACGL's strong long-term relative financial performance is partially due to the diversity of the company's diverse premium base, which consists of specialty property and casualty lines written in both the primary and reinsurance markets. This diverse premium base enables ACGL to benefit from a wide variety of market conditions and reduces the company's exposure to any one segment of the market.

Fitch's rating definitions and the terms of use of such ratings are available on the agency's public site, www.fitchratings.com. Published ratings, criteria and methodologies are available from this site, at all times. Fitch's code of conduct, confidentiality, conflicts of interest, affiliate firewall, compliance and other relevant policies and procedures are also available from the 'Code of Conduct' section of this site.

SOURCE: Fitch Ratings

Fitch Ratings, Chicago 
Mark Rouck, CPA, CFA, 312-368-2085 
Tana Higman, 312-368-3122 
or 
Media Relations: 
Cindy Stoller, 212-908-0526, New York 
Email: cindy.stoller@fitchratings.com