Oct. 6 (Bloomberg) -- Hartford Financial Services Group Inc., the Connecticut insurer facing possible credit downgrades, posted a wider-than-expected third-quarter loss and said Allianz SE will make a $2.5 billion capital investment.

Hartford had a net loss of $8.50 to $8.80 a share, on investment writedowns including holdings of Fannie Mae, Freddie Mac and Lehman Brothers Holdings Inc., the insurer said in a statement today. Harford slashed its quarterly dividend 40 percent to 32 cents a share and replaced its investment chief.

The loss follows three straight quarters of profit declines for Hartford as the worst U.S. housing market since the Great Depression pushed down the value of fixed-income investments. Declines in those securities resulted in more than $80 billion in losses at the biggest insurers in the U.S. and Bermuda and forced New York-based American International Group Inc., the largest by assets, into a government takeover.

``There was a toxic stew of events that conspired to make the third quarter disastrous,'' said David Havens, a credit analyst with UBS AG in Stamford, Connecticut. ``You've seen much more severe losses than you'd normally see in a credit downturn. Insurance companies, especially life insurance companies, are long credit. You'll see some pain at other companies, too.''

The Allianz investment will allow Hartford to finish the year with about $3.5 billion more in capital than should be needed to maintain its AA ratings, the firm said. Hartford, based in the city of the same name, rose 4.3 percent to $28.60 at 8:26 a.m. in early trading in New York.

Stock Slump

Hartford, which sells life insurance and property-casualty coverage, said today that it had unrealized losses of as much as $4.2 billion in the third quarter. Chief Executive Officer Ramani Ayer said last week the insurer was ``well capitalized'' after Moody's Investors Service said it may downgrade the firm on investment losses.

Hartford, down 69 percent this year in New York Stock Exchange trading, said about 75 percent of the third-quarter impairments are related to financial-services investments. Catastrophes including Hurricane Ike, the costliest in the U.S. since 2005, also hurt results.

Three analysts surveyed by Bloomberg expected a net loss of $136.3 million. Hartford earned $851 million, or $2.68 a share, in the same period a year earlier.

Betting on the U.S.

``We believe in the fundamental strength of the U.S. economy and its insurance industry and respect The Hartford as a great insurance brand,'' Allianz Chief Executive Officer Michael Diekmann said in the statement. ``We anticipate a favorable return on our investment.''

The cost to protect against Hartford bond defaults fell. Credit-default swaps on the insurer dropped 95 basis points to 608 basis points, according to CMA Datavision.

A basis point on a credit-default swap contract protecting $10 million of debt from default for five years is equivalent to $1,000 a year.

Allianz, Europe's biggest insurer, will purchase $750 million of preferred shares at $31 apiece that will be convertible to common stock. It will also buy $1.75 billion of 10 percent junior subordinated debentures, which carry warrants allowing Allianz to purchase common stock at an exercise price of $25.32 a share during the next seven years, Hartford said.

If all the options are exercised, Munich-based Allianz would end up with about 20 percent of Hartford.

``This is a pure financial investment for us and we don't plan to further increase our stake,'' Allianz spokesman Christian Kroos said in a telephone interview today.

`Unprecedented Turmoil'

Hartford appointed Greg McGreevey as chief investment officer, replacing Dave Znamierowski.

``Given the recent unprecedented turmoil in the financial markets and its effect on the company's investment portfolio, we agreed that it would be best to bring a fresh perspective to our investment operations,'' Ayer said.

McGreevey, who previously worked at ING Investment Management, joined Hartford's investment management subsidiary in August.

Life insurers, which sell products that guarantee a fixed return for investors, will be hurt by falling equity markets, Fitch Ratings said last week. Sliding stock values crimp fee income from mutual funds and variable annuities, investments on which insurers charge a percentage of the assets managed. The Standard & Poor's Index has dropped about 25 percent this year.

Hartford said Sept. 3 that investments in hedge funds and private equity may lose money in the quarter. Returns from these so-called alternative investments dropped 77 percent to $25 million in the second.

``This year, with hedge funds, we saw some meaningful reductions in income,'' Ayer said in an interview July 30. ``We had a very good year last year, and we had a not-so-pretty year this year.''

To contact the reporter2 on this story: Andrew Frye in New York at afrye@bloomberg.net; Oliver Suess in Munich at osuess@bloomberg.net;

Last Updated: October 6, 2008 09:14 EDT