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Arch Capital Group Ltd. Reports 2012 Fourth Quarter Results

  Arch Capital Group Ltd. Reports 2012 Fourth Quarter Results

Business Wire

HAMILTON, Bermuda -- February 11, 2013

Arch Capital Group Ltd. (NASDAQ: ACGL) reports that net income available to
common shareholders for the 2012 fourth quarter was $13.7 million, or $0.10
per share, compared to $138.9 million, or $1.01 per share, for the 2011 fourth
quarter. For 2012, net income available to common shareholders was $568.3
million, or $4.11 per share, compared to $410.3 million, or $2.97 per share,
for 2011. The Company also reported an after-tax operating loss to common
shareholders of $24.7 million, or $0.18 per share, for the 2012 fourth
quarter, compared to after-tax operating income available to common
shareholders of $128.9 million, or $0.94 per share, for the 2011 fourth
quarter. For 2012, after-tax operating income available to common shareholders
was $350.6 million, or $2.54 per share, compared to $303.4 million, or $2.19
per share, for 2011. All earnings per share amounts discussed in this release
are on a diluted basis.

The Company’s book value per common share was $36.19 at December 31, 2012, a
1.6% decrease from $36.79 per share at September 30, 2012 and a 13.9% increase
from $31.76 per share at December 31, 2011. The Company’s after-tax operating
income or loss available to common shareholders represented an annualized
return on average common equity of (2.0%) for the 2012 fourth quarter,
compared to 12.3% for 2011 fourth quarter. For 2012, the Company’s return on
common equity was 7.7%, compared to 7.2% for 2011. After-tax operating income
or loss available to common shareholders, a non-GAAP measure, is defined as
net income available to common shareholders, excluding net realized gains or
losses, net impairment losses recognized in earnings, equity in net income or
loss of investment funds accounted for using the equity method and net foreign
exchange gains or losses, net of income taxes. See page 6 for a further
discussion of after-tax operating income or loss available to common
shareholders and Regulation G.

The Company’s 2012 fourth quarter results included losses for Superstorm Sandy
of $203.5 million, net of reinsurance and the effects of reinstatement
premiums. Due to the unusual nature of the event, including its broad scope,
the number of insureds affected, the complexity of issues contributing to the
losses and the preliminary nature of available information, there is
substantial uncertainty regarding the assumptions underlying the Company’s
losses relating to the event. The Company’s ultimate losses from the storm may
vary materially from the current estimates due to these and other factors. In
addition, ultimate losses may increase if the Company’s reinsurers fail to
meet their obligations to the Company or the reinsurance protections purchased
by the Company are exhausted or are otherwise unavailable.

The following table summarizes the Company’s underwriting results:

                   Three Months Ended         Year Ended
                     December 31,                December 31,
(U.S. dollars in     2012         2011          2012           2011
thousands)
                                                                   
Gross premiums       $ 813,928     $ 699,662     $ 3,869,161     $ 3,436,456
written
Net premiums           613,142       511,124       3,052,235       2,673,326
written
Net premiums           779,481       673,192       2,935,140       2,631,815
earned
Underwriting           (91,334 )     69,468        143,034         44,012
income (loss)
                                                                   
Combined ratio         112.4   %     89.7    %     95.4      %     98.3      %
(1)
                                                                             

      The combined ratio represents a measure of underwriting profitability,
(1)  excluding investment income, and is the sum of the loss ratio and
      expense ratio. A combined ratio under 100% represents an underwriting
      profit and a combined ratio over 100% represents an underwriting loss.
      

For the 2012 fourth quarter, the combined ratio of the Company’s insurance and
reinsurance subsidiaries consisted of a loss ratio of 79.9% and an
underwriting expense ratio of 32.5%, compared to a loss ratio of 56.2% and an
underwriting expense ratio of 33.5% for the 2011 fourth quarter. For a
discussion of underwriting activities and a review of the Company’s results by
operating segment, see “Segment Information” in the Supplemental Financial
Information section of this release.

The following table summarizes, on an after-tax basis, the Company’s
consolidated financial data, including a reconciliation of after-tax operating
income or loss available to common shareholders to net income available to
common shareholders and related diluted per share results:

              Three Months Ended                 Year Ended
               December 31,                        December 31,
(U.S.
dollars in
thousands,     2012             2011              2012             2011
except share
data)

After-tax
operating
income
(loss)         $ (24,667     )   $ 128,891         $ 350,640         $ 303,382
available to
common
shareholders
Net realized
gains, net       51,031            13,464            184,083           108,306
of tax
Net
impairment
losses           (6,035      )     (1,959      )     (11,388     )     (9,062      )
recognized
in earnings,
net of tax
Equity in
net income
(loss) of
investment
funds            16,567            (14,702     )     73,510            (9,605      )
accounted
for using
the equity
method, net
of tax
Net foreign
exchange
(losses)        (23,164     )    13,177          (28,527     )    17,298      
gains, net
of tax
Net income
available to   $ 13,732         $ 138,871        $ 568,318        $ 410,319     
common
shareholders
                                                                       
Diluted per
common share
results:
After-tax
operating
income
(loss)         $ (0.18       )   $ 0.94            $ 2.54            $ 2.19
available to
common
shareholders
Net realized
gains, net       0.37              0.10              1.33              0.78
of tax
Net
impairment
losses           (0.04       )     (0.01       )     (0.08       )     (0.07       )
recognized
in earnings,
net of tax
Equity in
net income
(loss) of
investment
funds            0.12              (0.11       )     0.53              (0.07       )
accounted
for using
the equity
method, net
of tax
Net foreign
exchange
(losses)        (0.17       )    0.09            (0.21       )    0.14        
gains, net
of tax
Net income
available to   $ 0.10           $ 1.01           $ 4.11           $ 2.97        
common
shareholders

Weighted
average
common
shares and       138,270,853       137,473,670       138,258,847       138,289,702
common share
equivalents
outstanding
– diluted
                                                                                   

The Company’s investment portfolio continues to be comprised primarily of high
quality fixed income securities with an average credit quality of “AA-/Aa2.”
The average effective duration of the Company’s investment portfolio was 3.06
years at December 31, 2012, compared to 2.90 years at September 30, 2012 and
2.99 years at December 31, 2011. Including the effects of foreign exchange,
total return on the Company’s investment portfolio was 0.80% for the 2012
fourth quarter, compared to 0.82% for the 2011 fourth quarter. Excluding the
effects of foreign exchange, total return was 0.67% for the 2012 fourth
quarter, compared to 0.95% for the 2011 fourth quarter. Total return for the
2012 fourth quarter included strong returns on Asian and emerging market
investments and high-yield corporate bonds, which augmented the return on the
Company’s core investment grade fixed income portfolio.

Net investment income for the 2012 fourth quarter was $73.8 million, or $0.53
per share, compared to $80.5 million, or $0.59 per share, for the 2011 fourth
quarter. The annualized pre-tax investment income yield was 2.46% for the 2012
fourth quarter, compared to 2.72% for the 2011 fourth quarter. The decline in
the 2012 fourth quarter yield primarily reflects the effects of lower
prevailing interest rates available in the market and the Company’s investment
strategy which puts a priority on total return. Such effects more than offset
the benefit of a higher level of investable assets compared to the 2011 fourth
quarter. Consolidated cash flow provided by operating activities for the 2012
fourth quarter was $189.7 million, compared to $109.6 million for the 2011
fourth quarter. The increase in operating cash flows in the 2012 fourth
quarter was primarily due to a higher level of premium receipts than in the
2011 fourth quarter.

For 2012, the Company’s effective tax rates on income before income taxes and
pre-tax operating income were a benefit of 0.7% and 3.8%, respectively,
compared to a benefit of 2.3% and 3.8%, respectively, for 2011. The Company’s
effective tax rates may fluctuate from period to period based on the relative
mix of income or loss reported by jurisdiction and the varying tax rates in
each jurisdiction. The Company’s quarterly tax provision is adjusted to
reflect changes in its expected annual effective tax rate, if any. During the
2012 fourth quarter, the Company incurred underwriting losses in its U.S.
operations, primarily due to Sandy, which generated a tax benefit and reduced
the Company’s effective tax rate during the period. In addition, the Company’s
Bermuda-based reinsurer incurs federal excise taxes for premiums assumed on
U.S. risks. The Company incurred $8.6 million of federal excise taxes for
2012, compared to $9.3 million for 2011. Such amounts are reflected as
acquisition expenses in the Company’s consolidated statements of income.

On a pre-tax basis, net foreign exchange losses for the 2012 fourth quarter
were $23.0 million (net unrealized losses of $22.4 million and net realized
losses of $0.6 million), compared to net foreign exchange gains for the 2011
fourth quarter of $12.6 million (net unrealized gains of $16.4 million and net
realized losses of $3.8 million). The 2012 fourth quarter net foreign exchange
losses reflected the weakening of the U.S. Dollar against the Euro and British
Pound Sterling during the period. Net unrealized foreign exchange gains or
losses result from the effects of revaluing the Company’s net insurance
liabilities required to be settled in foreign currencies at each balance sheet
date. The Company’s strategy has been to hold investments in foreign
currencies which are intended to mitigate its exposure to foreign currency
fluctuations in its net insurance liabilities. Changes in the value of such
investments due to foreign currency rate movements are reflected as a direct
increase or decrease to shareholders’ equity and are not included in the
consolidated statements of income. As a result of the current financial and
economic environment as well as the potential for additional investment
returns, the Company has not matched a portion of its projected liabilities in
foreign currencies with investments in the same currencies and may not match
such amounts in future periods, which could increase the Company’s exposure to
foreign currency fluctuations and increase the volatility of the Company’s
shareholders’ equity.

At December 31, 2012, the Company’s capital of $5.57 billion consisted of
$300.0 million of senior notes, representing 5.4% of the total, $100.0 million
of revolving credit agreement borrowings due in August 2014, representing 1.8%
of the total, $325.0 million of preferred shares, representing 5.8% of the
total, and common shareholders’ equity of $4.84 billion, representing the
balance. At December 31, 2011, the Company’s capital of $4.99 billion
consisted of $300.0 million of senior notes, representing 6.0% of the total,
$100.0 million of revolving credit agreement borrowings, representing 2.0% of
the total, $325.0 million of preferred shares, representing 6.5% of the total,
and common shareholders’ equity of $4.27 billion, representing the balance.

As previously announced, the Company’s U.S.-based subsidiaries have entered
into a definitive agreement to acquire CMG Mortgage Insurance Company (“CMG
MI”) from its current owners, PMI Mortgage Insurance Co. (“PMI”), which is in
rehabilitation under the receivership of the Arizona Department of Insurance
since 2011, and CMFG Life Insurance Company. The Company also agreed to
acquire PMI’s mortgage insurance operating platform and related assets from
PMI. This transaction will allow ACGL to enter the rapidly improving U.S.
mortgage insurance marketplace and will broaden its existing mortgage
insurance and reinsurance capabilities. It is anticipated that the transaction
will close within 12 months, subject to approvals of the Arizona receivership
court, applicable regulators and government-sponsored enterprises, and the
satisfaction of customary closing conditions. At closing, it is currently
estimated that the Company’s U.S.-based subsidiaries will pay aggregate
consideration of approximately $300 million. Additional amounts may be paid
based on the actual results of CMG MI’s pre-closing portfolio over an agreed
upon period.

The Company will hold a conference call for investors and analysts at 11:00
a.m. Eastern Time on Tuesday, February 12, 2013. A live webcast of this call
will be available via the Investor Relations – Events & Presentations section
of the Company's website at http://www.archcapgroup.bm. A telephone replay of
the conference call also will be available beginning on February 12, 2013 at
1:00 p.m. Eastern Time until February 19, 2013 at midnight Eastern Time. To
access the replay, domestic callers should dial 888-286-8010 (passcode
32313678), and international callers should dial 617-801-6888 (passcode
32313678).

Please refer to the Company’s Financial Supplement dated December 31, 2012,
which is posted on the Company’s website at
http://www.archcapgroup.bm/EarningsReleases.aspx. The Financial Supplement
provides additional detail regarding the financial performance of the Company.
From time to time, the Company posts additional financial information and
presentations to its website, including information with respect to its
subsidiaries. Investors and other recipients of this information are
encouraged to check the Company’s website regularly, including the Investor
Relations — Events & Presentations section of the Company’s website at
http://www.archcapgroup.bm/presentations.aspx for additional information
regarding the Company.

Arch Capital Group Ltd., a Bermuda-based company with approximately $5.57
billion in capital at December 31, 2012, provides insurance and reinsurance on
a worldwide basis through its wholly owned subsidiaries.

Cautionary Note Regarding Forward-Looking Statements

The Private Securities Litigation Reform Act of 1995 (“PSLRA”) provides a
“safe harbor” for forward-looking statements. This release or any other
written or oral statements made by or on behalf of the Company may include
forward-looking statements, which reflect the Company’s current views with
respect to future events and financial performance. All statements other than
statements of historical fact included in or incorporated by reference in this
release are forward-looking statements. Forward-looking statements, for
purposes of the PSLRA or otherwise, can generally be identified by the use of
forward-looking terminology such as “may,” “will,” “expect,” “intend,”
“estimate,” “anticipate,” “believe” or “continue” and similar statements of a
future or forward-looking nature or their negative or variations or similar
terminology.

Forward-looking statements involve the Company’s current assessment of risks
and uncertainties. Actual events and results may differ materially from those
expressed or implied in these statements. Important factors that could cause
actual events or results to differ materially from those indicated in such
statements are discussed below and elsewhere in this release and in the
Company’s periodic reports filed with the Securities and Exchange Commission
(the “SEC”), and include:

  *the Company’s ability to successfully implement its business strategy
    during “soft” as well as “hard” markets;
  *acceptance of the Company’s business strategy, security and financial
    condition by rating agencies and regulators, as well as by brokers and its
    insureds and reinsureds;
  *the Company’s ability to maintain or improve its ratings, which may be
    affected by its ability to raise additional equity or debt financings, by
    ratings agencies’ existing or new policies and practices, as well as other
    factors described herein;
  *general economic and market conditions (including inflation, interest
    rates, foreign currency exchange rates, prevailing credit terms and the
    depth and duration of a recession) and conditions specific to the
    reinsurance and insurance markets (including the length and magnitude of
    the current “soft” market) in which the Company operates;
  *competition, including increased competition, on the basis of pricing,
    capacity, coverage terms or other factors;
  *developments in the world’s financial and capital markets and the
    Company’s access to such markets;
  *the Company’s ability to successfully enhance, integrate and maintain
    operating procedures (including information technology) to effectively
    support its current and new business;
  *the loss of key personnel;
  *the integration of businesses the Company has acquired or may acquire into
    its existing operations;
  *accuracy of those estimates and judgments utilized in the preparation of
    the Company’s financial statements, including those related to revenue
    recognition, insurance and other reserves, reinsurance recoverables,
    investment valuations, intangible assets, bad debts, income taxes,
    contingencies and litigation, and any determination to use the deposit
    method of accounting, which for a relatively new insurance and reinsurance
    company, like the Company, are even more difficult to make than those made
    in a mature company since relatively limited historical information has
    been reported to the Company through December 31, 2012;
  *greater than expected loss ratios on business written by the Company and
    adverse development on claim and/or claim expense liabilities related to
    business written by its insurance and reinsurance subsidiaries;
  *severity and/or frequency of losses;
  *claims for natural or man-made catastrophic events in the Company’s
    insurance or reinsurance business could cause large losses and substantial
    volatility in its results of operations;
  *acts of terrorism, political unrest and other hostilities or other
    unforecasted and unpredictable events;
  *availability to the Company of reinsurance to manage its gross and net
    exposures and the cost of such reinsurance;
  *the failure of reinsurers, managing general agents, third party
    administrators or others to meet their obligations to the Company;
  *the timing of loss payments being faster or the receipt of reinsurance
    recoverables being slower than anticipated by the Company;
  *the Company’s investment performance, including legislative or regulatory
    developments that may adversely affect the fair value of the Company’s
    investments;
  *the impact of the continued weakness of the U.S., European countries and
    other key economies, projected budget deficits for the U.S., European
    countries and other governments and the consequences associated with
    possible additional downgrades of securities of the U.S., European
    countries and other governments by credit rating agencies, and the
    resulting effect on the value of securities in the Company’s investment
    portfolio as well as the uncertainty in the market generally;
  *losses relating to aviation business and business produced by a certain
    managing underwriting agency for which the Company may be liable to the
    purchaser of its prior reinsurance business or to others in connection
    with the May5, 2000 asset sale described in the Company’s periodic
    reports filed with the SEC;
  *changes in accounting principles or policies or in the Company’s
    application of such accounting principles or policies;
  *changes in the political environment of certain countries in which the
    Company operates, underwrites business or invests;
  *statutory or regulatory developments, including as to tax policy matters
    and insurance and other regulatory matters such as the adoption of
    proposed legislation that would affect Bermuda-headquartered companies
    and/or Bermuda-based insurers or reinsurers and/or changes in regulations
    or tax laws applicable to the Company, its subsidiaries, brokers or
    customers; and
  *the other matters set forth under Item 1A “Risk Factors”, Item 7
    “Management’s Discussion and Analysis of Financial Condition and Results
    of Operations” and other sections of the Company’s Annual Report on
    Form 10-K, as well as the other factors set forth in the Company’s other
    documents on file with the SEC, and management’s response to any of the
    aforementioned factors.

All subsequent written and oral forward-looking statements attributable to the
Company or persons acting on its behalf are expressly qualified in their
entirety by these cautionary statements. The foregoing review of important
factors should not be construed as exhaustive and should be read in
conjunction with other cautionary statements that are included herein or
elsewhere. The Company undertakes no obligation to publicly update or revise
any forward-looking statement, whether as a result of new information, future
events or otherwise.

Comment on Regulation G

Throughout this release, the Company presents its operations in the way it
believes will be the most meaningful and useful to investors, analysts, rating
agencies and others who use the Company’s financial information in evaluating
the performance of the Company. This presentation includes the use of
after-tax operating income or loss available to common shareholders, which is
defined as net income available to common shareholders, excluding net realized
gains or losses, net impairment losses recognized in earnings, equity in net
income or loss of investment funds accounted for using the equity method and
net foreign exchange gains or losses, net of income taxes. The presentation of
after-tax operating income or loss available to common shareholders is a
“non-GAAP financial measure” as defined in Regulation G. The reconciliation of
such measure to net income available to common shareholders (the most directly
comparable GAAP financial measure) in accordance with Regulation G is included
on page 2 of this release.

The Company believes that net realized gains or losses, net impairment losses
recognized in earnings, equity in net income or loss of investment funds
accounted for using the equity method and net foreign exchange gains or losses
in any particular period are not indicative of the performance of, or trends
in, the Company’s business performance. Although net realized gains or losses,
net impairment losses recognized in earnings, equity in net income or loss of
investment funds accounted for using the equity method and net foreign
exchange gains or losses are an integral part of the Company’s operations, the
decision to realize investment gains or losses, the recognition of the change
in the carrying value of investments accounted for using the fair value option
in net realized gains or losses, the recognition of net impairment losses, the
recognition of equity in net income or loss of investment funds accounted for
using the equity method and the recognition of foreign exchange gains or
losses are independent of the insurance underwriting process and result, in
large part, from general economic and financial market conditions.
Furthermore, certain users of the Company’s financial information believe
that, for many companies, the timing of the realization of investment gains or
losses is largely opportunistic. In addition, net impairment losses recognized
in earnings on the Company’s investments represent other-than-temporary
declines in expected recovery values on securities without actual realization.
The use of the equity method on certain of the Company’s investments in
certain funds that invest in fixed maturity securities is driven by the
ownership structure of such funds (either limited partnerships or limited
liability companies). In applying the equity method, these investments are
initially recorded at cost and are subsequently adjusted based on the
Company’s proportionate share of the net income or loss of the funds (which
include changes in the fair value of the underlying securities in the funds).
This method of accounting is different from the way the Company accounts for
its other fixed maturity securities and the timing of the recognition of
equity in net income or loss of investment funds accounted for using the
equity method may differ from gains or losses in the future upon sale or
maturity of such investments. Due to these reasons, the Company excludes net
realized gains or losses, net impairment losses recognized in earnings, equity
in net income or loss of investment funds accounted for using the equity
method and net foreign exchange gains or losses from the calculation of
after-tax operating income or loss available to common shareholders.

The Company believes that showing net income available to common shareholders
exclusive of the items referred to above reflects the underlying fundamentals
of the Company’s business since the Company evaluates the performance of and
manages its business to produce an underwriting profit. In addition to
presenting net income available to common shareholders, the Company believes
that this presentation enables investors and other users of the Company’s
financial information to analyze the Company’s performance in a manner similar
to how the Company’s management analyzes performance. The Company also
believes that this measure follows industry practice and, therefore, allows
the users of the Company’s financial information to compare the Company’s
performance with its industry peer group. The Company believes that the equity
analysts and certain rating agencies which follow the Company and the
insurance industry as a whole generally exclude these items from their
analyses for the same reasons.

                                         
ARCH CAPITAL GROUP LTD. AND SUBSIDIARIES
SUPPLEMENTAL FINANCIAL INFORMATION
                                                            
Book Value Per Common Share
                                                                 
                                             December 31,      December 31,
(U.S. dollars in thousands, except share     2012              2011
data)
                                                                 
Calculation of book value per common
share:
Total shareholders’ equity                   $ 5,168,878       $ 4,592,074
Less preferred shareholders’ equity           (325,000    )    (325,000    )
Common shareholders’ equity                  $ 4,843,878       $ 4,267,074
Common shares outstanding, net of             133,842,613     134,358,345 
treasury shares (1)
Book value per common share                  $ 36.19          $ 31.76       
                                                                             

      Excludes the effects of 8,221,444 and 8,706,441 stock options and
(1)  480,406 and 298,425 restricted stock units outstanding at December 31,
      2012 and December 31, 2011, respectively.
      

Investment Information
                                                              
                         Three Months Ended          Year Ended
                         December 31,                December 31,
(U.S. dollars in
thousands, except        2012          2011          2012          2011
share data)
                                                                     
Components of net
investment income:
Fixed maturities         $ 69,198      $ 79,219      $ 281,140     $ 331,469
Term loan investments      4,551         1,289         15,283        2,854
(1)
Equity securities          1,865         2,145         7,963         7,332
Short-term investments     363           561           1,980         2,174
Other                      4,228        3,092        14,196       19,152  
Gross investment           80,205        86,306        320,562       362,981
income
Investment expenses       (6,436  )    (5,839  )    (25,667 )    (24,783 )
Net investment income    $ 73,769     $ 80,467     $ 294,895    $ 338,198 
                                                                     
Per share                $ 0.53        $ 0.59        $ 2.13        $ 2.45
                                                                     
Investment income
yield, at amortized
cost (2):
Pre-tax                    2.46    %     2.72    %     2.51    %     2.89    %
After-tax                  2.32    %     2.61    %     2.38    %     2.77    %
                                                                     
Total return (3):
Including effects of       0.80    %     0.82    %     5.88    %     3.81    %
foreign exchange
Excluding effects of       0.67    %     0.95    %     5.59    %     4.10    %
foreign exchange
                                                                     
Cash flow from           $ 189,652     $ 109,641     $ 921,603     $ 866,112
operations
                                                                             

(1)  Included in “investments accounted for using the fair value option” on
      the Company’s balance sheet.
      Investment income yield is presented on an annualized basis and excludes
(2)   the impact of investments for which returns are not included within
      investment income, such as investments accounted for using the equity
      method and certain equities.
      Includes net investment income, equity in net income or loss of
      investment funds accounted for using the equity method, net realized
(3)   gains and losses and the change in unrealized gains or losses generated
      by the Company’s investment portfolio. Total return is calculated on a
      pre-tax basis and before investment expenses.
      

Investment Information (continued)                           
                                                                  
                                               December 31,     December 31,
(U.S. dollars in thousands)                    2012             2011
                                                                  
Investable assets:
Fixed maturities available for sale, at fair   $ 9,839,988      $ 9,375,604
value
Fixed maturities, at fair value (1)              363,541          147,779
Fixed maturities pledged under securities       42,600         56,393     
lending agreements, at fair value (2)
Total fixed maturities                           10,246,129       9,579,776
Short-term investments available for sale,       722,121          904,219
at fair value
Short-term investments pledged under
securities lending agreements, at fair value     8,248            -
(2)
Cash                                             371,041          351,699
Equity securities available for sale, at         312,749          299,584
fair value
Equity securities, at fair value (1)             25,954           87,403
Other investments available for sale, at         549,280          238,111
fair value
Other investments, at fair value (1)             527,971          131,721
TALF investments, at fair value (3)              -                387,702
Investments accounted for using the equity       307,105          380,507
method (4)
Securities sold but not yet purchased (5)        (6,924     )     (27,178    )
Securities transactions entered into but not    (18,540    )    (17,339    )
settled at the balance sheet date
Total investable assets                        $ 13,045,134    $ 12,316,205 
                                                                  
Investment portfolio statistics (2):
Average effective duration (in years)            3.06             2.99
Average credit quality (Standard &               AA-/Aa2         AA/Aa1
Poor's/Moody's Investors Service)
Imbedded book yield (before investment           2.60       %     2.98       %
expenses)
                                                                             

      Represents investments which are carried at fair value under the fair
(1)  value option and reflected as “investments accounted for using the fair
      value option” on the Company’s balance sheet. Changes in the carrying
      value of such investments are recorded in net realized gains or losses.
      This table excludes the collateral received and reinvested and includes
(2)   the fixed maturities and short-term investments pledged under securities
      lending agreements, at fair value.
      During the 2012 fourth quarter, the Company sold all investments it held
(3)   under the FRBNY’s TALF program and the related secured financing was
      extinguished accordingly.
      Changes in the carrying value of investment funds accounted for using
      the equity method are recorded as “equity in net income (loss) of
(4)   investment funds accounted for using the equity method” rather than as
      an unrealized gain or loss component of accumulated other comprehensive
      income.
      Represents the Company’s obligation to deliver securities that it did
(5)   not own at the time of sale. Such amounts are included in “other
      liabilities” on the Company’s balance sheet.
      


Selected Information on Losses and Loss Adjustment Expenses
                                                           
                Three Months Ended             Year Ended
                December 31,                   December 31,
(U.S. dollars   2012           2011            2012             2011
in thousands)

Components of
losses and
loss
adjustment
expenses
incurred
Paid losses
and loss        $ 406,621      $ 438,871       $ 1,465,379      $ 1,452,623
adjustment
expenses
Change in
unpaid losses
and loss         215,885      (60,804  )     395,898        274,930   
adjustment
expenses
Total losses
and loss        $ 622,506     $ 378,067      $ 1,861,277     $ 1,727,553 
adjustment
expenses

Estimated net
(favorable)
adverse
development
in prior year
loss
reserves, net
of related
adjustments
Net impact on
underwriting
results:
Insurance       $ (4,050  )    $ (21,199  )    $ (30,474   )    $ (44,255   )
Reinsurance      (50,555 )     (80,068  )     (187,895  )     (231,205  )
Total           $ (54,605 )    $ (101,267 )    $ (218,369  )    $ (275,460  )
                                                                  
Impact on
losses and
loss
adjustment
expenses:
Insurance       $ (3,288  )    $ (24,017  )    $ (31,247   )    $ (52,119   )
Reinsurance      (50,638 )     (80,381  )     (190,281  )     (232,896  )
Total           $ (53,926 )    $ (104,398 )    $ (221,528  )    $ (285,015  )
                                                                  
Impact on
acquisition
expenses:
Insurance       $ (762    )    $ 2,818         $ 773            $ 7,864
Reinsurance      83           313           2,386          1,691     
Total           $ (679    )    $ 3,131        $ 3,159         $ 9,555     
                                                                  
Impact on
combined
ratio:
Insurance         (0.9    %)     (5.0     %)     (1.7      %)     (2.6      %)
Reinsurance       (15.6   %)     (32.0    %)     (16.6     %)     (24.3     %)
Total             (7.0    %)     (15.0    %)     (7.4      %)     (10.5     %)
                                                                  
Impact on
loss ratio:
Insurance         (0.7    %)     (5.7     %)     (1.7      %)     (3.1      %)
Reinsurance       (15.6   %)     (32.1    %)     (16.8     %)     (24.4     %)
Total             (6.9    %)     (15.5    %)     (7.5      %)     (10.8     %)
                                                                  
Impact on
acquisition
expense
ratio:
Insurance         (0.2    %)     0.7      %      0.0       %      0.5       %
Reinsurance       0.0     %      0.1      %      0.2       %      0.1       %
Total             (0.1    %)     0.5      %      0.1       %      0.3       %

Estimated net
losses
incurred from
current
accident year
catastrophic
events (1)
Insurance       $ 86,665       $ 28,216        $ 105,787        $ 109,126
Reinsurance      114,628      42,571        153,410        294,977   
Total           $ 201,293     $ 70,787       $ 259,197       $ 404,103   
                                                                  
Impact on
combined
ratio:
Insurance         19.0    %      6.7      %      5.9       %      6.5       %
Reinsurance       35.4    %      17.0     %      13.5      %      31.0      %
Total             25.8    %      10.5     %      8.8       %      15.4      %
                                                                            

      Equals estimated losses from catastrophic events occurring in the
      current accident year, net of reinsurance and reinstatement premiums.
      Amounts shown for the insurance segment are for named catastrophic
(1)  events only. Amounts shown for the reinsurance segment include (i) named
      events with over $5 million of losses incurred by its Bermuda and Europe
      operations and (ii) all catastrophe losses incurred by its U.S.
      operations.
      

Segment Information

The following section provides analysis on the Company’s 2012 fourth quarter
performance by operating segment.  For additional details regarding the
Company’s operating segments, please refer to the Company’s Financial
Supplement dated December 31, 2012 on the Company’s website at
http://www.archcapgroup.bm/EarningsReleases.aspx.

Insurance Segment                     
                                        
                                        Three Months Ended December 31,
(U.S. dollars in thousands)             2012          2011          % Change
                                                                      
Gross premiums written                  $ 571,157      $ 540,617      5.6
Net premiums written                      386,714        360,739      7.2
Net premiums earned                       455,668        422,667      7.8
Underwriting loss                         (84,421 )      (10,941 )    n/m
                                                                      
                                                                      % Point
Underwriting Ratios                                                   Change
Loss ratio                                84.1    %      66.9    %    17.2
Acquisition expense ratio                 16.4    %      17.3    %    (0.9  )
Other operating expense ratio            18.0    %     18.4    %    (0.4  )
Combined ratio                           118.5   %     102.6   %    15.9  
                                                                      
Catastrophic activity and prior year
development:
Current accident year catastrophic
events, net of reinsurance and            19.0    %      6.7     %    12.3
reinstatement premiums
Net (favorable) adverse development
in prior year loss reserves, net of      (0.9    %)    (5.0    %)   4.1   
related adjustments
Combined ratio excluding such items      100.4   %     100.9   %    (0.5  )
                                                                            

Gross premiums written by the insurance segment in the 2012 fourth quarter
were 5.6% higher than in the 2011 fourth quarter, while net premiums written
were 7.2% higher than in the 2011 fourth quarter. The higher level of net
premiums written primarily resulted from an increase in program business,
along with increases in accident and health and other lines, partially offset
by a lower level of onshore energy business. The higher level of program
business was primarily due to growth within existing programs and the impact
of rate movements while the increase in accident and health resulted from new
business.The reduction in onshore energy premiums reflected a strategic shift
towards writing more on an excess basis and utilizing smaller capacity per
account as well as an increased use of reinsurance. Net premiums earned by the
insurance segment in the 2012 fourth quarter were 7.8% higher than in the 2011
fourth quarter, and reflect changes in net premiums written over the previous
five quarters.

The 2012 fourth quarter loss ratio reflected 19.0 points of current year
catastrophic event activity, primarily due to Sandy, compared to 6.0 points in
the 2011 fourth quarter. Estimated net favorable development in prior year
loss reserves, before related adjustments, reduced the loss ratio by 0.7
points in the 2012 fourth quarter, compared to 5.7 points in the 2011 fourth
quarter. The estimated net favorable development in the 2012 fourth quarter
primarily resulted from better than expected claims emergence in short-tail
lines of business.

The underwriting expense ratio was 34.4% in the 2012 fourth quarter, compared
to 35.7% in the 2011 fourth quarter. The acquisition expense ratio was 16.4%
in the 2012 fourth quarter, compared to 17.3% in the 2011 fourth quarter. The
comparison of the 2012 fourth quarter and 2011 fourth quarter acquisition
expense ratios is influenced by, among other things, the mix and type of
business written and earned and the level of ceding commissions. In addition,
the 2012 fourth quarter acquisition expense ratio included 0.2 points of
commission expense related to development in prior year loss reserves,
compared to a reduction of 0.7 points in the 2011 fourth quarter. The
operating expense ratio was 18.0% in the 2012 fourth quarter, compared to
18.4% in the 2011 fourth quarter. The 2012 fourth quarter operating expense
ratio reflected the benefits of continued expense management and a higher
level of net premiums earned, which were partially offset by an increase in
incentive compensation costs related to earlier policy years which added
approximately 1.0 point to the 2012 fourth quarter ratio.

                                                                  
Reinsurance Segment
                                                                      
                                                                      
                                        Three Months Ended December 31,
(U.S. dollars in thousands)             2012           2011           % Change
                                                                      
Gross premiums written                  $ 245,292      $ 161,904      51.5
Net premiums written                      226,428        150,385      50.6
Net premiums earned                       323,813        250,525      29.3
Underwriting income (loss)                (6,913  )      80,409       (108.6 )
                                                                      
                                                                      % Point
Underwriting Ratios                                                   Change
Loss ratio                                73.9    %      38.0    %    35.9
Acquisition expense ratio                 18.0    %      19.7    %    (1.7   )
Other operating expense ratio            11.8    %     10.3    %    1.5    
Combined ratio                           103.7   %     68.0    %    35.7   
                                                                      
Catastrophic activity and prior year
development:
Current accident year catastrophic
events, net of reinsurance and            35.4    %      17.0    %    18.4
reinstatement premiums
Net (favorable) adverse development
in prior year loss reserves, net of      (15.6   %)    (32.0   %)   16.4   
related adjustments
Combined ratio excluding such items      83.9    %     83.0    %    0.9    
                                                                             

Gross premiums written by the reinsurance segment in the 2012 fourth quarter
were 51.5% higher than in the 2011 fourth quarter, while net premiums written
were 50.6% higher than in the 2011 fourth quarter. The growth in net premiums
written reflected increases to all lines of business, including continued
contributions from mortgage business covering newly originated residential
mortgages and U.K. motor business, as noted in prior releases. Growth in
property lines primarily resulted from new business written by the reinsurance
segment’s treaty and facultative operations and also reflected $10.1 million
of assumed reinstatement premiums as a result of the 2012 fourth quarter
catastrophic activity.

Net premiums earned in the 2012 fourth quarter were 29.3% higher than in the
2011 fourth quarter, and primarily reflect changes in net premiums written
over the previous five quarters, including the mix and type of business
written. Net premiums earned also included $17 million related to the credit
and surety business acquired from Ariel Reinsurance Company Ltd. in April
2012. As noted in prior releases, under applicable accounting rules for
business combinations, the recording of unearned premiums was not reflected as
net premiums written but will continue to result in net premiums earned
(primarily over a two year period). The remaining acquired unearned premiums
were approximately $34 million at December 31, 2012.

The 2012 fourth quarter loss ratio reflected 38.5 points of current year
catastrophic activity, primarily due to Sandy, compared to 17.8 points of
catastrophic activity in the 2011 fourth quarter. Estimated net favorable
development in prior year loss reserves, before related adjustments, reduced
the loss ratio by 15.6 points in the 2012 fourth quarter, compared to 32.1
points in the 2011 fourth quarter. The estimated net favorable development in
the 2012 fourth quarter primarily resulted from better than expected claims
emergence in short-tail lines of business.

The underwriting expense ratio was 29.8% in the 2012 fourth quarter, compared
to 30.0% in the 2011 fourth quarter. The acquisition expense ratio for the
2012 fourth quarter was 18.0%, compared to 19.7% for the 2011 fourth quarter.
The comparison of the 2012 fourth quarter and 2011 fourth quarter acquisition
expense ratios is influenced by, among other things, the mix and type of
business written and earned and the level of ceding commissions. The operating
expense ratio was 11.8% in the 2012 fourth quarter, compared to 10.3% in the
2011 fourth quarter. The 2012 fourth quarter operating expense ratio reflected
an increase in aggregate expenses due, in part, to selected expansion of the
reinsurance segment’s operating platform and 1.9 points of incentive
compensation costs. Such amounts more than offset the benefit of a higher
level of net premiums earned on the 2012 fourth quarter ratio.


ARCH CAPITAL GROUP LTD. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(U.S. dollars in thousands, except share data)
                                                        
                       Three Months Ended                  Year Ended
                       December 31,                        December 31,
                       2012             2011              2012             2011
Revenues
Net premiums written   $ 613,142         $ 511,124         $ 3,052,235       $ 2,673,326
Change in unearned      166,339         162,068         (117,095    )    (41,511     )
premiums
Net premiums earned      779,481           673,192           2,935,140         2,631,815
Net investment           73,769            80,467            294,895           338,198
income
Net realized gains       54,849            14,542            194,228           110,646
                                                                               
Other-than-temporary     (6,046      )     (3,443      )     (12,175     )     (13,850     )
impairment losses
Less investment
impairments
recognized in other     11              1,484           787             4,788       
comprehensive
income, before taxes
Net impairment
losses recognized in     (6,035      )     (1,959      )     (11,388     )     (9,062      )
earnings
                                                                               
Fee income               5,664             982               8,090             3,429
Equity in net income
(loss) of investment
funds accounted for      16,567            (14,702     )     73,510            (9,605      )
using the equity
method
Other income (loss)     (4,189      )    (4,848      )    (12,094     )    (2,114      )
Total revenues          920,106         747,674         3,482,381       3,063,307   
                                                                               
Expenses
Losses and loss          622,506           378,067           1,861,277         1,727,553
adjustment expenses
Acquisition expenses     133,568           123,339           508,884           462,937
Other operating          127,751           110,077           465,353           432,122
expenses
Interest expense         6,187             8,087             28,525            31,691
Net foreign exchange    22,997          (12,613     )    28,955          (17,366     )
losses (gains)
Total expenses          913,009         606,957         2,892,994       2,636,937   
                                                                               
Income before income     7,097             140,717           589,387           426,370
taxes
                                                                               
Income tax benefit      (12,120     )    (4,615      )    (4,010      )    (9,793      )
                                                                               
Net income               19,217            145,332           593,397           436,163
                                                                               
Preferred dividends     5,485           6,461           25,079          25,844      
                                                                               
Net income available
to common              $ 13,732         $ 138,871        $ 568,318        $ 410,319     
shareholders
                                                                               
Net income per
common share
Basic                  $ 0.10            $ 1.05            $ 4.23            $ 3.10
Diluted                $ 0.10            $ 1.01            $ 4.11            $ 2.97
                                                                               
Weighted average
common shares and
common share
equivalents
outstanding
Basic                    134,229,078       132,612,528       134,446,158       132,221,970
Diluted                  138,270,853       137,473,670       138,258,847       138,289,702
                                                                                           


ARCH CAPITAL GROUP LTD. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(U.S. dollars in thousands, except share data)
                                                             
                                               December 31,     December 31,
                                               2012             2011
Assets
Investments:
Fixed maturities available for sale, at fair
value (amortized cost: $9,567,290 and          $ 9,839,988      $ 9,375,604
$9,165,438)
Short-term investments available for sale,
at fair value (amortized cost: $719,848 and      722,121          904,219
$909,121)
Investment of funds received under
securities lending, at fair value (amortized     42,531           48,419
cost: $42,302 and $48,577)
Equity securities available for sale, at         312,749          299,584
fair value (cost: $298,414 and $299,058)
Other investments available for sale, at         549,280          238,111
fair value (cost: $519,955 and $235,381)
Investments accounted for using the fair         917,466          366,903
value option
TALF investments, at fair value (2011            -                387,702
amortized cost: $373,040)
Investments accounted for using the equity       307,105         380,507    
method
Total investments                                12,691,240       12,001,049
                                                                  
Cash                                             371,041          351,699
Accrued investment income                        71,748           70,739
Investment in joint venture (cost: $100,000)     107,284          107,576
Fixed maturities and short-term investments
pledged under securities lending, at fair        50,848           56,393
value
Premiums receivable                              688,873          501,563
Reinsurance recoverable on unpaid and paid       1,870,037        1,851,584
losses and loss adjustment expenses
Contractholder receivables                       865,728          748,231
Prepaid reinsurance premiums                     298,484          265,696
Deferred acquisition costs, net                  262,822          227,884
Receivable for securities sold                   19,248           462,891
Other assets                                    519,409        460,052    
Total Assets                                   $ 17,816,762    $ 17,105,357 
                                                                  
Liabilities
Reserve for losses and loss adjustment         $ 8,933,292      $ 8,456,210
expenses
Unearned premiums                                1,647,978        1,411,872
Reinsurance balances payable                     188,546          133,866
Contractholder payables                          865,728          748,231
Senior notes                                     300,000          300,000
Revolving credit agreement borrowings            100,000          100,000
TALF borrowings, at fair value (2011 par:        -                310,486
$310,868)
Securities lending payable                       52,356           58,546
Payable for securities purchased                 37,788           480,230
Other liabilities                               522,196        513,842    
Total Liabilities                              $ 12,647,884    $ 12,513,283 
                                                                  
Commitments and Contingencies
                                                                  
Shareholders’ Equity
Non-cumulative preferred shares - Series A       325,000          325,000
and B
Common shares ($0.0033 par, shares issued:       561              549
168,255,572 and 164,636,338)
Additional paid-in capital                       217,166          161,419
Retained earnings                                5,364,973        4,796,655
Accumulated other comprehensive income, net      287,017          153,923
of deferred income tax
Common shares held in treasury, at cost         (1,025,839 )    (845,472   )
(shares: 34,412,959 and 30,277,993)
Total Shareholders’ Equity                      5,168,878      4,592,074  
Total Liabilities and Shareholders’ Equity     $ 17,816,762    $ 17,105,357 

Contact:

Arch Capital Group Ltd.
Mark D. Lyons, 441-278-9250
Executive Vice President and Chief Financial Officer
fax: 441-278-9255
 
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