Investments

Investment Portfolio

Net investment income is a function of the yield that the Company earns on invested assets and the size of the portfolio. The investment yield is a function of market interest rates at the time of investment as well as the type, credit quality and maturity of the invested assets. Net investment income decreased slightly due to a lower overall invested asset balance and lower reinvestment yields offset in part by higher income on loss mitigation bonds. Accrued investment income on fixed maturity, short-term investments and assets acquired in refinancing transactions was $99.2 million and $100.7 million as of June 30, 2012 and December 31, 2011, respectively.

Net Investment Income



	Second Quarter						Six Months
	2012			2011			2012			2011
	(in millions)
Income from fixed maturity securities	$	102.8		$	103.1		$	201.7		$	201.6
Income from short-term investments	0.2			0.3			0.4			0.6
Income from assets acquired in refinancing transactions	0.9			1.5			1.9			2.8
Gross investment income	103.9			104.9			204.0			205.0
Investment expenses	(2.3		)	(2.3		)	(4.6		)	(5.0		)
Net investment income	$	101.6		$	102.6		$	199.4		$	200.0

Net Realized Investment Gains (Losses)



	Second Quarter						Six Months
	2012			2011			2012			2011
	(in millions)
Realized gains on investment portfolio	$	16.3		$	10.8		$	25.8		$	20.8
Realized losses on investment portfolio	(17.6		)	(4.3		)	(20.9		)	(6.9		)
Other-than-temporary impairment (“OTTI”)
Intent to sell	—			(0.8		)	(0.3		)	(3.5		)
Credit component of OTTI securities	(1.8		)	(10.8		)	(6.4		)	(12.7		)
OTTI	(1.8		)	(11.6		)	(6.7		)	(16.2		)
Net realized investment gains (losses)	$	(3.1	)	$	(5.1	)	$	(1.8	)	$	(2.3	)

The following table presents the roll-forward of the credit losses of fixed maturity securities for which the Company has recognized OTTI and where the portion of the fair value adjustment related to other factors was recognized in OCI.

Roll Forward of Credit Losses in the Investment Portfolio



	Second Quarter					Six Months
	2012		2011			2012		2011
	(in millions)
Balance, beginning of period	$	51.3	$	29.2		$	46.7	$	27.3
Additions for credit losses on securities for which an OTTI was not previously recognized	0.4		9.1			2.5		10.5
Eliminations of securities issued by FG VIEs	—		(13.5		)	—		(13.5		)
Reductions for securities sold during the period	—		(5.0		)	—		(5.0		)
Additions for credit losses on securities for which an OTTI was previously recognized	1.4		1.7			3.9		2.2
Balance, end of period	$	53.1	$	21.5		$	53.1	$	21.5

Fixed Maturity Securities and Short Term Investments

by Security Type



	As of June 30, 2012
Investment Category	Percent of Total(1)		Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Estimated Fair Value		AOCI Gain(2) (Loss) on Securities with OTTI			Weighted Average Credit Quality (3)
	(dollars in millions)
Fixed maturity securities:
U.S. government and agencies	7	%	$	761.4	$	66.7	$	—		$	828.1	$	—		AA+
Obligations of state and political subdivisions	50		5,243.4		433.9		(0.6		)	5,676.7		7.4			AA
Corporate securities	9		967.4		64.8		(0.1		)	1,032.1		0.2			A+
Mortgage-backed securities(4):	—
RMBS	13		1,422.0		68.0		(94.4		)	1,395.6		(54.1		)	AA-
CMBS	4		455.9		30.6		—			486.5		3.1			AAA
Asset-backed securities	5		480.9		37.1		(29.7		)	488.3		19.2			BIG
Foreign government securities	3		287.8		14.6		(2.2		)	300.2		—			AAA
Total fixed maturity securities	91		9,618.8		715.7		(127.0		)	10,207.5		(24.2		)	AA-
Short-term investments	9		919.1		0.7		—			919.8		—			AAA
Total investment portfolio	100	%	$	10,537.9	$	716.4	$	(127.0	)	$	11,127.3	$	(24.2	)	AA



	As of December 31, 2011
Investment Category	Percent of Total(1)		Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Estimated Fair Value		AOCI Gain (Loss) on Securities with OTTI			Weighted Average Credit Quality (2)
	(dollars in millions)
Fixed maturity securities:
U.S. government and agencies	8	%	$	850.2	$	72.3	$	(0.1	)	$	922.4	$	—		AA+
Obligations of state and political subdivisions	49		5,097.3		358.6		(0.5		)	5,455.4		5.7			AA
Corporate securities	10		989.0		51.8		(2.4		)	1,038.4		(0.2		)	A+
Mortgage-backed securities(3):
RMBS	14		1,454.3		63.9		(90.3		)	1,427.9		(35.1		)	AA
CMBS	5		475.6		24.4		—			500.0		2.7			AAA
Asset-backed securities	4		439.5		37.7		(19.1		)	458.1		29.2			BBB-
Foreign government securities	3		332.6		13.3		(6.2		)	339.7		—			AAA
Total fixed maturity securities	93		9,638.5		622.0		(118.6		)	10,141.9		2.3			AA
Short-term investments	7		734.0		—		—			734.0		—			AAA
Total investment portfolio	100	%	$	10,372.5	$	622.0	$	(118.6	)	$	10,875.9	$	2.3		AA

____________________

(1)Based on amortized cost.

(2)Accumulated Other Comprehensive Income ("AOCI").


(3)	Ratings in the tables above represent the lower of the Moody’s and S&P classifications except for bonds purchased for loss mitigation or risk management strategies, which use internal ratings classifications. The Company’s portfolio consists primarily of high-quality, liquid instruments.


(4)	Government-agency obligations were approximately 64% of mortgage backed securities as of June 30, 2012 and 66% as of December 31, 2011 based on fair value.

The Company continues to receive sufficient information to value its investments and has not had to modify its valuation approach due to the current market conditions. As of June 30, 2012, amounts, net of tax, in AOCI included a net unrealized loss of $15.0 million for securities for which the Company had recognized OTTI and a net unrealized gain of $443.2 million for securities for which the Company had not recognized OTTI. As of December 31, 2011, amounts, net of tax, in AOCI included a net unrealized gain of $3.1 million for securities for which the Company had recognized OTTI and a net unrealized gain of $363.6 million for securities for which the Company had not recognized OTTI.

The Company’s investment portfolio in tax-exempt and taxable municipal securities includes issuances by a wide number of municipal authorities across the U.S. and its territories. This is a high quality portfolio of municipal securities with an average rating of AA as of June 30, 2012 and AA as of December 31, 2011. Securities rated lower than A-/A3 by S&P or Moody’s are not eligible to be purchased for the Company’s portfolio unless acquired for loss mitigation or risk management strategies.

The following tables present the fair value of the Company’s available-for-sale municipal bond portfolio as of June 30, 2012 and December 31, 2011 by state, excluding $509.9 million and $403.4 million of pre-refunded bonds, respectively. The credit ratings are based on the underlying ratings and do not include any benefit from bond insurance.

Fair Value of Available-for-Sale Municipal Bond Portfolio by State



	As of June 30, 2012
State	State General Obligation		Local General Obligation		Revenue		Fair Value		Amortized Cost		Average Credit Rating
	(in millions)
Texas	$	88.2	$	337.9	$	370.7	$	796.8	$	734.1	AA
New York	12.5		70.0		654.4		736.9		687.1		AA
California	19.0		74.5		328.8		422.3		383.2		AA
Florida	34.5		62.5		245.2		342.2		310.5		AA
Illinois	14.2		81.9		195.0		291.1		268.8		A
Washington	38.4		45.4		157.5		241.3		224.5		AA
Massachusetts	43.3		9.8		168.6		221.7		200.8		AA
Arizona	—		7.7		168.8		176.5		163.9		AA
Georgia	12.4		29.5		108.2		150.1		142.7		AA
Michigan	—		29.2		111.6		140.8		131.2		AA
All others	288.5		259.6		1,099.0		1,647.1		1,526.1		AA
Total	$	551.0	$	1,008.0	$	3,607.8	$	5,166.8	$	4,772.9	AA



	As of December 31, 2011
State	State General Obligation		Local General Obligation		Revenue		Fair Value		Amortized Cost		Average Credit Rating
	(in millions)
Texas	$	86.3	$	342.0	$	345.6	$	773.9	$	724.0	AA
New York	12.3		60.3		622.6		695.2		653.8		AA
California	19.1		50.9		296.8		366.8		336.2		AA
Florida	34.2		61.7		247.4		343.3		316.9		AA
Illinois	16.2		86.9		197.1		300.2		281.5		AA
Massachusetts	42.5		9.7		163.7		215.9		198.9		AA
Washington	37.8		52.5		123.4		213.7		199.7		AA
Arizona	—		7.7		164.6		172.3		163.0		AA
Ohio	—		52.7		85.9		138.6		128.8		AA
Michigan	—		37.2		99.0		136.2		128.5		AA
All others	310.5		271.8		1,113.6		1,695.9		1,588.6		AA
Total	$	558.9	$	1,033.4	$	3,459.7	$	5,052.0	$	4,719.9	AA

The revenue bond portfolio is comprised primarily of essential service revenue bonds issued by water and sewer authorities and other utilities, transportation authorities, universities and healthcare providers.

Revenue Sources



	As of June 30, 2012				As of December 31, 2011
Type	Fair Value		Amortized Cost		Fair Value		Amortized Cost
	(in millions)
Transportation	$	789.5	$	726.4	$	717.4	$	669.7
Tax backed	764.3		706.9		800.0		748.7
Water and sewer	577.5		538.3		530.4		500.7
Municipal utilities	549.4		505.9		528.8		493.5
Higher education	408.0		374.7		332.1		307.2
Healthcare	307.9		285.9		273.4		257.6
All others	211.2		199.7		277.6		265.4
Total	$	3,607.8	$	3,337.8	$	3,459.7	$	3,242.8

The Company’s investment portfolio is managed by four outside managers. As municipal investments are a material portion of the Company’s overall investment portfolio, the Company has established detailed guidelines regarding credit quality, exposure to a particular sector and exposure to a particular obligor within a sector. Each of the portfolio managers perform independent analysis on every municipal security they purchase for the Company’s portfolio. The Company meets with each of its portfolio managers quarterly and reviews all investments with a change in credit rating as well as any investments on the manager’s watch list of securities with the potential for downgrade. The Company does not independently assign investments within the Company’s portfolio an individual rating.

The following tables summarize, for all securities in an unrealized loss position, the aggregate fair value and gross unrealized loss by length of time the amounts have continuously been in an unrealized loss position.

Fixed Maturity Securities

Gross Unrealized Loss by Length of Time



	As of June 30, 2012
	Less than 12 months					12 months or more					Total
	Fair value		Unrealized loss			Fair value		Unrealized loss			Fair value		Unrealized loss
	(dollars in millions)
U.S. government and agencies	$	71.4	$	—		$	—	$	—		$	71.4	$	—
Obligations of state and political subdivisions	99.9		(0.6		)	3.5		—			103.4		(0.6		)
Corporate securities	40.7		(0.1		)	—		—			40.7		(0.1		)
Mortgage-backed securities:
RMBS	168.0		(51.7		)	67.3		(42.7		)	235.3		(94.4		)
CMBS	1.4		—			—		—			1.4		—
Asset-backed securities	33.9		(8.2		)	22.5		(21.5		)	56.4		(29.7		)
Foreign government securities	66.5		(2.2		)	—		—			66.5		(2.2		)
Total	$	481.8	$	(62.8	)	$	93.3	$	(64.2	)	$	575.1	$	(127.0	)
Number of securities			77					18					95
Number of securities with OTTI			4					6					10



	As of December 31, 2011
	Less than 12 months					12 months or more					Total
	Fair value		Unrealized loss			Fair value		Unrealized loss			Fair value		Unrealized loss
	(dollars in millions)
U.S. government and agencies	$	3.8	$	(0.1	)	$	—	$	—		$	3.8	$	(0.1	)
Obligations of state and political subdivisions	17.0		—			20.6		(0.5		)	37.6		(0.5		)
Corporate securities	79.9		(2.3		)	3.1		(0.1		)	83.0		(2.4		)
Mortgage-backed securities:											0		0
RMBS	186.6		(68.2		)	36.5		(22.1		)	223.1		(90.3		)
CMBS	2.8		—			—		—			2.8		—
Asset-backed securities	—		—			25.7		(19.1		)	25.7		(19.1		)
Foreign government securities	141.4		(6.2		)	—		—			141.4		(6.2		)
Total	$	431.5	$	(76.8	)	$	85.9	$	(41.8	)	$	517.4	$	(118.6	)
Number of securities			72					54					126
Number of securities with OTTI			6					4					10

The increase in gross unrealized losses was primarily attributable to RMBS and asset backed securities. Of the securities in an unrealized loss position for 12 months or more as of June 30, 2012, 10 securities had unrealized losses greater than 10% of book value. The total unrealized loss for these securities as of June 30, 2012 was $63.3 million. The Company has determined that the unrealized losses recorded as of June 30, 2012 are yield related and not the result of other-than-temporary impairments.

The amortized cost and estimated fair value of available-for-sale fixed maturity securities by contractual maturity as of June 30, 2012 are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.

Distribution of Fixed-Maturity Securities

by Contractual Maturity



	As of June 30, 2012
	Amortized Cost		Estimated Fair Value
	(in millions)
Due within one year	$	388.9	$	390.1
Due after one year through five years	1,408.7		1,479.8
Due after five years through 10 years	2,373.5		2,599.3
Due after 10 years	3,569.8		3,856.2
Mortgage-backed securities:
RMBS	1,422.0		1,395.6
CMBS	455.9		486.5
Total	$	9,618.8	$	10,207.5

Under agreements with its cedants and in accordance with statutory requirements, the Company maintains fixed maturity securities in trust accounts for the benefit of reinsured companies, which amounted to $393.4 million and $380.1 million as of June 30, 2012 and December 31, 2011, respectively. In addition, to fulfill state licensing requirements the Company has placed on deposit eligible securities of $26.9 million and $23.9 million as of June 30, 2012 and December 31, 2011, respectively, for the protection of policyholders. To provide collateral for a letter of credit, the Company holds a fixed maturity investment in a segregated account which amounted to $3.5 million and $3.5 million as of June 30, 2012 and December 31, 2011, respectively. In connection with an excess of loss reinsurance facility $21.8 million in short term securities have been deposited into a trust for the benefit of the reinsurers.

Under certain derivative contracts, the Company is required to post eligible securities as collateral. The need to post collateral under these transactions is generally based on fair value assessments in excess of contractual thresholds. The fair value of the Company’s pledged securities totaled $687.9 million and $779.9 million as of June 30, 2012 and December 31, 2011, respectively.

No material investments of the Company were non-income producing for Six Months 2012 and 2011, respectively.

The Company purchased securities that it has insured, and for which it has expected losses to be paid, in order to mitigate the economic effect of insured losses ("loss mitigation bonds"). These securities were purchased at a discount and are accounted for excluding the effects of the Company’s insurance on the securities. As of June 30, 2012, securities purchased for loss mitigation purposes included in the fixed maturity portfolio on the consolidated balance sheet had a fair value of $256.9 million representing $851.6 million of par.

Under the terms of certain credit derivative contracts, the Company has obtained the obligations referenced in the transactions and recorded such assets in fixed maturity securities in the consolidated balance sheets. Such fair value amounts totaled $193.2 million, representing $220.4 million in par.