XL logic

Anyways had a little flurry of activity in my personal account, bought some ACE (long term hold), some COF (my one bank play, I actually like the credit card overweight, very high dividend yield, and high TCE+reserves), SLM calls (March 10X), and XL (my spec play).
I think XL is interesting for the following reasons.
1. Stock has been pummeled for its investment portfolio. However marks seem reasonable, and any narrowing of spreads will rocket the stock. That being said the company clearly is facing concerns from rating agencies, and is reducing premium expectations for next year as clients shy away in certain long tail lines, and as the company preserves capital.

2. What is exciting here, is that unlike a troubled bank that cannot take advantage of fatter spreads and tighter conditions, pricing in P&C is not that compelling, and XL being forced to pare back may well be a blessing in disguise (though reduced premiums would negatively impact operating cash flows, and if there is a major CAT, the company would have to potentially sell investment securities to pay the losses, thus realizing unrealized losses).

3. Moreover, unlike a bank that would need to grow now to overwhelm garbage assets on their books, XL's reserves look redundant and are an eventual source of capital, so shrinking now is not a bad thing (ex the big CAT, but reduced premiums would hopefully mean reduced exposure).The company seems to understand this and is cutting expenses to match the lower premium expectations. XL's assets have been marked to market, but the liabilities have not, and will provide a source of earnings and capital through reserve releases. In a bank we know the liabilities but the assets have not been marked, at least on the loan portfolio.

4. The key risk is further losses in the investment portfolio triggering multiple downgrades. There are no collateral issues unless there is a two notch cut from AM Best (could trigger some issues with LOC, though those have not been drawn on at present). A two notch cut from AM Best or S&P would also basically force the reinsurance side of the business into Run-off, and would impair the insurance side as well. With that said, given that the company is a trading at 1/3 tangible book of $12.88, and liabilities are likely overstated (favorable reserves), the company in run-off is likely worth more than here. There are also no ST liquidity needs to force a default type scenario, unlike a bank. There is also no regulator stress test overhang etc...

5. Company is still being able to write business, and competitor PRE, though not naming names, said that the January renewal market was stable, both for them and competitors pointing to limited shopping of business at present.

6. The marks on the investment portfolio seem reasonable, and though anything can happen, risk/return is in one's favor. Dividend yield is still 10%, post cut, and dividend coverage from earnings not an issue. It is solely the investment portfolio that is the question mark. If I had to take a stab at a stock that could easily double, this is one I would seriously consider. You would have to get comfortable with the marks on the investment portfolio to proceed