UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q
 

☒    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2019June 30, 2020
OR

☐    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 

Commission file number: 001-38788
watfordmedresa20.jpg
Watford Holdings Ltd.
(Exact Name of Registrant as Specified in its Charter)
Bermuda
(State or other jurisdiction
of incorporation or organization)
98-1155442
(I.R.S. Employer Identification Number)

Waterloo House, 1st Floor
100 Pitts Bay Road, Pembroke HM 08, Bermuda
(Address of principal executive offices)

(441) 278-3455
(Registrant’s telephone number, including area code)
 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☐☒ No ☒☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer ☐Accelerated filer ☐
Non-accelerated filer ☒Smaller reporting company ☐
Emerging growth company ☒
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☒
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Trading Symbol(s) Name of each exchange on which registered
Common Shares WTRE Nasdaq Global Select Market
8½% Cumulative Redeemable Preference SharesWTREPNasdaq Global Select Market

As of May 9, 2019,August 7, 2020, there were 22,682,87519,886,979 common shares, $0.01 par value per share, of the registrant’s common sharesregistrant outstanding.


 Watford Holdings Ltd.
 Index to Form 10-Q 
  Page
Part I.
Financial information
3
Item 1.
Consolidated financial statements
5
Item 2.
Management’s discussion and analysis of financial condition and results of operations
4453
Item 3.
Quantitative and qualitative disclosures about market risk
79100
Item 4.
Controls and procedures
83104
   
Part II.
Other information
84105
Item 1.
Legal proceedings
84105
Item 1A.
Risk factors
84105
Item 2.
Unregistered sales of equity securities and use of proceeds
84109
Item 3.
Defaults upon senior securities
109
Item 4.
Mine safety disclosures
84109
Item 5.
Other information
84109
Item 6.
Exhibits
85111
 
Signatures
86112


Explanatory note - Certain defined terms
Unless the context suggests otherwise, any reference in this report to:
“ACGL” refers to Arch Capital Group Ltd. and its controlled subsidiaries;
“Arch” refers to any one or more of the following direct or indirect subsidiaries of ACGL, as applicable in the context in which such term appears:
Arch Investment Management Ltd., or AIM, which manages the majority of our investment grade portfolio;
Arch Reinsurance Company, or ARC, which is a party to certain quota share agreements with one or more of our operating subsidiaries and a services agreement with Watford Holdings (U.S.) Inc.;
Arch Reinsurance Ltd., or ARL, which is a party to certain quota share agreements with one or more of our operating subsidiaries and owned approximately 11%12.6% of our outstanding common shares as of March 31, 2019June 30, 2020;
Arch Underwriters Inc., or AUI, which manages the underwriting business of our U.S. operating subsidiaries;
Arch Underwriters Ltd., or AUL, which manages the underwriting business of our non-U.S. operating subsidiaries, including Watford Re;
our “Investment Managers” refers to AIM, HPS or any other investment managers that manage our investment grade portfolio or our non-investment grade portfolio from time to time;
“HPS” refers to HPS Investment Partners, LLC (formerly known as Highbridge Principal Strategies, LLC), which manages our non-investment grade portfolio, as well as accounts in our investment grade portfolio;
our “Investment Managers” refers to AIM, HPS or any other investment managers that manage our investment grade portfolio or our non-investment grade portfolio from time to time;
“Watford,” “we,” “us” and “our” refers to Watford Holdings Ltd. and its subsidiaries;
“Watford Holdings” refers to our company, Watford Holdings Ltd., a Bermuda exempted company;
“Watford Re” refers to Watford Re Ltd., a Bermuda domiciled insurance company and a wholly-owned subsidiary of our company;
“Watford Trust” refers to Watford Asset Trust I, a statutory trust organized under the laws of the State of Delaware;
“Watford Re” refers to Watford Re Ltd., a Bermuda domiciled insurance company and a wholly-owned subsidiary of our company;
“WIC” refers to Watford Insurance Company, a New Jersey domiciled insurance company and a wholly-owned subsidiary of our company;
“WICE” refers to Watford Insurance Company Europe Limited, a Gibraltar domiciled insurance company and a wholly-owned subsidiary of our company; and
“WSIC” refers to Watford Specialty Insurance Company, a New Jersey domiciled insurance company and a wholly-owned subsidiary of our company.




Part I. Financial information
Cautionary note regarding forward-looking statements
The Private Securities Litigation Reform Act of 1995 (or the PSLRA) provides a “safe harbor” for forward-looking statements. This report contains forward-looking statements that are intended to enhance the reader’s ability to assess our future financial and business performance. These statements are based on the beliefs and assumptions of our management, and are subject to risks and uncertainties. Generally, statements that are not about historical facts, including statements concerning our possible or assumed future actions or results of operations are forward-looking statements. Forward-looking statements include, but are not limited to, statements that represent our beliefs, expectations or estimates concerning future operations, strategies, financial results or performance, financings, investments, acquisitions, expenditures or other developments and anticipated trends and competition in the markets in which we operate. Forward-looking statements, for purposes of the PSLRA or otherwise, can also be identified by the use of forward-looking terminology such as “may,” “believes,” “intends,” “anticipates,” “plans,” “estimates,” “expects,” “should” or similar expressions.
Forward-looking statements involve our 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 report and in our other reports and other documents filed with the Securities and Exchange Commission, or the SEC, and include:
our limited operating history;
fluctuations in the results of our operations;
our ability to compete successfully with more established competitors;
our losses exceeding our reserves;
downgrades, potential downgrades or other negative actions by rating agencies;agencies, including the recent announcements by A.M. Best Company, or A.M. Best, that it has placed under review with negative implications our financial strength and credit ratings and Kroll Bond Rating Agency, or KBRA, that it has revised the outlook of our financial strength and credit ratings to negative;
our dependence on key executives and inability to attract qualified personnel, or the potential loss of Bermudiansuitably qualified personnel as a result of Bermuda employment and immigration restrictions;
our dependence on letter of credit facilities and borrowing facilities that may not be available on commercially acceptable terms;
our potential inability to pay dividends or distributions;
our potential need for additional capital in the future and the potential unavailability of such capital to us on favorable terms or at all;
our dependence on clients’ evaluations of risks associated with such clients’ insurance underwriting;
the suspension or revocation of our subsidiaries’ insurance licenses;
Watford Holdings potentially being deemed an investment company under U.S. federal securities law;


the potential characterization of us and/or any of our subsidiaries as a passive foreign investment company, or PFIC;
our dependence on Arch for services critical to our underwriting operations;


changes to our strategic relationship with Arch or the termination by Arch of any of our services agreements or quota share agreements;
our dependence on HPS and AIM to implement our investment strategy;
the termination by HPS or AIM of any of our investment management agreements;
risks associated with our investment strategy being greater than those faced by competitors;
changes in the regulatory environment;
our potentially becoming subject to U.S. federal income taxation;
our potentially becoming subject to U.S. withholding and information reporting requirements under the U.S. Foreign Account Tax Compliance Act, or FATCA, provisions;
our ability to complete acquisitions and integrate businesses successfully;
adverse general, societal, economic and market conditions, including those caused by pandemics, including the current global pandemic related to the novel coronavirus, or COVID-19, and government actions in response thereto; and
the other risks identified in this report, including, without limitation, thosematters 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 sections titledCompany’s Annual Report on Form 10-K for the year ended December 31, 2019, Part II Item 1A “Risk factors” and Part I Item 2 “Management’s discussion and analysis of financial condition and results of operations.”operations” of this Quarterly Report on Form 10-Q 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.
Consequently, such forward-looking statements should be regarded solely as our current plans, estimates or belief as of the date of this report. All subsequent forward-looking statements attributable to us or persons acting on our 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. We do not intend, and do not undertake, any obligation to update any forward-looking statements to reflect future events or circumstances after the date of this report.


Item 1. Consolidated financial statements
 Page
Consolidated Balance Sheets
 
March 31, 2019June 30, 2020 (unaudited) and December 31, 20182019
6
  
Consolidated Statements of Income (Loss)
 
For the three and six months ended March 31,June 30, 2020 and 2019 and 2018 (unaudited)
7
  
Consolidated Statements of Comprehensive Income (Loss)
 
For the three and six months ended March 31,June 30, 2020 and 2019 and 2018 (unaudited)
8
  
Consolidated Statements of Changes in Shareholders’ Equity
 
For the three and six months ended March 31,June 30, 2020 and 2019 and 2018 (unaudited)
9
  
Consolidated Statements of Cash Flows
 
For the threesix months ended March 31,June 30, 2020 and 2019 and 2018 (unaudited)
10
  
Notes to the Consolidated Financial Statements (unaudited) 
Note 1 - Organization
11
Note 2 - Basis of Presentation and Significant Accounting Policies
1112
Note 3 - Segment Information
1315
Note 4 - Reinsurance
1516
Note 5 - Reserves for Losses and Loss Adjustment Expenses
1617
Note 6 - Investment InformationAllowance for Expected Credit Losses
1718
Note 7 - Fair ValueInvestment Information
2519
Note 8 - Derivative InstrumentsFair Value
3331
Note 9 - Earnings Per Common ShareDerivative Instruments
3538
Note 10 - Income Taxes
35
Note 11 - Transactions With Related Parties
36
Note 12 - Commitments and ContingenciesEarnings Per Common Share
40
Note 1311 - Legal ProceedingsIncome Taxes
4340
Note 12 - Transactions With Related Parties
41
Note 13 - Commitments and Contingencies
47
Note 14 - Subsequent EventsLeases
4349
Note 15 - Senior Notes
50
Note 16 - Contingently Redeemable Preference Shares
50
Note 17 - Share Transactions
51
Note 18 - Legal Proceedings
52


WATFORD HOLDINGS LTD.
CONSOLIDATED BALANCE SHEETS
(U.S. dollars in thousands, except share data)
(Unaudited)  (Unaudited)
March 31, December 31,June 30, December 31,
2019 20182020 2019
Assets      
Investments:      
Term loans, fair value option (Amortized cost: $1,067,676 and $1,055,664)$1,022,238
 $1,000,652
Fixed maturities, fair value option (Amortized cost: $854,510 and $972,653)826,016
 922,819
Short-term investments, fair value option (Cost: $256,065 and $281,959) (1)256,711
 282,132
Term loans, fair value option (Amortized cost: $991,130 and $1,113,212)$875,560
 $1,061,934
Fixed maturities, fair value option (Amortized cost: $611,265 and $432,576)548,010
 416,594
Short-term investments, fair value option (Cost: $370,976 and $325,542)370,066
 329,303
Equity securities, fair value option58,801
 56,638
58,898
 59,799
Other investments, fair value option (1)51,556
 49,762
34,142
 30,461
Investments, fair value option2,215,322
 2,312,003
1,886,676
 1,898,091
Fixed maturities, available for sale (Amortized cost: $549,176 and $397,509)549,834
 393,351
Fixed maturities, available for sale (Amortized cost: $698,897 and $739,456)690,225
 745,708
Equity securities, fair value through net income65,010
 33,013
62,444
 65,338
Total investments(1)2,830,166
 2,738,367
2,639,345
 2,709,137
Cash and cash equivalents56,301
 63,529
107,653
 102,437
Accrued investment income17,346
 19,461
14,364
 14,025
Premiums receivable (1)252,850
 227,301
258,178
 273,657
Reinsurance recoverable on unpaid and paid losses and loss adjustment expenses (1)102,817
 86,445
229,746
 170,974
Prepaid reinsurance premiums (1)72,960
 61,587
131,919
 132,577
Deferred acquisition costs, net (1)80,664
 80,858
64,149
 64,044
Receivable for securities sold62,566
 24,507
31,314
 16,288
Intangible assets7,650
 7,650
7,650
 7,650
Funds held by reinsurers (1)44,638
 44,830
41,112
 42,505
Other assets24,911
 18,321
22,328
 17,562
Total assets$3,552,869
 $3,372,856
$3,547,758
 $3,550,856
Liabilities     
Reserve for losses and loss adjustment expenses (1)$1,104,532
 $1,032,760
$1,353,049
 $1,263,628
Unearned premiums (1)401,838
 390,114
456,170
 438,907
Losses payable (1)42,929
 24,750
58,292
 61,314
Reinsurance balances payable (1)27,039
 21,034
72,776
 77,066
Payable for securities purchased95,577
 60,142
67,272
 18,180
Payable for securities sold short28,737
 8,928
29,289
 66,257
Revolving credit agreement borrowings652,743
 693,917
472,361
 484,287
Senior notes (1)172,554
 172,418
Amounts due to affiliates (1)8,198
 5,888
4,542
 4,467
Investment management and performance fees payable (1)10,483
 3,807
5,511
 17,762
Other liabilities17,819
 20,916
Other liabilities (1)27,440
 21,912
Total liabilities$2,389,895
 $2,262,256
$2,719,256
 $2,626,198
Commitments and contingencies
 

 
Contingently redeemable preferred shares221,083
 220,992
Contingently redeemable preference shares (1)52,351
 52,305
Shareholders’ equity      
Common shares ($0.01 par; shares authorized: 120 million; shares issued and outstanding: 22,682,875)227
 227
Common shares ($0.01 par; shares authorized: 120 million; shares issued: 22,804,128 and 22,692,300)227
 227
Additional paid-in capital895,386
 895,386
898,935
 898,083
Retained earnings (deficit)46,357
 (1,275)(35,909) 43,470
Accumulated other comprehensive income (loss)(79) (4,730)(9,179) 5,629
Common shares held in treasury, at cost (shares: 2,917,149 and 2,789,405)(77,923) (75,056)
Total shareholders’ equity941,891
 889,608
776,151
 872,353
Total liabilities, contingently redeemable preferred shares and shareholders’ equity$3,552,869
 $3,372,856
Total liabilities, contingently redeemable preference shares and shareholders’ equity$3,547,758
 $3,550,856
(1) See Note 11 -12, “Transactions with related parties” for disclosure of related party amounts.

WATFORD HOLDINGS LTD.
CONSOLIDATED STATEMENTS OF INCOME (LOSS)
(U.S. dollars in thousands, except share and per share data)
(Unaudited)(Unaudited) (Unaudited)
Three Months Ended March 31,Three Months Ended June 30, Six Months Ended June 30,
2019 20182020 2019 2020 2019
Revenues          
Gross premiums written (1)$186,689
 $213,870
$157,927
 $161,978
 $392,829
 $348,667
Gross premiums ceded (1)(41,302) (34,318)(52,071) (42,608) (100,273) (83,910)
Net premiums written (1)145,387
 179,552
105,856
 119,370
 292,556
 264,757
Change in unearned premiums (1)707
 (42,805)25,679
 31,948
 (20,982) 32,655
Net premiums earned (1)146,094
 136,747
131,535
 151,318
 271,574
 297,412
Other underwriting income (loss)592
 701
868
 673
 1,001
 1,265
Interest income43,141
 34,645
36,453
 38,596
 74,277
 81,737
Investment management fees - related parties (1)(4,409) (4,146)(4,262) (4,570) (8,614) (8,979)
Borrowing and miscellaneous other investment expenses(8,298) (6,360)(4,763) (7,611) (10,432) (15,909)
Net interest income30,434
 24,139
27,428
 26,415
 55,231
 56,849
Realized and unrealized gains (losses) on investments33,720
 (2,006)172,063
 (936) (118,439) 32,784
Investment performance fees - related parties (1)(5,800) (2,597)—
 (1,692) —
 (7,492)
Net investment income (loss)58,354
 19,536
199,491
 23,787
 (63,208) 82,141
Total revenues205,040
 156,984
331,894
 175,778
 209,367
 380,818
          
Expenses          
Loss and loss adjustment expenses (1)(110,850) (97,989)(104,786) (111,416) (215,462) (222,266)
Acquisition expenses (1)(33,974) (34,963)(29,486) (35,417) (57,853) (69,391)
General and administrative expenses (1)(7,240) (5,057)(7,841) (9,751) (14,980) (16,991)
Interest expense (1)(2,911) —
 (5,823) —
Net foreign exchange gains (losses)(437) (1,283)2,665
 (441) 7,678
 (878)
Total expenses(152,501) (139,292)(142,359) (157,025) (286,440) (309,526)
Income (loss) before income taxes52,539
 17,692
189,535
 18,753
 (77,073) 71,292
Income tax expense—
 (3)
Net income (loss) before preferred dividends52,539
 17,689
Preferred dividends(4,907) (4,907)
Income tax benefit (expense)402
 (20) 402
 (20)
Net income (loss) before preference dividends189,937
 18,733
 (76,671) 71,272
Preference dividends (1)(1,109) (4,908) (2,280) (9,815)
Net income (loss) available to common shareholders$47,632
 $12,782
$188,828
 $13,825
 $(78,951) $61,457
          
Earnings (loss) per share:   
Earnings (loss) per common share:       
Basic and diluted$2.10
 $0.56
$9.51
 $0.61
 $(3.97) $2.71
Weighted average number of common shares used in the determination of earnings (loss) per share:          
Basic and diluted22,682,875
 22,682,875
Basic19,863,048
 22,740,762
 19,907,490
 22,711,833
Diluted19,863,048
 22,747,033
 19,907,490
 22,714,969
(1) See Note 11 -12, “Transactions with related parties” for disclosure of related party amounts.

WATFORD HOLDINGS LTD.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(U.S. dollars in thousands)
(Unaudited)(Unaudited) (Unaudited)
Three Months Ended March 31,Three Months Ended June 30, Six Months Ended June 30,
2019 20182020 2019 2020 2019
Comprehensive income (loss)       
Net income (loss) available to common shareholders$47,632
 $12,782
$188,828
 $13,825
 $(78,951) $61,457
Other comprehensive income (loss) net of income tax:          
Available for sale investments:          
Unrealized holding gains (losses) arising during the year5,045
 (561)
Reclassification of net realized (gains) losses, net of income taxes, included in net income(229) 144
Unrealized holding gains (losses) arising during the period31,240
 6,532
 2,809
 10,613
Unrealized foreign currency gains (losses) arising during the period279
 (1,678) (7,420) (548)
Credit loss recognized in net income (loss)(212) —
 351
 —
Reclassification of net realized (gains) losses, included in net income (loss)(8,331) (1,816) (10,736) (2,211)
Unrealized holding gains (losses) of available for sale investments22,976
 3,038
 (14,996) 7,854
Foreign currency translation adjustments(165) (339)51
 212
 188
 47
Other comprehensive income (loss) net of income tax4,651
 (756)23,027
 3,250
 (14,808) 7,901
Comprehensive income (loss)52,283
 12,026
$211,855
 $17,075
 $(93,759) $69,358

WATFORD HOLDINGS LTD.
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY
(U.S. dollars in thousands)
(Unaudited)(Unaudited) (Unaudited)
Three Months Ended March 31,Three Months Ended June 30, Six Months Ended June 30,
2019 20182020 2019 2020 2019
Common shares          
Balance at beginning of period$227
 $227
$227
 $227
 $227
 $227
Common shares issued—
 —
—
 —
 —
 —
Balance at end of period227
 227
227
 227
 227
 227
          
Additional paid-in capital          
Balance at beginning of period895,386
 895,386
898,693
 895,386
 898,083
 895,386
Common shares issued, net—
 —
Common shares issued under share plans241
 250
 491
 250
Share-based compensation1
 2,080
 361
 2,080
Balance at end of period895,386
 895,386
898,935
 897,716
 898,935
 897,716
          
Accumulated other comprehensive income (loss)          
Balance at beginning of period(4,730) (972)(32,206) (79) 5,629
 (4,730)
Unrealized holding gains (losses) of available for sale investments:          
Balance at beginning of period(4,158) —
(31,720) 658
 6,252
 (4,158)
Unrealized holding gains (losses) of available for sale investments, net of reclassification adjustment4,816
 (417)
Unrealized holding gains (losses) of available for sale investments, net of reclassification adjustments22,976
 3,038
 (14,996) 7,854
Balance at end of period658
 (417)(8,744) 3,696
 (8,744) 3,696
Currency translation adjustment:          
Balance at beginning of period(572) (972)(486) (737) (623) (572)
Currency translation adjustment(165) (339)51
 212
 188
 47
Balance at end of period(737) (1,311)(435) (525) (435) (525)
Balance at end of period(79) (1,728)(9,179) 3,171
 (9,179) 3,171
          
Common shares held in treasury, at cost       
Balance at beginning of period(77,923) —
 (75,056) —
Shares repurchased for treasury—
 —
 (2,867) —
Balance at end of period(77,923) —
 (77,923) —
       
Retained earnings (deficit)          
Balance at beginning of period(1,275) 53,241
(224,737) 46,357
 43,470
 (1,275)
Net income (loss) before preferred dividends52,539
 17,689
Preferred share dividends paid and accrued(4,907) (4,907)
Cumulative effect of adoption of updated accounting guidance for credit losses at January 1, 2020—
 —
 (428) —
Net income (loss) before preference dividends189,937
 18,733
 (76,671) 71,272
Preference share dividends paid and accrued(1,109) (4,908) (2,280) (9,815)
Balance at end of period46,357
 66,023
(35,909) 60,182
 (35,909) 60,182
Total shareholders’ equity$941,891
 $959,908
$776,151
 $961,296
 $776,151
 $961,296

WATFORD HOLDINGS LTD.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(U.S. dollars in thousands)
(Unaudited)(Unaudited)
Three Months Ended March 31,Six Months Ended June 30,
2019 20182020 2019
Operating Activities      
Net income (loss) before preferred dividends$52,539
 $17,689
Net income (loss) before preference dividends$(76,671) $71,272
Adjustments to reconcile net income (loss) to net cash provided by operating activities:Adjustments to reconcile net income (loss) to net cash provided by operating activities:  Adjustments to reconcile net income (loss) to net cash provided by operating activities:  
Net realized and unrealized (gains) losses on investments(34,932) (1,393)118,439
 (32,784)
Amortization of fixed assets38
 42
3
 72
Share-based compensation852
 2,330
Changes in:      
Accrued investment income2,121
 1,435
(349) 2,548
Premiums receivable(22,686) (62,928)8,621
 (60)
Reinsurance recoverable on unpaid and paid losses and loss adjustment expenses(16,703) (4,128)(54,442) (37,611)
Prepaid reinsurance premiums(11,374) (19,694)658
 (17,926)
Deferred acquisition costs, net471
 (6,259)(2,385) 9,396
Reserve for losses and loss adjustment expenses67,964
 47,650
110,913
 93,421
Unearned premiums10,667
 62,498
20,324
 (14,729)
Reinsurance balances payable6,069
 7,662
(5,530) 2,379
Funds held with reinsurers598
 3,189
(263) (10,890)
Other liabilities18,353
 (20,882)(20,087) 48,743
Other items(2,819) 5,354
(12,740) (274)
Net Cash Provided By Operating Activities70,306
 30,235
87,343
 115,887
Investing Activities      
Purchase of term loans(72,168) (117,944)(159,650) (233,730)
Purchase of fixed maturity investments(306,656) (437,374)(902,584) (746,930)
Purchase of short-term investments with maturities over three months(7,048) —
Proceeds from sale, redemptions and maturity of term loans48,630
 138,646
267,393
 189,576
Proceeds from sales, redemptions and maturities of fixed maturity investments303,076
 327,645
760,494
 778,128
Net (purchases) sales of short-term investments with maturities over three months25,000
 —
Proceeds from sales, redemptions and maturities of other investments—
 24,636
Proceeds from sales, redemptions and maturities of short-term investments with maturities over three months23,202
 21,909
Net (purchases) sales of short-term investments with maturities less than three months504
 137,743
(45,871) 26,694
Purchases of equity securities(38,399) (31,113)(6,213) (52,179)
Proceeds from sales of equity securities7,312
 5,327
9,118
 26,421
Net settlements of derivative instruments824
 —
2,444
 619
Purchases of furniture, equipment and other assets—
 (7)(2) —
Net Cash Provided by (Used For) Investing Activities(31,877) 22,923
(58,717) 35,144
Financing Activities      
Dividends paid on redeemable preferred shares(4,816) (4,816)
Dividends paid on redeemable preference shares(2,233) (9,632)
Repayments on borrowings(100,102) (101,000)(165,000) (198,426)
Proceeds from borrowings59,000
 51,373
153,048
 62,800
Net Cash Used For Financing Activities(45,918) (54,443)
Purchases of common shares under share repurchase program(2,867) —
Net Cash Provided By (Used For) Financing Activities(17,052) (145,258)
Effects of exchange rate changes on foreign currency cash261
 835
(6,358) (325)
Decrease in cash(7,228) (450)
Increase (decrease) in cash5,216
 5,448
Cash and cash equivalents, beginning of period63,529
 54,503
102,437
 63,529
Cash and cash equivalents, end of period$56,301
 $54,053
$107,653
 $68,977
Supplementary information      
Income taxes paid$—
 $3
$—
 $20
Interest paid$7,864
 $5,896
$9,579
 $15,103
Non-cash exchange of investments$33,236
 $—

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)



1. Organization
Watford Holdings Ltd. (the “Parent”) and its wholly-owned subsidiary, Watford Re Ltd. (“Watford Re”), were incorporated under the laws of Bermuda on July 19, 2013.
As used herein, the terms “Company” or “Companies,” or “we,” “us” and “our,” collectively refer to the Parent and/or, as applicable, its subsidiaries. Watford Re is licensed as a Class 4 multi-line insurer under the Insurance Act 1978 of Bermuda, as amended, and related regulations (the “Insurance Act”) and is licensed to underwrite general business on an insurance and reinsurance basis. Through Watford Re, the Company primarily underwrites reinsurance on exposures worldwide.
On March 28, 2019, the Company completed a direct listing of its common shares on the Nasdaq Global Select Market. On June 28, 2019, the Company completed a direct listing of its 8½% Cumulative Redeemable Preference Shares (the “preference shares”) on the Nasdaq Global Select Market. The Company did not issue any new common shares or preference shares, nor did the Company receive any proceeds from the sale of common shares or preference shares by the selling shareholders.
Watford Re and Watford Insurance Company Europe Limited (“(“WICE”) have engaged Arch Underwriters Ltd. (“AUL”), a company incorporated in Bermuda and a wholly-owned subsidiary of Arch Capital Group Ltd. (“ACGL”), to act as their insurance and reinsurance manager pursuant to services agreements between AUL and Watford Re and WICE, respectively. AUL manages the day-to-day underwriting activities of Watford Re and WICE, subject to the provisions of the services agreement and the oversight of our board of directors. See Note 11 -12, “Transactions with related parties” for further details.
In May 2018, WICE formed a branch in Romania and commenced underwriting operations in June 2018. WICE is a wholly-owned subsidiary of Watford Re.
Watford Specialty Insurance Company (“WSIC”) and Watford Insurance Company (“WIC”), which are wholly-owned, indirect subsidiaries of Watford Re, have engaged Arch Underwriters Inc. (“AUI”), a company incorporated in Delaware and a wholly-owned subsidiary of ACGL, to act as their insurance and reinsurance manager pursuant to services agreements between AUI and WSIC and WIC, respectively. AUI manages the day-to-day underwriting activities of WSIC and WIC, subject to the provisions of the services agreement and the oversight of our board of directors. See Note 11 -12, “Transactions with related parties” for further details.
The Company has engaged HPS Investment Partners, LLC (“HPS”), as investment managerInvestment Manager of the assets in its non-investment grade portfolio pursuant to various investment management agreements. HPS invests the Company’s non-investment grade assets and a portion of its investment grade assets, subject to the terms of the applicable investment management agreements. See Note 11 -12, “Transactions with related parties” for further details.
The Company has engaged Arch Investment Management Ltd. (“AIM”), a Bermuda exempted company and a subsidiary of ACGL, as investment managerInvestment Manager of assets in its investment grade portfolio pursuant to various investment management agreements. AIM manages the majority of the Company’s investment grade assets pursuant to the terms of the investment management agreements with AIM. See Note 11 -12, “Transactions with related parties” for further details.
The results for the three and six months ended March 31, 2019June 30, 2020 are not necessarily indicative of the results expected for the full calendar year.year, especially when considering the risks and uncertainties associated with the COVID-19 global pandemic and the impact it may have on our business, results of operations and financial condition.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


2. SignificantBasis of presentation and significant accounting policies
There has been no material change to the Company’s significant accounting policies as described in its audited consolidated financial statements and the accompanying notes as of December 31, 20182019 and 2017,2018 and for each of the three years in the periodperiods ended December 31, 2019, 2018 2017 and 2016,2017, except as noted below.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


(a) Basis of presentation
The unaudited interim consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (“GAAP”). on a basis consistent with reporting interim financial information in accordance with instructions to Form 10-Q and Article 10 of Regulation S-X under the Securities and Exchange Act of 1934, as amended. All significant intercompany transactions and balances have been eliminated on consolidation. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates and assumptions. In the opinion of management, the accompanying unaudited interim consolidated financial statements reflect all adjustments (consisting of recurring accruals) necessary for a fair statement of results on an interim basis.
Certain information and footnote disclosures normally included in financial statements prepared in accordance with GAAP have been condensed or omitted; however management believes that the disclosures are adequate to make the information presented not misleading. This reportThese unaudited interim financial statements should be read in conjunction with the Company’s audited consolidated financial statements and the accompanying notes for the years ended December 31, 2019, 2018 2017 and 2016.2017.
To facilitate comparison of information across periods, certain reclassifications have been made to prior year amounts to conform to the current year’s presentation.
(b) Recent accounting pronouncements
Issued and effective as of March 31, 2019
In August 2017, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update 2017-12, Derivatives and Hedging (Topic 815), Targeted Improvements to Accounting for Hedging Activities (“ASU 2017-12”). ASU 2017-12 intends to improve the financial reporting of hedging relationships to better portray the economic results of an entity’s risk management activities in its financial statements. ASU 2017-12 is effective January 1, 2019. This ASU was adopted on January 1, 2019, and did not have a material impact on the Company’s consolidated financial statements.
In February 2018, the FASB issued Accounting Standards Update 2018-02, Income Statement - Reporting Comprehensive Income (Topic 220), Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income (“ASU 2018-02”). ASU 2018-02 permits companies to reclassify disproportionate tax effects in accumulated other comprehensive income caused by the Tax Cuts and Jobs Act of 2017 to retained earnings. ASU 2018-02 is effective for fiscal years beginning after December 31, 2018 and interim periods within those fiscal years. This ASU was adopted on January 1, 2019, and did not have a material impact on the Company’s consolidated financial statements and disclosures.
Issued and effective as of March 31, 2019June 30, 2020 - LeasesCredit Losses
Financial Instruments - Credit Losses: Measurement of Credit Losses on Financial Instruments
In February 2016,The Company adopted ASU 2016-13, Financial Instruments - Credit Losses (Topic 326) (“ASU 2016-13”) which was issued in June 2016. This ASU applies a new credit loss model (current expected credit losses, or “CECL”) for determining credit-related impairments for financial instruments measured at amortized cost (including reinsurance recoverables) and requires an entity to estimate the FASB issued Accounting Standards Update 2016-02, Leases (“ASU 2016-02”).credit losses expected over the life of an exposure or pool of exposures. The new accounting guidance requiresestimate of expected credit losses should consider historical information, current information, as well as reasonable and supportable forecasts, including estimates of prepayments. The expected credit losses, and subsequent adjustments to such losses, are recorded through an allowance account that is deducted from the lessee recognize anamortized cost basis of the financial asset, and a liability for leases with a lease term greater than 12 months regardlessthe net carrying value of whether the lease is classified as operating or financing. Underfinancial asset presented on the previous accounting standard, operating leases were not reflected in theCompany’s consolidated balance sheet.
This ASU also amends the previous other-than-temporary impairment model for available for sale debt securities by requiring the recognition of impairments relating to credit losses through an allowance account and limiting the amount of credit loss to the difference between a security’s amortized cost basis and its fair value. In July 2018,addition, the FASB issued Accounting Standards Update 2018-10, Codification Improvements to Topic 842, Leases (“length of time a security has been in an unrealized loss position will no longer impact the determination of whether a credit loss exists.
The Company adopted this ASU 2018-10”). ASU 2018-10 intends to increase transparency and comparability among organizations by recognizing lease assets and lease liabilities onas of January 1, 2020. For available for sale debt securities, the balance sheet and disclosing key information about leasing transactions.
In July 2018, the FASB issued Accounting Standards Update 2018-11, Leases (Topic 842), Targeted Improvements (“ASU 2018-11”), which will ease implementation of the lease standard ASU 2016-02. Theupdated guidance provides an alternative transition method by which leases are recognizedwas applied prospectively. For financial instruments measured at the date of adoption. Entities that elect this transition option will still be required to adopt the new leasesamortized cost,

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


standard using the modified retrospective transition method requiredupdated guidance was applied by the standard, but they will recognizerecognizing a cumulative-effectcumulative effect adjustment of $0.4 million, net of tax, to the opening balance of retained earnings inas of January 1, 2020, the beginning of the period of adoption rather than in the earliest period presented. The Company has adopted this alternative transition method.
In March 2019, the FASB issued Accounting Standards Update 2019-01, Leases (Topic 842), Codification Improvements (“ASU 2019-01”), which will identifyadoption. This adjustment is associated with “premiums receivable” and clarify three issues relevant to the implementation of ASU 2016-02. Issue 1“reinsurance recoverables on unpaid and Issue 2 address accounting considerations for the lessor of a leasing transactions,paid losses and as such are not relevant to the Company. Issue 3 clarifies that issuers are exempt from the requirement to disclose the effect of adopting ASU 2016-02 on net income and related per-share amounts in post-adoption interim periods.
The Company adopted the ASUs listed above on January 1, 2019. The adoption of the updated guidance resulted in the Company recognizing a right-of-use asset of $1.1 million and a lease liability of $1.1 million in other assets and other liabilities, respectively,loss adjustment expenses” in the Company’s consolidated balance sheets as at March 31, 2019.sheets. The cumulative effect of the adjustment decreased retained earnings as of January 1, 2020 and increased the allowance for estimated uncollectible reinsurance.
The following accounting policies have been updated to reflect the Company’s adoption of ASU 2016-13, as described above. Results for the reporting periods beginning January 1, 2020 and thereafter are presented under ASC 326, while prior period amounts continue to be reported in accordance with previous applicable GAAP.
Investment Impairments
The Company conducts a periodic review to identify and evaluate invested assets that may have credit impairments.
Credit Impairments of Available For Sale Fixed Maturities
The Company derives estimated credit losses for fixed maturities by comparing expected future cash flows to be collected to the opening balance of retained earnings was $Nil. The adoptionamortized cost of the updated guidancesecurity. Estimates of expected future cash flows consider among other things, macroeconomic conditions as well as the financial condition of the issuer, near-term and long-term prospects for the issuer, and the likelihood of the recoverability of principal and interest.
Beginning on January 1, 2020, credit losses are recognized through an allowance account subject to reversal, rather than a reduction in amortized cost. Declines in value attributable to factors other than credit are reported in other comprehensive income while the allowance for credit loss is charged to “realized and unrealized gains (losses) on investments” in the Company’s consolidated statements of income (loss).
For fixed maturity investments the Company intends to sell or for which it is more likely than not that the Company will be required to sell before an anticipated recovery in value, the full amount of the impairment is included in “realized and unrealized gains (losses) on investments” on the Company’s consolidated statements of income (loss). The new cost basis of the investment is the previous amortized cost basis less the impairment recognized in “realized and unrealized gains (losses) on investments.” The new cost basis is not adjusted for any subsequent recoveries in fair value.
The Company reports accrued investment income separately from available for sale fixed maturities, and has elected not to measure an allowance for credit losses for accrued investment income. Uncollectible accrued interest is written off when the Company determines that no additional interest payments will be received.
Reinsurance Recoverables
In the normal course of business, the Company’s subsidiaries cede a portion of their premium and losses through pro rata and excess of loss reinsurance agreements on a treaty or facultative basis. Reinsurance recoverables are recorded as assets, predicated on the reinsurers’ ability to meet their obligations under the reinsurance agreements. In certain instances, the Company obtains collateral, including letters of credit and trust accounts, to further reduce the credit exposure on its reinsurance recoverables. The Company reports its reinsurance recoverables net of an allowance for expected credit loss in the Company’s consolidated balance sheets. The allowance is based upon the Company’s ongoing review of amounts outstanding, the financial condition of its reinsurers, amounts and form of collateral obtained and other relevant factors. A ratings based probability-of-default and loss-given-default methodology is used to estimate the allowance for expected credit loss. Any allowance for credit losses is charged to the Company’s consolidated statements of income

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


(loss) in the period the recoverable is recorded and revised in subsequent periods to reflect changes in the Company’s estimate of expected credit losses.
Premiums receivable and unearned premium reserves
Premiums are recognized as revenues pro rata over the policy period. Unearned premium reserves represent the unexpired portion of policy premiums. Accrued retrospective premiums are included in premiums receivable balances. Premiums receivable balances are reported net of an allowance for expected credit losses. The Company monitors credit risk associated with premiums receivable through its ongoing review of amounts outstanding, aging of the receivable, historical loss data and counterparty financial strength measures. The allowance also includes estimated uncollectible amounts related to dispute risk. Amounts deemed to be uncollectible, are written off against the allowance. In certain instances, credit risk may be reduced by the Company’s right to offset loss obligations or unearned premiums against premiums receivable. Any allowance for credit losses is charged to the Company’s consolidated statements of income (loss) in the period the receivable is recorded and revised in subsequent periods to reflect changes in the Company’s estimate of expected credit losses.
Issued and effective as of June 30, 2020
In August 2018, the FASB issued ASU 2018-13, Fair Value Measurement(Topic 820), Disclosure Framework - Changes to the Disclosure Requirements for Fair Value Measurements (“ASU 2018-13”). ASU 2018-13 modifies the disclosure requirements on fair value measurements. This ASU was adopted on January 1, 2020, and the Company considers the impact to be immaterial to the Company’s consolidated financial statements and disclosures.
In March 2020, the FASB issued ASU 2020-03, Codification Improvements (“ASU 2020-03”), which provides updates to a wide variety of Topics in the Codification. For public business entities, this ASU was effective upon issuance. This ASU was adopted upon issuance, and did not have a material effectimpact on the Company’s resultsconsolidated financial statements.
In April 2019, the FASB issued ASU 2019-04, which identified and clarified issues relevant to ASU 2017-12, Derivatives and Hedging (Topic 815), Targeted Improvements to Accounting for Hedging Activities (“ASU 2017-12”). For amendments related to ASU 2017-12, the effective date is as of operationsthe beginning of the first annual reporting period beginning after April 25, 2019. This ASU was adopted on January 1, 2020 and did not have a material impact on the Company’s consolidated financial statements.
Recently issued accounting standards not yet adopted
In March 2020, the FASB issued ASU 2020-04, Reference Rate Reform (Topic 848) (“ASU 2020-04”). This ASU provides practical expedients and exceptions for applying GAAP to contracts and transactions affected by reference rate reform if such contracts or liquidity.transactions reference LIBOR or another reference rate expected to be discontinued. Amendments in this ASU for contract modifications may be applied as of March 12, 2020 through December 31, 2022. Once adopted, this ASU must be applied prospectively for all eligible contract modifications. The Company is currently assessing the impact the implementation of this ASU will have on its consolidated financial statements and disclosures, but does not believe that such impact will be material.
For additional information regarding accounting standards that the Company has not yet adopted, see Note 2, “Basis of presentation and significant accounting policies” in the Company’s audited consolidated financial statements in Part II, Item 8 of the Company’s Annual Report on Form 10-K for the year ended December 31, 2019.


WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


3. Segment information
The Company reports results under one segment, which we referreferred to as ourthe “underwriting segment.” The underwriting segment captures the results of the Company’s underwriting lines of business, which are comprised of specialty products on a worldwide basis. Lines of business include: (i) casualty reinsurance; (ii) property catastrophe reinsurance; (iii) other specialty reinsurance; and (iv) insurance programs and coinsurance.
The accounting policies of the underwriting segment are the same as those used for the preparation of the Company’s consolidated financial statements.
The Company has a corporate function that includes certain general and administrative expenses related to corporate activities, interest expense (on its 6.5% senior notes due July 2, 2029), net foreign exchange gains (losses), income tax expense and items related to the Company’s contingently redeemable preferredpreference shares.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


The following tables providetable provides summary information regarding premiums written and earned by line of business and net premiums written by client location and underwriting location:
Three Months Ended March 31,Three Months Ended June 30, Six Months Ended June 30,
2019 20182020 2019 2020 2019
($ in thousands)($ in thousands)
Gross premiums written:          
Casualty reinsurance$75,601
 $85,963
$25,125
 $32,557
 $108,943
 $108,158
Other specialty reinsurance24,298
 64,499
21,080
 37,836
 57,960
 62,134
Property catastrophe reinsurance5,992
 3,845
11,253
 5,929
 21,085
 11,921
Insurance programs and coinsurance80,798
 59,563
100,469
 85,656
 204,841
 166,454
Total$186,689
 $213,870
$157,927
 $161,978
 $392,829
 $348,667
          
Net premiums written:          
Casualty reinsurance$75,065
 $85,695
$24,774
 $32,077
 $108,441
 $107,142
Other specialty reinsurance23,182
 57,538
19,843
 36,523
 55,327
 59,705
Property catastrophe reinsurance5,982
 3,834
10,506
 5,621
 20,338
 11,603
Insurance programs and coinsurance41,158
 32,485
50,733
 45,149
 108,450
 86,307
Total$145,387
 $179,552
$105,856
 $119,370
 $292,556
 $264,757
          
Net premiums earned:          
Casualty reinsurance$63,313
 $67,741
$48,146
 $67,506
 $100,911
 $130,819
Other specialty reinsurance44,561
 37,778
29,876
 42,635
 65,240
 87,196
Property catastrophe reinsurance2,971
 2,636
5,824
 3,119
 10,708
 6,090
Insurance programs and coinsurance35,249
 28,592
47,689
 38,058
 94,715
 73,307
Total$146,094
 $136,747
$131,535
 $151,318
 $271,574
 $297,412
          
Net premiums written by client location:   
United States$53,208
 $60,127
Bermuda19,961
 19,360
Europe69,147
 99,514
Asia and Pacific3,071
 551
Total$145,387
 $179,552
   
Net premiums written by underwriting location:          
United States$18,402
 $9,782
$27,798
 $22,385
 $64,101
 $40,787
Europe23,258
 22,897
22,921
 23,927
 44,124
 47,185
Bermuda103,727
 146,873
55,137
 73,058
 184,331
 176,785
Total$145,387
 $179,552
$105,856
 $119,370
 $292,556
 $264,757

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


4. Reinsurance
Through reinsurance agreements with Arch Reinsurance Ltd. (“ARL”) and Arch Reinsurance Company (“ARC”), which are subsidiaries of ACGL, and as well as through other third-party reinsurance agreements, the Company cedes a portion of its premiums. The effects of reinsurance on the Company’s written and earned premiums, losses and loss adjustment expenses were as follows:
Three Months Ended June 30, Six Months Ended June 30,
Three Months Ended March 31,2020 2019 2020 2019
2019 2018($ in thousands)
Premiums written($ in thousands)       
Direct$80,798
 $59,563
$100,469
 $85,656
 $204,841
 $166,454
Assumed105,891
 154,307
57,458
 76,322
 187,988
 182,213
Ceded(41,302) (34,318)(52,071) (42,608) (100,273) (83,910)
Net$145,387
 $179,552
$105,856
 $119,370
 $292,556
 $264,757
Premiums earned          
Direct$63,517
 $38,928
$89,553
 $70,445
 $178,089
 $133,962
Assumed113,481
 112,444
90,447
 115,622
 189,976
 229,103
Ceded(30,904) (14,625)(48,465) (34,749) (96,491) (65,653)
Net$146,094
 $136,747
$131,535
 $151,318
 $271,574
 $297,412
Losses and loss adjustment expenses          
Direct$48,404
 $25,437
$82,291
 $62,976
 $170,985
 $111,380
Assumed84,524
 78,460
70,337
 88,651
 145,057
 173,175
Ceded(22,078) (5,908)(47,842) (40,211) (100,580) (62,289)
Net$110,850
 $97,989
$104,786
 $111,416
 $215,462
 $222,266
The Company monitors the financial condition of its reinsurers and attempts to place coverages only with financially sound carriers. At March 31, 2019June 30, 2020 and December 31, 2018,2019, approximately 100% of ceded loss and loss adjustment reserves were due from carriers which had an A.M. Best or a majorityStandard & Poor’s rating of “A-” or better.
At June 30, 2020 and December 31, 2019, approximately 44% and 47%, respectively, of the Company’s reinsurance recoverables on paid and unpaid losses (not including prepaid reinsurance premiums) were due from ARL and ARC, each of which have ratings of “A+” from A.M. Best. Although the Company has not experienced any material credit losses to date, an inability of its reinsurers to meet their obligations to it over the relevant exposure periods for any reason could have a material adverse effect on its financial condition and results of operations.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


5. Reserve for losses and loss adjustment expenses
The following table represents an analysis of losses and loss adjustment expenses and a reconciliation of the beginning and ending reserve for losses and loss adjustment expenses for the threesix months ended March 31, 2019June 30, 2020 and 2018.2019.
Three Months Ended March 31,Six Months Ended June 30,
2019 20182020 2019
($ in thousands)($ in thousands)
Gross reserve for losses and loss adjustment expenses at beginning of period$1,032,760
 $798,262
$1,263,628
 $1,032,760
Unpaid losses and loss adjustment expenses recoverable81,267
 39,856
165,549
 81,267
Net reserve for losses and loss adjustment expenses at beginning of period951,493
 758,406
1,098,079
 951,493
      
Net incurred losses and loss adjustment expenses relating to losses occurring in:      
Current period110,901
 97,386
215,849
 222,395
Prior years(51) 603
(387) (129)
Total net losses and loss adjustment expenses110,850
 97,989
215,462
 222,266
      
Foreign exchange gains (losses)4,163
 6,545
Foreign exchange (gains) losses(23,999) 64
      
Net paid losses and loss adjustment expenses relating to losses occurring in:      
Current period(6,330) (4,737)(27,050) (13,956)
Prior years(54,598) (49,359)(128,021) (153,229)
Total paid losses and loss adjustment expenses(60,928) (54,096)(155,071) (167,185)
      
Net reserve for losses and loss adjustment expenses at end of period1,005,578
 808,844
1,134,471
 1,006,638
Unpaid losses and loss adjustment expenses recoverable98,954
 43,984
218,578
 119,442
Gross reserve for losses and loss adjustment expenses at end of period$1,104,532
 $852,828
$1,353,049
 $1,126,080
During the six months ended June 30, 2020, the Company recorded net favorable development on prior year loss reserves of $0.4 million. Net favorable development was experienced on other specialty reinsurance losses of $4.1 million, casualty reinsurance losses of $3.7 million and property catastrophe reinsurance losses of $1.0 million, offset by unfavorable development on insurance losses of $8.4 million.
During the six months ended June 30, 2019, the Company recorded net favorable development on prior year loss reserves of $0.1 million. Net favorable development was experienced on casualty reinsurance losses of $1.8$2.2 million, offset by unfavorable development on property catastropheinsurance losses of $0.8 million, insurance losses of $0.6 million and other specialty losses of $0.4 million.
During 2018, the Company recorded net unfavorable development on prior year loss reserves of $0.6 million. The development relates to adverse development on casualtyproperty catastrophe reinsurance losses of $1.0$0.7 million and other specialty reinsurance losses of $0.2 million and insurance losses of $0.3 million, offset in part by $0.8 million favorable development on our property catastrophe reinsurance business.$0.6 million.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


6. Allowance for expected credit losses
Premiums Receivable
The following table presents the balances of premiums receivable, net of the allowance for expected credit losses, at January 1, 2020 and June 30, 2020 and changes in the allowance for expected credit losses for the three and six months ended June 30, 2020.
 At and For the Three Months Ended June 30, 2020 At and For the Six Months Ended June 30, 2020
 Premiums Receivable, Net of Allowance Allowance for Expected Credit Losses Premiums Receivable, Net of Allowance Allowance for Expected Credit Losses
 ($ in thousands)
Balance at beginning of period$281,541
 $156
 $273,657
 $—
Cumulative effect of adoption of updated accounting guidance for credit losses at January 1, 2020  —
   156
Current period change for expected credit losses  —
   —
Write-offs charged against the allowance  —
   —
Balance at end of period$258,178
 $156
 $258,178
 $156
Reinsurance Recoverables
The following table presents the balances of reinsurance recoverables, net of the allowance for expected credit losses, at January 1, 2020 and June 30, 2020, and changes in the allowance for expected credit losses for the three and six months ended June 30, 2020.
 At and For the Three Months Ended June 30, 2020 At and For the Six Months Ended June 30, 2020
 Reinsurance Recoverables, Net of Allowance Allowance for Expected Credit Losses Reinsurance Recoverables, Net of Allowance Allowance for Expected Credit Losses
 ($ in thousands)
Balance at beginning of period$197,458
 $297
 $170,974
 $—
Cumulative effect of adoption of updated accounting guidance for credit losses at January 1, 2020 (1)  —
   297
Current period change for expected credit losses  (16)   (16)
Write-offs charged against the allowance  —
   —
Balance at end of period$229,746
 $281
 $229,746
 $281
(1) As at June 30, 2020, the allowance for credit losses is gross of deferred tax of $22 thousand.


WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


7. Investment information
Available for Sale Investments
The following table summarizestables summarize the fair value of the Company’s securities classified as available for sale as at March 31, 2019of June 30, 2020 and December 31, 2018:2019:
Cost or Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair ValueCost or Amortized Cost Gross Unrealized Gains Gross Unrealized Losses (1) Fair Value
March 31, 2019($ in thousands)
($ in thousands)
June 30, 2020       
Fixed maturities:              
U.S. government and government agency bonds$226,110
 $1,402
 $(67) $227,445
$215,127
 $1,741
 $(4) $216,864
Non-U.S. government and government agency bonds100,488
 1,813
 (1,730) 100,571
151,335
 4,998
 (6,591) 149,742
Corporate bonds66,516
 245
 (199) 66,562
164,417
 7,215
 (2,224) 169,408
Asset-backed securities138,647
 270
 (1,168) 137,749
141,760
 134
 (11,567) 130,327
Mortgage-backed securities16,341
 90
 (26) 16,405
24,498
 17
 (2,497) 22,018
Municipal government and government agency bonds1,074
 28
 —
 1,102
1,760
 106
 —
 1,866
Total investments, available for sale$549,176
 $3,848
 $(3,190) $549,834
$698,897
 $14,211
 $(22,883) $690,225
(1) Effective January 1, 2020, the Company adopted ASU 2016-13, and as a result any credit impairment losses on the Company’s available for sale securities are recorded as an allowance, subject to reversal. See Note 2. “Basis of presentation and significant accounting policies-(b) Recent accounting pronouncements-Issued and effective as of June 30, 2020 - Credit Losses” above for more information about ASU 2016-13. Included within the gross unrealized losses for corporate bonds is a credit allowance of $0.4 million for securities with an unrealized loss of $2.6 million as of June 30, 2020.
Cost or Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair ValueCost or Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair Value
December 31, 2018($ in thousands)
($ in thousands)
December 31, 2019       
Fixed maturities:              
U.S. government and government agency bonds$156,884
 $672
 $(127) $157,429
$282,076
 $1,708
 $(137) $283,647
Non-U.S. government and government agency bonds89,661
 670
 (2,859) 87,472
Corporate bonds77,178
 19
 (1,204) 75,993
155,834
 2,326
 (41) 158,119
Asset-backed securities58,369
 72
 (1,351) 57,090
145,555
 614
 (735) 145,434
Non-U.S. government and government agency bonds129,456
 3,530
 (1,033) 131,953
Mortgage-backed securities14,344
 17
 (81) 14,280
24,776
 18
 (44) 24,750
Municipal government and government agency bonds1,073
 14
 —
 1,087
1,759
 46
 —
 1,805
Total investments, available for sale$397,509
 $1,464
 $(5,622) $393,351
$739,456
 $8,242
 $(1,990) $745,708






WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


The following table summarizes, for all available for sale securities in an unrealized loss position, the fair value and gross unrealized losses by length of time the security has been in a continual unrealized loss position:

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


Less than 12 Months 12 Months or More TotalLess than 12 Months 12 Months or More Total
Fair Value Gross Unrealized Losses Fair Value Gross Unrealized Losses Fair Value Gross Unrealized LossesFair Value Gross Unrealized Losses Fair Value Gross Unrealized Losses Fair Value Gross Unrealized Losses
March 31, 2019($ in thousands)
($ in thousands)
June 30, 2020           
Fixed maturities:                      
U.S. government and government agency bonds$27,337
 $(29) $18,323
 $(38) $45,660
 $(67)$28,550
 $(4) $—
 $—
 $28,550
 $(4)
Non-U.S. government and government agency bonds66,845
 (1,718) 5,442
 (12) 72,287
 (1,730)121,648
 (6,591) —
 —
 121,648
 (6,591)
Corporate bonds14,494
 (162) 17,780
 (37) 32,274
 (199)24,696
 (2,224) —
 —
 24,696
 (2,224)
Asset-backed securities102,217
 (1,167) 1,997
 (1) 104,214
 (1,168)105,868
 (9,343) 16,135
 (2,224) 122,003
 (11,567)
Mortgage-backed securities2,980
 (26) —
 —
 2,980
 (26)21,415
 (2,497) —
 —
 21,415
 (2,497)
Total$213,873
 $(3,102) $43,542
 $(88) $257,415
 $(3,190)$302,177
 $(20,659) $16,135
 $(2,224) $318,312
 $(22,883)
December 31, 2019           
Fixed maturities:           
U.S. government and government agency bonds$36,540
 $(137) $—
 $—
 $36,540
 $(137)
Non-U.S. government and government agency bonds51,779
 (1,027) 5,410
 (6) 57,189
 (1,033)
Corporate bonds9,854
 (41) —
 —
 9,854
 (41)
Asset-backed securities55,194
 (504) 19,430
 (231) 74,624
 (735)
Mortgage-backed securities14,481
 (44) —
 —
 14,481
 (44)
Total$167,848
 $(1,753) $24,840
 $(237) $192,688
 $(1,990)
At March 31, 2019, 52June 30, 2020, 72 positions out of a total of 92158 positions were in an unrealized loss position. The unrealized loss position increased during the six-month period from $2.0 million to $22.9 million. The decrease in value can be attributed to the market movements resulting from the COVID-19 global pandemic, which primarily impacted the asset-backed securities, and unfavorable foreign exchange rates impacting the non-U.S. government agency bonds during the period.
At December 31, 2019, 48 positions out of a total of 146 positions were in an unrealized loss position; however, the unrealized loss was less than 10% of the fair value for all positions. The unrealized loss position decreased during the quarter. The Company believes that such securities were temporarily impaired at March 31, 2019.
 Less than 12 Months 12 Months or More Total
 Fair Value Gross Unrealized Losses Fair Value Gross Unrealized Losses Fair Value Gross Unrealized Losses
December 31, 2018($ in thousands)
Fixed maturities:           
U.S. government and government agency bonds$66,422
 $(127) $—
 $—
 $66,422
 $(127)
Non-U.S. government and government agency bonds78,084
 (2,859) —
 —
 78,084
 (2,859)
Corporate bonds70,443
 (1,204) —
 —
 70,443
 (1,204)
Asset-backed securities49,400
 (1,351) —
 —
 49,400
 (1,351)
Mortgage-backed securities8,478
 (81) —
 —
 8,478
 (81)
Total$272,827
 $(5,622) $—
 $—
 $272,827
 $(5,622)
At December 31, 2018, 60 positions out of a total of 73 positions were in an unrealized loss position, however the unrealized loss was less than 10% for all48 positions. The decrease in value can be attributed to an increasemovement in interest rates and unfavorable foreign exchange rates for the non-U.S. government agency bonds since purchase and the decrease in value for the asset-backed securities, primarily driven by market movements during the year ended December 31, 2018.period. The Company believes that such securities were temporarily impaired at December 31, 2018.2019.
Allowance for expected credit losses
The Company recognized changes in the allowance for expected credit losses on available for sale securities of $(0.2) million and $0.4 million for the three and six months ended June 30, 2020. The credit allowance as of June 30, 2020 and March 31, 2020 was $0.4 million and $0.6 million, respectively. No credit losses were previously recognized and there were no write-offs charged against the allowance. The change in allowance is recognized in “realized and unrealized gains (losses) on investments” in the Company’s consolidated statements of income (loss). There were no

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


impairments of securities which the Company intends to sell or more likely than not will be required to sell.
The amortized cost and fair value of our fixed maturities classified as available for sale, summarized by contractual maturity as of March 31, 2019June 30, 2020 and December 31, 2018 were as follows:2019 are shown in the following tables.
March 31, 2019June 30, 2020
Amortized Cost Estimated Fair Value % of Fair ValueAmortized Cost Estimated Fair Value % of Fair Value
($ in thousands)($ in thousands)
Due in one year or less$16,378
 $16,341
 3.0%$19,500
 $19,525
 2.8%
Due after one year through five years299,537
 300,716
 54.7%345,922
 349,444
 50.6%
Due after five years through ten years78,273
 78,623
 14.3%152,830
 155,652
 22.6%
Due after ten years14,387
 13,259
 1.9%
Asset-backed securities138,647
 137,749
 25.0%141,760
 130,327
 18.9%
Mortgage-backed securities16,341
 16,405
 3.0%24,498
 22,018
 3.2%
Total investments, available for sale$549,176
 $549,834
 100.0%$698,897
 $690,225
 100.0%
December 31, 2018December 31, 2019
Amortized Cost Estimated Fair Value % of Fair ValueAmortized Cost Estimated Fair Value % of Fair Value
($ in thousands)($ in thousands)
Due in one year or less$9,235
 $9,248
 1.3%
Due after one year through five years$278,443
 $276,706
 70.4%414,235
 417,921
 56.0%
Due after five years through ten years46,353
 45,275
 11.5%133,822
 136,329
 18.3%
Due after ten years11,833
 12,026
 1.6%
Asset-backed securities58,369
 57,090
 14.5%145,555
 145,434
 19.5%
Mortgage-backed securities14,344
 14,280
 3.6%24,776
 24,750
 3.3%
Total investments, available for sale$397,509
 $393,351
 100.0%$739,456
 $745,708
 100.0%

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


Fair Value Option and Fair Value Through Net Income
The following table summarizes the fair value of the Company’s securities held as at March 31, 2019of June 30, 2020 and December 31, 2018,2019, classified as fair value through net income or for which the fair value option was elected:
Cost or Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair ValueCost or Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair Value
March 31, 2019($ in thousands)
($ in thousands)
June 30, 2020       
Term loan investments$1,067,676
 $3,593
 $(49,031) $1,022,238
$991,130
 $1,959
 $(117,529) $875,560
Fixed maturities:              
Corporate bonds504,287
 9,631
 (31,233) 482,685
403,424
 11,858
 (36,589) 378,693
U.S. government and government agency bonds111,113
 —
 (1,448) 109,665
584
 11
 —
 595
Asset-backed securities183,292
 4,464
 (8,093) 179,663
198,619
 2,229
 (42,923) 157,925
Mortgage-backed securities8,803
 12
 (1,185) 7,630
6,950
 2,257
 (43) 9,164
Non-U.S. government and government agency bonds40,376
 151
 (741) 39,786
1,437
 52
 (107) 1,382
Municipal government and government agency bonds6,639
 —
 (52) 6,587
251
 —
 —
 251
Short term investments256,065
 829
 (183) 256,711
Short-term investments370,976
 597
 (1,507) 370,066
Other investments50,000
 1,556
 —
 51,556
28,673
 5,469
 —
 34,142
Equities56,614
 6,712
 (4,525) 58,801
50,863
 13,524
 (5,489) 58,898
Investments, fair value option$2,284,865
 $26,948
 $(96,491) $2,215,322
$2,052,907
 $37,956
 $(204,187) $1,886,676
Fair Value Through Net Income:              
Equities, fair value through net income (1)75,554
 1,310
 (11,854) 65,010
Equities, fair value through net income$72,892
 $6,956
 $(17,404) $62,444

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


Cost or Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair ValueCost or Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair Value
December 31, 2018($ in thousands)
($ in thousands)
December 31, 2019       
Term loan investments$1,055,664
 $767
 $(55,779) $1,000,652
$1,113,212
 $7,340
 $(58,618) $1,061,934
Fixed maturities:              
Corporate bonds617,013
 6,468
 (44,867) 578,614
221,024
 8,430
 (15,100) 214,354
U.S. government and government agency bonds113,452
 —
 (2,206) 111,246
1,963
 1
 (2) 1,962
Asset-backed securities174,846
 673
 (6,626) 168,893
200,361
 3,329
 (12,953) 190,737
Mortgage-backed securities9,122
 —
 (1,241) 7,881
7,399
 712
 (405) 7,706
Non-U.S. government and government agency bonds50,914
 1
 (1,874) 49,041
1,449
 18
 (11) 1,456
Municipal government and government agency bonds7,306
 —
 (162) 7,144
380
 —
 (1) 379
Short term investments281,959
 570
 (397) 282,132
Short-term investments325,542
 3,817
 (56) 329,303
Other investments50,000
 —
 (238) 49,762
28,672
 2,264
 (475) 30,461
Equities56,609
 5,136
 (5,107) 56,638
54,893
 10,690
 (5,784) 59,799
Investments, fair value option$2,416,885
 $13,615
 $(118,497) $2,312,003
$1,954,895
 $36,601
 $(93,405) $1,898,091
Fair Value Through Net Income:              
Equities, fair value through net income (1)41,358
 2,030
 (10,375) 33,013
Equities, fair value through net income$78,031
 $2,360
 $(15,053) $65,338
(1) Effective January 1, 2018, the Company adopted new accounting guidance for financial instruments. As a result, equity securities acquired after January 1, 2018 are classified as fair value through net income and are shown separately above.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


The amortized cost and fair value of our term loans, fixed maturities and short-term investments, excluding securities classified as available for sale, summarized by contractual maturity as of March 31, 2019June 30, 2020 and December 31, 2018 were as follows:2019 are shown in the following tables.
March 31, 2019June 30, 2020
Amortized Cost Estimated Fair Value % of Fair ValueAmortized Cost Estimated Fair Value % of Fair Value
($ in thousands)($ in thousands)
Due in one year or less$262,629
 $263,565
 12.5%$423,881
 $415,624
 23.2%
Due after one year through five years933,400
 891,703
 42.4%797,528
 708,229
 39.5%
Due after five years through ten years730,895
 702,527
 33.4%538,257
 495,214
 27.6%
Due after ten years59,232
 59,877
 2.8%8,136
 7,480
 0.4%
Asset-backed securities183,292
 179,663
 8.5%198,619
 157,925
 8.8%
Mortgage-backed securities8,803
 7,630
 0.4%6,950
 9,164
 0.5%
Total$2,178,251
 $2,104,965
 100.0%$1,973,371
 $1,793,636
 100.0%
December 31, 2018December 31, 2019
Amortized Cost Estimated Fair Value % of Fair ValueAmortized Cost Estimated Fair Value % of Fair Value
($ in thousands)($ in thousands)
Due in one year or less$300,554
 $300,519
 13.6%$368,452
 $370,479
 20.5%
Due after one year through five years1,044,539
 992,834
 45.0%779,643
 742,960
 41.1%
Due after five years through ten years777,290
 731,662
 33.2%514,961
 495,416
 27.4%
Due after ten years3,925
 3,814
 0.2%514
 533
 —%
Asset-backed securities174,846
 168,893
 7.6%200,361
 190,737
 10.6%
Mortgage-backed securities9,122
 7,881
 0.4%7,399
 7,706
 0.4%
Total$2,310,276
 $2,205,603
 100.0%$1,871,330
 $1,807,831
 100.0%

Variable Interest Entities

In the normal course of its investing activities, the Company invests in limited partnerships, limited liability companies and other investment securities. Due to the legal forms of the entities and the fact that the investors lack the ability, through voting rights or similar rights, to make decisions that have a significant effect on the entities, such investments are considered variable interest entities. Since the Company lacks the ability to control the activities that most significantly impact the economic performance of these variable interest entities, the Company is not considered the primary beneficiary and does not consolidate these investments.

The activities of these entities are generally limited to holding and managing the underlying investments. The Company’s maximum exposure to loss with respect to these investments is limited to the investment carrying amounts reported as “other investments” in the Company’s consolidated balance sheet and any unfunded commitments. Realized and unrealized gains and losses from such investments are included in “realized and unrealized gains (losses) on investments” in the Company’s consolidated statements of income (loss).

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


The table below summarizes the credit quality of our total investments as of March 31, 2019June 30, 2020 and December 31, 2018,2019, as rated by Standard & Poor’s Financial Services, LLC, or Standard & Poor’s, Moody’s Investors Service, or Moody’s, Fitch Ratings Inc., or Fitch, or Kroll Bond Rating Agency, or KBRA, or DBRS Morningstar, or DBRS, as applicable:
 Credit Rating (1)
March 31, 2019Fair Value AAA AA A BBB BB B CCC CC D Not Rated
 ($ in thousands)
Term loan investments$1,022,238
 $—
 $—
 $—
 $—
 $25,364
 $688,143
 $238,628
 $2,638
 $7,286
 $60,179
Fixed maturities:                     
Corporate bonds549,247
 —
 28,933
 72,717
 61,704
 15,920
 128,610
 196,870
 —
 10,399
 34,094
U.S. government and government agency bonds337,110
 —
 337,110
 —
 —
 —
 —
 —
 —
 —
 —
Asset-backed securities317,412
 3,769
 2,670
 24,767
 187,129
 40,692
 19,078
 —
 —
 —
 39,307
Mortgage-backed securities24,035
 —
 —
 —
 16,405
 842
 —
 —
 —
 2,411
 4,377
Non-U.S. government and government agency bonds140,357
 5,294
 135,063
 —
 —
 —
 —
 —
 —
 —
 —
Municipal government and government agency bonds7,689
 6,587
 564
 538
 —
 —
 —
 —
 —
 —
 —
Total fixed income instruments2,398,088
 15,650
 504,340
 98,022
 265,238
 82,818
 835,831
 435,498
 2,638
 20,096
 137,957
Short term investments256,711
 13,043
 107,201
 64,353
 72,114
 —
 —
 —
 —
 —
 —
Total fixed income instruments and short term investments2,654,799
 28,693
 611,541
 162,375
 337,352
 82,818
 835,831
 435,498
 2,638
 20,096
 137,957
Other Investments51,556
                    
Equities123,811
                    
Total$2,830,166
 $28,693
 $611,541
 $162,375
 $337,352
 $82,818
 $835,831
 $435,498
 $2,638
 $20,096
 $137,957


WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


Credit Rating (1)Credit Rating (1)
December 31, 2018Fair Value AAA AA A BBB BB B CCC CC C D Not Rated
June 30, 2020Fair Value AAA AA A BBB BB B CCC CC C D Not Rated
($ in thousands)($ in thousands)
Term loan investments$1,000,652
 $—
 $—
 $—
 $—
 $57,844
 $677,211
 $201,116
 $2,438
 $—
 $—
 $62,043
$875,560
 $—
 $—
 $—
 $—
 $23,218
 $530,118
 $247,478
 $15,191
 $2,192
 $28,046
 $29,317
Fixed maturities:                  
                           
Corporate bonds654,607
 3,961
 58,185
 100,590
 63,791
 15,246
 174,867
 203,505
 —
 2,200
 —
 32,262
548,101
 —
 16,032
 90,087
 96,231
 55,066
 152,648
 113,723
 6,268
 5,585
 3,956
 8,505
U.S. government and government agency bonds268,675
 —
 268,675
 —
 —
 —
 —
 —
 —
 —
 —
 —
217,459
 —
 217,459
 —
 —
 —
 —
 —
 —
 —
 —
 —
Asset-backed securities225,983
 4,532
 4,973
 10,278
 113,075
 36,643
 20,818
 —
 —
 —
 —
 35,664
288,252
 1,377
 —
 23,475
 207,617
 23,675
 8,767
 1,663
 —
 —
 —
 21,678
Mortgage-backed securities22,161
 —
 —
 944
 13,336
 742
 —
 —
 —
 —
 2,962
 4,177
31,182
 —
 602
 4,794
 16,622
 1,292
 —
 —
 —
 —
 3,224
 4,648
Non-U.S. government and government agency bonds136,513
 5,173
 122,715
 8,625
 —
 —
 —
 —
 —
 —
 —
 —
151,124
 —
 151,124
 —
 —
 —
 —
 —
 —
 —
 —
 —
Municipal government and government agency bonds8,231
 6,490
 715
 1,026
 —
 —
 —
 —
 —
 —
 —
 —
2,117
 1,039
 586
 492
 —
 —
 —
 —
 —
 —
 —
 —
Total fixed income instruments2,316,822
 20,156
 455,263
 121,463
 190,202
 110,475
 872,896
 404,621
 2,438
 2,200
 2,962
 134,146
2,113,795
 2,416
 385,803
 118,848
 320,470
 103,251
 691,533
 362,864
 21,459
 7,777
 35,226
 64,148
Short term investments282,132
 4,450
 128,015
 54,970
 68,853
 —
 25,844
 —
 —
 —
 —
 —
Total fixed income instruments and short term investments2,598,954
 24,606
 583,278
 176,433
 259,055
 110,475
 898,740
 404,621
 2,438
 2,200
 2,962
 134,146
Short-term investments370,066
 38,307
 194,822
 60,880
 73,874
 502
 —
 —
 —
 —
 —
 1,681
Total fixed income instruments and short-term investments2,483,861
 40,723
 580,625
 179,728
 394,344
 103,753
 691,533
 362,864
 21,459
 7,777
 35,226
 65,829
Other Investments49,762
                      34,142
                      
Equities89,651
                      121,342
                      
Total$2,738,367
 $24,606
 $583,278
 $176,433
 $259,055
 $110,475
 $898,740
 $404,621
 $2,438
 $2,200
 $2,962
 $134,146
$2,639,345
 $40,723
 $580,625
 $179,728
 $394,344
 $103,753
 $691,533
 $362,864
 $21,459
 $7,777
 $35,226
 $65,829
(1) For individual fixed maturity investments, Standard & Poor’s ratings are used. In the absence of a Standard & Poor’s rating, ratings from Moody’s are used, followed by ratings from Fitch, followed by ratings from KBRA.KBRA, followed by ratings from DBRS.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


 Credit Rating (1)
December 31, 2019Fair Value AAA AA A BBB BB B CCC CC C D Not Rated
 ($ in thousands)
Term loan investments$1,061,934
 $—
 $—
 $—
 $—
 $9,617
 $761,168
 $215,909
 $6,823
 $2,119
 $—
 $66,298
Fixed maturities:                  
    
Corporate bonds372,473
 —
 36,128
 81,401
 41,103
 9,003
 58,345
 135,613
 —
 —
 —
 10,880
U.S. government and government agency bonds285,609
 —
 285,609
 —
 —
 —
 —
 —
 —
 —
 —
 —
Asset-backed securities336,171
 2,006
 —
 29,179
 223,956
 29,695
 18,381
 —
 —
 —
 —
 32,954
Mortgage-backed securities32,456
 —
 —
 1,100
 23,650
 976
 —
 —
 —
 —
 2,497
 4,233
Non-U.S. government and government agency bonds133,409
 —
 132,460
 —
 949
 —
 —
 —
 —
 —
 —
 —
Municipal government and government agency bonds2,184
 1,135
 573
 476
 —
 —
 —
 —
 —
 —
 —
 —
Total fixed income instruments2,224,236
 3,141
 454,770
 112,156
 289,658
 49,291
 837,894
 351,522
 6,823
 2,119
 2,497
 114,365
Short-term investments329,303
 25,783
 136,842
 34,903
 115,155
 —
 —
 8,359
 —
 —
 —
 8,261
Total fixed income instruments and short-term investments2,553,539
 28,924
 591,612
 147,059
 404,813
 49,291
 837,894
 359,881
 6,823
 2,119
 2,497
 122,626
Other Investments30,461
                      
Equities125,137
                      
Total$2,709,137
 $28,924
 $591,612
 $147,059
 $404,813
 $49,291
 $837,894
 $359,881
 $6,823
 $2,119
 $2,497
 $122,626
(1) For individual fixed maturity investments, Standard & Poor’s ratings are used. In the absence of a Standard & Poor’s rating, ratings from Moody’s are used, followed by ratings from Fitch, followed by ratings from KBRA, followed by ratings from DBRS.


WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


Fair value option
The Company elected to carry the majority of fixed maturity securities and other investments at fair value under the fair value option afforded by accounting guidance regarding the fair value option for financial assets and liabilities. Changes in fair value of investments accounted for using the fair value option are included in “realized and unrealized gain (loss) on investments” in the Company’s consolidated statements of income (loss). The Company elected to use this option as investments are not necessarily held to maturity, and in order to address simplification and cost-benefit considerations.
Net investment income (loss)
The components of net investment income (loss) for the three and six months ended March 31,June 30, 2020 and 2019 and 2018 were derived from the following sources:
Three Months Ended June 30, 2020
Three Months Ended March 31, 2019Net Interest Income Net Unrealized Gains (Losses) Net Realized Gains (Losses) Net Investment Income (Loss)
Net Interest Income Net Unrealized Gains (Losses) Net Realized Gains (Losses) Net Investment Income (Loss)($ in thousands)
Net investment income (loss) by asset class:($ in thousands)       
Term loan investments$22,410
 $9,366
 $64
 $31,840
$18,022
 $90,951
 $(6,142) $102,831
Fixed maturities - Fair value option16,043
 19,975
 (749) 35,269
10,887
 45,781
 230
 56,898
Fixed maturities - Available for sale (1)3,422
 —
 395
 3,817
3,648
 —
 8,911
 12,559
Short term investments524
 (448) —
 76
Short-term investments2,881
 3,513
 38
 6,432
Equities (2)120
 2,158
 —
 2,278
—
 5,792
 (3,156) 2,636
Equities, fair value through net income (2)622
 (1,989) 1,572
 205
196
 11,781
 (6,085) 5,892
Other investments—
 1,794
 —
 1,794
819
 3,463
 —
 4,282
Other (3)—
 1,582
 —
 1,582
—
 16,783
 203
 16,986
Investment management fees - related parties(4,409) —
 —
 (4,409)(4,262) —
 —
 (4,262)
Borrowing and miscellaneous other investment expenses(8,298) —
 —
 (8,298)(4,763) —
 —
 (4,763)
Investment performance fees - related parties—
 —
 —
 (5,800)
$30,434
 $32,438
 $1,282
 $58,354
$27,428
 $178,064
 $(6,001) $199,491
(1) Net realized gains (losses) from the fixed maturities available for sale portfolio consists of realized gains and realized losses of $498.0 thousand$9.5 million and $103.0 thousand,$0.6 million, respectively. Realized gains include a reversal of the allowance for expected credit losses on available for sale securities of $0.2 million for the three months ended June 30, 2020.
(2) Net interest income includes dividends for securities held in long and short positions.
(3) Other includes unrealized gains and unrealized losses for total return swaps.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


 Three Months Ended June 30, 2019
 Net Interest Income Net Unrealized Gains (Losses) Net Realized Gains (Losses) Net Investment Income (Loss)
 ($ in thousands)
Net investment income (loss) by asset class:       
Term loan investments$22,665
 $(11,437) $148
 $11,376
Fixed maturities - Fair value option9,592
 8,995
 1,655
 20,242
Fixed maturities - Available for sale (1)4,411
 —
 1,816
 6,227
Short-term investments1,055
 (48) 25
 1,032
Equities (2)80
 (1,096) —
 (1,016)
Equities, fair value through net income (2)793
 3,687
 (3,599) 881
Other investments—
 (2,213) (202) (2,415)
Other (3)—
 387
 946
 1,333
Investment management fees - related parties(4,570) —
 —
 (4,570)
Borrowing and miscellaneous other investment expenses(7,611) —
 —
 (7,611)
Investment performance fees - related parties—
 —
 —
 (1,692)
 $26,415
 $(1,725) $789
 $23,787
(1) Net realized gains (losses) from the fixed maturities available for sale portfolio consists of realized gains and realized losses of $1.9 million and $0.1 million, respectively.
(2) Net interest income includes dividends for securities held in long and short positions.
(3) Other includes unrealized gains and unrealized losses for total return swaps.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


Three Months Ended March 31, 2018Six Months Ended June 30, 2020
Net Interest Income Net Unrealized Gains (Losses) Net Realized Gains (Losses) Net Investment Income (Loss)Net Interest Income Net Unrealized Gains (Losses) Net Realized Gains (Losses) Net Investment Income (Loss)
Net investment income (loss) by asset class:($ in thousands)($ in thousands)
Term loan investments$17,676
 $6,646
 $(2,760) $21,562
$39,040
 $(64,282) $(14,287) $(39,529)
Fixed maturities - Fair value option15,755
 (3,076) (10,805) 1,874
19,955
 (43,894) (1,014) (24,953)
Fixed maturities - Available for sale (1)635
 —
 (144) 491
8,308
 —
 11,091
 19,399
Short term investments761
 —
 —
 761
Short-term investments4,731
 73
 125
 4,929
Equities (2)(182) 5,326
 2,068
 7,212
—
 5,868
 (3,195) 2,673
Equities, fair value through net income (2)—
 95
 —
 95
573
 (494) (5,217) (5,138)
Other investments—
 644
 —
 644
1,670
 3,683
 —
 5,353
Other (3)—
 (8,346) 1,450
 (6,896)
Investment management fees - related parties(4,146) —
 —
 (4,146)(8,614) —
 —
 (8,614)
Borrowing and miscellaneous other investment expenses(6,360) —
 —
 (6,360)(10,432) —
 —
 (10,432)
Investment performance fees - related parties—
 —
 —
 (2,597)
$24,139
 $9,635
 $(11,641) $19,536
$55,231
 $(107,392) $(11,047) $(63,208)
(1) Net realized gains (losses) from the fixed maturities available for sale portfolio consists of realized gains and realized losses of $6.0 thousand$12.8 million and $150.0 thousand,$1.7 million, respectively. Realized losses include an allowance for expected credit losses on available for sale securities of $0.4 million for the six months ended June 30, 2020.
(2) Net interest income includes dividends for securities held in long and short positions.
(3) Other includes unrealized gains and unrealized losses for total return swaps.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


 Six Months Ended June 30, 2019
 Net Interest Income Net Unrealized Gains (Losses) Net Realized Gains (Losses) Net Investment Income (Loss)
 ($ in thousands)
Net investment income (loss) by asset class:       
Term loan investments$45,075
 $(2,071) $212
 $43,216
Fixed maturities - Fair value option25,635
 28,970
 906
 55,511
Fixed maturities - Available for sale (1)7,833
 —
 2,211
 10,044
Short-term investments1,579
 (496) 25
 1,108
Equities (2)200
 1,062
 —
 1,262
Equities, fair value through net income (2)1,415
 1,698
 (2,027) 1,086
Other investments—
 (419) (202) (621)
Other (3)—
 1,969
 946
 2,915
Investment management fees - related parties(8,979) —
 —
 (8,979)
Borrowing and miscellaneous other investment expenses(15,909) —
 —
 (15,909)
Investment performance fees - related parties—
 —
 —
 (7,492)
 $56,849
 $30,713
 $2,071
 $82,141
(1) Net realized gains (losses) from the fixed maturities available for sale portfolio consists of realized gains and realized losses of $2.4 million and $0.2 million, respectively.
(2) Net interest income includes dividends for securities held in long and short positions.
Other-than-temporary impairments
The Company reviews its available(3) Other includes unrealized gains and unrealized losses for sale investments on a quarterly basis to determine whether declines in fair value below the amortized cost basis are considered other-than-temporary in accordance with applicable guidance. As of the quarter ended March 31, 2019, the Company did not identify any other-than-temporary impairments.total return swaps.
Pledged and restricted assets
For the benefit of certain Arch entities and other third parties that cede business to us, we arethe Company, the Company is required to post and maintain collateral to support ourits potential obligations under reinsurance contracts that we write.written. This collateral can be in the form of either investment assets held in collateral trust accounts or letters of credit. Under ourits secured credit facilities, in order for usthe Company to have the bank issue a letter of credit to ourthe Company’s reinsurance contract counterparty, wethe Company must post investment assets or cash as collateral to the bank. In either case, the amounts remain restricted for the duration of the term of the trust or letter of credit, as applicable.
At March 31, 2019June 30, 2020 and December 31, 2018,2019, the Company held $2.4$2.2 billion and $2.4$2.1 billion, respectively, in pledged assets in support of insurance and reinsurance liabilities as well as to collateralize ourthe Company’s secured credit facilities and investment derivatives. Included within total pledged assets, the Company held $6.2$6.7 million and $5.5$6.4 million, respectively, in deposits with U.S. regulatory authorities.
Non-cash investing activities
During the first half of 2020, $33.2 million of investments converted or exchanged in non-cash transactions from fixed maturities or preferred equity positions to short term investments, fixed maturities or common stock equity positions, as presented on the consolidated statement of cash flows.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


During 2019, the Company exchanged a preference share position of $28.7 million, which was held within “equity securities, fair value through net income,” for a limited partnership interest of $28.7 million, held under “other investments, fair value option.” HPS acts as the general partner and manager of the limited partnership.
During 2019, as a result of the restructuring of an investment position held by the Company, $16.9 million of term loans were converted to $23.0 million of common and preferred stock held within “equity securities, fair value through net income,” along with cash funding from short-term investments of $6.5 million.
7.8. Fair value
Fair value hierarchy
Accounting guidance regarding fair value measurements addresses how companies should measure fair value when they are required to use a fair value measure for recognition or disclosure purposes

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


under U.S. GAAP and provides a common definition of fair value to be used throughout U.S. GAAP. It defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. In addition, it establishes a three-level valuation hierarchy for the disclosure of fair value measurements. The valuation hierarchy is based upon the transparency of inputs to the valuation of an asset or liability as of the measurement date. The level in the hierarchy within which a given fair value measurement falls is determined based on the lowest level input that is significant to the measurement (Level 1 being the highest priority and Level 3 being the lowest priority).
The levels in the hierarchy are defined as follows:
Level 1: Inputs to the valuation methodology are observable inputs that reflect quoted prices (unadjusted) for identical assets or liabilities in active markets;
Level 2: Inputs to the valuation methodology include quoted prices for similar assets and liabilities in active markets and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument; and
Level 3: Inputs to the valuation methodology are unobservable and significant to the fair value measurement.
The availability of observable inputs can vary by financial instrument and is affected by a wide variety of factors including, for example, the type of financial instrument, whether the financial instrument is new and not yet established in the marketplace, and other characteristics particular to the transaction. To the extent that valuation is based on models or inputs that are less observable or unobservable in the market, the determination of fair value requires significantly more judgment. The degree of judgment exercised by the Company in determining fair value is greatest for financial instruments categorized in Level 3. In periods of market dislocation, the observability of prices and inputs may be reduced for many financial instruments. This may lead to a change in the valuation techniques used to estimate the fair value measurement and cause an instrument to be reclassified between levels within the fair value hierarchy.
Fair value measurements on a recurring basis
The following is a description of the valuation methodologies used for securities measured at fair value, as well as the general classification of such securities pursuant to the valuation hierarchy.
The Company determines the existence of an active market based on its judgment as to whether transactions for the financial instrument occur in such market with sufficient frequency and volume to provide reliable pricing information. The independent pricing sources obtain market quotations and actual transaction prices for securities that have quoted prices in active markets. The Company uses quoted values and other data provided by nationally recognized independent pricing sources

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


as inputs into its process for determining fair values of its fixed maturity investments. Each price source has its own proprietary method for determining the fair value of securities that are not actively traded. In general, these methods involve the use of “matrix pricing” in which the independent pricing source uses observable market inputs including, but not limited to, investment yields, credit risks and spreads, benchmarking of like securities, broker-dealer quotes, reported trades and sector groupings to determine a reasonable fair value.
Where multiple quotes or prices are obtained, a price source hierarchy is maintained in order to determine which price source would be used (i.e., a price obtained from a pricing service with more seniority in the hierarchy will be used over a less senior one in all cases). The hierarchy prioritizes pricing services based on availability and reliability and assigns the highest priority to index providers. Based on the above review, the Company will challenge any prices for a security or portfolio which are considered not to be representative of fair value.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


In certain circumstances, when fair values are unavailable from these independent pricing sources, quotes are obtained directly from broker-dealers who are active in the corresponding markets. Such quotes are subject to the validation procedures noted above. Where quotes are unavailable, fair value is determined by the investment managerInvestment Manager using quantitative and qualitative assessments such as internally modeled values, which are reviewed by the Company’s management.
Of the $2.8$2.6 billion of net financial assets and liabilities measured at fair value at March 31, 2019,June 30, 2020, approximately $203.7$121.1 million, or 7.3%4.7%, were priced using non-binding broker-dealer quotes or modeled valuations. Of the $2.7$2.6 billion of net financial assets and liabilities measured at fair value at December 31, 2018,2019, approximately $178.3$131.8 million, or 6.5%5.0%, were priced using non-binding broker-dealer quotes or modeled valuations.
The Company reviews its securities measured at fair value and discusses the proper classification of such investments with its investment managersInvestment Managers and others. A discussion of the general classification of the Company’s financial instruments follows:
Fixed Maturities. The Company uses the market approach valuation technique to estimate the fair value of its fixed maturity securities, when possible. The market approach includes obtaining prices from independent pricing services, such as index providers and pricing vendors, as well as to a lesser extent quotes from broker-dealers. The independent pricing sources obtain market quotations and actual transaction prices for securities that have quoted prices in active markets. Each source has its own proprietary method for determining the fair value of securities that are not actively traded. In general, these methods involve the use of “matrix pricing” in which the independent pricing source uses observable market inputs including, but not limited to, investment yields, credit risks and spreads, benchmarking of like securities, broker-dealer quotes, reported trades and sector groupings to determine a reasonable fair value.
The following describes the significant inputs generally used to determine the fair value of the Company’s investment securities by asset class:
Term Loans. Fair values are estimated by using quoted prices obtained from independent pricing services for term loan investments with similar characteristics, pricing models or matrix pricing. Such investments are generally classified within Level 2. The fair values for certain of the Company’s term loans are determined by the investment managerInvestment Manager using quantitative and qualitative assessments such as internally modeled values, which are reviewed by the Company’s management. The modeled values are based on peer loans and comparison to industry-specific market data. In addition, the investment manager assesses the fair value based on the valuation of the underlying holdings in accordance with the fund’s governing documents. Significant unobservable inputs used to price these securities may include changes in peer and/or comparable credit spreads, accretion of any original issue discount and changes in the issuer’s debt leverage since issue. Changes in peer credit spreads, comparable credits spreads, and issuer debt leverage are negatively correlated with the modeled fair value measurement. Such investments are generally classified within Level 3.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


Corporate Bonds. Valuations are provided by independent pricing services, substantially all through index providers and pricing vendors, with a small amount through broker-dealers. The fair values of these securities are generally determined using the spread above the risk-free yield curve. These spreads are generally obtained from the new issue market, secondary trading and from broker-dealers who trade in the relevant security market. As the significant inputs used in the pricing process for corporate bonds are observable market inputs, the fair value of the majority of these securities are classified within Level 2. The fair values for certain of the Company’s corporate bonds are determined by the investment managerInvestment Manager using quantitative and qualitative assessments such as internally modeled values, which are reviewed by the Company’s management. The modeled values are based on peer bonds and comparison to industry-specific market data. In addition, the investment managerInvestment Manager assesses the fair value based on the valuation of the underlying holdings in accordance with the bonds’ governing documents. Significant unobservable inputs used to price these securities may include changes in peer and/or comparable credit spreads, accretion of any

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


original issue discount and changes in the issuer’s debt leverage since issue. Changes in peer credit spreads, comparable credits spreads, and issuer debt leverage are negatively correlated with the modeled fair value measurement. Such investments are generally classified within Level 3.
Asset-Backed Securities. Valuations are provided by independent pricing services, substantially all through index providers and pricing vendors, with a small amount through broker-dealers. The fair values of these securities isare generally determined through the use of pricing models (including option adjusted spread) which use spreads to determine the appropriate average life of the securities. These spreads are generally obtained from the new issue market, secondary trading and from broker-dealers who trade in the relevant security market. The pricing services also review prepayment speeds and other indicators, when applicable. As the significant inputs used in the pricing process for asset-backed securities are observable market inputs, the fair value of these securities are classified within Level 2.
Mortgage-Backed Securities. Valuations are provided by independent pricing services, substantially all through pricing vendors and index providers with a small amount through broker-dealers. The fair values of these securities are generally determined through the use of pricing models (including option adjusted spread) which use spreads to determine the expected average life of the securities. These spreads are generally obtained from the new issue market, secondary trading and from broker-dealers who trade in the relevant security market. The pricing services also review prepayment speeds and other indicators, when applicable. As the significant inputs used in the pricing process for mortgage-backed securities are observable market inputs, the fair value of these securities are classified within Level 2.
U.S. Government and Government Agencies. Valuations are provided by independent pricing services, with all prices provided through index providers and pricing vendors. The Company determined that all U.S. Treasuries would be classified as Level 1 securities due to observed levels of trading activity, the high number of strongly correlated pricing quotes received on U.S. Treasuries and other factors. The fair values of U.S. government agency securities are generally determined using the spread above the risk-free yield curve. As the yields for the risk-free yield curve and the spreads for these securities are observable market inputs, the fair values of U.S. government agency securities are classified within Level 2.
Non-U.S. Government Securities. Valuations are provided by independent pricing services, with all prices provided through index providers and pricing vendors. The fair values of these securities are generally based on international indices or valuation models which include daily observed yield curves, cross-currency basis index spreads and country credit spreads. As the significant inputs used in the pricing process for non-U.S. government securities are observable market inputs, the fair value of these securities are classified within Level 2.
Municipal Government Bonds. Valuations are provided by independent pricing services, with all prices provided through index providers and pricing vendors. The fair values of these securities are

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


generally determined using spreads obtained from broker-dealers who trade in the relevant security market, trade prices and the new issue market. As the significant inputs used in the pricing process for municipal bonds are observable market inputs, the fair value of these securities are classified within Level 2.
Short-Term Investments. The Company determined that certain of its short-term investments, held in highly liquid money market-type funds, and equities would be included in Level 1 as their fair values are based on quoted market prices in active markets. The fair values of other short-term investments are generally determined using the spread above the risk-free yield curve and are classified within Level 2.
Equity Securities. The Company determined that exchange-traded equity securities would be included in Level 1 as their values are based on quoted market prices in active markets. Other equity securities are initially valued at cost which approximates fair value. In subsequent measurement periods, the fair values of these securities are determined using non-binding broker-dealer quotes. These equity securities are included in Level 2 of the valuation hierarchy. Where such quotes are unavailable, fair value is determined by the investment managerInvestment Manager using quantitative and qualitative

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


assessments such as internally modeled values, which are reviewed by the Company’s management. As the significant inputs used to price these securities are unobservable, the fair value of these securities are classified as Level 3. Significant unobservable inputs used to price preferred stock may include changes in peer and/or comparable credit spreads, accretion of any original issue discount and changes in the issuer’s debt leverage since issue. Changes in peer credit spreads, comparable credit spreads and issuer debt leverage are negatively correlated with the modeled fair value measurement.
Underwriting Derivative Instruments. The Company values the government-sponsored enterprise credit-risk sharing transactions using a valuation methodology based on observable inputs from non-binding broker-dealer quotes and/or recent trading activity. As the inputs used in the valuation process are observable market inputs, the fair value of these securities are classified within Level 2. Refer to Note 8,9, “Derivative instruments” for more information.
Investment Derivative Instruments. The Company values the investment derivatives, including total return swaps and options, at fair value. As the underlying investments have observable inputs, the fair value of these securities are classified within Level 2. Refer to Note 8,9, “Derivative instruments” for more information.
Other Investments. The fair value of the Company’s investmentinvestments in the private fund isfunds are measured using the most recently available NAV,net asset valuations, or NAVs, as advised by athe third-party administrator.administrators.
Measuring the Fair Value of Other Investments Using Net Asset Valuations
The fair value of the Company’s investmentinvestments in the private fund isfunds are measured using the most recently available NAVs as advised by the third party administrator.third-party administrators. The fund NAVs are based on the administrator’s valuation of the underlying holdings in accordance with the fund’s governing documents and in accordance with U.S. GAAP.
The Company often does not have access to financial information relating to the underlying securities held within the fund therefore management is unable to corroborate the fair values placed on the securities underlying the asset valuations provided by the fund manager or fund administrator. In order to assess the reasonableness of the NAVs, we performthe Company performs a number of monitoring procedures on a quarterly basis, to assess the quality of the information provided by the fund manager and fund administrator. These procedures include, but are not limited to, regular review and discussion of the fund’s performance with its manager.
The fair value of the private fund isfunds are measured using the NAVNAVs as a practical expedient, therefore the fair value of the fund hasfunds have not been categorized within the fair value hierarchy.
The following table presents the Company’s financial assets and liabilities measured at fair value by level as at March 31, 2019 and December 31, 2018:

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


   Fair Value Measurement Using:
March 31, 2019
Estimated
Fair Value
 
Quoted Prices in Active Markets for Identical Assets
(Level 1)
 
Significant Other Observable Inputs
(Level 2)
 
Significant Unobservable Inputs
(Level 3)
Assets measured at fair value:($ in thousands)
Term loans$1,022,238
 $—
 $974,870
 $47,368
Fixed maturities:       
Corporate bonds549,247
 —
 525,528
 23,719
U.S. government and government agency bonds337,110
 337,001
 109
 —
Asset-backed securities317,412
 —
 317,412
 —
Mortgage-backed securities24,035
 —
 24,035
 —
Non-U.S. government and government agencies140,357
 —
 140,357
 —
Municipal government and government agency bonds7,689
 —
 7,689
 —
Short-term investments256,711
 256,711
 —
 —
Equities123,811
 9,147
 14,013
 100,651
Other underwriting derivative assets213
 —
 213
 —
Investment derivative assets (1)398
 —
 398
 —
Other investments measured at net asset value (2)51,556
 —
 —
 —
Total assets measured at fair value$2,830,777
 $602,859
 $2,004,624
 $171,738
        
Investment derivative liabilities (1)398
 —
 398
 —
Payable for securities sold short:       
Corporate bonds25,709
 —
 25,709
 —
Equities3,028
 —
 3,028
 —
Total liabilities measured at fair value$29,135
 $—
 $29,135
 $—
(1) Investment derivativeThe following table presents the Company’s financial assets and liabilities represent themeasured at fair value of total return swaps, which are recorded in other assets and other liabilities, respectively, in the consolidated balance sheetsby level as of MarchJune 30, 2020 and December 31, 2019.2019:
(2)
   Fair Value Measurement Using:
June 30, 2020
Estimated
Fair Value
 
Quoted Prices in Active Markets for Identical Assets
(Level 1)
 
Significant Other Observable Inputs
(Level 2)
 
Significant Unobservable Inputs
(Level 3)
 ($ in thousands)
Assets measured at fair value:       
Term loans$875,560
 $—
 $846,907
 $28,653
Fixed maturities:       
Corporate bonds548,101
 —
 547,103
 998
U.S. government and government agency bonds217,459
 217,347
 112
 —
Asset-backed securities288,252
 —
 288,252
 —
Mortgage-backed securities31,182
 —
 31,182
 —
Non-U.S. government and government agency bonds151,124
 —
 151,124
 —
Municipal government and government agency bonds2,117
 —
 2,117
 —
Short-term investments370,066
 368,384
 1,682
 —
Equities121,342
 12,402
 1,096
 107,844
Other underwriting derivative assets6
 —
 6
 —
Other investments measured at net asset value (1)34,142
 —
 —
 —
Total assets measured at fair value$2,639,351
 $598,133
 $1,869,581
 $137,495
        
Investment derivative liabilities (2)$6,935
 $—
 $6,935
 $—
Payable for securities sold short:       
Corporate bonds23,166
 —
 23,166
 —
U.S. government and government agency bonds6,123
 6,123
 —
 —
Total liabilities measured at fair value$36,224
 $6,123
 $30,101
 $—
(1) In accordance with applicable accounting guidance, other investments that are measured at fair value using the net asset value practical expedient have not been classified in the fair value hierarchy. The fair value amounts presented in this table are intended to permit reconciliation of the fair value hierarchy to the amounts presented in the consolidated balance sheets.


WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


   Fair Value Measurement Using:
December 31, 2018
Estimated
Fair Value
 
Quoted Prices in Active Markets for Identical Assets
(Level 1)
 
Significant Other Observable Inputs
(Level 2)
 
Significant Unobservable Inputs
(Level 3)
Assets measured at fair value:($ in thousands)
Term loans$1,000,652
 $—
 $953,173
 $47,479
Fixed maturities:       
Corporate bonds654,607
 —
 630,330
 24,277
U.S. government and government agency bonds268,675
 268,567
 108
 —
Asset-backed securities225,983
 —
 203,423
 22,560
Mortgage-backed securities22,161
 —
 22,161
 —
Non-U.S. government and government agencies136,513
 —
 136,513
 —
Municipal government and government agency bonds8,231
 —
 8,231
 —
Short-term investments282,132
 256,288
 25,844
 —
Equities89,651
 7,977
 11,223
 70,451
Other underwriting derivative assets249
 —
 249
 —
Investment derivative assets (1)51
 —
 51
 —
Other investments measured at net asset value (2)49,762
 —
 —
 —
Total assets measured at fair value$2,738,667
 $532,832
 $1,991,306
 $164,767
 

      
Investment derivative liabilities (1)1,279
 —
 1,279
 —
Payable for securities sold short:       
Corporate bonds7,790
 —
 7,790
 —
Equities (1)1,138
 —
 1,138
 —
Total liabilities measured at fair value$10,207
 $—
 $10,207
 $—
(1)(2) Investment derivative assets and liabilities represent the fair value of total return swaps, which are recorded in other assets and other liabilities, respectively, in the consolidated balance sheets as of December 31, 2018. The Company’s call optionsJune 30, 2020.



WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


   Fair Value Measurement Using:
December 31, 2019
Estimated
Fair Value
 
Quoted Prices in Active Markets for Identical Assets
(Level 1)
 
Significant Other Observable Inputs
(Level 2)
 
Significant Unobservable Inputs
(Level 3)
 ($ in thousands)
Assets measured at fair value:       
Term loans$1,061,934
 $—
 $1,025,886
 $36,048
Fixed maturities:       
Corporate bonds372,473
 —
 371,540
 933
U.S. government and government agency bonds285,609
 285,500
 109
 —
Asset-backed securities336,171
 —
 336,171
 —
Mortgage-backed securities32,456
 —
 32,456
 —
Non-U.S. government and government agency bonds133,409
 —
 133,409
 —
Municipal government and government agency bonds2,184
 —
 2,184
 —
Short-term investments329,303
 318,012
 11,291
 —
Equities125,137
 13,548
 2,998
 108,591
Other underwriting derivative assets148
 —
 148
 —
Investment derivative assets (1)1,667
 —
 1,667
 —
Other investments measured at net asset value (2)30,461
 —
 —
 —
Total assets measured at fair value$2,710,952
 $617,060
 $1,917,859
 $145,572
 

      
Investment derivative liabilities (1)257
 —
 257
 —
Payable for securities sold short:       
Corporate bonds66,257
 —
 66,257
 —
Total liabilities measured at fair value$66,514
 $—
 $66,514
 $—
(1) Investment derivative assets and liabilities represent the fair value of total return swaps, which are recorded as equities in payable for securities sold short“other assets” and “other liabilities,” respectively, in the consolidated balance sheets as of December 31, 2018. The Company’s put options are recorded as equities in the consolidated balance sheets as of December 31, 2018.2019.
(2) In accordance with applicable accounting guidance, other investments that are measured at fair value using the net asset value practical expedient have not been classified in the fair value hierarchy. The fair value amounts presented in this table are intended to permit reconciliation of the fair value hierarchy to the amounts presented in the consolidated balance sheets.
When the fair value of financial assets and financial liabilities cannot be derived from active markets, the fair value is determined using a variety of valuation techniques that include the use of models. The inputs to these models are taken from observable markets where possible, but where this is not feasible, estimation is required to establish fair values. Changes in assumptions about these factors could affect the reported fair value of financial instruments and the level where the instruments are disclosed in the fair value hierarchy.


WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


The following table presents a reconciliation of the beginning and ending balances for all the financial assets measured at fair value on a recurring basis using Level 3 inputs for the three and six months ended March 31, 2019June 30, 2020 and 2018:2019:
Three Months Ended March 31, 2019
Beginning
Balance
 Transfers in (out) of Level 3 (1) Net Purchases (Sales)(2) Net Unrealized Gains (Losses)(3) Net Unrealized Foreign Exchange Gains (Losses) 
Ending
Balance
Three Months Ended June 30, 2020
Beginning
Balance
 Net Purchases (Sales)(1) Net Unrealized Gains (Losses)(2) Net Unrealized Foreign Exchange Gains (Losses) 
Ending
Balance
($ in thousands)
Term loans$47,479
 $—
 $163
 $(274) $—
 $47,368
$35,945
 $(7,184) $(108) $—
 $28,653
Corporate bonds24,277
 —
 (90) (69) (399) 23,719
965
 33
 —
 —
 998
Asset-backed securities22,560
 (22,560) —
 —
 —
 —
Equities70,451
 —
 30,534
 (334) —
 100,651
110,090
 (15,449) 13,203
 —
 107,844
Total$164,767
 $(22,560) $30,607
 $(677) $(399) $171,738
$147,000
 $(22,600) $13,095
 $—
 $137,495
Three Months Ended March 31, 2018
Beginning
Balance
 Net Purchases (Sales)(2) Net Unrealized Gains (Losses)(3) Net Unrealized Foreign Exchange Gains (Losses) 
Ending
Balance
Three Months Ended June 30, 2019
Beginning
Balance
 Net Purchases (Sales)(1) Net Unrealized Gains (Losses)(2) Net Unrealized Foreign Exchange Gains (Losses) 
Ending
Balance
($ in thousands)
Term loans$62,478
 $(27,505) $(593) $—
 $34,380
$47,368
 $170
 $1,047
 $—
 $48,585
Corporate bonds24,710
 —
 (88) 567
 25,189
23,719
 —
 (110) 311
 23,920
Short-term investments—
 4,302
 58
 —
 4,360
Equities52,921
 30,066
 819
 —
 83,806
100,651
 —
 1,555
 —
 102,206
Total$140,109
 $6,863
 $196
 $567
 $147,735
$171,738
 $170
 $2,492
 $311
 $174,711
(1) For the three months ended June 30, 2020, the net purchases (sales) consisted of sales of equities of $25.1 million and sales, calls and redemptions of $7.2 million of term loans, offset by purchases of $9.6 million of equities and $33.0 thousand of corporate bonds. For the three months ended June 30, 2019, the net purchases (sales) consisted of purchases of $0.2 million of term loans, offset in part by calls and redemptions of $0.1 million.
(2) Realized and unrealized gains or losses on Level 3 investments are included in “realized and unrealized gain (loss) on investments” in the Company’s consolidated statements of income (loss).
Six Months Ended June 30, 2020
Beginning
Balance
 Net Purchases (Sales)(2) Net Unrealized Gains (Losses)(3) Net Unrealized Foreign Exchange Gains (Losses) 
Ending
Balance
 ($ in thousands)
Term loans$36,048
 $(7,258) $(137) $—
 $28,653
Corporate bonds933
 65
 —
 —
 998
Equities108,591
 (12,172) 11,425
 —
 107,844
Total$145,572
 $(19,365) $11,288
 $—
 $137,495
Six Months Ended June 30, 2019
Beginning
Balance
 Transfers in (out) of Level 3 (1) Net Purchases (Sales)(2) Net Unrealized Gains (Losses)(3) Net Unrealized Foreign Exchange Gains (Losses) 
Ending
Balance
 ($ in thousands)
Term loans$47,479
 $—
 $333
 $773
 $—
 $48,585
Corporate bonds24,277
 —
 (90) (179) (88) 23,920
Asset-backed securities22,560
 (22,560) —
 —
 —
 —
Equities70,451
 —
 30,534
 1,221
 —
 102,206
Total$164,767
 $(22,560) $30,777
 $1,815
 $(88) $174,711
(1) During the threesix months ended March 31,June 30, 2019, the Company obtained pricing for an asset-backed security, infor which pricing was not available as of December 31, 2018. As such, the security was transferred from Level 3 to Level 2 at its fair value as of December 31, 2018.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


(2) For the threesix months ended March 31,June 30, 2020, the net purchases (sales) consisted of sales of $25.1 million of equities and $7.3 million of sales, calls and redemptions of term loans, offset by purchases of $12.9 million of equities and $65.0 thousand of corporate bonds. For the six months ended June 30, 2019, the net purchases (sales) consisted of purchases of $37.8 million of equities and $237.0 thousand$0.5 million of term loans, offset in part by sales, calls and redemptionsthe sale of $7.3 million of equities, $89.9 thousand of corporate bonds and $74.0 thousand of term loans. For the three months ended March 31, 2018, the net purchases (sales) consisted of purchases of $30.1 million equities, $4.3$0.1 million of short-term investments and $1.0 millionredemptions of term loans partially offset by sales, calls and redemptions of $28.5$0.1 million of term loans.corporate bonds.
(3) Realized and unrealized gains or losses on Level 3 investments are included in “realized and unrealized gain (loss) on investments” in the Company’s consolidated statements of income (loss).
Financial instruments disclosed, but not carried, at fair value
The Company uses various financial instruments in the normal course of its business. The carrying values of cash and cash equivalents, accrued investment income, receivable for securities sold, certain other assets, payable for securities purchased and certain other liabilities approximated their fair values at March 31, 2019June 30, 2020 and December 31, 20182019 due to their respective short maturities. As these financial instruments are not actively traded, their respective fair values are classified within Level 2.
On July 2, 2019, the Company completed a private offering of $175.0 million in aggregate principal amount of its 6.5% senior notes due July 2, 2029 (the “senior notes”). At June 30, 2020, the Company’s senior notes were carried at cost, net of debt issuance costs, of $172.6 million and had a fair value of $176.4 million. The fair value of the senior notes was obtained from a third party pricing service and was based on observable market inputs. As such, the fair values of the senior notes are classified within Level 2.
Fair value measurements on a non-recurring basis
The Company measures the fair value of certain assets on a non-recurring basis, generally quarterly, annually, or when events or changes in circumstances indicate that the carrying amount of the assets may not be recoverable. The Company uses a variety of techniques to measuredetermine the fair value of these assets when appropriate, as described below.
Intangible Assets
The Company tests intangible assets for impairment whenever events or changes in circumstances indicate the carrying amount may not be recoverable. When the Company determines intangible assets may be impaired, the Company uses techniques including discounted expected future cash flows, to measure fair value. There were no such triggering events or changes in circumstances as of June 30, 2020. There were no additional assets measured at fair value on a non-recurring basis as of June 30, 2020 and December 31, 2019.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


8.9. Derivative instruments
Underwriting Derivatives
The Company’s underwriting strategy allows it to enter into government-sponsored enterprise credit-risk sharing transactions. These transactions are accounted for as derivatives. The derivative assets and derivative liabilities relating to these transactions are included in other assets“other assets” and other“other liabilities,” respectively, in the Company’s consolidated balance sheets. Realized and unrealized gains and losses from other derivatives are included in other“other underwriting income (loss)” in the Company’s consolidated statements of net income (loss). The risk in force of these transactions is considered the notional amount.
As at March 31, 2019of June 30, 2020 and December 31, 2018,2019, the Company held $15.2posted $11.8 million and $15.5$13.1 million, respectively, in assets as collateral for these transactions.collateral. These assets are included in fixed“fixed maturities,” which are recorded at fair value in the Company’s consolidated balance sheets.
Investment Derivatives
The Company’s investment strategy allows for the use of derivative securities. Beginning in the third quarter of 2018, theThe Company investedinvests in call options to manage specific market risks; such derivative instruments are recorded at fair

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


value, and shown as part of payable“payable for securities sold shortshort” on its consolidated balance sheets. Such call options maturedwere purchased and sold in the first quarter of 2019.2020.
Additionally, beginning in the fourth quarter of 2018, the Company invested in put options to manage specific market risks; such derivative instruments are recorded at fair value, and shown as part of equity investments“equity securities” on its consolidated balance sheets. Such put options were sold in the first quarter of 2019.
The Company began investing in total return swaps (“swaps”) during 2018, through a Master Confirmation of Total Return Swap Transactions agreement, and recognizes the swap derivatives at fair value. The derivative assets and derivative liabilities relating to these transactions are included in other assets“other assets” and other“other liabilities,” respectively, in the Company’s consolidated balance sheets. As at March 31, 2019At June 30, 2020 and December 31, 2018,2019, the Company had collateral funds held by the counterparty of $46.8$60.7 million and $36.3$64.1 million included in short term investments“short-term investments” in the Company’s consolidated balance sheets.
The fair value of such swaps are based on observable inputs and classified in Level 2 of the valuation hierarchy. Realized and unrealized gains and losses from investment derivatives are included in realized“realized and unrealized gains (losses)” on investments in the Company’s consolidated statements of net income (loss).
The Company did not hold any derivatives which were designated as hedging instruments at March 31, 2019June 30, 2020 and December 31, 2018.2019.
The following table summarizes information on the fair values and notional amount of the Company’s derivative instruments at June 30, 2020 and December 31, 2019:
 Estimated Fair Value  
 Asset Derivatives Liability Derivatives Net Derivatives 
Notional Amount (1)
 ($ in thousands)
June 30, 2020       
Other underwriting derivatives$6
 $—
 $6
 $52,970
Total return swaps—
 6,935
 (6,935) 122,792
Total$6
 $6,935
 $(6,929) $175,762
        
December 31, 2019       
Other underwriting derivatives$148
 $—
 $148
 $59,879
Total return swaps1,667
 257
 1,410
 162,678
Total$1,815
 $257
 $1,558
 $222,557
(1) The notional amount represents the absolute value of all outstanding contracts.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


The following table summarizes information on the fair values and notional amount of the Company’s derivative instruments at March 31, 2019 and December 31, 2018:
 Estimated Fair Value  
 Asset Derivatives Liability Derivatives Net Derivatives 
Notional Amount (1)
 ($ in thousands)
March 31, 2019       
Other underwriting derivatives$213
 $—
 $213
 $70,749
Investment derivatives398
 398
 —
 115,392
Total$611
 $398
 $213
 $186,141
        
December 31, 2018       
Other underwriting derivatives$249
 $—
 $249
 $72,148
Investment derivatives859
 2,417
 (1,558) 116,214
Total$1,108
 $2,417
 $(1,309) $188,362
(1) The notional amount represents the absolute value of all outstanding contracts.
The realized and unrealized gains and losses on the Company’s derivative instruments are reflected in the consolidated statements of income (loss), as summarized in the following table:
Three Months Ended March 31,Three Months Ended June 30, Six Months Ended June 30,
2019 20182020 2019 2020 2019
($ in thousands)($ in thousands)
Underwriting derivatives:          
Other underwriting income (loss)$592
 $701
$868
 $673
 $1,001
 $1,265
Investment derivatives:          
Realized and unrealized gains (losses) on investments2,383
 —
Net realized and unrealized gains (losses):       
Options—
 (2) 1,081
 799
Total return swaps16,986
 1,333
 (6,896) 2,915

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


9.10. Earnings per common share
The calculation of basic earnings per common share is computed by dividing income available to the Parent’s common shareholders by the weighted average number of common shares outstanding for the periods. The following table sets forth the computation of basic and diluted earnings per common share:
Three Months Ended June 30, Six Months Ended June 30,
Three Months Ended March 31,2020 2019 2020 2019
2019 2018($ in thousands except share and per share data)
Numerator:($ in thousands except share and per share data)       
Net income (loss) before preferred dividends$52,539
 $17,689
Preferred dividends(4,907) (4,907)
Net income (loss) before preference dividends$189,937
 $18,733
 $(76,671) $71,272
Preference dividends(1,109) (4,908) (2,280) (9,815)
Net income (loss) available to common shareholders$47,632
 $12,782
188,828
 13,825
 (78,951) 61,457
       
Denominator:          
Weighted average common shares outstanding - basic and diluted22,682,875
 22,682,875
Weighted average common shares outstanding - basic19,863,048
 22,740,762
 19,907,490
 22,711,833
Effect of dilutive common share equivalents:
   
  
Weighted average non-vested restricted share units (1)(2)—
 6,271
 —
 3,136
Weighted average common shares outstanding - diluted (3)19,863,048
 22,747,033
 19,907,490
 22,714,969
Earnings (loss) per common share:          
Basic and diluted$2.10
 $0.56
$9.51
 $0.61
 $(3.97) $2.71
(1) During the three months ended June 30, 2020, the Company issued 100,958 common shares, relating to restricted share units granted in the second quarter of 2019. Of these shares, 27,456 common shares vested during the three months ended June 30, 2020.
(2) During the three months ended June 30, 2020, the Company did not grant any restricted share units or common shares. During the six months ended June 30, 2020 and June 30, 2019, the Company granted an aggregate of 63,591 and 165,287, respectively, of restricted share units and common shares to certain employees and directors. Of the total restricted share units and common shares granted, 103,820 are non-vested as of June 30, 2020. The weighted average non-vested restricted share units of 6,864 are excluded from the calculation of diluted weighted average common shares outstanding for the six months ended June 30, 2020, due to a net loss reported. Refer to Note 17, “Share transactions” for further details.
(3) Warrants held by Arch and HPS were not included in the computation of diluted earnings because the exercise price of the warrants exceeded the market price of the common shares during the period and the exercise of the warrants would have been anti-dilutive. The warrants expired on March 25, 2020. The number of common shares issuable upon exercise of the warrants that was excluded was 1,704,691 common shares.
10.11. Income taxes
Watford Holdings and Watford Re are incorporated under the laws of Bermuda and, under current law, are not obligated to pay any taxes in Bermuda based upon income or capital gains. In the event that any legislation is enacted in Bermuda imposing such taxes, a written undertaking has been

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


received from the Bermuda Minister of Finance under the Exempted Undertakings Tax Protection Act 1966 that such taxes will not be applicable to Watford Holdings and Watford Re until March 31, 2035.
WICE is incorporated under the laws of Gibraltar and regulated by the Gibraltar Financial Services Commission (the “FSC”) under the Financial Services (Insurance Company) Act (the “Gibraltar Act”). In addition to its operations in Gibraltar, WICE operates a branch in Romania. The current rates of tax on applicable profits in Gibraltar and Romania are 10% and 16%, respectively. The open tax years that are potentially subject to examination are 20162018 through 20192020 in Gibraltar and 2018 through 20192020 in Romania.
Watford Holdings (U.K.) Limited is incorporated in the United Kingdom and is subject to U.K. corporate income tax. The current U.K. corporate income tax rate is 19% and will be reduced to 17% from April 1, 2020. The open tax years that are potentially subject to examination by U.K. tax authorities are 20172018 through 2019.2020.
Watford Holdings (U.S.) Inc. is incorporated in the U.S.United States and files a consolidated U.S. federal tax return with its subsidiaries, Watford Specialty Insurance Company, Watford Insurance Company,WSIC, WIC, and Watford Services Inc. The U.S. federal tax rate is 21% for tax years beginning after December 31, 2017. The open tax years that are potentially subject to examination by U.S. tax authorities are 20152016 through 2019.2020.
The Company provides a valuation allowance to reduce certain deferred tax assets to an amount which management expects to more likely than not be realized. As of March 31, 2019June 30, 2020 and December 31, 2018,2019, the Company’s valuation allowance was $1.4$1.5 million and $1.5$1.3 million, respectively. The valuation allowance primarily relates toincludes U.S. and Gibraltar operating loss carry-forwards. The U.S. net operating loss carry-forwards that begin to expire in 2035. The Gibraltar net

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


operating loss carry-forwards do not expire.2037. After consideration of the valuation allowance, the Company had net deferred tax assets of $0.4 million and $Nil as of March 31, 2019June 30, 2020 and December 31, 2018.2019, respectively.
After taking into account the impact of the decreasechange in the valuation allowance, the Company recognized income tax expense (benefit) of $(0.4) million and $0.02 million in the consolidated statements of income (loss) and income tax expense (benefit) of $0.4 million and $Nil in the consolidated statements of comprehensive income (loss) during the three months and six months ended March 31, 2019June 30, 2020 and 2018 of $Nil and $3.0 thousand, respectively.2019.
The Company recognizes a tax benefit where it concludes that it is more likely than not that the tax benefit will be sustained on audit by the taxing authority based solely on the technical merits of the associated tax position. The Company records interest and penalties related to unrecognized tax benefits in the provision for income taxes. As of March 31, 2019both June 30, 2020 and December 31, 2018,2019, the Company’s total unrecognized tax benefits, including interest and penalties, were $Nil.
11.12. Transactions with related parties
In March 2014, ARL invested $100.0 million in the ParentCompany and acquired approximately 11% of its common equity.
AUL acts as the insurance and reinsurance manager for Watford Re and WICE while AUI acts as the insurance and reinsurance manager for WSIC and WIC, all under separate long-term services agreements. HPS manages the Company’s non-investment grade portfolio and a portion of the Company’s investment grade portfolio as investment managerInvestment Manager and AIM manages a portion of the Company’s investment grade portfolio as investment manager,Investment Manager, each under separate long-term services agreements. ARL and HPS were granted warrants to purchase additional common equity based on performance criteria. In recognition of the sizable ownership interest, two senior executives of ACGL were appointed to ourthe Company’s board of directors. The services agreements with AUL and AUI and the investment management agreements with HPS and AIM provide for services for an extended period of time with limited termination rights by the Company. In addition, these agreements allow for AUL, AUI HPS and AIMHPS to participate in the favorable results of the Company in the form of performance fees.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


ACGL and affiliates
At June 30, 2020, ARL held approximately 12.6% of the Company’s common equity. Affiliates of ACGL held approximately 6.6% of the Company’s preference shares.
On July 2, 2019, affiliates of ACGL purchased $35 million in aggregate principal amount of the Company’s 6.5% senior notes due July 2, 2029. On August 1, 2019, affiliates of ACGL received $11.5 million in connection with the Company’s redemption of its preference shares.
Certain directors, executive officers and management of ACGL own common and preference shares of the Company.
The related balances presented in the consolidated statements of income (loss) for the three and six months ended June 30, 2020 and 2019 were as follows:
 Three Months Ended June 30, Six Months Ended June 30,
 2020 2019 2020 2019
 ($ in thousands)
Consolidated statements of income (loss) items:       
Interest expense$582
 $—
 $1,164
 $—
Preference dividends73
 325
 151
 650
AUL and AUI
Watford Re and WICE entered into services agreements with AUL. WSIC and WIC entered into services agreements with AUI. AUL and AUI provide services related to the management of the underwriting portfolio for a term ending onin December 2025. The services agreements perpetually renew automatically in five-year increments unless either wethe Company or Arch gives notice to not renew at least 24 months before the end of the then-current term.
As part of the services agreements, AUL and AUI make available to the Companies, on a non-exclusive basis, certain designated employees who serve as officers of the Companies and underwrite business on behalf of the Companies (the “Designated Employees”). AUL and AUI also provide portfolio management, Designated Employee supervision, exposure modeling, loss reserve recommendations, claims-handling, accounting and other related services as part of the services agreements.
In return for their services, AUL and AUI receive fees from the Companies, including an underwriting fee and profit commission, as well as reimbursement for the services of the Designated Employees and reimbursements for an allocated portion of the expenses related to seconded employees, plus other expenses incurred on behalf of the Company.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


The related AUL and AUI fees and reimbursements incurred in the consolidated statementstatements of income (loss) for the three and six months ended March 31,June 30, 2020 and 2019 and 2018 were as follows:
Three Months Ended March 31,Three Months Ended June 30, Six Months Ended June 30,
2019 20182020 2019 2020 2019
Consolidated statement of income (loss) items:($ in thousands)
($ in thousands)
Consolidated statements of income (loss) items:       
Acquisition expenses$4,948
 $3,642
$6,942
 $5,861
 $13,505
 $10,809
General and administrative expenses2,011
 890
1,148
 2,008
 2,136
 4,019
$6,959
 $4,532
Total$8,090
 $7,869
 $15,641
 $14,828
Reinsurance transactions with ACGL affiliates
The Company reinsures ARL and other ACGL subsidiaries and affiliates for property and casualty risks on a quota share basis. ACGL cedes business to the Company pursuant to inward retrocession agreements the Company’s operating subsidiaries have entered into with ACGL. Pursuant to these inward retrocession agreements, the Company pays a ceding fee based on the business ceded and the terms of the applicable retrocession agreement. Such fees, in addition to origination fees, are reflected in “acquisition expenses” on the Company’s consolidated statements of income (loss).
The related consolidated statements of income (loss) for the three and six months ended June 30, 2020 and 2019 were as follows:
 Three Months Ended June 30, Six Months Ended June 30,
 2020 2019 2020 2019
 ($ in thousands)
Consolidated statements of income (loss) items:       
Gross premiums written$30,371
 $38,890
 $111,719
 $110,895
Net premiums earned51,067
 66,913
 109,853
 128,751
Losses and loss adjustment expenses40,759
 54,894
 87,300
 100,263
Acquisition expenses (1)13,153
 20,890
 27,006
 40,805
(1) Acquisition expenses relating to the ACGL inward quota share agreements referred to above. For the three months ended June 30, 2020 and 2019, the Company incurred ceding fees to Arch, in aggregate, of $3.8 million and $4.8 million, respectively, under these inward retrocession agreements. For the six months ended June 30, 2020 and 2019, the Company incurred ceding fees to Arch, in aggregate, of $7.8 million and $9.0 million, respectively, under these inward retrocession agreements.
Separately, the Company’s operating subsidiaries have entered into outward quota share retrocession or reinsurance agreements with ACGL subsidiaries. Specifically, each of Watford Re and WICE has entered into a separate outward quota share retrocession or reinsurance agreement with ARL, and each of WSIC and WIC has entered into a separate outward quota share reinsurance agreement with ARC.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


The related consolidated statements of income (loss) for the three and six months ended June 30, 2020 and 2019 for the outward retrocession transactions were as follows:
 Three Months Ended June 30, Six Months Ended June 30,
 2020 2019 2020 2019
 ($ in thousands)
Consolidated statements of income (loss) items:       
Gross premiums ceded$(17,174) $(15,844) $(37,002) $(32,834)
Net premiums earned(20,261) (14,411) (40,049) (27,351)
Losses and loss adjustment expenses(17,558) (15,784) (33,373) (24,921)
Acquisition expenses (1)(3,319) (3,584) (7,857) (6,688)
(1) Acquisition expenses relating to the ACGL outward quota share agreements referred to above.
The related consolidated balance sheet account balances as of June 30, 2020 and December 31, 2019 were as follows:
 June 30, December 31,
 2020 2019
 ($ in thousands)
Consolidated balance sheet items:   
Total investments$775,016
 $815,528
Premiums receivable96,475
 106,462
Reinsurance recoverable on unpaid and paid losses and loss adjustment expenses101,356
 79,597
Prepaid reinsurance premiums71,578
 75,249
Deferred acquisition costs, net29,894
 31,609
Funds held by reinsurers29,629
 29,867
Reserve for losses and loss adjustment expenses680,444
 693,861
Unearned premiums139,632
 143,852
Losses payable47,812
 39,619
Reinsurance balances payable53,387
 62,301
Senior notes34,511
 34,484
Amounts due to affiliates4,542
 4,467
Other liabilities - contingent commissions4,033
 5,516
Contingently redeemable preference shares3,465
 3,462
AIM
Watford Re, WSIC, WICE and WIC entered into investment management agreements with AIM pursuant to which AIM manages a portion of our investment grade portfolio. Each of the Watford Re, WICE, WSIC and WIC investment management agreements with AIM has a one-year term, with the terms ending annually on March 31, July 31, January 31 and July 31, respectively. The terms will continue to renew for successive one-year periods; provided, however, that either party may terminate any of the investment management agreements with AIM at any time upon 45 days prior written notice. To date, there has been no such notice filed under such agreements.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


In return for its investment management services, AIM receives a monthly management fee. The management fee is based on a percentage of the aggregate asset value of the AIM managed portfolio. For the purposes of calculating the management fees, asset value is determined by AIM in accordance with the investment management agreements and is measured before deduction of any management fees or expense reimbursement. The Company has also agreed to reimburse AIM for additional services related to investment consulting and oversight services, administrative operations and risk analytic support services related to the management of the Company’s portfolio, as set forth in the investment management agreements.
The related consolidated statements of income (loss) for the three and six months ended June 30, 2020 and 2019 were as follows:
 Three Months Ended June 30, Six Months Ended June 30,
 2020 2019 2020 2019
Consolidated statements of income (loss) items:($ in thousands)
Investment management fees - related parties$223
 $273
 $476
 $535
HPS
Certain HPS principals and management own common and preference shares of the Company.
In return for its investment services, HPS receives a management fee, a performance fee and allocated operating expenses. The management fee is calculated at an annual rate of 1.0% of the aggregate net asset value of the assets that are managed by HPS for the first $1.5 billion in net asset value, and 0.75% of the aggregate net value of assets exceeding $1.5 billion, payable quarterly in arrears. For purposes of calculating the management fees, net asset value is determined by HPS in accordance with the investment management agreements and is measured before reduction for any management fees, performance fees or any expense reimbursement and asis adjusted for any non-routine intra-month withdrawals. We haveThe Company has also agreed to reimburse HPS for certain expenses related to the management of our non-investment grade portfoliothe Company’s investment portfolios as set forth in the investment management agreements.
The base performance fee is equal to 10% of the Income (as defined in the investment management agreements relating to Watford Re, WICE and Watford Trust) or Aggregate Income (as defined in the investment management agreements relating to WSIC and WIC), as applicable, if any, on the assets managed by HPS, calculated and payable as of each fiscal year-end and the date on which the investment management agreements are terminated and not renewed, and HPS is eligible to earn an additional performance fee equal to 25% of any Excess Income (as defined in the investment management agreements) in excess of a net 10% return to Watford after deduction for paid and accrued management fees and base performance fees, with the total performance fees not to exceed 17.5% of the Income or Aggregate Income, as applicable. No performance fees will be paid to HPS if the high water mark (as described in the investment management agreements with HPS) is not met.
During the year ended December 31, 2017, the Company invested $50.0 million in a private fund (“Master Fund”) as part of HPS’s investment strategy. HPS acts as the Trading Manager and provides certain administrative management services to the Master Fund. As at March 31,During 2019, the Company fully redeemed its investment in the Master Fund.
During 2019, the Company invested $28.7 million in a limited partnership as part of HPS’s investment strategy. HPS acts as the general partner and manager of the limited partnership. At June 30, 2020, the Company’s investment representshad a fair value of $34.1 million and represented approximately 19.0%12% of the Fund.outstanding partnership interests. The management fees and performance fees on the Master Fund will be subject to the existing fee structure of the existing investment management agreement between the Company and HPS, as discussed above.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


performance fees on the limited partnership will be subject to the existing fee structure of the existing investment management agreement between the Company and HPS, as discussed above.
The related consolidated statementstatements of income (loss) for the three and six months ended March 31,June 30, 2020 and 2019, and 2018, and consolidated balance sheet account balances for HPS management fees and performance fees as of March 31, 2019June 30, 2020 and December 31, 20182019 were as follows:
Three Months Ended March 31,Three Months Ended June 30, Six Months Ended June 30,
2019 20182020 2019 2020 2019
Consolidated statement of income (loss) items:($ in thousands)
($ in thousands)
Consolidated statements of income (loss) items:       
Investment management fees - related parties$4,147
 $3,852
$4,039
 $4,297
 $8,138
 $8,444
Investment performance fees - related parties5,800
 2,597
—
 1,692
 —
 7,492
$9,947
 $6,449
$4,039
 $5,989
 $8,138
 $15,936
 March 31, December 31,
 2019 2018
Consolidated balance sheet items:($ in thousands)
Other investments, at fair value$51,556
 $49,762
Investment management and performance fees payable10,483
 3,807
AIM
Watford Re, WSIC, WICE, and WIC entered into investment management agreements with AIM pursuant to which AIM manages a portion of our investment grade portfolio. Each of the Watford Re, WICE, WSIC and WIC investment management agreements with AIM has a one-year term, with the terms ending annually on March 31, July 31, January 31 and July 31, respectively. The terms will continue to renew for successive one-year periods; provided, however, that either the Company or AIM may terminate any of the investment management agreements with AIM at any time upon 45 days prior written notice. To date, there has been no such notice filed on such agreements.
In return for its investment management services, AIM receives a monthly management fee. The management fee is based on a percentage of the aggregate asset value of the AIM managed portfolio. For the purposes of calculating the management fees, asset value is determined by AIM in accordance with the investment management agreements and is measured before deduction of any management fees or expense reimbursement. We have also agreed to reimburse AIM for additional services related to investment consulting and oversight services, administrative operations and risk analytic support services related to the management of our portfolio, as set forth in the investment management agreements.
The related consolidated statement of income (loss) for the three months ended March 31, 2019 and 2018 were as follows:
 Three Months Ended March 31,
 2019 2018
Consolidated statement of income (loss) items:($ in thousands)
Investment management fees - related parties$262
 $294





WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


ACGL
Certain directors, executive officers and management of ACGL own common and preference shares of the Company.
The Company reinsures ARL and other ACGL subsidiaries and affiliates for property and casualty risks on a quota share basis. ACGL cedes business to us pursuant to inward retrocession agreements our operating subsidiaries have entered into with ACGL. Pursuant to these inward retrocession agreements, we pay a ceding fee based on the business ceded and the applicable retrocession agreement. For the three months ended March 31, 2019 and 2018, we incurred ceding fees to Arch, in aggregate, of $4.2 million and $4.0 million, respectively, under these inward retrocession agreements. Such fees, in addition to origination fees, are reflected in “acquisition expenses” on the consolidated statement of income (loss).
The related consolidated statement of income (loss) for the three months ended March 31, 2019 and 2018, and consolidated balance sheets account balances for these transactions (excluding AUL and AUI expenses described above) as of March 31, 2019 and December 31, 2018 were as follows:
 Three Months Ended March 31,
 2019 2018
Consolidated statement of income (loss) items:($ in thousands)
Gross premiums written$72,005
 $82,131
Gross premiums ceded(16,990) (15,287)
Net premiums earned48,898
 58,308
Losses and loss adjustment expenses36,232
 36,662
Acquisition expenses21,759
 24,200
 March 31, December 31,
 2019 2018
Consolidated balance sheet items:($ in thousands)
Total investments$803,266
 $719,189
Premiums receivable132,777
 118,208
Reinsurance recoverable on unpaid and paid losses and loss adjustment expenses50,432
 45,954
Prepaid reinsurance premiums31,856
 27,598
Deferred acquisition costs, net49,124
 48,380
Funds held by reinsurers32,812
 33,352
Other receivables (1)1,697
 —
Contingent commissions (1)3,892
 2,967
Reserve for losses and loss adjustment expenses642,045
 631,670
Unearned premiums176,658
 166,491
Losses payable37,313
 19,098
Reinsurance balances payable25,681
 20,299
Amounts due to affiliates8,198
 5,888
(1) Other receivables and contingent commissions are recorded in other assets in the consolidated balance sheet.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


 June 30, December 31,
 2020 2019
 ($ in thousands)
Consolidated balance sheet items:   
Other investments, at fair value$34,142
 $30,461
Investment management and performance fees payable5,511
 17,762
Artex
In 2015, WICE and AUL entered into an insurance management services agreement with Artex Risk Solutions (Gibraltar) Limited, or Artex, pursuant to which Artex provides services to WICE relating to management, secretarial, governance, underwriting, claims, reinsurance, financial management, investment, regulatory, compliance, risk management and Solvency II. In addition, two principals of Artex have been appointed directors of WICE. In exchange for these services, we paythe Company pays Artex fees based on WICE’s gross premiums written, subject to a minimum amount of £150,000 per annum and a maximum amount of £400,000 per annum, in each case subject to an inflation increase on an annual basis. The insurance management services agreement may be terminated by either Artex or WICE upon twelve months prior written notice; provided that the agreement is subject to earlier termination by WICE or Artex upon the occurrence of certain events.
The table below provides the aggregate fees wethe Company paid to Artex under the insurance management services agreement for the three and six months ended March 31, 2019June 30, 2020 and 2018.2019.
 Three Months Ended March 31,
 2019 2018
 ($ in thousands)
Fees paid to Artex under insurance management services agreement$131
 $120
 Three Months Ended June 30, Six Months Ended June 30,
 2020 2019 2020 2019
 ($ in thousands)
Fees paid to Artex under insurance management services agreement$166
 $45
 $252
 $176
For the three and six months ended March 31,June 30, 2020 and 2019, and 2018, wethe Company paid no fees to Arch under this insurance management services agreement.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


12.13. Commitments and contingencies
Concentrations of credit risk
For our reinsurance agreements, the creditworthiness of a counterparty is evaluated by the Company, taking into account credit ratings assigned by independent agencies. The credit approval process involves an assessment of factors, including, among others, the counterparty country and industry exposures. Collateral may be required, at the discretion of the Company, on certain transactions based on the creditworthiness of the counterparty.
The areas where significant concentrations of credit risk may exist include unpaid losses and loss adjustment expenses recoverable, prepaid reinsurance premiums and paid losses and loss adjustment expenses recoverable net of reinsurance balances payable (collectively, “net reinsurance recoverables”), investments and cash and cash equivalent balances.
The Company’s reinsurance recoverables, and prepaid reinsurance premiums, net of reinsurance balances payable, resulting from reinsurance agreements entered into with ARL and ARC as at March 31, 2019of June 30, 2020 and December 31, 20182019 amounted to $56.6$119.5 million and $53.3$92.5 million, respectively. ARL and ARC have “A+” credit ratings from A.M. Best.
A credit exposure exists with respect to reinsurance recoverables as they may become uncollectible. The Company manages its credit risk in its reinsurance relationships by transacting with reinsurers that it considers financially sound and, if necessary, the Company may hold collateral in the form of funds, trust accounts and/or irrevocable letters of credit. This collateral can be drawn on for amounts that remain unpaid beyond specified time periods on an individual reinsurer basis.
In addition, the Company underwrites a significant amount of its business through brokers and a credit risk exists should any of these brokers be unable to fulfill their contractual obligations with respect to the payments of insurance and reinsurance balances owed to the Company.
The Company’s investment portfolios are managed in accordance with investment guidelines that include standards of diversification, which limit the allowable holdings of any single issuer. There

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


were no investments in any entity in excess of 10% of the Company’s shareholders’ equity at March 31, 2019June 30, 2020 and December 31, 2018,2019, other than cash and cash equivalents held in operating and investment accounts with financial institutions with credit ratings between “A” and “AA-.”
LetterLloyds letter of credit facility
On May 16, 2018,15, 2020, Watford Re renewed its letter of credit facility with Lloyds Bank Corporate Markets Plc, New York Branch (the “Lloyds Facility”). The Lloyds Facility amount is $100.0 million and was renewed through to May 16, 2019, and is expected2021. Under the renewed Lloyds Facility, the Company may request an increase in the facility amount, up to be renewed.an aggregate of $50.0 million. The principal purpose of the Lloyds Facility is to issue, as required, evergreen standby letters of credit in favor of primary insurance or reinsurance counterparties with which the Company has entered into reinsurance arrangements to ensure that such counterparties are permitted to take credit for reinsurance obtained from the Company as required under insurance regulations in the United States. The amount of letters of credit issued is driven by, among other things, the timing and payment of catastrophe losses, loss development of existing reserves, the payment pattern of such reserves, the further expansion of the Company’s business and the loss experience of such business. When issued, the letters of credit are secured by certificates of deposit or cash. In addition, the Lloyds Facility also requires the maintenance of certain covenants, with which the Company was in compliance with at March 31, 2019June 30, 2020 and December 31, 2018.2019. At such dates, the Company had $72.1$48.7 million and $68.9$51.0 million, respectively, in restricted assets as collateral for outstanding letters of credit issued from the Lloyds Facility, which were secured by certificates of deposit. These collateral amounts are reflected as short-term investments in the Company’s consolidated balance sheets.
Secured

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


Unsecured letter of credit facility
On September 20, 2019, Watford Re signed a 364-day letter of credit agreement with Lloyds Bank Corporate Markets Plc and BMO Capital Markets Corp. (the “Unsecured Facility”). The Unsecured Facility amount is $100.0 million, and will be automatically extended for a period of one year unless canceled or not renewed by either counterparty prior to expiration. The principal purpose of the Unsecured Facility is to issue, as required, evergreen standby letters of credit in favor of primary insurance or reinsurance counterparties with which the Company has entered into reinsurance arrangements to ensure that such counterparties are permitted to take credit for reinsurance obtained from the Company as required under insurance regulations in the United States. The amount of letters of credit issued is driven by, among other things, the timing and payment of catastrophe losses, loss development of existing reserves, the payment pattern of such reserves, the further expansion of the Company’s business and the loss experience of such business. The Unsecured Facility requires the maintenance of certain covenants, as well as certain representations and warranties that are customary for facilities of this type. At June 30, 2020 and December 31, 2019, the Company had $25.2 million and $19.3 million, respectively, in outstanding letters of credit issued from the Unsecured Facility, and was in compliance with the Unsecured Facility requirements. At such dates, the Company had $25.2 million and $Nil, respectively, in certificates of deposit held as restricted collateral related to outstanding letters of credit issued from the Unsecured Facility. These collateral amounts are reflected as short-term investments in the Company’s consolidated balance sheets.
Bank of America secured credit facility
On November 30, 2017, Watford Re amended and restated its $800$800.0 million secured credit facility (the “Secured Facility”) with Bank of America, N.A., which expires on November 30, 2021. The purpose of the Secured Facility is to provide borrowings, backed by Watford Re’s investment portfolios. In addition, the Secured Facility allows for Watford Re to issue up to $400.0 million in evergreen standby letters of credit in favor of primary insurance or reinsurance counterparties with which the Company has entered into reinsurance arrangements. At March 31, 2019,June 30, 2020, Watford Re had $488.6$335.6 million and $52.5 million in borrowings and outstanding letters of credit, respectively. At December 31, 2018,2019, Watford Re had $455.7$484.3 million and $52.5 million in borrowings and outstanding letters of credit, respectively. At March 31, 2019June 30, 2020 and December 31, 2018,2019, Watford Re was in compliance with all covenants contained in the Secured Facility.
Custodian bank facilityfacilities
As of March 31, 2019June 30, 2020 and December 31, 2018,2019, Watford Re borrowed $164.1had $136.8 million and $238.2 million,$Nil, respectively, in borrowings from our custodian bankbanks to purchase U.S.-denominatedU.S. dollar denominated securities.
As of March 31, 2019,June 30, 2020, the total borrowed amount of $164.1$136.8 million included 2.00.6 million Swiss Francs,Euros, or CHF, (USDEUR, (U.S. dollar equivalent of $2.0$0.7 million) to purchase CHF-denominatedEUR-denominated securities. As of December 31, 2018, the total borrowed amount of $238.2 million included 2.0 million CHF, (USD equivalent of $2.0 million) to purchase CHF-denominated securities. We payThe Company pays interest based on 3-month LIBOR plus a margin and the borrowed amount is payable upon demand. The foreign exchange gain or loss on revaluation on the non-U.S. dollar-denominated borrowed funds is included as a component of “net foreign exchange gains (losses)” included in the Company’s consolidated statements of net income (loss).
The custodian bank requires usbanks require the Company to hold cash and investments on deposit, with, or in an investment account with respect to the borrowed funds. As at March 31, 2019At June 30, 2020 and December 31, 2018, we were2019, the Company was required to hold $246.9$214.9 million and $339.1 million,$Nil, respectively, in such deposits and investment accounts.
Employment and other arrangements
The Company has employment agreements with certain of its executive officers. Such employment arrangements provide for compensation in the form of base salary, annual bonus, participation in

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


the Company’s employee benefit programs, the Company’s share-based compensation plans and the reimbursements of expenses.
Investment commitments
As of June 30, 2020, the Company had unfunded commitments of $23.1 million relating to equities within its investment portfolios. As of December 31, 2019, the Company had unfunded commitments of $8.4 million relating to term loans and $26.4 million relating to equities within its investment portfolios.
Acquisition commitments
The Company has entered into an agreement to acquire Axeria IARD, a property and casualty insurance company based in France. The Company has committed to acquiring 100% of the capital stock of Axeria IARD from the APRIL group. The completion of this transaction is subject to regulatory approval and other customary closing conditions, and is expected to close in the second half of 2020.
14. Leases
The Company has entered into a lease agreement for real estate that is used for office space in the ordinary course of business. The lease is accounted for as an operating lease, whereby the lease expense is recognized on a straight-line basis over the term of the lease. Refer to Note 2, “Significant accounting policies” for additional information regarding the accounting for leases.
Leases includeThe lease includes an option to extend or renew the lease term. The exercise of the renewal option is at the Company’s discretion. The operating lease liability includes lease payments related to options to extend or renew the lease term if the Company is reasonably certain of exercising those options. Such options relating to the extension or renewal of the lease term are not included in the operating lease liability at this time. The Company, in determining the present value of lease payments, utilizes the Company’s incremental secured borrowing rate commensurate with the term of the underlying lease.
Lease expense is included in general“general and administrative expensesexpenses” in the Company’s consolidated statements of net income (loss). Additional information regarding the Company’s real estate operating lease is as follows.
Three Months Ended March 31,
2019Three Months Ended June 30, 2020 Six Months Ended June 30, 2020
($ in thousands)($ in thousands)
Lease cost:    
Operating lease$71
$62
 $124
Other information on operating lease:    
Cash payments included in the measurement of lease liability reported in operating cash flows60
71
 142
Right-of-use assets (1)845
 845
Operating lease liability (2)845
 845
Weighted average discount rate3.9%3.9% 3.9%
Weighted average remaining lease term in years4.5 years
3.25 years
 3.25 years
The following tables present the contractual maturity of(1) Included in “other assets” on the Company’s lease liability:consolidated balance sheet.
 March 31, 2019
 ($ in thousands)
Remainder of 2019212
2020283
2021283
2022283
2023189
Total undiscounted lease payments1,250
Less: present value adjustment(102)
Operating lease liability1,148
(2) Included in “other liabilities” on the Company’s consolidated balance sheet.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


The following tables present the contractual maturity of the Company’s lease liability:
 December 31, 2018
 ($ in thousands)
Future rental commitments 
2019283
2020283
2021283
2022283
2023189
Total1,321
 June 30, 2020
 ($ in thousands)
Remainder of 2020142
2021283
2022283
2023189
Total undiscounted lease payments897
Less: present value adjustment(52)
Operating lease liability845
Employment and other arrangements
The Company has employment agreements with certain of its executive officers. Such employment arrangements provide for compensation in the form of base salary, annual bonus, participation in the Company’s employee benefit programs and the reimbursements of expenses.
Investment commitments
As at March 31, 2019 and December 31, 2018 the Company had unfunded commitments of $Nil million and $2.9 million, respectively, relating to equities within its investment portfolios.
13.15. Senior notes
On July 2, 2019, the Company completed a private offering of $175.0 million in aggregate principal amount of its 6.5% senior notes due July 2, 2029. Interest on the senior notes is paid semi-annually in arrears on each January 2 and July 2, which commenced on January 2, 2020. The $172.3 million net proceeds from the offering were used to redeem a portion of the Company’s outstanding preference shares, as described in Note 16, “Contingently redeemable preference shares”. Affiliates of ACGL purchased $35 million in aggregate principal amount of the senior notes.
The senior notes are the Parent’s senior unsecured and unsubordinated obligations and rank equally with all of the other existing and future obligations of the Parent that are unsecured and unsubordinated. The Company may redeem the senior notes at any time, in whole or in part, prior to July 2, 2024, at “make-whole” redemption price, subject to BMA requirements. After July 2, 2024, the senior notes are redeemable, in whole or in part, at a redemption price equal to 100% of the principal amount, subject to BMA requirements. The indenture governing the senior notes contains certain customary covenants, including those related to the punctual payment of interest and principal amounts due. The Company was in compliance with such covenants at June 30, 2020.
As of June 30, 2020, the carrying amount of the senior notes was $172.6 million, presented net of unamortized debt issuance costs of $2.4 million. As of December 31, 2019, the carrying amount of the senior notes was $172.4 million, presented net of unamortized debt issuance costs of $2.6 million.
16. Contingently redeemable preference shares
In March 2014, the Company issued 9,065,200 8½% Cumulative Redeemable Preference Shares (the “preference shares”). The preference shares have a par value of $0.01 per share and a liquidation preference of $25.00 per share. The preference shares were issued at a discounted purchase price of $24.50 per share. Holders of the preference shares are entitled to receive, if declared by the board of directors, quarterly cash dividends on the last day of March, June, September and December of each year. Prior to June 30, 2019, dividends on the preference shares accrued at a fixed rate of 8.5% per annum (the “Fixed Rate Period”). Dividends accrue from (and including) June 30, 2019 (the “Floating Rate Period”), at a floating rate per annum (the “Floating Rate”) equal to three-month U.S. dollar LIBOR plus a margin of 667.85 basis points; provided, that, if, at any time, the three-month U.S. dollar LIBOR shall be less than 1%, then the three-month U.S. dollar LIBOR for purposes of calculating the Floating Rate at the time of such calculation shall be 1%. The preference shares may be redeemed by the Company on or after June 30, 2019 or at the option of the preference shareholders at any time on or after June 30, 2034 at the liquidation price of $25.00 per share. Because the redemption features are not solely within the control of the Company, the preference

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


shares have been recorded as mezzanine equity on the Company’s consolidated balance sheets in accordance with applicable accounting guidance. Preference share dividends, including the accretion of the discount and issuance costs, are included in “preference dividends” in the Company’s consolidated statements of income (loss).
On August 1, 2019, the Company redeemed 6,919,998 of its 9,065,200 total issued and outstanding preference shares, which were redeemed at a total redemption price of $25.19748 per share, inclusive of all declared and unpaid dividends, with accumulation of any undeclared dividends on or after June 30, 2019. After the redemption date, dividends on the preference shares that were redeemed ceased to accrue, and such redeemed preference shares ceased to be outstanding. Affiliates of Arch Capital Group Ltd. received $11.5 million in connection with the redemption of the preference shares.
For the three months ended June 30, 2020 and 2019, dividends paid on the preference shares totaled $1.1 million and $4.8 million, respectively. For the six months ended June 30, 2020 and 2019, dividends paid on the preference shares totaled $2.2 million and $9.6 million, respectively.
The following table presents a reconciliation of the preference shares for the six months ended June 30, 2020 and 2019:
 Six Months Ended June 30,
 2020 2019
 ($ in thousands)
Preference shares:   
Balance at the beginning of the period$52,305
 $220,992
Accretion discount and issuance costs on remaining preference shares46
 183
Balance at the end of the period$52,351
 $221,175
17. Share transactions
Share-based compensation
The Company uses share-based compensation plans for officers, other employees and directors of the Parent and its subsidiaries to provide competitive compensation opportunities, to encourage long-term service, to recognize individual contributions and reward achievement of performance goals and to promote the creation of long-term value for shareholders by aligning the interests of such persons with those of shareholders.
The 2018 Stock Incentive Plan (the “2018 Plan”) became effective as of March 28, 2019 following approval by the Board of Directors of the Company and the listing of the Company’s common shares on the Nasdaq Global Select Market. The 2018 Plan provides for the issuance of restricted share units, performance units, restricted shares, performance shares, share options and share appreciation rights and other equity-based awards to the Company’s employees and directors. The 2018 Plan authorizes the issuance of 907,315 common shares and will terminate on March 28, 2029. As of June 30, 2020, 678,437 shares were available for future issuance.
During the first quarter of 2020, the Company granted an aggregate of 63,591 restricted share units and common shares to certain officers, other employees and directors. On the grant date of March 1, 2020, the fair value of the restricted share units and common shares was approximately $23.00 per share. Of the total restricted share units and common shares granted, 14,675 were vested and fully expensed, including 10,870 common shares issued. The remaining 48,916 restricted share units are being amortized over a three-year vesting period, being the requisite service period. There were no forfeitures or expired awards during the second quarter of 2020.

WATFORD HOLDINGS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(U.S. dollars in thousands, except share data)


During the second quarter of 2020, the Company issued 100,958 common shares, of which 27,456 were vested and fully expensed, relating to restricted share units granted on April 26, 2019.
The effect of compensation cost arising from share-based payment awards on the Company’s consolidated statements of income (loss), within “general and administrative expenses,” for the three months ended June 30, 2020 and 2019, was $0.2 million and $2.3 million, respectively. The effect of compensation cost arising from such share-based payment awards for the six months ended June 30, 2020 and 2019 was $0.9 million and $2.3 million, respectively. The compensation cost for the three and six months ended June 30, 2019 included a one-time accelerated long-term incentive expense recognition for retirement eligible employees.
Share repurchase program
In the first quarter of 2020, the board of directors of the Parent authorized the Company’s investment in its common shares through a share repurchase program under which the Company may repurchase up to $50 million of its outstanding common shares (the “current share repurchase program”).
During the first quarter of 2020, the Company purchased 127,744 shares at an average price per share of $22.42 under the current share repurchase program. As of June 30, 2020, approximately $47.1 million of unused share repurchase capacity remained available under the current share repurchase program. Since the inception of the share repurchase programs in 2019, the Company has repurchased a total of 2.9 million shares. At June 30, 2020, the shares are held in treasury, at an aggregate cost of $77.9 million (excluding transaction costs).
Repurchases under the current share repurchase program may be effected from time to time in open market or privately negotiated transactions. The timing and amount of repurchase transactions under this program will depend on a variety of factors, including market conditions and corporate and regulatory considerations. Repurchases of the Company’s common shares in connection with the current share repurchase program and other share-based transactions are recorded at cost and result in a reduction of the Company’s shareholders’ equity in its consolidated balance sheets.
18. Legal proceedings
The Company, in common with the insurance industry in general, is subject to litigation and arbitration in the normal course of its business. As of March 31, 2019,June 30, 2020, the Company was not a party to any litigation or arbitration, which is expected by management to have a material adverse effect on the Company’s results of operations or financial condition and liquidity.
14. Subsequent events
The Company has evaluated known recognized and non-recognized subsequent events. The Company does not have any subsequent events to report.


Item 2. Management’s discussion and analysis of financial condition and results of operations
The following discussion and analysis of our financial condition and results of operations contains forward-looking statements, which involve inherent risks and uncertainties. All statements other than statements of historical fact are forward-looking statements. These statements are based on our current assessment of risks and uncertainties. Actual results may differ materially from those expressed or implied in these statements and, therefore, undue reliance should not be placed on them. Important factors that could cause actual events or results to differ materially from those indicated in such statements are discussed elsewhere in this report, including the sections entitled Part I.I “Financial information - Cautionary note regarding forward-looking statements” and Part II Item 1A “Risk factors.”
This discussion and analysis should be read in conjunction with our consolidated financial statements and notes thereto included elsewhere in Part I Item 1 “Consolidated financial statements” of this report. Tabular amounts are in U.S. dollars in thousands, except share amounts, unless otherwise noted.
Overview
We are a global property and casualty, or P&C, insurance and reinsurance company with approximately $1.2$1.0 billion in total capital as of March 31, 2019,June 30, 2020, comprised of $0.2 billion$172.6 million of senior notes, $52.4 million of contingently redeemable preference shares and $0.9 billion$776.2 million of common shareholders’ equity. Through operations in Bermuda, the United States and Europe, we write insurance and reinsurance on a worldwide basis. Our objective is to deliver attractive returns to shareholders by combining disciplined underwriting with superior investment management. Our strategy combines a diversified, casualty-focused underwriting portfolio, accessed through our multi-year, renewable strategic underwriting management relationship with Arch, with a disciplined investment strategy comprisingcomprised primarily of non-investment grade corporate credit assets, managed by HPS. In addition, we have a services arrangement with AIM and other investment managersInvestment Managers to manage our investment grade portfolio.
While we are positioned to provide a full range of P&C lines, we focus on writing specialty lines of business. We believe that our experienced management team, our relationship with Arch and our strong capital base have enabled us to successfully compete and establish a meaningful presence in the insurance and reinsurance markets in which we participate.
We seek to generate an attractive return on average equity across the relevant insurance and investment cycles. We opportunistically seek to underwrite new lines that fit our return profile while maintaining a disciplined underwriting approach.
Current outlook
The currentoutbreak of COVID-19 began significantly impacting the U.S. and global markets during the 2020 first quarter. Following the 2020 first quarter, the COVID-19 global pandemic has continued to cause unprecedented economic volatility and disruption globally. We remain committed to the safety of our employees, including restricting travel and instituting an extensive work from home policy. These actions have helped prevent a major disruption to our operations or our ability to service our clients.
The impact of the COVID-19 global pandemic on the worldwide economy has changed some aspects of our outlook. There could be elevated claims activity in certain lines of business and growth in written premium may be harder to achieve in a recessionary economy. At this time, there continue to be significant uncertainty surrounding the ultimate number of insurance claims and scope of damage resulting from this pandemic. Our estimates across our insurance and reinsurance lines of business are based on currently available information derived from modeling techniques, preliminary claims information obtained from our clients and brokers, a review of relevant in-force


contracts with potential exposure to the pandemic and estimates of reinsurance recoverables. These estimates include losses related only to claims incurred as of June 30, 2020. Actual losses from these events may vary materially from the estimates due to several factors, including the inherent uncertainties in making such determinations and the evolving nature of this pandemic. In spite of these challenges, we will continue to look for opportunities to find acceptable books of business to underwrite without sacrificing underwriting discipline and will continue to focus on writing medium to long tail business. The severity, duration and long-term impacts of the COVID-19 global pandemic are difficult to predict, but we remain committed to our clients and the markets we serve.
In the quarter, we recorded approximately $5.2 million for COVID-19 global pandemic losses, mainly arising from our property catastrophe line of business. These reserves were established for policies which may provide business interruption coverage, with a smaller provision for certain casualty lines. While it is difficult to accurately quantify our potential exposure to the pandemic, we established this provision during the quarter.
We believe that we are relatively less exposed to COVID-19 global pandemic-related underwriting losses than many industry peers. For example, we have either no, or de minimis, premium writings in life, accident and health, event cancellation, trade credit, travel or pandemic-specific coverages which are likely to respond directly to COVID-19 global pandemic-related losses. With regard to the potential exposure to business interruption losses, we write a limited amount of commercial property exposure, mainly emanating from our property catastrophe line of business, which is consistent with our strategy to target longer duration lines of business. During the second quarter of 2020, we recognized a COVID-19 loss provision of $5.2 million, or 4.0 loss ratio points, almost exclusively arising from business interruption coverage in our property catastrophe reinsurance line of business.
We believe that mortgage insurance may potentially be affected. We write U.S. mortgage risk through a government sponsored enterprise (or “GSE”) credit risk transfer program and have some international mortgage exposure. Most of our exposure is for mortgages that were originated prior to 2018. Based upon an internal actuarial review, we have increased our loss provision in the first six months to account for a potential increase in defaults in our mortgage insurance portfolio.
In April 2020, we significantly reduced our exposure to U.S. mortgage risk by transferring part of that risk to other parties. This action bolstered our economic capital position at a time of significant macro-economic uncertainty. While the transferred business had been profitable, we believe this was a prudent and responsible course of action given the negative and uncertain economic outlook created by the pandemic.
We believe the casualty lines most likely to be adversely affected by the COVID-19 global pandemic are professional and medical malpractice liability. Other than the nominal casualty provision mentioned earlier, we have not added IBNR above our loss reserves for COVID-19 global pandemic losses occurring prior to June 30, 2020.
On a brighter note, we believe the insurance and reinsurance market environment is extremely competitive and reflects a prolonged periodshowing signs of low prices and continued pressurenoticeable price improvement. Primary rates in most casualty lines, with the exception of workers’ compensation, continue to broaden terms and conditions, though the 2017 and 2018 catastrophe events seem to have somewhat dampened the downward pricing pressure. While the insurance and reinsurance market historically has been subject to pricing and capacity cycles, the overall market has not experienced true cyclicality in the period since our inception of operations in 2014. Over the past several years, the industry has witnessed a gradual rate softeningbe strong, albeit, we believe, partly in response to higher perceived social inflation. Property catastrophe reinsurance rates are up meaningfully, retrocession capacity is shrinking, and ceding commissions have reduced modestly on some proportional casualty treaties. We believe the factors supporting a surplus of industry capital and a number ofcontinued favorable pricing environment include the low interest rate environment, three consecutive years of benignsignificant multiple catastrophe activity,events, and this market dynamic has led to reduced underwriting profitability.  However, due tosigns of weakness in the hurricane, wildfire and earthquake activity over the past two years, pricing on certain product lines appears to be firming and becoming more attractive on a risk-adjusted basis. adequacy of prior period loss reserves for some industry participants.
Against this backdrop, we are selectively growing our business in areas that we believe present attractive opportunities.opportunities and meet our risk and return criteria. In particular, we continue to see good growth opportunities in the insurance market. In particular, our insurance underwriting platforms in the United States continue their growth in premiums for 2020.


In this market environment, our BermudaWe also see opportunities on the reinsurance platformside in general liability, commercial auto liability and other casualty lines. Our current underwriting portfolio has maintained its earned premium volume while reshaping its portfolioconcentrations in response to market conditions. We have developed a portfolio with concentrations ingeneral liability, professional liability, multiline, workersworkers’ compensation and motor product lines through reinsurance of third-party cedants on a worldwide basis and retrocessions offrom Arch. We continue to deploy resources opportunistically in product lines that meet our risk and return profile.
Our insurance underwriting platforms in the United States and Europe continue to grow with higher premiums written in the first quarter of 2019.
Our outsourced business model
We have engaged Arch and HPS to perform certain services for us that are essential to the results of our operations, and have entered into long-term, renewable contracts with each in order to ensure continued access to these services. For our underwriting operations, Arch provides underwriting services including sourcing and evaluating underwriting opportunities as well as related services such as claims-handling, loss control, exposure management, portfolio management, modeling, statistical, actuarial and administrative support services, in each case, subject to our underwriting and operational guidelines and the oversight of our senior management and board of directors. With regard to our investments, HPS manages our non-investment grade portfolio while AIM manages the largest portion of our investment grade portfolio, in each case subject to compliance with our investment guidelines and the oversight of our senior management and board of directors. We outsource these functions in order to cost-effectively leverage the respective expertise and strong market positions of our trusted partners. Through our association with Arch, we access Arch’s worldwide platform on a variable cost basis, thus avoiding the fixed expense of maintaining a multi-line platform for our underwriting operations. Similarly, we believe that the terms of service and structure of the compensation we pay to HPS and AIM provide benefits to us both in terms of cost-effective access to the expertise required to execute our investment strategy and in aligning interests.
Natural catastrophe risk
While we are more casualty-focused and assume less catastrophe exposure than many of our peers, we do underwrite a limited amount of natural catastrophe risk in order to balance and diversify our underwriting portfolio. We carefully monitor our natural catastrophe risk globally for all perils and regions where we believe our underwriting portfolio might have significant exposure. Recently, Arch has been increasing its writings in this line in response to an improving rate environment and, as a result, our premiums have grown in proportion.
Limited operating history and comparability of results
We were incorporated in July 2013 and completed our initial funding and began underwriting business in the first quarter of 2014. Our initial underwriting activities focused on writing reinsurance. In 2015, we began our insurance business in connection with the establishment of our U.S. and European insurance platforms. As a result, we have a limited operating history and, given our underwriting and investment strategies, are exposed to volatility in our results of operations that may not be apparent from a review of our historical results. Period-to-period comparisons of our results of operations may not be meaningful. In addition, the amount of premiums written may vary from year to year and period to period as a result of any number of factors, including changes in market conditions and our view of the long-term profit potential of individual lines of business.
Financial measures and ratios
Our management and board of directors use financial indicators and ratios in evaluating our performance and measuring the overall growth in value generated for our common shareholders. The key financial measures that we believe are meaningful in analyzing our performance are: underwriting income (loss), combined ratio, adjusted underwriting income (loss), adjusted combined ratio, net interest income, net interest income yield on average net assets (including the non-investment grade portfolio and investment grade portfolio components thereof), net investment income (loss), net investment income return on average net assets, net investment income return on average total investments (excluding accrued investment income), (including the


average total investments,non-investment grade portfolio and investment grade portfolio components thereof), book value per diluted common share, growth in book value per diluted common share and return on average equity.
The table below shows the key performance indicators for the three and six months ended March 31, 2019June 30, 2020 and 2018, and descriptions of each financial measure shown follow the table:2019:
Three Months Ended March 31,Three Months Ended June 30, Six Months Ended June 30,
2019 20182020 2019 2020 2019
($ in thousands, except percentages and share amounts)($ in thousands, except percentages and per share data)
Key underwriting metrics:          
Underwriting income (loss)$(5,970) $(1,262)$(10,578) $(5,266) $(16,721) $(11,236)
Combined ratio104.1% 101.0 %108.0% 103.5% 106.2 % 103.8%
Adjusted underwriting income (loss)$(3,415) $582
$(6,267) $202
 $(9,281) $(3,213)
Adjusted combined ratio102.3% 99.6 %104.7% 99.9% 103.4 % 101.1%
Key investment return metrics:          
Net interest income$30,434
 $24,139
$27,428
 $26,415
 $55,231
 $56,849
Net interest income yield on average net assets (1)1.5% 1.2 %1.4% 1.2% 2.7 % 2.7%
Non-investment grade portfolio (1)1.9% 1.6 %1.8% 1.6% 3.5 % 3.5%
Investment grade portfolio (1)0.6% 0.4 %0.4% 0.6% 1.0 % 1.2%
Net investment income (loss)$58,354
 $19,536
$199,491
 $23,787
 $(63,208) $82,141
Net investment income return on average net assets (1)2.8% 1.0 %10.0% 1.1% (3.1)% 3.9%
Non-investment grade portfolio (1)3.4% 1.8 %13.1% 1.2% (5.2)% 4.6%
Investment grade portfolio (1)1.1% (0.6)%1.6% 1.0% 2.4 % 2.1%
   
Net investment income return on average total investments (2)2.1% 0.8 %
Net investment income return on average total investments (excluding accrued investment income) (2)7.7% 0.8% (2.4)% 2.9%
Non-investment grade portfolio (2)2.7% 1.5 %10.6% 1.0% (4.3)% 3.7%
Investment grade portfolio (2)1.1% (0.6)%1.6% 1.0% 2.4 % 2.1%
Key shareholders’ value creation metrics:
   
Book value per share - basic and diluted$41.52
 $42.32
Growth in basic and diluted book value per share (3)5.9% 1.3 %
Key shareholders’ value creation metrics:       
Book value per diluted common share (3)$38.82
 $42.07
 $38.82
 $42.07
Growth in book value per diluted share (3)37.6% 1.3% (10.7)% 7.3%
Annualized return on average equity (4)20.8% 5.4 %N.M.
 5.8% (23.6)% 13.2%
N.M. Ratio is not meaningful.
(1) Net interest income yield on average net assets and net investment income return on average net assets are calculated by dividing net interest income, and net investment income (loss), respectively, by average net assets. Net assets is calculated as the sum of total investments, accrued investment income and receivables for securities sold, less revolving credit agreement borrowings, payable for securities purchased and payable for securities sold short. For the three-month period,three and six month periods, average net assets is calculated using the averages of the beginning and ending balance of each quarterly period. However, for the investment grade portfolio component of these returns, the impact of the revolving credit agreement borrowings is not subtracted from net interest income, net investment income (loss), or the net assets calculation. The separate components of these returns (non-investment grade portfolio and investment grade portfolio) are non-U.S. GAAP financial measures. Refer to “-Reconciliation of non-U.S. GAAP financial measures” for a reconciliation of these components of our net interest income yield on average net assets and net investment income return on average net assets.
(2) Net investment income return on average total investments (excluding accrued investment income) is calculated by dividing net investment income by average total investments per the balance sheet.investments. For the three month-period,and six month periods, average total investments is calculated using the averages of the beginning and ending balance of each quarterly period. However, for the investment grade portfolio component of these returns, the impact of revolving credit agreement borrowings is not subtracted from net investment income. The separate components of these returns (non-investment grade portfolio and investment grade portfolio) are non-U.S. GAAP financial measures. Refer to “-Reconciliation of non-U.S. GAAP financial measures” for a reconciliation of these components of our net investment income return on average total investments.investments (excluding accrued investment income).
(3) Book value per diluted common share is calculated by dividing total shareholders’ equity by the number of diluted common shares outstanding at the end of each reporting period. Growth in basic and diluted book value per diluted common share is calculated as the percentage change in value of beginning and ending basic and diluted book value per diluted common share over the reporting period.
(4) Annualized return on average equity represents net income (loss) expressed as a percentage of average commontotal shareholders’ equity during the period. Annualized return on average equity for the three and six months ended March 31,June 30, 2020 and 2019 and 2018 is calculated by extrapolating the quarterly return on average equity over a twelve-month period. For the three-month period,three and six month periods, the average commontotal shareholders’ equity is calculated as the average of the beginning and ending commontotal shareholders’ equity of each quarterly period.


period. Due to the net realized and unrealized gains on investments, the annualized return on average equity calculation is not meaningful for the three months ended June 30, 2020. For the three months ended June 30, 2020 and 2019, the return on average equity was 28.2% and 1.5%, respectively.
Underwriting income (loss)
Underwriting income (loss) is a non-U.S. GAAP financial measure. We define underwriting income (loss) as net premiums earned less loss and loss adjustment expenses, acquisition expenses and general and administrative expenses. Underwriting income (loss) is one of the ways we evaluate the performance of our underwriting segment, and does not include other underwriting income (loss), net investment income (loss), interest expense, net foreign exchange gains (losses), income tax expensesexpense (benefit) and preferredpreference dividends. Although these items are an integral part of our operations, with the exception of other underwriting income (loss), they are independent of the underwriting process and result, in large part, from general economic and financial market conditions. We include other underwriting income (loss) in our adjusted underwriting income (loss), as described in more detail below. See “-Reconciliation of non-U.S. GAAP financial measures” for a reconciliation of underwriting income to net income (loss) available to common shareholders.
Combined ratio
The combined ratio is calculated as the sum of loss and loss adjustment expenses, acquisition expenses and general and administrative expenses, divided by net premiums earned, or equivalently, as the sum of the loss ratio, acquisition expense ratio and general and administrative expense ratio. The combined ratio is a measure of underwriting profitability but does not include other underwriting income or net investment income earned on underwriting cash flows.
Adjusted underwriting income (loss)
Adjusted underwriting income (loss) is a non-U.S. GAAP financial measure. We define adjusted underwriting income (loss) as underwriting income (loss) plus other underwriting income (loss) less certain corporate expenses. Adjusted underwriting income (loss) is one of the ways we evaluate the performance of our underwriting segment. We include other underwriting income (loss), as our underwriting strategy allows us to enter into government-sponsored enterprise credit-risk sharing transactions. Certain corporate expenses are generally comprised of non-recurring costs of the holding company, such as costs associated with the initial setup of subsidiaries, as well as costs associated with the ongoing operations of the holding company, such as salariescompensation of certain executives.executives and costs associated with the initial setup of subsidiaries. See “-Reconciliation of non-U.S. GAAP financial measures” for a reconciliation of adjusted underwriting income to net income (loss) available to common shareholders.
Adjusted combined ratio
Adjusted combined ratio is a non-U.S. GAAP financial measure. The adjusted combined ratio is calculated as the sum of loss and loss adjustment expenses, acquisition expenses and general and administrative expenses less certain corporate expenses, divided by the sum of net premiums earned and other underwriting income (loss). This ratio is a measure of our underwriting and operational profitability but does not include certain corporate expenses or net investment income earned on underwriting cash flows. Certain corporate expenses are generally comprised of non-recurring costs of the holding company, such as costs associated with the initial setup of subsidiaries, as well as costs associated with the ongoing operations of the holding company, such as salariescompensation of certain executives.executives and costs associated with the initial setup of subsidiaries. See “-Reconciliation of non-U.S. GAAP financial measures” for a reconciliation of our adjusted combined ratio to our combined ratio.


Net interest income and net investment income (loss)
Net interest income and net investment income (loss) are important contributors to our financial results. These key investment metrics are impacted by the performance of our Investment Managers as well as the state of the overall financial markets. Net interest income and net investment income (loss) for the three months ended March 31, 2019 and 2018 were comprised of the following:
 Three Months Ended March 31,
 2019 2018
 ($ in thousands)
Interest income$43,141
 $34,645
Investment management fees - related parties(4,409) (4,146)
Borrowings and miscellaneous other investment expenses(8,298) (6,360)
Net interest income30,434
 24,139
Net realized gains (losses)1,282
 (11,641)
Net unrealized gains (losses)32,438
 9,635
Investment performance fees - related parties(5,800) (2,597)
Net investment income (loss)$58,354
 $19,536
    
Net interest income yield on average net assets (1)1.5% 1.2 %
Non-investment grade portfolio (1)1.9% 1.6 %
Investment grade portfolio (1)0.6% 0.4 %
    
Net investment income return on average net assets (1)2.8% 1.0 %
Non-investment grade portfolio (1)3.4% 1.8 %
Investment grade portfolio (1)1.1% (0.6)%
    
Net investment income return on average total investments (2)2.1% 0.8 %
Non-investment grade portfolio (2)2.7% 1.5 %
Investment grade portfolio (2)1.1% (0.6)%
(1) Net interest income yield on average net assets and net investment income return on average net assets are calculated by dividing net interest income, and net investment income (loss), respectively, by average net assets. Net assets is calculated as the sum of total investments, accrued investment income and receivables for securities sold, less revolving credit agreement borrowings, payable for securities purchased and payable for securities sold short. For the three-month period, average net assets is calculated using the averages of the beginning and ending balance of each quarterly period. However, for the investment grade portfolio component of these returns, the impact of the revolving credit agreement borrowings is not subtracted from net interest income, net investment income (loss), or the net assets calculation. The separate components of these returns (non-investment grade portfolio and investment grade portfolio) are non-U.S. GAAP financial measures. Refer to “-Reconciliation of non-U.S. GAAP financial measures” for a reconciliation of these components of our net interest income yield on average net assets and net investment income return on average net assets.
(2) Net investment income return on average total investments is calculated by dividing net investment income by average total investments per the balance sheet. For the three-month period, average total investments is calculated using the averages of the beginning and ending balance of each quarterly period. However, for the investment grade portfolio component of these returns, the impact of revolving credit agreement borrowings is not subtracted from net investment income. The separate components of these returns (non-investment grade portfolio and investment grade portfolio) are non-U.S. GAAP financial measures. Refer to “-Reconciliation of non-U.S. GAAP financial measures” for a reconciliation of these components of our net investment income return on average total investments.
Net interest income yield on average net assets
Net interest income yield on average net assets is calculated by dividing net interest income by average net assets. Net assets is calculated as the sum of total investments, accrued investment income and receivables for securities sold, less revolving credit agreement borrowings, payable for securities purchased and payable for securities sold short. Net interest income yield on average net assets is a key indicator by which we measure the performance of our Investment Managers.



Net investment income return on average net assets
Net investment income return on average net assets is calculated by dividing net investment income (loss) by average net assets. Net assets is calculated as the sum of total investments, accrued investment income and receivables for securities sold, less revolving credit agreement borrowings, payable for securities purchased and payable for securities sold short. Net investment income return on average net assets is a key indicator by which we measure the performance of our Investment Managers.
Net investment income return on average total investments (excluding accrued investment income)
Net investment income return on average total investments (excluding accrued investment income) is calculated by dividing net investment income (loss) by average total investments per the balance sheet.investments. Net investment income return on average total investments (excluding accrued investment income) is a key indicator by which we measure the performance of our Investment Managers.
Non-investment grade portfolio and investment grade portfolio components of certain of our investment metricsmetrics
In order to provide further detail regarding our key investment metrics, we also present the non-investment grade portfolio and investment grade portfolio components of our net interest income yield on average net assets, net investment income return on average net assets and net investment income return on average total investments.investments (excluding accrued investment income).  In the calculation of the investment grade portfolio component of our net interest income yield on average net assets and net investment income return on average net assets, the impact of the revolving credit agreement borrowings is not subtracted from net interest income, net investment income (loss) or the net assets calculation.  The separate components of these returns are non-U.S. GAAP financial measures.  See “-Reconciliation of non-U.S. GAAP financial measures” for a reconciliation of these components of our net interest income yield on average net assets, net investment income return on average net assets and net investment income return on average total investments.investments (excluding accrued investment income).
Growth in basic and diluted book value per diluted common share
Basic andBook value per diluted book value percommon share is calculated by dividing commontotal shareholders’ equity by the number of issued anddiluted common shares outstanding shares at the end of each reporting period. We calculate growth in basic and diluted book value per diluted common share as the percentage change in value of beginning and ending basic and diluted book value per diluted share over the reporting period. Book value per diluted common share is impacted by, among other factors, our underwriting results, our investment returns and our share repurchase activity, which has an accretive or dilutive impact on book value per diluted common share depending on the purchase price.
We measure our long-term financial success by our ability to compound growth in basic and diluted book value per diluted common share at an attractive rate of return. We believe that long-term growth in basic andbook


value per diluted book value percommon share is the most comprehensive measure of our success because it includes all underwriting, operating and investing results.
Return on average equity
Return on average equity is net income (loss) expressed as a percentage of average commontotal shareholders’ equity during the period and is used to measure profitability. Our goal is to generate an attractive long-term return on our common shareholders’ equity.
Comment on non-U.S. GAAP financial measures
Throughout this report, we present our operations in the way we believe will be the most meaningful and useful to investors, analysts, rating agencies and others who will use our financial information in evaluating the performance of our company. This presentation includes the use of underwriting income (loss), adjusted underwriting income (loss), adjusted combined ratio and the separate components of our investment returns (non-investment grade investment portfolio and


investment grade investment portfolio). The presentation of these metrics constitutes non-U.S. GAAP financial measures as defined by applicable SEC rules. We believe that this presentation enables investors and other users of our financial information to analyze our performance in a manner similar to how management analyzes performance. We also believe that this presentation follows industry practice and, therefore, allows the equity analysts and certain rating agencies that follow us and the insurance industry as a whole, as well as other users of our financial information to compare our performance with our industry peer group. See “-Reconciliation of non-U.S. GAAP financial measures” for reconciliations of our non-U.S.such measures to the most directly comparable U.S. GAAP financial measures.measures, in accordance with applicable SEC rules.
Components of our results of operations
Revenues
We derive our revenues from two principal sources:
premiums from our insurance and reinsurance lines of business; and
income from investments.
Premiums from our insurance and reinsurance lines of business are directly related to the number, type, size and pricing of contracts we write. Premiums are earned over the contract period in proportion to the period of risk covered which is typically 12 to 24 months.
Income from our investments is comprised of interest income and net realized and unrealized gains (losses), less investment related expenses as described below.
Expenses
Our expenses consist primarily of the following:
loss and loss adjustment expenses;
acquisition expenses;
general and administrative expenses;
investment related expenses; and
general and administrative expenses.interest expense.
Loss and loss adjustment expenses are a function of the amount and type of contracts and policies we write and of the loss experience of the underlying coverage. Loss and loss adjustment expenses are based on an actuarial analysis of the estimated losses, including losses incurred during the


period and changes in estimates from prior periods. Depending on the nature of the contract, loss and loss adjustment expenses may be paid over a period of years.
Acquisition expenses consist primarily of brokerage fees, ceding commissions, premium taxes, underwriting fees payable to Arch under our services agreements and other direct expenses that relate to our contracts and policies and are presented net of commissions received from reinsurance we purchase. We amortize deferred acquisition expenses over the related contract term in the same proportion that the premiums are earned. Our acquisition expenses may also include profit commissions paid to our sources of business in the event of favorable underwriting experience.
General and administrative expenses consist of salaries and benefits and related costs, legal and accounting fees, travel and client entertainment, fees relating to our letter of credit facilities, information technology, occupancy, the cost of employees made available to us by Arch under the services agreements, and other general operating expenses.
Investment-related expenses primarily consist of management and performance fees we pay to our Investment Managers, as well as interest and other expenses on borrowings from our credit facilities when used to finance a portion of our investments. The fee structure that we pay to HPS related to our non-investment grade portfolio was reduced beginning on January 1, 2018. We currently pay a management fee to HPS related to its management of our non-investment grade portfolio on a quarterly basis equal to 1.0% of net assets. Beginning January 1, 2020, to the extent the aggregate net asset value of the HPS-managed non-investment grade portfolio assets exceeds $1.5 billion, the management fee shall be calculated at a blended annual rate equal to (i) 1.0% of the initial $1.5 billion in net asset value plus (ii) seventy-five basis points (0.75%) of the excess of aggregate net


asset value over $1.5 billion, subject to a minimum blended management fee rate of eighty-five basis points (0.85%) on the aggregate net asset value of the HPS-managed non-investment grade portfolio assets. In addition, on an annual basis, subject to then-applicable high water marks, HPS receives a base performance fee equal to 10% of the income generated on the non-investment grade portfolio, and is eligible to earn an additional performance fee equal to 25% of any such investment income in excess of a net 10% return to us after deduction for paid and accrued management fees and base performance fees, with the total performance fees not to exceed 17.5% of the Income (as defined in the investment management agreements relating to Watford Re, WICE and Watford Trust) or Aggregate Income (as defined in the investment management agreements relating to WSIC and WIC), as applicable.
We have also engaged HPS to manage a portion of our investment grade portfolio as a recently-created separate managed account. As this separate managed account is funded, we willWe pay HPS a management fee equal to 0.60% per annum on the assets.assets in the separate managed account. We also pay AIM monthly asset management fees related to the assets it manages for us. We are not obligated to pay performance fees to any of the Investment Managers managing our investment grade portfolios. We include the HPS non-investment grade portfolio base management fee and the AIM investment grade portfolio management fee in “investment management fees - related parties” in our consolidated statementstatements of income (loss), and as management fees are accrued and paid to HPS in connection with its management of a portion of our investment grade portfolio, we will include such fees therein as well. We include interest and other expenses on borrowings in “borrowing and miscellaneous other investment expenses” in our consolidated statementstatements of income.income (loss). The HPS non-investment grade portfolio performance fee, if applicable, is shown on a separate line in our consolidated statementstatements of income.income (loss).
GeneralInterest expense consists of interest incurred on the $175.0 million aggregate principal amount of 6.5% senior notes due July 2, 2029, or the senior notes, that we issued on July 2, 2019. Interest on the senior notes is paid semi-annually in arrears on each January 2 and administrative expenses consist of salaries and benefits and related costs, legal and accounting fees, travel and client entertainment, fees relating to our letter of credit facilities, information technology, occupancy, the cost of employees made available to us by Arch under the services agreements, and other general operating expenses.July 2, which commenced on January 2, 2020.


Reportable segment
We report results under one segment, which we refer to as our “underwriting segment.” Our underwriting segment captures the results of our underwriting lines of business, which are comprised of specialty products on a worldwide basis. We also have a corporate function that includes accelerated expense for the unamortized original issue discount and underwriting fees relating to the partial redemption of our 8½% cumulative redeemable preference shares, or the preference shares, and interest expense on our senior notes as well as certain operating expenses related to corporate activities referred to as certain corporate expenses. Certain corporate expenses are generally comprised of non-recurring costs of the holding company, such as costs associated with the initial setup of subsidiaries, as well as costs associated with the ongoing operations of the holding company, such as salariescompensation of certain executives and costs associated with the initial setup of subsidiaries (refer to “- Reconciliation of non-U.S. GAAP financial measures” for a discussion about certain corporate expenses).
Recent developments
In December 2019, we entered into an agreement to acquire Axeria IARD, a P&C insurance company based in France. The completion of this acquisition is subject to regulatory approval (which, as of the date of this report, had not been received) and other customary closing conditions, and is expected to close in the second half of 2020. If this pending acquisition is consummated, consistent with our business model, our strategy will be to work closely with Arch to enable Axeria IARD to grow its existing business in France, as well as to develop new insurance opportunities throughout the European Union.
John Rathgeber retired as Chief Executive Officer on March 31, 2020. Mr. Rathgeber served as a senior advisor to the Company from April 1, 2020 to June 30, 2020, and remains a member of Watford’s board of directors. Jonathan D. Levy succeeded Mr. Rathgeber as our Chief Executive Officer. Mr. Levy’s appointment is subject to Bermuda immigration approval.



Consolidated results - for the three and six months ended March 31,June 30, 2020 and 2019 and 2018
The following table summarizes our results of operations for the three and six months ended March 31, 2019June 30, 2020 and 2018:2019:
Three Months Ended March 31,Three Months Ended June 30, Six Months Ended June 30,
2019 % Change 20182020 % Change 2019 2020 % Change 2019
($ in thousands)($ in thousands)
Gross premiums written$186,689
 (12.7)% $213,870
$157,927
 (2.5)% $161,978
 $392,829
 12.7 % $348,667
Gross premiums ceded(41,302)   (34,318)(52,071)   (42,608) (100,273)   (83,910)
Net premiums written145,387
 (19.0)% 179,552
105,856
 (11.3)% 119,370
 292,556
 10.5 % 264,757
Net premiums earned146,094
 6.8 % 136,747
131,535
 (13.1)% 151,318
 271,574
 (8.7)% 297,412
Loss and loss adjustment expenses(110,850)   (97,989)(104,786)   (111,416) (215,462)   (222,266)
Acquisition expenses(33,974)   (34,963)(29,486)   (35,417) (57,853)   (69,391)
General and administrative expenses (1)(7,240)   (5,057)(7,841)   (9,751) (14,980)   (16,991)
Underwriting income (loss) (2)(5,970) (373.1)% (1,262)(10,578) 100.9 % (5,266) (16,721) 48.8 % (11,236)
Other underwriting income (loss)592
   701
868
   673
 1,001
   1,265
Interest income43,141
   34,645
36,453
   38,596
 74,277
   81,737
Investment management fees - related parties(4,409)   (4,146)(4,262)   (4,570) (8,614)   (8,979)
Borrowing and miscellaneous other investment expenses(8,298)   (6,360)(4,763)   (7,611) (10,432)   (15,909)
Net interest income30,434
   24,139
27,428
   26,415
 55,231
   56,849
Realized and unrealized gain (loss) on investments33,720
   (2,006)172,063
   (936) (118,439)   32,784
Investment performance fees - related parties(5,800)   (2,597)—
   (1,692) —
   (7,492)
Net investment income (loss)58,354
   19,536
199,491
 N.M.
 23,787
 (63,208) N.M.
 82,141
Interest expense(2,911)   —
 (5,823)   —
Net foreign exchange gains (losses)(437)   (1,283)2,665
   (441) 7,678
   (878)
Income tax expense—
   (3)
Net income (loss) before preferred dividends52,539
   17,689
Preferred dividends(4,907)   (4,907)
Income tax (expense) benefit402
   (20) 402
   (20)
Net income (loss) before preference dividends189,937
   18,733
 (76,671)   71,272
Preference dividends(1,109)   (4,908) (2,280)   (9,815)
Net income (loss) available to common shareholders$47,632
 272.6 % $12,782
$188,828
 N.M.
 $13,825
 $(78,951) N.M.
 $61,457
Net interest income yield on average net assets (3)1.5%   1.2 %
Non-investment grade portfolio (3)1.9%   1.6 %
Investment grade portfolio (3)0.6%   0.4 %
     
Net investment income return on average net assets (3)2.8%   1.0 %
Non-investment grade portfolio (3)3.4%   1.8 %
Investment grade portfolio (3)1.1%   (0.6)%
     
Net investment income return on average total investments (4)2.1%   0.8 %
Non-investment grade portfolio (4)2.7%   1.5 %
Investment grade portfolio (4)1.1%   (0.6)%
N.M. - Percentage change is not meaningful.



Three Months Ended March 31,Three Months Ended June 30, Six Months Ended June 30,
2019 % Change 20182020 Change 2019 2020 Change 2019
($ in thousands)($ in thousands)
Loss ratio75.9% 4.2 % 71.7%79.7% 6.1 % 73.6% 79.3 % 4.6 % 74.7%
Acquisition expense ratio23.3% (2.3)% 25.6%22.4% (1.0)% 23.4% 21.3 % (2.0)% 23.3%
General & administrative expense ratio4.9% 1.2 % 3.7%5.9% (0.6)% 6.5% 5.6 % (0.2)% 5.8%
Combined ratio104.1% 3.1 % 101.0%108.0% 4.5 % 103.5% 106.2 % 2.4 % 103.8%
                
Adjusted underwriting income (loss)(2)$(3,415)   $582
$(6,267)   $202
 $(9,281)   $(3,213)
Adjusted combined ratio (2)102.3% 2.7 % 99.6%104.7% 4.8 % 99.9% 103.4 % 2.3 % 101.1%
Annualized return on average equity (5)(3)20.8%   5.4%N.M.
   5.8% (23.6)%   13.2%
N.M. - Ratio is not meaningful.
(1) General and administrative expenses include certain corporate expenses. Refer to “Reconciliation of non-U.S. GAAP financial measures-Reconciliation of the adjusted combined ratio,” for a discussion of these certain corporate expenses.
(2) Underwriting income (loss), adjusted underwriting income (loss) and the adjusted combined ratio are non-U.S. GAAP financial measures. Refer to “Reconciliation of non-U.S. GAAP financial measures” for a reconciliation of our underwriting income (loss) to net income (loss) available to common shareholders in accordance with U.S. GAAP, a reconciliation of our adjusted underwriting income (loss) to underwriting income (loss) and a reconciliation of our adjusted combined ratio to our combined ratio.
(3) Net interest income yield on average net assets and net investment income return on average net assets are calculated by dividing net interest income, and net investment income (loss), respectively, by average net assets. Net assets is calculated as the sum of total investments, accrued investment income and receivables for securities sold, less revolving credit agreement borrowings, payable for securities purchased and payable for securities sold short. For the three-month period, average net assets is calculated using the averages of the beginning and ending balance of each quarterly period. However, for the investment grade portfolio component of these returns, the impact of the revolving credit agreement borrowings is not subtracted from net interest income, net investment income (loss), or the net assets calculation. The separate components of these returns (non-investment grade portfolio and investment grade portfolio) are non-U.S. GAAP financial measures. Refer to “-Reconciliation of non-U.S. GAAP financial measures” for a reconciliation of these components of our net interest income yield on average net assets and net investment income return on average net assets.
(4) Net investment income return on average total investments is calculated by dividing net investment income by average total investments per the balance sheet. For the three-month period, average total investments is calculated using the averages of the beginning and ending balance of each quarterly period. However, for the investment grade portfolio component of these returns, the impact of revolving credit agreement borrowings is not subtracted from net investment income. The separate components of these returns (non-investment grade portfolio and investment grade portfolio) are non-U.S. GAAP financial measures. Refer to “-Reconciliation of non-U.S. GAAP financial measures” for a reconciliation of these components of our net investment income return on average total investments.
(5) Annualized return on average equity represents net income (loss) expressed as a percentage of average commontotal shareholders’ equity during the period. Annualized return on average equity for the three and six months ended March 31,June 30, 2020 and 2019 and 2018 is calculated by extrapolating the quarterly return on average equity over a twelve-month period. For the three-month period,three and six month periods, the average commontotal shareholders’ equity is calculated as the average of the beginning and ending commontotal shareholders’ equity of each quarterly period. Due to the net realized and unrealized gains on investments, the annualized return on average equity calculation is not meaningful for the three months ended June 30, 2020. For the three months ended June 30, 2020 and 2019, the return on average equity was 28.2% and 1.5%, respectively.
Results for the three months ended March 31, 2019June 30, 2020 versus 20182019: The net
Net income attributable to common shareholders was $47.6$188.8 million for the three months ended March 31, 2019,June 30, 2020, compared to a net income of $12.8$13.8 million for the three months ended March 31, 2018.June 30, 2019. The 2019 first2020 second quarter net income increase was primarily driven by an increase in net investment income and an increase in foreign exchange gains, offset in part by a slightly higheran increased underwriting loss. loss, compared to the 2019 second quarter.
During the 2019 first2020 second quarter, net investment income increased by $38.9$175.7 million versus the prior year quarter, to $58.4$199.5 million. The increase in net investment income was due to net realized and unrealized gains increasing by $173.0 million, compared to the 2019 second quarter. The 2020 second quarter net investment income reflected a partial recovery in the credit markets during the quarter, following the initial adverse impact of the COVID-19 global pandemic during the 2020 first quarter. The 2020 second quarter increase of underwriting losses of $5.3 million was primarily the result of an increase in the loss ratio offset in part by reductions in the acquisition and general and administrative expense ratios, compared to the 2019 second quarter.
The 2020 second quarter loss ratio was 79.7%, 6.1 points higher than the 2019 second quarter. In the 2020 second quarter, the increase in loss ratio was primarily driven by a COVID-19 global pandemic loss provision of $5.2 million, or 4.0 points, mainly arising from business interruption coverage in the property catastrophe reinsurance business. Other movements in the loss and acquisition expense ratios reflected changes in the mix and type of business. The prior year loss reserve development for both the 2020 and 2019 second quarters was essentially flat.
The 2020 second quarter general and administrative expense ratio was 5.9%, 0.6 points lower than the 2019 second quarter. The decrease versus the prior year second quarter was primarily attributable to a one-time accelerated long-term incentive expense recognized in the 2019 second quarter with no comparable expense booked this quarter.


Results for the six months ended June 30, 2020versus 2019:
Net loss attributable to common shareholders was $79.0 million for the six months ended June 30, 2020, compared to net income of $61.5 million for the six months ended June 30, 2019. The six months ended June 30, 2020 net loss was driven by a decrease in net investment income and an increase in underwriting loss, offset in part by an increase in foreign exchange gains.
During the six months ended June 30, 2020, net investment loss was $63.2 million, versus the prior year comparable period net investment gain of $82.1 million. The net investment loss was primarily due to an increase in net realized and unrealized gains of $35.7 million, compared tolosses in the 20182020 first quarter. The increase was due to a narrowing of credit spreads and changes in the market’s expectations for future interest rate increases, resulting in net realized and unrealized gains of $33.7 million. In addition, net interest income, which is a primary driver of long-term book value growth, increased 26.1%, from $24.1 millionlosses on investments in the 20182020 first quarter reflected the impact of the COVID-19 global pandemic and the adverse economic and market conditions that followed. Conditions partially improved during the 2020 second quarter, resulting in a net realized and unrealized gain of $172.1 million, reducing the year to $30.4date net realized and unrealized loss to $118.4 million.
The 2019 first quarter underwriting loss of $6.0$16.7 million for the six months ended June 30, 2020, compared to the underwriting loss of $11.2 million for the six months ended June 30, 2019, was primarily the result of an increase in the loss ratio, offset in part by a current quarter single property per riskreduction in the acquisition expense ratio compared to the 2019 first half.
The loss ratio for the six months ended June 30, 2020 was 79.3%, 4.6 points higher than a year ago. The increase in the loss ratio partly reflected a COVID-19 global pandemic-related loss provision of approximately $1.2$9.6 million, as well as higher general and administrative costs as a resultor 3.5 points, recognized during the period. Approximately $2.0 million, or 0.7 points, of the expenses incurredincrease in losses was offset by loss sensitive commission decreases, which are reflected as benefits to effect the direct listingacquisition expense ratio. Other movements in the loss and acquisition expense ratios reflected changes in the mix and type of our common shares onbusiness. The prior year loss reserve development for both the Nasdaq Global Select Market. Prior year developmentsix months ended June 30, 2020 and 2019 was essentially flat, with slight favorable development in casualty reinsurance losses offset by slight adverse experience in property catastrophe reinsurance losses, driven by higher industry loss estimates for Typhoon Jebi and Hurricane Irma.



flat.
Premiums
Our underwriting segment captures the results of our underwriting lines of business, which are comprised of specialty products on a worldwide basis. Our four major lines of business are described as follows:
Casualty reinsurance: coverage provided to ceding company clients on third-party liability and workers’ compensation exposures, primarily on a treaty basis. Business written includes coverages such as: executive assurance, medical malpractice liability, other professional liability, workers’ compensation, excess and umbrella liability and excess auto liability.
Other specialty reinsurance: coverage provided to ceding company clients for personal and commercial auto (other than excess auto liability), mortgage, surety, accident and health, workers’ compensation catastrophe, agriculture, marine and aviation.
Property catastrophe reinsurance: protects ceding company clients for most catastrophic losses that are covered in the underlying policies. Perils covered may include hurricane, earthquake, flood, tornado, hail and fire, and coverage for other perils on a case-by-case basis. Property catastrophe reinsurance provides coverage on an excess of loss basis when aggregate losses and loss adjustment expense from a single occurrence of a covered peril exceed the retention specified in the contract.
Insurance programs and coinsurance: targeting program managers and/or coinsurers with unique expertise and niche products offering primary and excess general liability, umbrella liability, professional liability, workers’ compensation, personal and commercial automobile, inland marine and property business with minimal catastrophe exposure.


Gross premiums written
Gross premiums written for the three and six months ended March 31,June 30, 2020 and 2019 and 2018 were as follows:
Three Months Ended March 31,Three Months Ended June 30, Six Months Ended June 30,
2019 20182020 2019 2020 2019
Amount % Amount %Amount % Amount % Amount % Amount %
($ in thousands)($ in thousands)
Casualty reinsurance$75,601
 40.5% $85,963
 40.2%$25,125
 15.9% $32,557
 20.1% $108,943
 27.7% $108,158
 31.0%
Other specialty reinsurance24,298
 13.0% 64,499
 30.2%21,080
 13.4% 37,836
 23.4% 57,960
 14.8% 62,134
 17.8%
Property catastrophe reinsurance5,992
 3.2% 3,845
 1.8%11,253
 7.1% 5,929
 3.7% 21,085
 5.4% 11,921
 3.4%
Insurance programs and coinsurance80,798
 43.3% 59,563
 27.9%100,469
 63.6% 85,656
 52.8% 204,841
 52.1% 166,454
 47.8%
Total$186,689
 100.0% $213,870
 100.0%$157,927
 100.0% $161,978
 100.0% $392,829
 100.0% $348,667
 100.0%
Results for the three months ended March 31, 2019June 30, 2020 versus 2018: 2019:
Gross premiums written were $186.7$157.9 million for the three months ended March 31, 2019June 30, 2020 compared to $213.9$162.0 million for the three months ended March 31, 2018,June 30, 2019, a decrease of $27.2$4.1 million, or 12.7%2.5%. The three months ended March 31, 2018 results included the renewal of a $24.0 million multi-year contract withinPremium decreases in casualty reinsurance and other specialty reinsurance, in which all of the written premium for the 3-year term was booked that quarter with no comparable written premium in the first quarter of 2019. Adjusting for that multi-year contract, gross premiums written were down 1.5%.
Premium reductions in other specialty reinsurance and casualty reinsurance were offset in part by premium written growth of $21.2 millionincreases in ourinsurance programs and coinsurance and property catastrophe reinsurance.
Our insurance programs and coinsurance line of business gross premiums written increased $14.8 million, or 17.3%, to $100.5 million. The premium growth was driven by the continued expansion of our U.S. and European insurance programs and coinsurance.


During the 2019 first2020 second quarter, WICEthe U.S. platform increased gross premiums written by $10.1 million, or 34.2%, to $39.7 million. Premium growth in the United States was driven by increased writings for commercial auto, where we are seeing significant rate improvement. This growth was partially offset by premium reductions in one U.S. insurance program in which the underlying insureds either reported lower revenues or canceled their policies in the face of the economic shutdown related to the COVID-19 global pandemic. In addition, during the 2020 second quarter, the European platform increased its insurance gross premiums written by $9.6$4.7 million, or 21.4%8.4%, to $54.8$60.8 million. The increase in gross premiums written primarily related to increased U.K. motor writings.
Our property catastrophe reinsurance gross premiums written increased 89.8% over the prior year quarter, from $5.9 million to $11.3 million. Our primary involvement in this line of business is a restructured insurance program on which we previously participated on7.5% quota share participation of ARL’s worldwide property catastrophe excess of loss portfolio. Recently, Arch has been increasing its writings in this line in response to an improving rate environment and, as a coinsurance basis,result, our premiums have grown in proportion.
Casualty and now writeother specialty reinsurance gross premiums written were down $7.4 million and $16.8 million, or 22.8% and 44.3%, respectively, over the entire program ourselves and cede a portionprior year quarter.
The casualty reinsurance decrease was primarily due to the continued impact of the risk to maintain a similar net position.
In addition, during the 2019 first quarter WSICnon-renewal of one multi-line quota share contract as well as the continued impact of gradually reduced participations over time on one cedant’s professional liability reinsurance program, which was not renewed in the second quarter of 2020. In addition, the multi-line quota share contract included a $4 million negative premium adjustment for prior underwriting years. Partially offsetting these premium decreases, the casualty reinsurance line grew its U.K. motor excess-of-loss writings as a result of significant rate increases.
The other specialty reinsurance premium decrease was partially due to a $6.2 million contract written and WICearned in the prior year quarter with no comparable premium this quarter. In addition,


mortgage reinsurance premium decreased as a result of the reduction in our exposure to U.S. mortgage risk, which became effective this quarter. Lastly, we reduced our premium estimates on certain commercial auto quota share programs. The premium estimate reductions were primarily driven by reduced economic activity related to the COVID-19 global pandemic.
Results for the six months ended June 30, 2020versus 2019:
Gross premiums written were $392.8 million for the six months ended June 30, 2020 compared to $348.7 million for the six months ended June 30, 2019, an increase of $44.2 million, or 12.7%.
The increase primarily related to premium increases in insurance programs and coinsurance and property catastrophe reinsurance, which were offset in part by a slight written premium reduction in other specialty reinsurance. Casualty reinsurance gross written premiums remained flat period over period.
The $38.4 million growth in our insurance programs and coinsurance line of business was driven by the continued expansion of our U.S. and European insurance programs and coinsurance. During the six months ended June 30, 2020, the U.S. business collectively grew theirits insurance programs’ gross premiums written by $11.6$36.8 million, or 80.5%66.2%, to $26.0$92.3 million. Premium growth in the United States was driven by increased writings for commercial auto, where there was significant rate improvement. In addition, during the six months ended June 30, 2020, our European business increased its insurance gross premiums written by $1.6 million, or 1.5%, to $112.5 million.
Our property catastrophe reinsurance gross premiums written increased 76.9% over the prior year period. Our primary involvement in this line of business is a 7.5% quota share participation of ARL’s worldwide property catastrophe excess of loss portfolio. Recently, Arch has been increasing its writings in this line in response to an improving rate environment and, as a result, our premiums have grown in proportion.
Premiums ceded
Premiums ceded were $41.3$52.1 million for the three months ended March 31, 2019,June 30, 2020, compared to $34.3$42.6 million for the three months ended March 31, 2018,June 30, 2019, an increase of $7.0$9.5 million. Premiums ceded were $100.3 million or 20%. Thefor the six months ended June 30, 2020, compared to $83.9 million for the six months ended June 30, 2019, an increase inof $16.4 million. In each of the three and six month periods, the premiums ceded primarily relatedincreased compared to the restructuredprior year periods, as our U.S. and European insurance program discussed above. Additionally,gross premiums ceded to Arch increased primarily relating to their participation on our WICE, WSIC and WIC outward quota share retrocession agreements, reflecting the gross premium written growth in these platforms.have grown.
Net premiums written
Net premiums written for the three and six months ended March 31,June 30, 2020 and 2019 and 2018 were as follows:
Three Months Ended March 31,Three Months Ended June 30, Six Months Ended June 30,
2019 20182020 2019 2020 2019
Amount % Amount %Amount % Amount % Amount % Amount %
($ in thousands)($ in thousands)
Casualty reinsurance$75,065
 51.6% $85,695
 47.7%$24,774
 23.4% $32,077
 26.9% $108,441
 37.0% $107,142
 40.4%
Other specialty reinsurance23,182
 15.9% 57,538
 32.0%19,843
 18.8% 36,523
 30.6% 55,327
 18.9% 59,705
 22.6%
Property catastrophe reinsurance5,982
 4.1% 3,834
 2.1%10,506
 9.9% 5,621
 4.7% 20,338
 7.0% 11,603
 4.4%
Insurance programs and coinsurance41,158
 28.3% 32,485
 18.1%50,733
 47.9% 45,149
 37.8% 108,450
 37.1% 86,307
 32.6%
Total$145,387
 100.0% $179,552
 100.0%$105,856
 100.0% $119,370
 100.0% $292,556
 100.0% $264,757
 100.0%
Results for the three months ended March 31, 2019June 30, 2020 versus 20182019:


Net premiums written were $145.4$105.9 million for the three months ended March 31, 2019June 30, 2020 compared to $179.6$119.4 million for the three months ended March 31, 2018,June 30, 2019, a decrease of $34.2$13.5 million, or 19.0%11.3%. The decrease in our net premiums written was a result of the reduction in gross premiums written and the increase in premiums ceded, as discussed above.
Results for the six months ended June 30, 2020versus 2019:
Net premiums written were $292.6 million for the six months ended June 30, 2020 compared to $264.8 million for the six months ended June 30, 2019, an increase of $27.8 million, or 10.5%. The increase in our net premiums written was in line with our gross premiums written and ceded premium movements discussed above.


Net premiums earned
Net premiums earned for the three and six months ended March 31,June 30, 2020 and 2019 and 2018 were as follows:
Three Months Ended March 31,Three Months Ended June 30, Six Months Ended June 30,
2019 20182020 2019 2020 2019
Amount % Amount %Amount % Amount % Amount % Amount %
($ in thousands)($ in thousands)
Casualty reinsurance$63,313
 43.3% $67,741
 49.5%$48,146
 36.6% $67,506
 44.5% $100,911
 37.2% $130,819
 44.1%
Other specialty reinsurance44,561
 30.5% 37,778
 27.6%29,876
 22.7% 42,635
 28.2% 65,240
 24.0% 87,196
 29.3%
Property catastrophe reinsurance2,971
 2.0% 2,636
 1.9%5,824
 4.4% 3,119
 2.1% 10,708
 3.9% 6,090
 2.0%
Insurance programs and coinsurance35,249
 24.1% 28,592
 20.9%47,689
 36.3% 38,058
 25.2% 94,715
 34.9% 73,307
 24.6%
Total$146,094
 100.0% $136,747
 100.0%$131,535
 100.0% $151,318
 100.0% $271,574
 100.0% $297,412
 100.0%
Results for the three months ended March 31, 2019June 30, 2020 versus 20182019:
Net premiums earned were $146.1$131.5 million for the three months ended March 31, 2019June 30, 2020 compared to $136.7$151.3 million for the three months ended March 31, 2018, an increaseJune 30, 2019, a decrease of $9.3$19.8 million, or 6.8%13.1%. The increasedecrease in net premiums earned reflected reduced participations and non-renewals for certain casualty reinsurance deals. In addition, the decrease in other specialty reinsurance premiums was duedriven by a contract written and earned in 2019, with no comparable premium this quarter, as well as a reduction in our exposure to growthU.S. mortgage risk. These decreases were partially offset by increased writings in insurance programs and coinsurance, and, to a lesser extent, greater assumed property catastrophe reinsurance during 2020.
Results for the six months ended June 30, 2020versus 2019:
Net premiums earned were $271.6 million for the six months ended June 30, 2020 compared to $297.4 million for the six months ended June 30, 2019, a decrease of the WICE, WSIC and WIC platforms and the aggregate effect of earned premium recognition relating to$25.8 million, or 8.7%. The decrease in net premiums writtenearned reflected non-renewals and gradual reductions of participations in various contracts in the second half of 2019, first quarteras discussed in more detail above. This was partially offset by increased writings in insurance programs and prior periods.coinsurance, and, to a lesser extent, greater assumed property catastrophe reinsurance during 2020.


Loss ratio
The following table shows the components of our loss and loss adjustment expenses for the three and six months ended March 31, 2019June 30, 2020 and 2018:2019:
Three Months Ended March 31,Three Months Ended June 30, Six Months Ended June 30,
2019 20182020 2019 2020 2019
Loss and Loss Adjustment Expenses % of Earned Premiums Loss and Loss Adjustment Expenses % of Earned PremiumsLoss and Loss Adjustment Expenses % of Earned Premiums Loss and Loss Adjustment Expenses % of Earned Premiums Loss and Loss Adjustment Expenses % of Earned Premiums Loss and Loss Adjustment Expenses % of Earned Premiums
($ in thousands)($ in thousands)
Current year$110,901
 75.9% $97,386
 71.3%$104,993
 79.9 % $111,494
 73.7 % $215,849
 79.5 % $222,395
 74.8 %
Prior year development (favorable)/adverse(51) —% 603
 0.4%(207) (0.2)% (78) (0.1)% (387) (0.2)% (129) (0.1)%
Loss and loss adjustment expenses$110,850
 75.9% $97,989
 71.7%$104,786
 79.7 % $111,416
 73.6 % $215,462
 79.3 % $222,266
 74.7 %
Results for the three months ended March 31, 2019June 30, 2020 versus 20182019:
Our loss ratio was 75.9%79.7% for the three months ended March 31, 2019,June 30, 2020, compared to 71.7%73.6% for the three months ended March 31, 2018,June 30, 2019, an increase of 4.2%. 6.1 points. The increase in loss ratio was primarily driven by COVID-19 global pandemic related losses of $5.2 million, or 4.0 points, which mainly impacted the business interruption coverage in our property catastrophe reinsurance business. Other movements reflected changes in the mix and type of business. The prior year loss reserve development for both the 2020 and 2019 second quarters was essentially flat.
Results for the six months ended June 30, 2020versus 2019:
Our loss ratio this quarter was impacted by a single property per risk loss79.3% for the six months ended June 30, 2020, compared to 74.7% for the six months ended June 30, 2019, an increase of $1.2 million, adding roughly 0.8 points to the combined ratio. In addition,4.6 points. The increase in the loss ratio increased duepartly reflected losses incurred related to the COVID-19 global pandemic of $9.6 million, or 3.5 points, which impacted our property catastrophe business, and, to a changelesser extent, mortgage reinsurance business and cyber reinsurance within our other specialty reinsurance line of business. Approximately $2.0 million, or 0.7 points, of the increase in losses was offset by loss sensitive commission decreases, which are reflected as benefits to the acquisition expense ratio. Other movements in the loss ratio reflected changes in mix and type of business driven by an increased percentage of insurance net premiums earnedbusiness. The prior year loss reserve development for the six months ended June 30, 2020 and a greater percentage of premiums earned on certain contracts with higher2019 was essentially flat.
Refer to Note 5, “Reserve for losses and loss ratios and corresponding lower acquisition expenses.adjustment expenses” to our consolidated financial statements for more information about our prior year reserve development.
Acquisition expense ratio
Results for the three months ended March 31, 2019June 30, 2020 versus 20182019:
Our acquisition expense ratio was 23.3%22.4% for the three months ended March 31, 2019, a reduction of 2.3% fromJune 30, 2020, compared to 23.4% for the three months ended March 31, 2018.June 30, 2019, a decrease of 1.0 point. The lower acquisition expense ratio this quarter reflected changes in mix and type of business.
Results for the six months ended June 30, 2020versus 2019:
Our acquisition expense ratio was 21.3% for the six months ended June 30, 2020, compared to 23.3% for the six months ended June 30, 2019, a decrease of 2.0 points. The lower acquisition expense ratio was largely driven by an increased percentage of insurance programs and coinsurance net premiums earned and a greater percentage of premiums earned onits lower associated acquisition expense ratio, plus certain contracts with higher loss ratios and corresponding lower acquisition expenses.sliding scale commission reductions offsetting increases in losses incurred related to the COVID-19 global pandemic, as discussed above.


General and administrative expense ratio
Results for the three months ended March 31, 2019June 30, 2020 versus 20182019:
Our general and administrative expense ratio was 4.9%5.9% for the three months ended March 31, 2019,June 30, 2020, compared to 3.7%6.5% for the three months ended March 31, 2018.June 30, 2019. The 0.6 point decrease was primarily attributable to a one-time accelerated long-term incentive expense recognized in the 2019 second quarter with no comparable expense this quarter.
Results for the six months ended June 30, 2020versus 2019:
Our general and administrative expense ratio increased duewas 5.6% for the six months ended June 30, 2020, compared to 5.8% for the six months ended June 30, 2019. The 0.2 point decrease was primarily attributable to a one-time expenses and direct listing fees; an increaseaccelerated long-term incentive expense recognized in expenses reimbursable to Arch; and higher professional fees.the 2019 second quarter.
Combined ratio
Results for the three months ended March 31, 2019June 30, 2020 versus 20182019:
Our combined ratio was 104.1%108.0% for the three months ended March 31, 2019,June 30, 2020, compared to 101.0%103.5% for the three months ended March 31, 2018,June 30, 2019, an increase of 3.1%4.5%. In the 2019 first2020 second quarter, there was a 4.26.1 point increase in the loss ratio, a 1.2 point increase in the general and administrative expense ratio, offset in part by a 2.31.0 point decrease in the acquisition expense ratio and a 0.6 point decrease in the general and administrative expense ratio, versus the prior period, as described above.
Results for the six months ended June 30, 2020versus 2019:
Our combined ratio was 106.2% for the six months ended June 30, 2020, compared to 103.8% for the six months ended June 30, 2019, an increase of 2.4%. In the first six months of 2020, there was a 4.6 point increase in the loss ratio, offset in part by a 2.0 point decrease in acquisition expense ratio and a 0.2 point decrease in the general and administrative expense ratio, versus the prior year period, as described above.


Investing results
The following table summarizes the components of total investment income:
Three Months Ended March 31,Three Months Ended June 30, Six Months Ended June 30,
2019 20182020 2019 2020 2019
($ in thousands)($ in thousands)
Interest income$43,141
 $34,645
$36,453
 $38,596
 $74,277
 $81,737
Investment management fees - related parties(4,409) (4,146)(4,262) (4,570) (8,614) (8,979)
Borrowing and miscellaneous other investment expenses(8,298) (6,360)(4,763) (7,611) (10,432) (15,909)
Net interest income30,434
 24,139
27,428
 26,415
 55,231
 56,849
Net realized gains (losses) on investments1,282
 (11,641)(6,001) 789
 (11,047) 2,071
Net unrealized gains (losses) on investments32,438
 9,635
178,064
 (1,725) (107,392) 30,713
Investment performance fees - related parties(5,800) (2,597)—
 (1,692) —
 (7,492)
Net investment income (loss)$58,354
 $19,536
$199,491
 $23,787
 $(63,208) $82,141
          
Net interest income yield on average net assets (1)1.5% 1.2 %1.4% 1.2% 2.7 % 2.7%
Non-investment grade portfolio (1)1.9% 1.6 %1.8% 1.6% 3.5 % 3.5%
Investment grade portfolio (1)0.6% 0.4 %0.4% 0.6% 1.0 % 1.2%
Net investment income return on average net assets (1)2.8% 1.0 %10.0% 1.1% (3.1)% 3.9%
Non-investment grade portfolio (1)3.4% 1.8 %13.1% 1.2% (5.2)% 4.6%
Investment grade portfolio (1)1.1% (0.6)%1.6% 1.0% 2.4 % 2.1%
Net investment income return on average total investments (2)2.1% 0.8 %
Net investment income return on average total investments (excluding accrued investment income) (2)7.7% 0.8% (2.4)% 2.9%
Non-investment grade portfolio (2)2.7% 1.5 %10.6% 1.0% (4.3)% 3.7%
Investment grade portfolio (2)1.1% (0.6)%1.6% 1.0% 2.4 % 2.1%
(1) Net interest income yield on average net assets and net investment income return on average net assets are calculated by dividing net interest income, and net investment income (loss), respectively, by average net assets. Net assets is calculated as the sum of total investments, accrued investment income and receivables for securities sold, less revolving credit agreement borrowings, payable for securities purchased and payable for securities sold short. For the three-month period,three and six month periods, average net assets is calculated using the averages of the beginning and ending balance of each quarterly period. However, for the investment grade portfolio component of these returns, the impact of the revolving credit agreement borrowings is not subtracted from net interest income, net investment income (loss), or the net assets calculation. The separate components of these returns (non-investment grade portfolio and investment grade portfolio) are non-U.S. GAAP financial measures. Refer to “-Reconciliation of non-U.S. GAAP financial measures” for a reconciliation of these components of our net interest income yield on average net assets and net investment income return on average net assets.
(2) Net investment income return on average total investments (excluding accrued investment income) is calculated by dividing net investment income by average total investments per the balance sheet.investments. For the three-month period,three and six month periods, average total investments is calculated using the averages of the


beginning and ending balance of each quarterly period. However, for the investment grade portfolio component of these returns, the impact of revolving credit agreement borrowings is not subtracted from net investment income. The separate components of these returns (non-investment grade portfolio and investment grade portfolio) are non-U.S. GAAP financial measures. Refer to “-Reconciliation of non-U.S. GAAP financial measures” for a reconciliation of these components of our net investment income return on average total investments.investments (excluding accrued investment income).
Results for the three months ended March 31, 2019June 30, 2020 versus 20182019:
Net investment income was $58.4$199.5 million for the three months ended March 31, 2019June 30, 2020 compared to net investment income of $19.5$23.8 million for the three months ended March 31, 2018,June 30, 2019, an increase of $38.9$175.7 million. The 2019 first2020 second quarter net investment income return on average net assets was 2.8%10.0% as compared to 1.0%1.1% for the prior period.
The 2019 first2020 second quarter net investment return was driven by net unrealized gains of $178.1 million which reflected a partial recovery of the credit market during the quarter, following the initial


adverse impact of the COVID-19 global pandemic during the 2020 first quarter. Net interest income increased to $27.4 million from $26.4 million, an increase of 3.8% quarter over quarter.
The 2020 second quarter non-investment grade portfolio net interest income was $25.7 million, compared to net interest income of $30.4$26.2 million in the first quarter of 2020 and $24.5 million in the second quarter of 2019. The slight decrease in net interest income in the 2020 second quarter versus the 2020 first quarter can be attributed to a portfolio shift to higher rated instruments, as well as a decrease in LIBOR through the second quarter. The net realized and unrealized gains reported in the 2020 second quarter were $163.1 million, reflective of the partial market recovery discussed above.
The 2020 second quarter investment grade portfolio net interest income yield was 0.4%, a decrease from 0.6% in the prior year quarter. The reduced yield this quarter reflected a reduction in interest rates versus the prior year quarter. In addition, the investment grade portfolio recognized $8.9 million of net realized gains in the quarter as compared to gains of $1.0 million in the second quarter of 2019. The investment grade results reflected collateral management actions in the quarter. We sold certain assets held in collateral trusts as the collateral requirements had changed. Given the interest rate movements in the quarter, these assets realized net gains on disposal.
Results for the six months ended June 30, 2020versus 2019:
Net investment loss was $63.2 million for the six months ended June 30, 2020 compared to net investment income of $82.1 million in the prior year period, a decrease of $145.3 million. For the six months ended June 30, 2020, the net investment income return on average net assets was (3.1)% as compared to 3.9% for the prior year period.
The net investment loss for the six months ended June 30, 2020 was driven by net realized and unrealized losses of $118.4 million, compared to net realized and unrealized gains of $33.7$32.8 million due to a narrowing of credit spreads and changes in the market’s expectations for future interest rate increases.prior year period. Net realized and unrealized losses in the first half of 2020 were driven by investment market volatility caused by the economic shutdown mandated by governments around the world related to the COVID-19 global pandemic, which partially recovered in the second quarter of 2020.
The non-investment grade portfolio net interest income yield for the six months ended June 30, 2020 was 1.9%3.5%, an increase from 1.6%remaining consistent with the prior year period. Net investment income return on average net assets was (5.2)% for the six months ended June 30, 2020, compared to 4.6% in the prior period reflecting changes in the LIBOR index rate for our floating rate instruments, and an increase in borrowings for investments from 15.4% to 21.1% of net assets.
The netyear period. Net realized and unrealized losses reported through the six months ended June 30, 2020 totaled $129.6 million driven by investment market volatility caused by the economic shutdown mandated by governments around the world related to the COVID-19 global pandemic, which partially recovered in the second quarter of 2020.
The investment grade portfolio net interest income yield for the six months ended June 30, 2020 was 1.0%, a decrease from 1.2% in the prior year period. The reduction in net interest income yield was driven by lower interest rates period over period. In addition, the investment grade portfolio recognized $11.1 million of net realized gains reported in the first quarter 2019 forhalf of 2020 compared to gains of $1.0 million in the non-investment grade and investment grade portfolios were $28.9 million and $4.8 million, respectively.first half of 2019. The first quarter 2019investment-grade results reflected the narrowing of high yield and leverage loan credit spreads and changescollateral management actions in the market’s expectations for futuresecond quarter. We sold certain assets that were held in collateral trust as the collateral requirements had changed. Given the interest rate increases.movements in the period, these assets realized net gains on disposal.
Growth in basic and diluted book value per diluted common share
Results for the three months ended March 31, 2019June 30, 2020 versus 20182019:Basic and diluted book
Book value per diluted common share was $41.52$38.82 as of June 30, 2020, compared to $28.21 per share as of March 31, 2020, an increase of $10.61, or 37.6%. The increase was driven by the higher fair value of the investment portfolios as the credit markets partially recovered during the quarter,


resulting in net realized and unrealized gains of $172.1 million and other comprehensive income of $23.0 million.
Results for the six months ended June 30, 2020versus 2019:
Book value per diluted common share was $38.82 as of June 30, 2020, compared to $39.22$43.49 per share as of December 31, 2018, an increase2019, a decrease of $2.30$4.67 or 5.9%10.7%. The increasedecrease was driven by net investment income of $58.4 million, offset in part by an underwriting loss of $6.0 million during the three months ended March 31, 2019.
Return on average equity
Results for the three months ended March 31, 2019versus 2018:Our annualized return on average equity was 20.8% for the three months ended March 31, 2019, compared to 5.4% for the three months ended March 31, 2018. The increase in return on average equity wasprimarily driven by a net investment incomeloss of $58.4$63.2 million and other comprehensive losses of $14.8 million. The net realized and unrealized investment losses in the 2020 first quarter were offset in part by an underwriting loss of $6.0 millionnet realized and unrealized gains in the 2020 second quarter. The net realized and unrealized gains can be attributed to the partial recovery in the credit markets during the three months ended March 31, 2019.2020 second quarter.




Reconciliation of non-U.S. GAAP financial measures
Underwriting income (loss), adjusted underwriting income (loss), adjusted combined ratio and the non-investment grade portfolio and investment grade portfolio components of our investment returns (net interest income yield on average net assets, and net investment income return on average net assets and on average total investments (excluding accrued investment income), respectively) are non-U.S. GAAP financial measures. We use these measures, together with the GAAP financial statements, to provide information that assists with analyzing our performance. As a result, certain income and expense items are excluded from these measures in an effort to allow an effective analysis. With respect to expenses, we do not view certain operating expenses related to corporate activities, referred to as certain corporate expenses, as part of our underwriting activities. These expenses are generally comprised of non-recurring costs of the holding company, such as costs associated with the initial setup of subsidiaries, as well as costs associated with the ongoing operations of the holding company, such as salariescompensation of certain executives.executives and costs associated with the initial setup of subsidiaries. The following are descriptions of each of the non-U.S. GAAP financial measures used by us.
Underwriting income (loss) is useful in evaluating our underwriting performance, without regard to other underwriting income (losses), net investment income (losses), interest expense, net foreign exchange gains (losses), income tax expensesexpense (benefit) and preferredpreference dividends.
Adjusted underwriting income (loss) is useful in evaluating our underwriting performance, without regard to net investment income (losses), interest expense, net foreign exchange gains (losses), income tax expenses, preferredexpense (benefit), preference dividends and certain corporate expenses (which are described in more detail above). We define underwriting income (loss) as net premiums earned, less loss and loss adjustment expenses, acquisition expenses and general and administrative expenses, and we define adjusted underwriting income (loss) as underwriting income (loss) plus other underwriting income (loss) less certain corporate expenses. Our adjusted combined ratio is a key indicator of our profitability, without regard to certain corporate expenses. We calculate the adjusted combined ratio by dividing the sum of loss and loss adjustment expenses, acquisition expenses and general and administrative expenses less certain corporate expenses by the sum of net premiums earned and other underwriting income (loss).
The non-investment grade portfolio and investment grade portfolio components of our investment returns (net interest income yield on average net assets, and net investment income return on average net assets and on average total investments (excluding accrued investment income), respectively) are useful in evaluating our investment performance. The non-investment grade portfolio component of these investment returns reflect the performance of our investment strategy under HPS, which includes the use of leverage. The investment grade portfolio component of these investment returns reflect the performance of the investment portfolios that predominantly support our underwriting collateral.
We use underwriting income (loss), adjusted underwriting income (loss) and the adjusted combined ratio and the separate components of our returns (non-investment grade portfolio and investment grade portfolio) as internal performance measures in the management of our operations because we believe they give us and users of our financial information useful insight into our results of operations and our underlying business performance. Underwriting income (loss) and adjusted underwriting (income) loss should not be viewed as a substitute for net income (loss) calculated in accordance with U.S. GAAP, and our adjusted combined ratio should not be viewed as a substitute for our combined ratio. Furthermore, other companies may define these measures differently.


Reconciliation of underwriting income (loss) and adjusted underwriting income (loss)
Underwriting income (loss) reconciles to net income (loss) available to common shareholders, and adjusted underwriting income (loss) reconciles to underwriting income (loss) for the three and six months ended March 31,June 30, 2020 and 2019 and 2018 as follows:
Three Months Ended March 31,Three Months Ended June 30, Six Months Ended June 30,
2019 20182020 2019 2020 2019
($ in thousands)($ in thousands)
Net income (loss) available to common shareholders$47,632
 $12,782
$188,828
 $13,825
 $(78,951) $61,457
Preferred dividends4,907
 4,907
Net income (loss) before dividends52,539
 17,689
Income tax expense—
 3
Preference dividends1,109
 4,908
 2,280
 9,815
Net income (loss) before preference dividends189,937
 18,733
 (76,671) 71,272
Income tax expense (benefit)(402) 20
 (402) 20
Interest expense2,911
 —
 5,823
 —
Net foreign exchange (gains) losses437
 1,283
(2,665) 441
 (7,678) 878
Net investment (income) loss(58,354) (19,536)(199,491) (23,787) 63,208
 (82,141)
Other underwriting (income) loss(592) (701)(868) (673) (1,001) (1,265)
Underwriting income (loss)(5,970) (1,262)(10,578) (5,266) (16,721) (11,236)
Certain corporate expenses1,963
 1,143
3,443
 4,795
 6,439
 6,758
Other underwriting income (loss)592
 701
868
 673
 1,001
 1,265
Adjusted underwriting income (loss)$(3,415) $582
$(6,267) $202
 $(9,281) $(3,213)



Reconciliation of the adjusted combined ratio
The adjusted combined ratio reconciles to the combined ratio for the three and six months ended March 31,June 30, 2020 and 2019 and 2018 as follows:
Three Months Ended March 31,Three Months Ended June 30,
2019 20182020 2019
Amount Adjustment As Adjusted Amount Adjustment As AdjustedAmount Adjustment As Adjusted Amount Adjustment As Adjusted
($ in thousands)($ in thousands)
Losses and loss adjustment expenses$110,850
 $—
 $110,850
 $97,989
 $—
 $97,989
$104,786
 $—
 $104,786
 $111,416
 $—
 $111,416
Acquisition expenses33,974
 —
 33,974
 34,963
 —
 34,963
29,486
 —
 29,486
 35,417
 —
 35,417
General & administrative expenses (1)7,240
 (1,963) 5,277
 5,057
 (1,143) 3,914
7,841
 (3,443) 4,398
 9,751
 (4,795) 4,956
Net premiums earned (1)(2)146,094
 592
 146,686
 136,747
 701
 137,448
131,535
 868
 132,403
 151,318
 673
 151,991
                      
Loss ratio75.9%     71.7%    79.7%     73.6%    
Acquisition expense ratio23.3%     25.6%    22.4%     23.4%    
General & administrative expense ratio (1)4.9%     3.7%    5.9%     6.5%    
Combined ratio104.1%     101.0%    108.0%     103.5%    
Adjusted loss ratio    75.6%     71.3%    79.1%     73.3%
Adjusted acquisition expense ratio    23.2%     25.4%    22.3%     23.3%
Adjusted general & administrative expense ratio    3.5%     2.9%    3.3%     3.3%
Adjusted combined ratio    102.3%     99.6%    104.7%     99.9%
(1) Adjustments include certain corporate expenses, which are deducted from general and administrative expenses, and other underwriting income (loss), which is added to net premiums earned.
(2) The adjustment to net premiums earned relates to “other underwriting income” from underwriting contracts accounted for as derivatives.


 Six Months Ended June 30,
 2020 2019
 Amount Adjustment As Adjusted Amount Adjustment As Adjusted
 ($ in thousands)
Losses and loss adjustment expenses$215,462
 $—
 $215,462
 $222,266
 $—
 $222,266
Acquisition expenses57,853
 —
 57,853
 69,391
 —
 69,391
General & administrative expenses (1)14,980
 (6,439) 8,541
 16,991
 (6,758) 10,233
Net premiums earned (1)(2)271,574
 1,001
 272,575
 297,412
 1,265
 298,677
            
Loss ratio79.3%     74.7%    
Acquisition expense ratio21.3%     23.3%    
General & administrative expense ratio (1)5.6%     5.8%    
Combined ratio106.2%     103.8%    
Adjusted loss ratio    79.0%     74.4%
Adjusted acquisition expense ratio    21.2%     23.2%
Adjusted general & administrative expense ratio    3.2%     3.5%
Adjusted combined ratio    103.4%     101.1%
(1) Adjustments include certain corporate expenses, which are deducted from general and administrative expenses, and other underwriting income (loss), which is added to net premiums earned.
(2) The adjustment to net premiums earned relates to “other underwriting income” from underwriting contracts accounted for as derivatives.




Reconciliation of the non-investment grade portfolio and investment grade portfolio components of our investment returns
The non-investment grade portfolio and the investment grade portfolio components of our investment returns for the three and six months ended March 31,June 30, 2020 and 2019 and 2018 are as follows:
Three Months Ended March 31, 2019 Three Months Ended March 31, 2018Three Months Ended June 30, 2020 Three Months Ended June 30, 2019
Non-Investment Grade Investment Grade 
Cost of
 U/W Collateral (4)
 Total Non-Investment Grade Investment Grade 
Cost of
 U/W Collateral (4)
 TotalNon-Investment Grade Investment Grade 
Cost of
 U/W Collateral (4)
 Total Non-Investment Grade Investment Grade 
Cost of
 U/W Collateral (4)
 Total
($ in thousands)($ in thousands)
Interest income$37,339
 $5,802
 $—
 $43,141
 $30,878
 $3,767
 $—
 $34,645
$32,410
 $4,043
 $—
 $36,453
 $32,492
 $6,104
 $—
 $38,596
Investment management fees - related parties(4,071) (338) —
 (4,409) (3,852) (294) —
 (4,146)(3,943) (319) —
 (4,262) (4,171) (399) —
 (4,570)
Borrowing and miscellaneous other investment expenses(4,858) (204) (3,236) (8,298) (3,946) (135) (2,279) (6,360)(2,741) (212) (1,810) (4,763) (3,809) (238) (3,564) (7,611)
Net interest income28,410
 5,260
 (3,236) 30,434
 23,080
 3,338
 (2,279) 24,139
25,726
 3,512
 (1,810) 27,428
 24,512
 5,467
 (3,564) 26,415
Net realized gains (losses) on investments1,319
 (37) —
 1,282
 (9,246) (2,395) —
 (11,641)(14,912) 8,911
 —
 (6,001) (177) 966
 —
 789
Net unrealized gains (losses) on investments (1)27,625
 4,813
 —
 32,438
 15,163
 (5,528) —
 9,635
178,050
 14
 —
 178,064
 (4,511) 2,786
 —
 (1,725)
Investment performance fees - related parties(5,800) —
 —
 (5,800) (2,597) —
 —
 (2,597)—
 —
 —
 —
 (1,692) —
 —
 (1,692)
Net investment income (loss)$51,554
 $10,036
 $(3,236) $58,354
 $26,400
 $(4,585) $(2,279) $19,536
$188,864
 $12,437
 $(1,810) $199,491
 $18,132
 $9,219
 $(3,564) $23,787
                     

        
Average total investments (2)$1,895,843 $888,424 $—
 $2,784,267 $1,746,009 $769,384 $—
 $2,515,392
Average total investments (excluding accrued investment income) (2)$1,782,413 $793,663 $—
 $2,576,076 $1,871,286 $928,850 $—
 $2,800,136
Average net assets (3)$1,506,245 $886,927 $(316,987) $2,076,185 $1,433,878 $772,872 $(266,366) $1,940,384$1,446,900 $800,175 $(246,250) $2,000,825 $1,548,237 $924,948 $(327,619) $2,145,566
                     

 
 
    
Net interest income yield on average net assets (3)1.9% 0.6%   1.5% 1.6% 0.4 %   1.2%1.8% 0.4%   1.4% 1.6% 0.6%   1.2%
Net investment income return on average total investments (2)2.7% 1.1%   2.1% 1.5% (0.6)%   0.8%
Net investment income return on average total investments (excluding accrued investment income) (2)10.6% 1.6%   7.7% 1.0% 1.0% 
 0.8%
Net investment income return on average net assets (3)3.4% 1.1% (1.0)% 2.8% 1.8% (0.6)% (0.9)% 1.0%13.1% 1.6% (0.7)% 10.0% 1.2% 1.0% (1.1)% 1.1%
(1) Net unrealized gains (losses) on investments excludes unrealized gains and losses from the available for sale portfolios, which are recorded in other comprehensive income.
(2) Net investment income return on average total investments (excluding accrued investment income) is calculated by dividing net investment income by average total investments per the balance sheet.investments. For the three-month period, average total investments is calculated using the average of the beginning and ending balance of each quarterly period. However, for the investment grade portfolio component of these returns, the impact of revolving credit agreement borrowings is not subtracted from net investment income.
(3) Net interest income yield on average net assets and net investment income return on average net assets are calculated by dividing net interest income, and net investment income (loss), respectively, by average net assets. For the non-investment grade component of investment returns and total investment returns, net assets is calculated as the sum of total investments, accrued investment income and receivables for securities sold, less total revolving credit agreement borrowings, payable for securities purchased and payable for securities sold short. However, for the investment grade portfolio component of these returns, the impact of the revolving credit agreement borrowings is not subtracted from net interest income, net investment income (loss), or the net assets calculation.
(4) The cost of underwriting collateral is calculated as the revolving credit agreement expenses for the investment grade portfolios divided by the average total revolving credit agreement borrowings for the investment grade portfolios during the period.



 Six Months Ended June 30, 2020 Six Months Ended June 30, 2019
 Non-Investment Grade Investment Grade 
Cost of
 U/W Collateral (4)
 Total Non-Investment Grade Investment Grade 
Cost of
 U/W Collateral (4)
 Total
 ($ in thousands)
Interest income$65,174
 $9,103
 $—
 $74,277
 $69,831
 $11,906
 $—
 $81,737
Investment management fees - related parties(7,916) (698) —
 (8,614) (8,242) (737) —
 (8,979)
Borrowing and miscellaneous other investment expenses(5,332) (437) (4,663) (10,432) (8,667) (442) (6,800) (15,909)
Net interest income51,926
 7,968
 (4,663) 55,231
 52,922
 10,727
 (6,800) 56,849
Net realized gains (losses) on investments(22,137) 11,090
 —
 (11,047) 1,142
 929
 —
 2,071
Net unrealized gains (losses) on investments (1)(107,443) 51
 —
 (107,392) 23,114
 7,599
 —
 30,713
Investment performance fees - related parties—
 —
 —
 —
 (7,492) —
 —
 (7,492)
Net investment income (loss)$(77,654) $19,109
 $(4,663) $(63,208) $69,686
 $19,255
 $(6,800) $82,141
       

        
Average total investments (excluding accrued investment income) (2)$1,786,375 $807,149 $—
 $2,593,524 $1,883,565 $908,637 $—
 $2,792,202
Average net assets (3)$1,488,863 $813,118 $(287,500) $2,014,481 $1,527,241 $905,937 $(322,303) $2,110,875
         
 
   
Net interest income yield on average net assets (3)3.5 % 1.0%   2.7 % 3.5% 1.2%   2.7%
Net investment income return on average total investments (excluding accrued investment income) (2)(4.3)% 2.4%   (2.4)% 3.7% 2.1%   2.9%
Net investment income return on average net assets (3)(5.2)% 2.4% (1.6)% (3.1)% 4.6% 2.1% (2.1)% 3.9%
(1) Net unrealized gains (losses) on investments excludes unrealized gains and losses from the available for sale portfolios, which are recorded in other comprehensive income.
(2) Net investment income return on average total investments is calculated by dividing net investment income by average total investments. For the six-month period, average total investments is calculated using the average of the beginning and ending balance of each quarterly period. However, for the investment grade portfolio component of these returns, the impact of revolving credit agreement borrowings is not subtracted from net investment income.
(3) Net interest income yield on average net assets and net investment income return on average net assets are calculated by dividing net interest income, and net investment income (loss), respectively, by average net assets. For the non-investment grade component of investment returns and total investment returns, net assets is calculated as the sum of total investments, accrued investment income and receivables for securities sold, less total revolving credit agreement borrowings, payable for securities purchased and payable for securities sold short. However, for the investment grade portfolio component of these returns, the impact of the revolving credit agreement borrowings is not subtracted from net interest income, net investment income (loss), or the net assets calculation.
(4) The cost of underwriting collateral is calculated as the revolving credit agreement expenses for the investment grade portfolios divided by the average total revolving credit agreement borrowings for the investment grade portfolios during the period.



As of March 31, 2019 As of March 31, 2018As of June 30, 2020 As of June 30, 2019
Non-Investment Grade Investment Grade Borrowings for U/W Collateral Total Non-Investment Grade Investment Grade Borrowings for U/W Collateral TotalNon-Investment Grade Investment Grade Borrowings for U/W Collateral Total Non-Investment Grade Investment Grade Borrowings for U/W Collateral Total
($ in thousands)($ in thousands)
Average total investments - YTD$1,895,843
 $888,424
 $—
 $2,784,267
 $1,746,009
 $769,384
 $—
 $2,515,392
Average total investments (excluding accrued investment income) - QTD$1,782,413
 $793,663
 $—
 $2,576,076
 $1,871,286
 $928,850
 $—
 $2,800,136
Average total investments (excluding accrued investment income) - YTD1,786,375
 807,149
 —
 2,593,524
 1,883,565
 908,637
 —
 2,792,202
               
Average net assets - QTD1,446,900
 800,175
 (246,250) 2,000,825
 1,548,237
 924,948
 (327,619) 2,145,566
Average net assets - YTD1,506,245
 886,927
 (316,987) 2,076,185
 1,433,878
 772,872
 (266,366) 1,940,384
1,488,863
 813,118
 (287,500) 2,014,481
 1,527,241
 905,937
 (322,303) 2,110,875
                              
Total investments$1,909,095
 $921,071
 $—
 $2,830,166
 $1,739,961
 $794,608
 $—
 $2,534,569
$1,846,404
 $792,941
 $—
 $2,639,345
 $1,833,476
 $936,629
 $—
 $2,770,105
Accrued Investment Income13,300
 4,046
 —
 17,346
 13,701
 3,130
 —
 16,831
10,853
 3,511
 —
 14,364
 11,834
 5,082
 —
 16,916
Receivable for Securities Sold62,365
 201
 —
 62,566
 46,968
 600
 —
 47,568
28,298
 3,016
 —
 31,314
 29,367
 58
 —
 29,425
Less: Payable for Securities Purchased83,189
 12,388
 —
 95,577
 79,786
   —
 79,786
67,272
 —
 —
 67,272
 46,412
 4,804
 —
 51,216
Less: Payable for Securities Sold Short28,737
 —
 —
 28,737
 63,110
   —
 63,110
29,289
 —
 —
 29,289
 48,823
 —
 —
 48,823
Less: Revolving credit agreement borrowings326,256
 —
 326,487
 652,743
 220,798
 —
 279,315
 500,113
308,611
 —
 163,750
 472,361
 229,546
 —
 328,751
 558,297
Net assets$1,546,578
 $912,930
 $(326,487) $2,133,021
 $1,436,936
 $798,338
 $(279,315) $1,955,959
$1,480,383
 $799,468
 $(163,750) $2,116,101
 $1,549,896
 $936,965
 $(328,751) $2,158,110
Non-investment grade borrowing ratio (1)21.1%       15.4%      20.8%       14.8%      
                              
Unrealized gains on investments$28,066
 $4,040
 $—
 $32,106
 $46,105
 $5,487
 $—
 $51,592
$44,845
 $14,278
 $—
 $59,123
 $27,068
 $8,160
 $—
 $35,228
Unrealized losses on investments(104,700) (6,835) —
 (111,535) (25,573) (10,621) —
 (36,194)(221,353) (23,121) —
 (244,474) (109,200) (4,737) —
 (113,937)
Net unrealized gains (losses) on investments$(76,634) $(2,795) $—
 $(79,429) $20,532
 $(5,134) $—
 $15,398
$(176,508) $(8,843) $—
 $(185,351) $(82,132) $3,423
 $—
 $(78,709)
(1) The non-investment grade borrowing ratio is calculated as revolving credit agreement borrowings divided by net assets.


Critical accounting policies, estimates and recent accounting pronouncements
The preparation of consolidated financial statements in accordance with GAAP requires us to make many estimates and judgments that affect the reported amounts of assets, liabilities (including reserves), revenues and expenses, and related disclosures of contingent liabilities. On an ongoing basis, we evaluate our estimates, including those related to revenue recognition, insurance and other reserves, reinsurance recoverables and fair value measurements. We base our estimates on historical experience, where possible, and on various other assumptions that we believe to be reasonable under the circumstances, which form the basis for our judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Estimates and judgments for a relatively new company, like our company, are even more difficult to make than those made in a mature company since we have compiled relatively limited historical information through March 31, 2019.June 30, 2020. Actual results will differ from these estimates and such differences may be material.
The critical accounting policies that we believe affect significant estimates used in the preparation of our consolidated financial statements, as well as certain recent accounting pronouncements, are discussed under the heading “Management’s discussion and analysis of financial condition and results of operations-Critical accounting policies, estimates and recent accounting pronouncements” beginningcontained in our Annual Report on page 119 of our prospectus dated March 26,Form 10-K for the year ended December 31, 2019, related to the direct listing of our common shares on the Nasdaaq Global Select Market. The information included under that heading has been updated, where applicable, in the notes accompanying our consolidated financial statements included elsewhere in this report, including Note 2, “Significant“Basis of presentation and significant accounting policies”. A copy of our prospectus, which was filed with the SEC in accordance with Rule 424(b) of the Securities Act of 1933, as amended, or the Securities Act, on March 28, 2019, is accessible on the SEC’s website at www.sec.gov.
Financial condition, liquidity and capital resources
General
We are a holding company whose assets primarily consist of the shares in our subsidiaries. Generally, we depend on our available cash resources, dividends or other distributions from subsidiaries to make payments, including the payment of interest on our senior notes, dividends on our preference shares and operating expenses we may incur. During the threesix months ended March 31, 2019June 30, 2020 and the year ended December 31, 2018,2019, we received dividends of $4.8$7.9 million and $19.3$13.4 million, respectively, from Watford Re, our Bermuda operating subsidiary.
The ability of our regulated operating subsidiaries to pay dividends or make distributions is dependent on their ability to meet applicable regulatory standards. Under Bermuda law, Watford Re is required to maintain an enhanced capital requirement, or ECR, which must equal or exceed its minimum solvency margin (in other words, the amount by which the value of its general business assets must exceed its general business liabilities). Watford Re is also required to maintain a minimum liquidity ratio whereby the value of its relevant assets is not less than 75% of the amount of its relevant liabilities for general business. Watford Re is prohibited from declaring or paying any dividends during any financial year if it is not in compliance with each of its ECR, minimum solvency margin and minimum liquidity ratio. In any financial year, Watford Re is prohibited from declaring or paying dividends of more than 25% of its total statutory capital and surplus (as shown on its previous financial year’s statutory balance sheet) unless it files, at least seven days before payment of such dividends, with the Bermuda Monetary Authority, or the BMA, an affidavit attesting that a dividend would not cause the companyWatford Re to fail to meet its relevant margins. As of December 31, 2018,2019, as determined under Bermuda law, Watford Re had a statutory capital and surplus of $1.1 billion and was in compliance with its ECR, minimum solvency margin and minimum liquidity ratio. Accordingly, as of December 31, 2019, Watford Re should be permittedwas able to pay dividends of up to $278.7$276.6 million to us during 20192020 without the requirement of filing such an affidavit with the BMA. This is subject to ongoing monitoring of capital throughout 2020. In addition, Watford Re is prohibited, without


prior approval of the BMA, from reducing by 15% or more its total statutory capital, as set out in its previous year’s statutory financial statements.


Our U.S. and Gibraltar insurance subsidiaries are subject to similar insurance laws and regulations in the jurisdictions in which they operate. The ability of these insurance subsidiaries to pay dividends or make distributions is also dependent on their ability to meet applicable regulatory standards.
Furthermore, the ability of our operating subsidiaries to pay dividends to us and to intermediate subsidiaries owned by us could be constrained by our dependence on financial strength ratings from independent rating agencies. Our ratings from these agencies depend to a large extent on the capitalization levels of our operating subsidiaries. We believe that we have sufficient cash resources and available dividend capacity to service our indebtedness, pay required dividends on our preference shares service our indebtedness and satisfy other current outstanding obligations.
Financial condition
Shareholders’ equity
20192020 versus 2018:2019: Total shareholders’ equity was $941.9$776.2 million as of March 31, 2019,June 30, 2020, compared to $889.6$872.4 million as of December 31, 2018, an increase2019, a decrease of $52.3$96.2 million or 5.9%11.0%.
The increasedecrease in shareholders’ equity was primarily driven by net investment incomeloss of $58.4$63.2 million, an underwriting loss of $16.7 million, other comprehensive incomeloss of $4.7$14.8 million, an interest expense of $5.8 million, preference dividends of $2.3 million, offset in part by net foreign exchange gains of $7.7 million and other underwriting income of $0.6$1.0 million. In addition, the repurchase of 127,744 common shares during the 2020 first quarter under our $50 million offset in partshare repurchase program reduced shareholders’ equity by an underwriting loss of $6.0 million, preferred dividends of $4.9 million, foreign exchange loss of $0.4$2.9 million.



Investment portfolios
The table below summarizes the credit quality of our total investmentsnon-investment grade and investment grade portfolios as of March 31, 2019June 30, 2020 and December 31, 2018,2019, as rated by Standard & Poor’s Financial Services, LLC, or Standard & Poor’s, Moody’s Investors Service, or Moody’s, Fitch Ratings Inc., or Fitch, or Kroll Bond Rating Agency, or KBRA, DBRS Morningstar, or DBRS, as applicable:
Credit Rating (1)Credit Rating (1)
March 31, 2019Fair Value AAA AA A BBB BB B CCC CC D Not Rated
June 30, 2020Fair Value AAA AA A BBB BB B CCC CC C D Not Rated
($ in thousands)($ in thousands)
Non-Investment Grade Portfolio:                       
Term loan investments$1,022,238
 $—
 $—
 $—
 $—
 $25,364
 $688,143
 $238,628
 $2,638
 $7,286
 $60,179
$875,560
 $—
 $—
 $—
 $—
 $23,218
 $530,118
 $247,478
 $15,191
 $2,192
 $28,046
 $29,317
Fixed maturities:                     
Corporate bonds378,183
 —
 —
 —
 37,373
 50,125
 152,648
 113,723
 6,268
 5,585
 3,956
 8,505
Asset-backed securities157,925
 —
 —
 3,854
 98,827
 23,136
 8,767
 1,663
 —
 —
 —
 21,678
Mortgage-backed securities9,164
 —
 —
 —
 —
 1,292
 —
 —
 —
 —
 3,224
 4,648
Short-term investments270,088
 34,859
 172,166
 60,880
 —
 502
 —
 —
 —
 —
 —
 1,681
Total fixed income instruments and short-term investments1,690,920
 34,859
 172,166
 64,734
 136,200
 98,273
 691,533
 362,864
 21,459
 7,777
 35,226
 65,829
Other Investments34,142
                      
Equities121,342
                      
Total Non-Investment Grade Portfolio$1,846,404
 $34,859
 $172,166
 $64,734
 $136,200
 $98,273
 $691,533
 $362,864
 $21,459
 $7,777
 $35,226
 $65,829

 
 
 
 
 
 
 
 
 
 
 
Investment Grade Portfolio:
 
 
 
 
 
 
 
 
 
 
 
Corporate bonds549,247
 —
 28,933
 72,717
 61,704
 15,920
 128,610
 196,870
 —
 10,399
 34,094
$169,918
 $—
 $16,032
 $90,087
 $58,858
 $4,941
 $—
 $—
 $—
 $—
 $—
 $—
U.S. government and government agency bonds337,110
 —
 337,110
 —
 —
 —
 —
 —
 —
 —
 —
217,459
 —
 217,459
 —
 —
 —
 —
 —
 —
 —
 —
 —
Asset-backed securities317,412
 3,769
 2,670
 24,767
 187,129
 40,692
 19,078
 —
 —
 —
 39,307
130,327
 1,377
 —
 19,621
 108,790
 539
 —
 —
 —
 —
 —
 —
Mortgage-backed securities24,035
 —
 —
 —
 16,405
 842
 —
 —
 —
 2,411
 4,377
22,018
 —
 602
 4,794
 16,622
 —
 —
 —
 —
 —
 —
 —
Non-U.S. government and government agency bonds140,357
 5,294
 135,063
 —
 —
 —
 —
 —
 —
 —
 —
151,124
 —
 151,124
 —
 —
 —
 —
 —
 —
 —
 —
 —
Municipal government and government agency bonds7,689
 6,587
 564
 538
 —
 —
 —
 —
 —
 —
 —
2,117
 1,039
 586
 492
 —
 —
 —
 —
 —
 —
 —
 —
Total fixed income instruments2,398,088
 15,650
 504,340
 98,022
 265,238
 82,818
 835,831
 435,498
 2,638
 20,096
 137,957
Short term investments256,711
 13,043
 107,201
 64,353
 72,114
 —
 —
 —
 —
 —
 —
Total fixed income instruments and short term investments2,654,799
 28,693
 611,541
 162,375
 337,352
 82,818
 835,831
 435,498
 2,638
 20,096
 137,957
Other Investments51,556
                    
Equities123,811
                    
Short-term investments99,978
 3,448
 22,656
 —
 73,874
 —
 —
 —
 —
 —
 —
 —
Total Investment Grade Portfolio$792,941
 $5,864
 $408,459
 $114,994
 $258,144
 $5,480
 $—
 $—
 $—
 $—
 $—
 $—
Total$2,830,166
 $28,693
 $611,541
 $162,375
 $337,352
 $82,818
 $835,831
 $435,498
 $2,638
 $20,096
 $137,957
$2,639,345
 $40,723
 $580,625
 $179,728
 $394,344
 $103,753
 $691,533
 $362,864
 $21,459
 $7,777
 $35,226
 $65,829
(1) For individual fixed maturity investments, Standard & Poor’s ratings are used. In the absence of a Standard & Poor’s rating, ratings from Moody’s are used, followed by ratings from Fitch, followed by ratings from KBRA.KBRA, followed by ratings from DBRS.


Credit Rating (1)Credit Rating (1)
December 31, 2018Fair Value AAA AA A BBB BB B CCC CC C D Not Rated
December 31, 2019Fair Value AAA AA A BBB BB B CCC CC C D Not Rated
($ in thousands)($ in thousands)
Non-Investment Grade Portfolio:                       
Term loan investments$1,000,652
 $—
 $—
 $—
 $—
 $57,844
 $677,211
 $201,116
 $2,438
 $—
 $—
 $62,043
$1,061,934
 $—
 $—
 $—
 $—
 $9,617
 $761,168
 $215,909
 $6,823
 $2,119
 $—
 $66,298
Fixed maturities:                  
    
Corporate bonds213,841
 —
 —
 —
 —
 9,003
 58,345
 135,613
 —
 —
 —
 10,880
Asset-backed securities190,738
 —
 —
 4,002
 105,706
 29,695
 18,381
 —
 —
 —
 —
 32,954
Mortgage-backed securities7,706
 —
 —
 —
 —
 976
 —
 —
 —
 —
 2,497
 4,233
Short-term investments232,436
 —
 116,805
 34,903
 64,108
 —
 —
 8,359
 —
 —
 —
 8,261
Total fixed income instruments and short-term investments1,706,655
 —
 116,805
 38,905
 169,814
 49,291
 837,894
 359,881
 6,823
 2,119
 2,497
 122,626
Other Investments30,461
                      
Equities125,137
                      
Total Non-Investment Grade Portfolio$1,862,253
 $—
 $116,805
 $38,905
 $169,814
 $49,291
 $837,894
 $359,881
 $6,823
 $2,119
 $2,497
 $122,626
                       
Investment Grade Portfolio:                       
Corporate bonds654,607
 3,961
 58,185
 100,590
 63,791
 15,246
 174,867
 203,505
 —
 2,200
 —
 32,262
$158,632
 $—
 $36,128
 $81,401
 $41,103
 $—
 $—
 $—
 $—
 $—
 $—
 $—
U.S. government and government agency bonds268,675
 —
 268,675
 —
 —
 —
 —
 —
 —
 —
 —
 —
285,609
 —
 285,609
 —
 —
 —
 —
 —
 —
 —
 —
 —
Asset-backed securities225,983
 4,532
 4,973
 10,278
 113,075
 36,643
 20,818
 —
 —
 —
 —
 35,664
145,433
 2,006
 —
 25,177
 118,250
 —
 —
 —
 —
 —
 —
 —
Mortgage-backed securities22,161
 —
 —
 944
 13,336
 742
 —
 —
 —
 —
 2,962
 4,177
24,750
 —
 —
 1,100
 23,650
 —
 —
 —
 —
 —
 —
 —
Non-U.S. government and government agency bonds136,513
 5,173
 122,715
 8,625
 —
 —
 —
 —
 —
 —
 —
 —
133,409
 —
 132,460
 —
 949
 —
 —
 —
 —
 —
 —
 —
Municipal government and government agency bonds8,231
 6,490
 715
 1,026
 —
 —
 —
 —
 —
 —
 —
 —
2,184
 1,135
 573
 476
 —
 —
 —
 —
 —
 —
 —
 —
Total fixed income instruments2,316,822
 20,156
 455,263
 121,463
 190,202
 110,475
 872,896
 404,621
 2,438
 2,200
 2,962
 134,146
Short term investments282,132
 4,450
 128,015
 54,970
 68,853
 —
 25,844
 —
 —
 —
 —
 —
Total fixed income instruments and short term investments2,598,954
 24,606
 583,278
 176,433
 259,055
 110,475
 898,740
 404,621
 2,438
 2,200
 2,962
 134,146
Other Investments49,762
                 
    
Equities89,651
                 
    
Short-term investments96,867
 25,783
 20,037
 —
 51,047
 —
 —
 —
 —
 —
 —
 —
Total Investment Grade Portfolio$846,884
 $28,924
 $474,807
 $108,154
 $234,999
 $—
 $—
 $—
 $—
 $—
 $—
 $—
Total$2,738,367
 $24,606
 $583,278
 $176,433
 $259,055
 $110,475
 $898,740
 $404,621
 $2,438
 $2,200
 $2,962
 $134,146
$2,709,137
 $28,924
 $591,612
 $147,059
 $404,813
 $49,291
 $837,894
 $359,881
 $6,823
 $2,119
 $2,497
 $122,626
(1) For individual fixed maturity investments, Standard & Poor’s ratings are used. In the absence of a Standard & Poor’s rating, ratings from Moody’s are used, followed by ratings from Fitch, followed by ratings from KBRA.KBRA, followed by ratings from DBRS.




The amortized costfollowing tables summarize the composition of the Company’s non-investment grade and investment grade portfolios by sector as of June 30, 2020 and December 31, 2019:
 June 30, 2020
 Total Financials Health Care Technology Consumer Services Industrials Consumer Goods Oil & Gas All Other (1)
 ($ in thousands)
Non-Investment Grade Portfolio:                 
Term loan investments$875,560
 $188,970
 $170,442
 $186,367
 $113,733
 $90,250
 $36,455
 $29,573
 $59,770
Corporate bonds378,183
 44,898
 26,626
 16,720
 105,543
 33,870
 68,314
 29,516
 52,696
Equities - sector specific93,872
 62,350
 22,577
 7,266
 —
 641
 —
 264
 774
Short-term investments - sector specific2,184
 —
 —
 1,682
 —
 —
 502
 —
 —
Subtotal1,349,799
 296,218
 219,645
 212,035
 219,276
 124,761
 105,271
 59,353
 113,240
Equities - non-sector specific27,470
                
Short-term investments - non-sector specific267,904
                
Asset-backed securities157,925
                
Other investments34,142
                
Mortgage-backed securities9,164
                
Total Non-Investment Grade Portfolio$1,846,404
 $296,218
 $219,645
 $212,035
 $219,276
 $124,761
 $105,271
 $59,353
 $113,240
                  
Investment Grade Portfolio:                 
Corporate bonds$169,918
 $51,327
 $10,834
 $18,688
 $22,738
 $11,942
 $35,818
 $11,388
 $7,183
Short-term investments99,978
                
U.S. government and government agency bonds217,459
                
Non-U.S. government and government agency bonds151,124
                
Asset-backed securities130,327
                
Mortgage-backed securities22,018
                
Municipal government and government agency bonds2,117
                
Total Investment Grade Portfolio$792,941
 $51,327
 $10,834
 $18,688
 $22,738
 $11,942
 $35,818
 $11,388
 $7,183
Total Investments$2,639,345
 $347,545
 $230,479
 $230,723
 $242,014
 $136,703
 $141,089
 $70,741
 $120,423
(1) Includes telecommunications, utilities and basic materials.


 December 31, 2019
 Total Financials Health Care Technology Consumer Services Industrials Consumer Goods Oil & Gas All Other (1)
 ($ in thousands)
Non-Investment Grade Portfolio:                 
Term loan investments$1,061,934
 $212,800
 $221,982
 $232,659
 $121,434
 $111,912
 $46,827
 $52,200
 $62,120
Corporate bonds213,841
 17,547
 19,160
 10,972
 28,144
 13,822
 23,491
 27,632
 73,073
Equities - sector specific101,551
 55,946
 30,640
 11,263
 —
 1,283
 —
 1,040
 1,379
Short-term investments - sector specific16,620
 8,261
 —
 3,030
 —
 5,329
 —
 —
 —
Subtotal1,393,946
 294,554
 271,782
 257,924
 149,578
 132,346
 70,318
 80,872
 136,572
Equities - non-sector specific23,586
                
Short-term investments - non-sector specific215,816
                
Asset-backed securities190,738
                
Other investments30,461
                
Mortgage-backed securities7,706
                
Total Non-Investment Grade Portfolio$1,862,253
 $294,554
 $271,782
 $257,924
 $149,578
 $132,346
 $70,318
 $80,872
 $136,572
                  
Investment Grade Portfolio:                 
Corporate bonds$158,632
 $72,707
 $12,087
 $8,035
 $11,752
 $10,548
 $32,046
 $5,734
 $5,723
Short-term investments96,867
                
U.S. government and government agency bonds285,609
                
Non-U.S. government and government agency bonds133,409
                
Asset-backed securities145,433
                
Mortgage-backed securities24,750
                
Municipal government and government agency bonds2,184
                
Total Investment Grade Portfolio$846,884
 $72,707
 $12,087
 $8,035
 $11,752
 $10,548
 $32,046
 $5,734
 $5,723
Total Investments$2,709,137
 $367,261
 $283,869
 $265,959
 $161,330
 $142,894
 $102,364
 $86,606
 $142,295
(1) Includes telecommunications, utilities and basic materials.





The fair value of our term loans, fixed maturities and short-term investments in our non-investment grade and investment grade portfolios, summarized by contractual maturity as of March 31, 2019June 30, 2020 and December 31, 20182019 were as follows:
 Amortized Cost Fair Value % of Fair Value
 ($ in thousands)
March 31, 2019     
Due in one year or less$279,007
 $279,906
 10.5%
Due after one year through five years1,232,937
 1,192,419
 44.9%
Due after five years through ten years809,168
 781,150
 29.4%
Due after ten years59,232
 59,877
 2.3%
Asset-backed securities321,939
 317,412
 12.0%
Mortgage-backed securities25,144
 24,035
 0.9%
Total$2,727,427
 $2,654,799
 100.0%
      
December 31, 2018     
Due in one year or less$300,554
 $300,519
 11.6%
Due after one year through five years1,322,982
 1,269,540
 48.8%
Due after five years through ten years823,643
 776,937
 29.9%
Due after ten years3,925
 3,814
 0.1%
Asset-backed securities233,215
 225,983
 8.7%
Mortgage-backed securities23,466
 22,161
 0.9%
Total$2,707,785
 $2,598,954
 100.0%
 Contractual Maturity
June 30, 2020Fair Value Due in One Year or Less Due After One Through Two Years Due After Three Through Five Years Due After Five Through Ten Years Due After Ten Years
 ($ in thousands)
Non-Investment Grade Portfolio:           
Term loan investments$875,560
 $44,818
 $235,683
 $265,836
 $329,223
 $—
Corporate bonds378,183
 28
 64,440
 140,246
 165,990
 7,479
Short-term investments270,088
 270,088
 —
 —
 —
 —
Subtotal1,523,831
 314,934
 300,123
 406,082
 495,213
 7,479
Asset-backed securities157,925
          
Mortgage-backed securities9,164
          
Other Investments34,142
          
Equities121,342
          
Total Non-Investment Grade Portfolio$1,846,404
 $314,934
 $300,123
 $406,082
 $495,213
 $7,479
            
Investment Grade Portfolio:           
Corporate bonds$169,918
 $4,524
 $22,282
 $63,129
 $66,723
 $13,260
U.S. government and government agency bonds217,459
 8,877
 172,347
 22,193
 14,042
 —
Non-U.S. government and government agency bonds151,124
 6,836
 29,276
 40,616
 74,396
 —
Municipal government and government agency bonds2,117
 —
 251
 1,374
 492
 —
Short-term investments99,978
 99,978
 —
 —
 —
 —
Subtotal640,596
 120,215
 224,156
 127,312
 155,653
 13,260
Asset-backed securities130,327
          
Mortgage-backed securities22,018
          
Total - Investment Grade Portfolio$792,941
 $120,215
 $224,156
 $127,312
 $155,653
 $13,260
Total$2,639,345
 $435,149
 $524,279
 $533,394
 $650,866
 $20,739





 Contractual Maturity
December 31, 2019Fair Value Due in One Year or Less Due After One Through Two Years Due After Three Through Five Years Due After Five Through Ten Years Due After Ten Years
 ($ in thousands)
Non-Investment Grade Portfolio:           
Term loan investments$1,061,934
 $23,683
 $289,985
 $314,908
 $433,358
 $—
Corporate bonds213,841
 15,746
 21,879
 113,750
 61,933
 533
Short-term investments232,436
 232,436
 —
 —
 —
 —
Subtotal1,508,211
 271,865
 311,864
 428,658
 495,291
 533
Asset-backed securities190,738
          
Mortgage-backed securities7,706
          
Other Investments30,461
          
Equities125,137
          
Total Non-Investment Grade Portfolio$1,862,253
 $271,865
 $311,864
 $428,658
 $495,291
 $533
            
Investment Grade Portfolio:           
Corporate bonds$158,632
 $2,760
 $45,676
 $54,584
 $43,586
 $12,026
U.S. government and government agency bonds285,609
 1,490
 212,884
 41,976
 29,259
 —
Non-U.S. government and government agency bonds133,409
 6,745
 31,443
 32,213
 63,008
 —
Municipal government and government agency bonds2,184
 —
 253
 1,330
 601
 —
Short-term investments96,867
 96,867
 —
 —
 —
 —
Subtotal676,701
 107,862
 290,256
 130,103
 136,454
 12,026
Asset-backed securities145,433
          
Mortgage-backed securities24,750
          
Total - Investment Grade Portfolio846,884
 $107,862
 $290,256
 $130,103
 $136,454
 $12,026
Total$2,709,137
 $379,727
 $602,120
 $558,761
 $631,745
 $12,559
Actual maturities may differ from contractual maturities because some borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.




The following chart shows the composition of our non-investment grade and investment grade portfolios as of March 31, 2019:June 30, 2020:
chart-9ab304c7423084b3923.jpgchart-29f2aee0964858f2857.jpg
Total: $1,909.1$1,846.4 million


chart-6eae85931fcd9e876f3.jpgchart-b7a085f23ed957fe974.jpg
Total: $921.1$792.9 million

Liquidity and capital resources
Cash flows
Liquidity is a measure of our ability to access sufficient cash flows to meet the short-term and long-term cash requirements of our business operations. Our most significant source of operating cash flow is from premiums received from our insureds and reinsureds. Our underwriting operations provide liquidity in that premiums are received in advance, sometimes substantially in advance, of the time losses are paid. The period of time from the occurrence of a claim through the settlement of the resulting liability may extend many years into the future. We expect that our liquidity needs, including our anticipated insurance and reinsurance obligations and operating and capital expenditure needs, for at least the next 12 months, will be met by funds generated from underwriting activities and investment income, as well as by our balance of cash, short-term investments, proceeds on the sale or maturity of our investments and our credit facilities. For a discussion of the risks related to the potential future impacts of the COVID-19 global pandemic on our liquidity and capital resources, see Part II, Item 1A, “Risk Factors” in this report.
Our most significant operating cash outflow is for claim payments. Because the payment of claims occurs after the receipt of the premium, often years later, we invest the cash in various fixed income investments that earn interest. We also use cash to pay commissions to brokers, as well as to pay for


ongoing operating expenses such as salaries, rent and taxes, interest expense on our senior notes and dividends on our contingently-redeemable preference shares. We have reinsurance agreements with Arch and others through which we cede a portion of our business. In purchasing reinsurance, we pay part of our premiums to reinsurers and collect cash back when our reinsurers reimburse us for losses subject to our reinsurance coverage.
The timing of our cash flows from operating activities can vary among periods due to the timing by which payments are made or received. Some of our payments and receipts, including loss settlements and subsequent reinsurance receipts, can be significant, so their timing can influence cash flows from operating activities in any given period.


Sources of liquidity include cash flows from operations, financing arrangements orand routine sales of investments. The following table summarizes our cash flows from operating, investing and financing activities for the threesix months ended March 31, 2019June 30, 2020 and 2018:2019:
Three Months Ended March 31,Six Months Ended June 30,
2019 20182020 2019
($ in thousands)($ in thousands)
Cash and cash equivalents provided by (used for):      
Operating activities$70,306
 $30,235
$87,343
 $115,887
Investing activities(31,877) 22,923
(58,717) 35,144
Financing activities(45,918) (54,443)(17,052) (145,258)
Effects of exchange rate changes on foreign currency261
 835
(6,358) (325)
Change in cash and cash equivalents$(7,228) $(450)$5,216
 $5,448
Results for the threesix months ended March 31, 2019June 30, 2020:
Cash provided by operating activities for the threesix months ended March 31, 2019June 30, 2020 increased fromwas lower than the same period in 20182019. We continued to generate significantstrong operating cash inflows, in both the 2019 and 2018 first quarters, primarily driven by our premium receipts exceeding the level of our paid claims.claims and interest income received.
Cash used for investing activities for the threesix months ended March 31, 2019June 30, 2020 was higher than the comparativesame period in 20182019 when cash was provided by investing activities, due to higherwhich was driven by an increase in net purchases in the 2020 period. There was an increase in net purchases of investmentscorporate bonds and a decrease in the 2019 first quarter rathernet purchases of term loans for the six months ended June 30, 2020 than higher net salesthe same period in the 2018 first quarter.2019.
Cash used for financing activities for the threesix months ended March 31, 2019June 30, 2020 was lower than in the same period for 2018, driven by a small reduction in incremental borrowings used2019, due to purchase investments.increased use of the custodian bank facilities and lower borrowing repayments during the 2020 period. In addition, we purchased $2.9 million of our own common shares under our $50 million share repurchase program during the 2020 first quarter.
Our investments in certain securities and loans may be illiquid due to contractual provisions or may prove to be illiquid in certain investment market conditions. Changes in general economic conditions could have a material adverse effect on the value and liquidity of securitiesthe investments in our investment portfolios. The COVID-19 global pandemic has severely impacted the financial markets, which has had a material adverse effect on our non-investment grade portfolio, in particular. If we require significant amounts of cash on short notice in excess of our anticipated cash requirements, we may have difficulty selling these investments in a timely manner or may be forced to sell or otherwise liquidate them at unfavorable values.
The primary goals of our asset liability management process are to satisfy insurance liabilities and maintain sufficient liquidity to cover fluctuations in projected liability cash flows, including our debt service obligations and payment of dividends on our preference shares and other debt service obligations.shares. We do not explicitly implement an exact cash flow match in each period. However, the substantial degree by which the


fair value of our investment portfolios exceeds the expected present value of the net underwriting liabilities, as well as the ongoing cash flow from premiums and contractual principal and interest payments received from our investment portfolios, provide assurance ofstrengthens our ability to fund the payment of claims and to service our other outstanding obligations without having to sell securities or loans at distressed prices. We believe that, generally, the combination of premium receipts and the expected principal and interest payments produced by our predominantly fixed income investment portfolios will adequately fund future claim payments and other liabilities when due.
Capital resources
In addition to the common shares and contingently-redeemable preference shares we issued in our initial funding, we have arrangedentered into credit facilities to support our business operations. Further, in July 2019, we issued our senior notes and used the net proceeds from the issuance to redeem 76.34% of our then outstanding preference shares, as described in more detail below. We believe that we hold sufficient capital to allow us to take advantage of market opportunitiescontinue our business operations and to


maintainexecute our financial strength ratings,strategy, as well as to comply with all applicable statutory regulations.
We monitor our capital adequacy on a regular basis and will seek to adjust our capital base (up or down) according to the needs of our business. As part of our capital management program, we may seek to raise additional capital or may seek to return capital to our shareholders through share repurchases, cash dividends or other methods (or a combination of such methods). Any such determination will be at the discretion of our board of directors and will be dependent upon our profits, financial requirements and other factors, including legal restrictions, rating agency requirements and such other factors as our board of directors deems relevant. Our
In the first quarter of 2020, our board of directors has authorized a share repurchase program, under which we may repurchaseallows us to make repurchases of up to $75$50 million of our outstanding common shares from time to time.time in open market or privately negotiated transactions. During the first quarter of 2020, we repurchased 127,744 common shares at an average price of $22.42 per share for an aggregate cost of $2.9 million. With the onset of the COVID-19 global pandemic, we temporarily halted repurchases under the program. We did not repurchase any of our common shares during the second quarter of 2020. As of June 30, 2020, approximately $47.1 million of unused share repurchase capacity remained available under the program. When there is more certainty in the global economies, we will reassess the temporary suspension of the program. Any such repurchases under our share repurchase program will be in accordance with applicable laws, our organizational documents and the applicable terms of our outstanding securities. There can be no assurance anyThe timing and amount of the repurchase transactions under the share repurchasesrepurchase program will occur.depend on a variety of factors, including market conditions, the level of future earnings, and rating agency and regulatory considerations. Other than pursuant to thisour share repurchase program, at the present time, we do not expect to repurchase common shares, declare or pay dividends on our common shares or otherwise return capital to our common shareholders for the foreseeable future.


The following table summarizes our consolidated capital position:
 March 31, 2019 December 31, 2018
 Amount % of Total Capital Amount % of Total Capital
 ($ in thousands)
Preferred shares$221,083
 19.0% $220,992
 19.9%
Shareholders’ equity941,891
 81.0% 889,608
 80.1%
Total capital$1,162,974
 100.0% $1,110,600
 100.0%
 June 30, 2020 December 31, 2019
 Amount % of Total Capital Amount % of Total Capital
 ($ in thousands)
Debt:       
Senior notes$172,554
 17.2% $172,418
 15.7%
Shareholders’ equity:
       
Preference shares52,351
 5.2% 52,305
 4.8%
Shareholders’ equity
776,151
 77.6% 872,353
 79.5%
Total shareholders’ equity
828,502
 82.8% 924,658
 84.3%
Total capital available to Watford$1,001,056
 100.0% $1,097,076
 100.0%
The future capital requirements of our business will depend on many factors, including our ability to write new business successfully and to establish premium rates and reserves at levels sufficient to cover losses. Our ability to underwrite is largely dependent upon the quality of our claims paying and financial strength ratings as evaluated by independent rating agencies. In particular, we require (1) sufficient capital to maintain our financial strength ratings, as issued by ratings agencies, at a level considered necessary by management to enable our key operating subsidiaries to compete; (2) sufficient capital to enable our underwriting subsidiaries to meet the capital adequacy tests mandated by regulatory agencies in Bermuda, the United States and other key markets; and (3) sufficient letter of credit and other credit facilities to enable Watford Re to post regulatory and commercially required letters of credit and other forms of collateral that are necessary for it to write business. For more information regarding the current status of our ratings, see “-Ratings” below.
To the extent that our existing capital is insufficient to fund our future operating requirements or maintain such ratings, we may need to raise additional funds through financings or limit our growth. However, we can provide no assurance that, if needed, we would be able to obtain additional funds through financing on satisfactory terms or at all. Adverse developments in the financial markets, such as disruptions, uncertainty or volatility in the capital and credit markets may result in realized and unrealized capital losses that could have a material adverse effect on our results of operations, financial position and our businesses, and may also limit our access to capital required to operate our business.
If we are not able to obtain adequate capital, our business, results of operations and financial condition could be adversely affected, which could include, among other things, the following possible outcomes: (1) potential downgrades in the financial strength ratings assigned by ratings agencies to our operating subsidiaries, which could place those operating subsidiaries at a competitive disadvantage compared to higher-rated competitors; (2) reductions in the amount of


business that our operating subsidiaries are able to write in order to meet capital adequacy-based tests enforced by regulatory agencies; and (3) any resultant ratings downgrades could, among other things, affect our ability to write business and increase the cost of bank credit and letters of credit. In addition, under certain of the reinsurance agreements assumed by our reinsurance operations, upon the occurrence of a ratings downgrade or other specified triggering event with respect to our reinsurance operations, such as a reduction in surplus by specified amounts during specified periods, our ceding company clients may be provided with certain rights, including, among other things, the right to terminate the subject reinsurance agreement and/or to require that our reinsurance operations post additional collateral.
Prior to August 1, 2019, we had a total of 9,065,200 preference shares that were issued and outstanding and, on August 1, 2019, we redeemed 76.34% of these preference shares as described


below. The holders of our remaining preference shares have the option, at any time on or after June 30, 2034, to redeem their preference shares at the liquidation price of $25.00 per share. We have the right to redeem any or all of our remaining preference shares on or after June 30, 2019 at the original purchase price of $25.00 per share. DividendsOn June 28, 2019, we completed a direct listing of our preference shares on the Nasdaq Global Select Market. Prior to June 30, 2019, dividends on our preference shares currently accrueaccrued at a fixed rate of 8.5%8½% per annum. On June 30, 2019, dividends on our preference shares beginbegan accruing at a floating rate. We are currently evaluatingAs noted above, on August 1, 2019, we redeemed 6,919,998 of our refinancing optionsthen outstanding preference shares. The preference shares were redeemed at a total redemption price of $25.19748 per share, inclusive of all declared and unpaid dividends, with accumulation of any undeclared dividends on or after June 30, 2019.
On July 2, 2019, we completed a private offering of $175.0 million in connectionaggregate principal amount of our 6.5% senior notes due July 2, 2029. The aggregate principal amount was in line with our then-current limit on Tier 3 capital credit under the BMA’s regulatory framework. Interest on our senior notes is paid semi-annually in arrears on each January 2 and July 2, which commenced on January 2, 2020. Affiliates of ACGL purchased $35.0 million in aggregate principal amount of our senior notes. The $172.3 million net proceeds from the offering were used to redeem a portion of our outstanding preference shares.  In addition, pursuant to the termsshares, as described above.
As a result of the preference shareholders agreement withissuance of our senior notes and the holdersredemption of our preference shares, aswe incur interest expenses and a resultreduction of preference dividends, with the cumulative effect resulting in substantial savings in our not having consummated an initial public offering of ourcombined interest and preference shares in the United States or a listing of our preference shares on a U.S. national securities exchange by March 31, 2019, we have agreed, subject to certain conditions, to annually make an offer to repurchase, in the first quarter of each annual period, up to 20% of the preference shares, until such an initial public offering or listing is consummated. Subject to any potential refinancing option we may determine to pursue in respect of our preference shares, and subject to the conditions of the preference shareholders agreement, we expect we would seek to list our preference shares in lieu of making such an offer to repurchase.dividend expense.
In addition to the capital provided by the sale of our common shares, and preference shares and senior notes, we may depend on external sources of financefinancing to support our underwriting activities, such as bank credit facilities providing loans and/or letters of credit.credit, as well as additional note issuances. As noted above, additional equity or debt financing, if available at all, may be on terms that are unfavorable to us. In the case of equity financings, dilution to our shareholders could result, and, in any case, such securities might have rights, preferences and privileges that are senior to those of our outstanding securities.
Ratings
Our operating subsidiaries, Watford Re, WICE, WIC and WSIC, each carry a financial strength rating of “A-” (Excellent) from A.M. Best Company, or A.M. Best. A.M. Best assigns 16 ratings to insurance companies, which currently range from “A++” (Superior) to “F” (In Liquidation). “A-” (Excellent) is the fourth highest rating issued by A.M. Best. The “A-” (Excellent) rating is assigned to insurers that have, in A.M. Best’s opinion, an excellent ability to meet their ongoing obligations to policyholders. Each of our operating subsidiaries also carries a financial strength rating of “A” from KBRA. KBRA assigns 22 ratings to insurance companies, which currently range from “AAA” to “D”. The “A” rating, KBRA’s sixth highest rating category, is assigned to insurers for which, in KBRA’s opinion, the insurer’s financial condition is sound and the entity is likely to meet its policyholder obligations under difficult economic, financial and business conditions. These respective ratings are intended to provide an independent opinion of an insurer’s ability to meet its obligation to policyholders and neither is an evaluation directed at investors.
The financial strength ratings assigned by A.M. Best and KBRA, respectively, have an impact on the ability of Watford Re to attract reinsurance clients, and also on the ability of our insurance subsidiaries to attract and retain program administrators, agents, brokers and insureds. The A.M. Best “A-” (Excellent) rating and KBRA “A” rating obtained by Watford Re, WICE, WIC and WSIC are each consistent with our business plan and allow us to actively pursue relationships with the types of cedants, program administrators, agents, brokers and insureds targeted in our marketing plan.
In response to the unrealized, adverse mark-to-market impact on the valuation of our investment portfolios caused by the economic shutdown related to the COVID-19 global pandemic, A.M. Best and KBRA issued press releases noting potential future rating actions. In particular, on May 1, 2020,


A.M. Best announced that it had placed the “A-” financial strength ratings of our operating subsidiaries “under review with negative implications.” In addition, A.M. Best also placed “under review with negative implications” the long-term issuer credit rating of “BBB-” and the long-term issuer credit rating of “BB” on our cumulative contingently-redeemable preference shares. The designation of being “under review with negative implications” indicates that a previously-published rating has the potential for a near-term change (typically within six months) due to a recent event or abrupt change in the financial condition of the entity to which the rating applies.  The rating remains under review until A.M. Best is able to determine the implications of the circumstances that facilitated the under review status, before making its final opinion. In addition, on June 17, 2020, after previously putting our ratings on “watch” status, KBRA reaffirmed the “A” insurance financial strength ratings of our operating subsidiaries and revised the outlook for all of our ratings to negative.
Underwriting, natural and man-made catastrophic events
The broader P&C insurance and reinsurance market in which we operate has long been subject to market cycles. “Soft” markets occur when the supply of insurance capital in a given market or territory is greater than the amount of insurance capital necessary to meet the coverage needs of the insureds in that market. When this occurs, insurance prices tend to decline and policy terms and conditions become more favorable to the insured. Conversely, there are periods when there is not enough insurance capital in the market to meet insureds’ needs, leading to a “hard” market during which insurance prices generally rise and policy terms and conditions become more favorable to the insurer.
TheIn general, notwithstanding the prevailing global economic uncertainty related to the COVID-19 global pandemic, the current insurance and reinsurance market environment isoverall remains extremely competitive but is starting to show signs of hardening. Over the past several years, the industry has witnessed a gradual rate softening in response to a surplus of industry capital and reflects a prolonged periodnumber of low prices and continued pressure to broaden terms and conditions, although the 2017 and 2018 globalyears of benign catastrophe events seem to have partially dampened this downward pricing pressure.activity. While the insurance and reinsurance market historically has been subject to pricing and capacity cycles, the overall market has not experienced true cyclicality in the period since the inception of our operations in 2014. Over the past several years, the industry has witnessed a gradual rate softening in response to a surplus of industry capital and a number of years of benign catastrophe activity; this market dynamic has led to reduced underwriting profitability.  However, due to recent property catastrophe losses, higher perceived social inflation, the hurricane, wildfirereduction in risk free rates, and earthquake activity over the past two years,uncertainty for the P&C business created by the COVID-19 global pandemic, pricing on certain product lines appears to beare firming and becoming more attractive on a risk-adjustedrisk adjusted basis.
ThereIn recent years, there have recently, however, been certain product lines that have experienced a favorable hardening, such as U.K. and European motor insurance. The rates for these particular lines have been rising as a result of several years of higher than expected losses, as well as regulatory changes impacting loss costs. As rates and commensurate risk-adjusted returns have risen, we have increased our writings in those lines.
Since the formation of WICE, we have grown our European motor insurance business. Gross premiums written generated by WICE for the three months ended March 31,June 30, 2020 and 2019 and 2018 were $54.8$60.8 million and $45.2$56.1 million, respectively. Gross premiums written by WICE for the six months ended June 30, 2020 and 2019 were $112.5 million and $110.9 million, respectively. The majority of such premiums relate to EuropeanU.K. motor insurance.
In addition, certain “new” product lines, such as mortgage reinsurance (having historically been written by captive insurers allied with primary mortgage insurers or mortgage lenders), are now more widely available due to risk transfer programs initiated over the past few years by the Federal National Mortgage Association and the Federal Home Loan Mortgage Corporation. We believe the pricing for mortgage reinsurance is attractive on a risk-adjusted basis and have increased our writings as a result.
We target a medium- to long-term, lower volatility underwriting portfolio with tightly managed natural catastrophe exposure in order to reduce the likelihood that our capital and/or liquidity position would be adversely affected by a catastrophe event. We seek to limit our modeled net probable maximum loss, or PML, for property catastrophe exposures for each peak peril and peak zone from a modeled 1-in-250 year occurrence to no more than 10% of our total capital, which is less than most of our principal reinsurance competitors. As of March 31, 2019,June 30, 2020, our largest modeled peak peril and zone net occurrence PML was 2.3%, respectively,4.5% of our total capital. Our conscious effort to limit our catastrophe exposure is designed to lower the volatility of our overall underwriting portfolio and to provide greater certainty as to future claims-related payout patterns and timing. Our casualty-focused


underwriting portfolio’s payout pattern is slower than that of most competitors due to the longer tail lines of business we write, and that slower payout pattern provides us with the potential for greater investment income on those premiums.
While we seek to limit our exposure to catastrophic events to a level with which we feel comfortablebelieve is acceptable, given the liquidity profile of our underwriting portfolio and investment portfolios, we do assume meaningful aggregate exposures to natural and man-made catastrophic events.


Catastrophes can be caused by various events, including hurricanes, floods, windstorms, earthquakes, hailstorms, tornadoes, explosions, severe winter weather, fires, droughts and other natural disasters. Catastrophes can also cause losses in non-property business such as workers’ compensation or general liability. In addition to the general nature of the risks inherent in writing property business, we believe that economic and geographic trends affecting insured property, including inflation, property value appreciation and geographic concentration, tend to generally increase the size of losses from catastrophic events over time.
We monitor our exposure to catastrophic events, including earthquake and wind and periodically reevaluate the estimated PML for such exposures. Our estimated PML is determined through the use of modeling techniques, but such estimate does not represent our total potential loss for such exposures. Net PML estimates are net of expected reinsurance recoveries, before income tax and before excess reinsurance reinstatement premiums. Such modeled loss estimates are reflective of the zone indicated and not the entire portfolio. Since hurricanes and windstorms can affect more than one zone and make multiple landfalls, our loss estimates include clash estimates from other zones. Our loss estimates do not represent our maximum exposures and it is highly likely that our actual incurred losses would vary materially from the modeled estimates. There can be no assurances that we will not suffer pre-tax losses greater than 10% of total capital from one or more catastrophic events due to several factors, including the inherent uncertainties in estimating the frequency and severity of such events and the margin of error in making such determinations resulting from potential inaccuracies and inadequacies in the data provided by clients and brokers, the modeling techniques and the application of such techniques or as a result of a decision to change the percentage of shareholders’ equity exposed to a single catastrophic event. In addition, our actual losses may increase if our reinsurers fail to meet their obligations to us or the reinsurance protections purchased by us are exhausted or are otherwise unavailable. Depending on business opportunities and the mix of business that may comprise our underwriting portfolio, we may seek to adjust our self-imposed limitations on PML for catastrophe-exposed business.
For more information regarding our current outlook related to the impact of the COVID-19 global pandemic on the insurance and reinsurance industry and our business, see “-Current outlook” above.
Contractual obligations and commitments
LetterLloyds letter of credit and revolving credit facilitiesfacility
On May 16, 2018,15, 2020, Watford Re renewed its letter of credit facility with Lloyds Bank Corporate Markets Plc, New York Branch.Branch (the “Lloyds Facility”). The Lloyds facilityFacility amount is $100.0 million and was renewed through to May 16, 2019.2021. Under the renewed Lloyds Facility, we may request an increase in the facility amount, up to an aggregate of $50.0 million. The principal purpose of the Lloyds facilityFacility is to issue, as required, evergreen standby letters of credit in favor of primary insurance or reinsurance counterparties with which we have entered into reinsurance arrangements to ensure that such counterparties are permitted to take credit for reinsurance obtained from us as required under insurance regulations in the United States. The amount of letters of credit issued is driven by, among other things, the timing and payment of catastrophe losses, loss development of existing reserves, the payment pattern of such reserves, the further expansion of our business and the loss experience of such business. When issued, the letters of credit are secured by certificates of deposit or cash. In addition, the Lloyds facilityFacility also requires the maintenance of certain covenants, with which we were in compliance as of March 31, 2019June 30, 2020 and December 31, 2018.2019. At such dates, we


had approximately $72.1$48.7 million and $68.9$51.0 million, respectively, in restricted assets as collateral for outstanding letters of credit issued from the Lloyds facility,Facility, which were secured by certificates of deposit. These collateral amounts are reflected as short-term investments in our consolidated balance sheets.
Unsecured letter of credit facility
On September 20, 2019, Watford Re signed a 364-day letter of credit agreement with Lloyds Bank Corporate Markets Plc and BMO Capital Markets Corp. (the “Unsecured Facility”). The Unsecured Facility amount is $100.0 million, and will be automatically extended for a period of one year unless canceled or not renewed by either counterparty prior to expiration. The principal purpose of the Unsecured Facility is to issue, as required, evergreen standby letters of credit in favor of primary insurance or reinsurance counterparties with which we have entered into reinsurance arrangements to ensure that such counterparties are permitted to take credit for reinsurance obtained from us as required under insurance regulations in the United States. The amount of letters of credit issued is driven by, among other things, the timing and payment of catastrophe losses, loss development of existing reserves, the payment pattern of such reserves, the further expansion of our business and the loss experience of such business. The Unsecured Facility requires the maintenance of certain covenants, as well as certain representations and warranties that are customary for facilities of this type. At June 30, 2020 and December 31, 2019, we had $25.2 million and $19.3 million, respectively, in outstanding letters of credit issued from the Unsecured Facility, and were in compliance with the Unsecured Facility requirements. At such dates, we had $25.2 million and $Nil, respectively, in certificates of deposit held as restricted collateral related to outstanding letters of credit issued from the Unsecured Facility. These collateral amounts are reflected as short-term investments in our consolidated balance sheets.
Bank of America secured credit facility
On November 30, 2017, Watford Re amended and restated its $800.0 million secured credit facility (the “Secured Facility”) with Bank of America, N.A. through Watford Trust, which had originally been entered into in June 2015. Watford Re owns all of the beneficial interests of Watford Trust. The facilitySecured Facility expires on November 30, 2021 and is backed by a portion of Watford Re’s non-investment grade portfolio which has been transferred to Watford Trust and which continues to be managed by HPS pursuant to an investment management agreement between HPS and Watford Trust. The purpose of the facilitySecured Facility is to provide borrowing capacity, including for the purchase of loans, securities and other


assets and to distribute cash or any such loans, securities or other assets to Watford Re. Pursuant to our credit agreement,this Secured Facility, the bank assigns borrowing or letter of credit capacity (or “advance rate”) for each eligible asset type held in the trust. Under our credit agreement, advance rates range from 100% for cash and 80% for certain first-lien loans to 40% for certain small-issue unsecured bonds.
Borrowings onunder the facilitySecured Facility may be made at LIBOR or an alternative base rate at our option, in either case plus an applicable margin. The applicable margin varies based on the applicable base rate and, in the case of LIBOR rate borrowings, the currency in which the borrowing is denominated. In addition, the facilitySecured Facility allows for us to issue up to $400.0 million in evergreen standby letters of credit in favor of primary insurance or reinsurance counterparties with which we have entered into reinsurance arrangements. We pay a fee on each letter of credit equal to the amount available to be drawn under such letter of credit multiplied by an applicable percentage. The applicable percentage varies based on the currency in which the letter of credit is denominated.


The borrowings and outstanding letters fromof credit from the Bank of America secured credit facilitySecured Facility were as follows:
March 31, December 31,June 30, December 31,
2019 20182020 2019
($ in thousands)($ in thousands)
Borrowings to purchase investments$162,125
 $148,194
$171,837
 $155,537
Borrowings to purchase collateral326,487
 307,487
163,750
 328,750
Total secured credit facility borrowings488,612
 455,681
335,587
 484,287
Outstanding letters of credit52,533
 52,533
52,533
 52,533
The secured credit facilitySecured Facility contains various affirmative and negative covenants. As of March 31, 2019June 30, 2020 and December 31, 2018,2019, Watford Re was in compliance with all covenants contained in the Bank of America secured credit facility.Secured Facility.
Custodian bank facilityfacilities
As of March 31, 2019June 30, 2020 and December 31, 2018,2019, we borrowed $164.1had borrowings of $136.8 million and $238.2 million,$Nil, respectively, from our custodian bankbanks to purchase U.S.-denominatedU.S. dollar denominated securities. We pay interest based on 3-month LIBOR plus a margin and the borrowed amount is payable upon demand.
As of March 31, 2019 and December 31, 2018,June 30, 2020, the total borrowed amount of $164.1 million and $238.2$136.8 million included 2.00.6 million and 2.0 million Swiss Francs,Euros, or CHF, respectivelyEUR, (U.S. dollar equivalent of $2.0 million and $2.0 million, respectively),$0.7 million) to purchase CHF-denominatedEUR-denominated securities. We pay interest based on 3-month LIBOR plus a margin and the borrowed amount is payable upon demand. The foreign exchange gain or loss on revaluation on the non-U.S. dollar-denominated borrowed Euro denominated funds is included as a component of “net foreign exchange gains (losses)” included in the consolidated statements of net income (loss).
The custodian bank requiresbanks require us to hold cash and investments inon deposit, with, or in an investment account with respect to the borrowed funds. As at March 31, 2019At June 30, 2020 and December 31, 2018,2019, we were required to hold $246.9$214.9 million and $339.1 million,$Nil, respectively, in such deposits and investment accounts.
Senior notes
On July 2, 2019, we completed a private offering of $175.0 million in aggregate principal amount of our 6.5% senior notes, due July 2, 2029. Interest on the senior notes is paid semi-annually in arrears on each January 2 and July 2, which commenced on January 2, 2020. The senior notes are Watford Holding’s senior unsecured and unsubordinated obligations and rank equally with all of the other existing and future obligations of Watford Holdings that are unsecured and unsubordinated. We may redeem the senior notes at any time, in whole or in part, prior to July 2, 2024, at “make-whole” redemption price, subject to BMA requirements. The senior notes are redeemable, in whole or in part, at a redemption price equal to 100% of the principal amount, subject to BMA requirements, at any time after July 2, 2024. At June 30, 2020, the carrying amount of the senior notes was $172.6 million, presented net of unamortized debt issuance costs of $2.4 million.
Master confirmation of total return swap transactions
On August 13, 2018, Watford Re executed a Master Confirmation of Total Return Swap Transactions or the Master TRS,(the “Master TRS”) with Credit Suisse International or CSI,(“CSI”) under the ISDA Master Agreement between Watford Re and CSI dated as of April 24, 2014. Under the Master TRS, we can from time to time execute total return swap transactions referencing loan obligations. The purpose of the Master TRS is to allow us to obtain leveraged exposure to loan obligations in a cash efficient manner. Since each transaction will be confirmed separately, the Master TRS is uncommitted and does not have a maximum facility size. Each confirmed transaction executed under the Master TRS will expire on the


earlier of (i) the repayment date of the underlying reference loan or (ii) the date specified in the confirmation, which cannot be later than 360 days after the date of the confirmation, provided that


each transaction will automatically extend for a further 360 days unless certain events have occurred. Under the terms of the Master TRS, we are required to post collateral to CSI under our ISDA Credit Support Annex with CSI to support our obligations under each transaction. The collateral will comprise an initial amount, determined on a transaction-by-transaction basis, plus an amount calculated on the basis of the daily mark-to-market value of the transaction. Under each transaction, CSI will pay to us an amount equal to the amounts received by a lender of the specified principal amount under the relevant reference loan and, if the transaction is terminated before the loan is repaid, an amount based on the change in market value of the loan. We have the option to terminate any transaction at will, subject to paying a break fee, and CSI can terminate transactions if certain events occur, including the unavailability of market prices for the relevant loan, CSI being unable to hedge the relevant transaction or certain changes of law or regulation.
Pledged and restricted assets
For the benefit of certain Arch entities and other third parties that cede business to us, we are required to post and maintain collateral to support our potential obligations under reinsurance contracts that we write. This collateral can be in the form of either investment assets held in collateral trust accounts or letters of credit. Under our credit facilities, in order for us to have the bank issue a letter of credit to our reinsurance contract counterparty, we must post investment assets or cash as collateral to the bank. In either case, the amounts remain restricted for the duration of the term of the trust or letter of credit, as applicable. See Note 12 -13, “Commitments and contingencies” toin our consolidated financial statements included elsewhere in Part I, Item 1 of this report for further details.
As of March 31, 2019June 30, 2020 and December 31, 2018,2019, we held $2.4$2.2 billion and $2.4$2.1 billion, respectively, in pledged assets in support of insurance and reinsurance liabilities as well as to collateralize our credit facilities. Included within total pledged assets, we held $6.2$6.7 million and $5.5$6.4 million, respectively, in deposits with U.S. regulatory authorities.
The following table summarizes our assets pledged as collateral for credit and letter of credit facilities and total return swap transactions, assets held in trust for underwriting transactions and regulatory deposits as of March 31, 2019June 30, 2020 and December 31, 2018:2019:
 March 31, December 31,
 2019 2018
 ($ in thousands)
Total investments pledged for BAML credit facility$904,965
 $917,837
Total investments pledged for custodian bank246,930
 339,139
Total investments pledged for Lloyds credit facility72,114
 68,853
Total investments pledged for Master TRS46,760
 36,336
Total investments held in trust as collateral for underwriting transactions and regulatory deposits1,095,067
 988,872
 June 30, December 31,
 2020 2019
 ($ in thousands)
Total investments held in trust as collateral for underwriting transactions and regulatory deposits$958,380
 $1,087,707
Total investments pledged for Secured Facility859,496
 935,132
Total investments pledged for custodian banks214,870
 —
Total investments pledged for Lloyds Facilities73,873
 51,047
Total investments pledged for Master TRS60,666
 64,107


Contractual obligations and commitments
The following table illustrates our contractual obligations and commitments by due date as of March 31, 2019June 30, 2020 and December 31, 2018:2019:
Payments Due by PeriodPayments Due by Period
Total Less Than One Year One Year to Less Than Three Years Three Years to Less Than Five Years More Than Five YearsTotal Less Than One Year One Year to Less Than Three Years Three Years to Less Than Five Years More Than Five Years
($ in thousands)($ in thousands)
March 31, 2019 
June 30, 2020 
Estimated gross payments for losses and loss adjustment expenses (1)$1,104,532
 $261,760
 $339,780
 $181,612
 $321,380
$1,353,049
 $338,760
 $453,577
 $237,731
 $322,981
Revolving credit agreement borrowings (2)652,743
 652,743
 —
 —
 —
Interest payments on senior notes (2)108,094
 11,375
 22,750
 22,750
 51,219
Senior notes (2)175,000
 —
 —
 —
 175,000
Revolving credit agreement borrowings (3)472,361
 472,361
 —
 —
 —
Operating lease obligations1,250
 283
 566
 401
 —
897
 283
 566
 48
 —
Total$1,758,525
 $914,786
 $340,346
 $182,013
 $321,380
$2,109,401
 $822,779
 $476,893
 $260,529
 $549,200
December 31, 2018 
December 31, 2019 
Estimated gross payments for losses and loss adjustment expenses (1)$1,032,760
 $238,291
 $316,166
 $172,955
 $305,348
$1,263,628
 $319,685
 $415,163
 $223,406
 $305,374
Revolving credit agreement borrowings (2)693,917
 693,917
 —
 —
 —
Interest payments on senior notes (2)108,094
 11,375
 22,750
 22,750
 51,219
Senior notes (2)175,000
 —
 —
 —
 175,000
Revolving credit agreement borrowings (3)484,287
 484,287
 —
 —
 —
Operating lease obligations1,321
 283
 566
 472
 —
1,038
 283
 566
 189
 —
Total$1,727,998
 $932,491
 $316,732
 $173,427
 $305,348
$2,032,047
 $815,630
 $438,479
 $246,345
 $531,593
(1) The estimated expected contractual commitments related to the reserves for loss and loss adjustment expenses are presented on a gross basis (not reflecting any corresponding reinsurance recoverable amounts that would be due to us). As of June 30, 2020, the modeled duration of our claims reserves was approximately 4.4 years.
(2) On July 2, 2019 we completed a private offering of $175.0 million aggregate principal amount of our 6.5% senior notes due July 2, 2029. Interest on the senior notes is paid semi-annually in arrears on each January 2 and July 2, which commenced on January 2, 2020.
(3) Revolving credit agreement borrowings include borrowings from our custodian bank to purchase securities, which is payable on demand. Therefore we have assumed that these payments will be made within one year, but payment may occur over a longer period of time.
Reserves for losses and loss adjustment expenses represent our best estimate of the ultimate cost of settling reported and unreported claims and related expenses. As discussed previously, the estimation of loss and loss expense reserves is based on various complex and subjective judgments. Actual losses and settlement expenses we are ultimately required to pay may deviate, perhaps substantially, from the reserve estimates reflected in our financial statements. Similarly, the timing for payment of our estimated losses is not fixed and is not determinable on an individual or aggregate basis. The assumptions used in estimating the payments due by period are based on industry and peer-group claims payment experience. Due to the uncertainty inherent in the process of estimating the timing of such payments, there is a risk that the amounts paid in any period can be significantly different than the amounts discussed above. Amounts discussed above are gross of anticipated amounts recoverable from reinsurers. Reinsurance balances recoverable on reserves for losses and loss adjustment expenses are reported separately as assets, instead of being netted with the related liabilities, since having purchased reinsurance does not discharge us of our liability to policyholders. Reinsurance balances recoverable on reserves for paid and unpaid losses and loss adjustment expenses as of March 31, 2019June 30, 2020 and December 31, 20182019 totaled $102.8$229.7 million and $86.4$171.0 million, respectively.


Inflation
The effects of inflation are considered implicitly in pricing our contracts and policies through the modeled components such as demand surge. Loss reserves are established to recognize likely loss settlements at the date payment is made. Those reserves inherently recognize the effects of


inflation. The actual effects of inflation on our results cannot be accurately known, however, until claims are ultimately resolved.
Off-balance sheet arrangements
We are not party to any transaction, agreement or other contractual arrangement to which an entity unconsolidated with us is a party that management believes is reasonably likely to have a current or future effect on our financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that is material to investors.


Item 3. Quantitative and qualitative disclosures about market risk
We believe we are principally exposed to the following types of market risk:
foreign currency risk;
interest rate risk;
credit spread risk;
credit risk;
liquidity risk; and
political risk.
Foreign currency risk
Underwriting contracts and policies
Foreign currency rate risk is the potential change in value, income and cash flow arising from adverse changes in foreign currency exchange rates. We have foreign currency exposure related to non-U.S. dollar denominated contracts and policies. Of our gross premiums written from inception, $1.1$1.5 billion, or 39.8%40.7%, were written in currencies other than the U.S. dollar. For these contracts, non-U.S. dollar assets generally offset liabilities in the same non-U.S. dollar currencies resulting in minimal net exposure. As of March 31, 2019June 30, 2020 and December 31, 2018,2019, net loss and loss adjustment expense reserves included $352.0$435.8 million and $310.2$413.7 million, respectively, in foreign currencies.
Investments
We are exposed to foreign currency risk through cash and investments in loans and securities denominated in foreign currencies. Foreign currency exchange rate risk is the potential for adverse changes in the U.S. dollar value of investments (long and short) and foreign currency derivative instruments, which we may employ from a risk management perspective, due to a change in the exchange rate of the foreign currency in which cash and financial instruments are denominated. As of March 31, 2019June 30, 2020 and December 31, 2018,2019, our total net long exposure to foreign denominated investments represented 10.1%12.9% and 9.5%11.5% of our total investment portfolios of $2.8$2.6 billion and $2.7 billion, respectively.


The following table summarizes the net impact that a 10% increase and decrease in the value of the U.S. dollar against select foreign currencies in which we have written contracts and policies would have had on the value of our shareholders’ equity as of March 31, 2019June 30, 2020 and December 31, 2018:2019:
March 31, December 31,June 30, December 31,
2019 20182020 2019
(U.S. dollars in thousands, except per share data)      
Assets, net of insurance liabilities, denominated in foreign currencies, excluding shareholders’ equity and derivatives$93,484
 $65,674
$90,587
 $56,382
Shareholders’ equity denominated in foreign currencies (1)(24,096) (23,501)(22,068) (26,529)
Net assets denominated in foreign currencies$69,388
 $42,173
$68,519
 $29,853
Pre-tax impact of a hypothetical 10% appreciation of the U.S. dollar against foreign currencies:      
Shareholders’ equity$(6,939) $(4,217)$(6,852) $(2,985)
Book value per common share$(0.31) $(0.19)
Book value per diluted common share$(0.34) $(0.15)
Pre-tax impact of a hypothetical 10% decline of the U.S. dollar against foreign currencies:      
Shareholders’ equity$6,939
 $4,217
$6,852
 $2,985
Book value per common share$0.31
 $0.19
Book value per diluted common share$0.34
 $0.15
(1) Represents capital contributions held in the foreign currency of WICE.
Although we generally attempt to match the currency of our projected liabilities with investments in the same currencies, from time to time we may elect to over or underweight one or more currencies, which could increase our exposure to foreign currency fluctuations and increase the volatility of our shareholders’ equity. Historical observations indicate a low probability that all foreign currency exchange rates would shift against the U.S. dollar in the same direction and at the same time and, accordingly, the actual effect of foreign currency rate movements may differ materially from the amounts set forth above.
Interest rate risk
Our investment portfolios include interest rate sensitive securities, such as corporate and sovereign debt instruments and asset-backed securities. One key market risk exposure for any debt instrument is interest rate risk. As interest rates rise, the market value of our fixed income portfolio may fall, and the opposite is generally true when interest rates fall. Based on historical observations, there is a low probability that all interest rate yield curves would shift in the same direction at the same time. Furthermore, at times interest rate movements in certain credit sectors exhibit a much lower correlation to changes in U.S. Treasury yields. Accordingly, the actual effect of interest rate movements may differ materially from the amounts set forth in the following tables.


The following table estimates the impact that a 50 basis point and 100 basis point increase or decrease in interest rates would have had on the value of our non-investment grade and investment grade portfolios as of March 31, 2019June 30, 2020 and December 31, 2018:2019:
Interest Rate Shift in Basis PointsInterest Rate Shift in Basis Points
(U.S. dollars in millions)-100 -50 0 +50 +100-100 -50 0 +50 +100
March 31, 2019         
June 30, 2020         
Total fair value$2,867
 $2,849
 $2,830
 $2,812
 $2,794
$2,680
 $2,662
 $2,639
 $2,612
 $2,588
Change from base1.3% 0.7% —% (0.6)% (1.3)%1.6% 0.9% —% (1.0)% (1.9)%
Change in unrealized value$37
 $19
 $—
 $(18) $(36)$41
 $23
 $—
 $(27) $(51)
                  
December 31, 2018         
December 31, 2019         
Total fair value$2,778
 $2,758
 $2,738
 $2,719
 $2,700
$2,739
 $2,724
 $2,709
 $2,693
 $2,679
Change from base1.5% 0.7% —% (0.7)% (1.4)%1.1% 0.6% —% (0.6)% (1.1)%
Change in unrealized value$40
 $20
 $—
 $(19) $(38)$30
 $15
 $—
 $(16) $(30)
Credit spread risk
We invest in credit spread sensitive assets, primarily debt assets. We consider the effect of credit spread movements on the market value of our fixed maturity investments, short-term investments, and certain of our other investments and the corresponding change in market value. As credit spreads widen, the fair value of our fixed income investments falls, and the converse is also true. Based upon historical observations, there is a low probability that credit spreads would change in the same magnitude across asset classes, industries, credit ratings, jurisdictions and individual instruments. Accordingly, the actual effect of credit spread movements may differ materially from the amounts set forth in the following tables.
The following table summarizes the effect that an immediate, parallel shift in credit spreads in a static interest rate environment would have had on the value of our investment portfolios as of March 31, 2019June 30, 2020 and December 31, 2018:2019:
Percentage Shift in Credit SpreadsPercentage Shift in Credit Spreads
(U.S. dollars in millions)-50% -10% 0 +10% +50%-50% -10% 0 +10% +50%
March 31, 2019         
June 30, 2020         
Total fair value$2,987
 $2,864
 $2,830
 $2,800
 $2,663
$2,861
 $2,683
 $2,639
 $2,591
 $2,419
Change from base5.5% 1.2% —% (1.1)% (5.9)%8.4% 1.7% —% (1.8)% (8.3)%
Change in unrealized value$157
 $34
 $—
 $(30) $167
$222
 $44
 $—
 $(48) $(220)
                  
December 31, 2018         
December 31, 2019         
Total fair value$2,930
 $2,778
 $2,738
 $2,698
 $2,539
$2,836
 $2,735
 $2,709
 $2,681
 $2,569
Change from base6.6% 1.4% —% (1.5)% (7.8)%4.7% 1.0% —% (1.0)% (5.2)%
Change in unrealized value$192
 $40
 $—
 $(40) $(199)$127
 $26
 $—
 $(28) $(140)
Credit risk
Underwriting contracts and policies
We are exposed to credit risk from our clients relating to premiums receivable under our contracts and policies, and the possibility that counterparties may default on their obligations to us. The risk of counterparty default is partially mitigated by the fact that any amount owed to us from an


insurance or reinsurance counterparty would be netted against any losses we would pay in the future. We monitor the collectability of these premiums on a regular basis.
Investments
Our investment strategy is to invest primarily in the debt obligations of non-investment grade corporate issuers. We rely upon our Investment Managers to invest our funds in debt instruments that provide an attractive risk-adjusted return, but the value we ultimately receive from these debt instruments is dependent upon the performance of the issuers of such obligations. In addition, the securities and cash in our investment portfolios are held with several custodians and prime brokers, subjecting us to the related credit risk from the possibility that one or more of them may default on their obligations to us. Our Investment Managers regularly monitor the concentration of credit risk with each broker and if necessary, transfer cash or securities among brokers to diversify and mitigate our credit risk.
Liquidity risk
Certain of our investments are, or may become, illiquid. Disruptions in the credit markets may materially affect the liquidity of certain investments including our Level 3 (non-quoted) assets, which, as of March 31, 2019June 30, 2020 and December 31, 2018,2019, represented 6.1%5.2% and 6.0%5.4% of our total


investments, respectively. If we require significant amounts of cash on short notice in excess of normalanticipated cash requirements, which could include the payment of claims expenses or to satisfy a requirement of rating agencies in a period of market illiquidity, certain of our investments may be difficult to sell in a timely manner and may have to be sold or otherwise liquidated for less than what may otherwise have been possible under normal market conditions.
Political risk
We are exposed to political risk to the extent that we underwrite business from entities located in foreign markets; we operate through subsidiaries located in Bermuda, the United States and Gibraltar, and to the extent that HPS or AIM trade securities or assets that are originated, listed or traded in various U.S. and foreign markets. The governments in any of these jurisdictions could impose restrictions, regulations or other measures which may have a material impact on our investment strategy, the value of our investments and our underwriting operations.
We do not currently write political risk coverage in our insurance or reinsurance contracts; however, changes in government law and regulation may impact our underwriting operations.

Item 4. Controls and Proceduresprocedures
Evaluation of Disclosure Controls and Procedures
We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in the reports we file under the Securities Exchange Act ofon 1934, as amended, or the Exchange Act, is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required financial disclosure.
As of the end of the period covered by this report, we carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures defined under Rules 13a-15(e) and 15d-15(e) under the Exchange Act. Based upon this evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective.
Changes in Internal Controls over Financial Reporting
There were no changes in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during the fiscal quarter ended March 31, 2019June 30, 2020 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. We have not experienced any material impact to our internal controls over financial reporting despite the fact that most employees of the Company and of our service providers have had to work from home during the COVID-19 global pandemic, though we will continue to assess the impact on the design and operating effectiveness of our internal controls.
Inherent Limitations on Effectiveness of Controls
The effectiveness of any system of controls and procedures is subject to certain limitations, and, as a result, there can be no assurance that our controls and procedures will detect all errors or fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system will be attained.


Part II. Other Informationinformation
Item 1. Legal proceedings
We, in common with the insurance industry in general, are subject to litigation and arbitration in the normal course of our business. As of March 31, 2019,June 30, 2020, we were not a party to any litigation or arbitration which is expected by management to have a material adverse effect on our results of operations and financial condition and liquidity.
Item 1A. Risk factors
Investing in our common sharessecurities involves risks. For a discussion of the these potential risks or uncertainties, please see Part I—Item 1A—“Risk Factors” and uncertainties, seePart II—Item 7—“Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our Annual Report on Form 10-K for the information under the heading “Risk factors” (or the Risk Factor Section) beginning on page 22 of our prospectus dated March 26,year ended December 31, 2019 related to the direct listing of our common shares on the Nasdaq Global Select Market, filed with the SEC (or our 2019 Annual Report), and Part I—Item 2—“Management’s Discussion and Analysis of Financial Condition and Results of Operations” in accordancethis report, in each case as updated by our subsequent periodic filings with Rule 424(b)the SEC.
Other than as described below, there have been no material changes from the risk factors previously disclosed in Part I—Item 1A, “Risk Factors” of our 2019 Annual Report.
The impact of the Securities ActCOVID-19 global pandemic and related risks could materially affect our results of operations, financial position and/or liquidity.
The continuing, global pandemic caused by the novel coronavirus COVID-19 has continued to impact the global economy, financial markets and our results of operations. In addition, the COVID-19 global pandemic could materially disrupt the business operations of Arch, HPS or other third parties with whom we interact. Because of the size and breadth of this pandemic, all of the direct and indirect consequences of the COVID-19 global pandemic are not yet known and are likely to continue to emerge for some time.
The pandemic could have a significant effect on March 28, 2019, which prospectus is accessibleour business, results of operations, and current and future financial performance. We may continue to experience higher levels of loss and claims activity in certain lines of business and our premiums written and earned could also be adversely affected by a suppression of global commercial activity that results in a reduction in insurable assets and other exposures. Conditions in the financial markets resulting from the COVID-19 global pandemic continue to have a negative effect on the SEC’s websitevalue and quality of the assets we hold within our investment portfolios, thereby adversely affecting our investment income and increasing our credit and related risk. Certain lines of our business may require additional forms of collateral in the event of a decline in the fair value of investments and benchmarks to which those repayment mechanisms are linked. The continued impacts of the pandemic to the financial markets may also adversely affect our ability to access funding through public or private equity offerings, debt financings, and through other means at www.sec.govacceptable terms. In addition, in connection with our pending acquisition of Axeria IARD, we are also evaluating Axeria’s potential exposure to COVID-19 global pandemic related losses.
In particular, disruption in the financial markets related to the COVID-19 global pandemic has contributed to net realized and unrealized losses, due to the impact of changes in fair value on our non-investment grade investment portfolio, and, to a lesser extent, our investment grade investment portfolio. Our investment portfolios may continue to be adversely impacted by ratings downgrades, increased bankruptcies and credit spread widening in distressed industries, such as energy, gaming, lodging and leisure, autos, airlines and retail. Our investment portfolios also include mortgage-backed securities, which could continue to be adversely impacted by declines in


real estate valuations and/or financial market disruption, including a heightened collection risk on the underlying mortgages and on rent receivables. Further disruptions in global financial markets due to the continuing impact of the COVID-19 global pandemic could result in additional net realized and unrealized investment losses, including potential impairments in our investment portfolios. In addition, declines in fixed income yields would result in decreases in net investment income from future investment activity, including re-investments.
For further discussion of certain of the risks related to our underwriting and investment portfolios, see “Claims for natural catastrophic events or unanticipated losses from war, pandemic, terrorism and political instability could cause large losses and substantial volatility in our results of operations and could have a material adverse effect on our financial position and results of operations,” “Emerging claim and coverage issues may adversely affect our business,” “The performance of our investments is highly dependent upon conditions in the global economy or financial markets that are outside of our Investment Managers’ control and can be difficult to predict,” and “The determination of the amount of allowances and impairments taken on our investments is highly subjective and could materially impact our results of operations or financial position.” included in Part I—Item 1A—“Risk Factor SectionFactors” in our 2019 Form 10-K.
Governmental and regulatory actions in response to the COVID-19 global pandemic may adversely affect our financial performance and our ability to conduct our businesses as we have in the past.
Federal, state and/or local government actions in the United States and other countries where we do business to address and mitigate the impact of the COVID-19 global pandemic have adversely affected us and may adversely affect us in the future. For example, the coverages we provide are potentially subject to legislative and/or regulatory action that seeks to retroactively mandate coverage for losses which our (re)insurance policies were not designed or priced to cover. One such example of regulatory action is incorporatedthe ongoing U.K. Financial Conduct Authority test case on business interruption insurance coverage. Currently, in some states there is proposed legislation to require insurers to cover business interruption claims irrespective of terms, exclusions or other conditions included in the policies that would otherwise preclude coverage. In addition, a number of states have instituted, and other states are considering instituting, changes designed to effectively expand workers’ compensation coverage by reference herein.creating presumptions of compensability of claims for certain types of workers. Regulatory restrictions or requirements have impacted or may impact pricing, risk selection and our rights and obligations with respect to our policies and insureds, including our ability to cancel and non-renew policies and to collect premiums. Several state regulators have issued orders requiring insurers to issue partial premium refunds, and regulators in other states could take similar actions. Many insurers, including us, have also voluntarily provided, and may further provide, partial premium refunds to their customers. It is also possible that changes in economic conditions and steps taken by federal, state and local governments in response to the COVID-19 global pandemic could require an increase in taxes at the federal, state and local levels, which could adversely impact our results of operations. In addition, in connection with our pending acquisition of Axeria IARD, we are also evaluating the potential impact such governmental actions, restrictions and requirements could have on Axeria’s business.
The disruption and other effects caused by the COVID-19 global pandemic could continue to adversely affect our business operations, financial performance and results.
To protect our employees and in response to the global and regional restrictions on interpersonal contact and travel because of the COVID-19 global pandemic, our work force is working remotely, placing increased demands on our IT systems. Remote working arrangements may increase the risk of cyber-security attacks or data security incidents. While we believe we have continued to conduct our business effectively, there is no assurance that our ability to continue to function in this new environment will not be adversely affected by an extended period of limited access to our physical facilities or by other developments such as an extended disruption to our systems that support our remote work capability. We also depend on Arch, HPS and other third-party platforms and


infrastructure to operate our business and provide certain of our products and services, and such third-party infrastructures face similar risks. In addition, the continuation of the COVID-19 global pandemic may continue to adversely affect our business operations, including our ability to carry on business development activities and unavailability of employees due to illness or quarantines, among others. In addition, in connection with our pending acquisition of Axeria IARD, we are also evaluating the potential impact of such disruptions and restrictions could have on Axeria’s operations. For a further discussion, see “We depend on our ability to maintain effective operating procedures, and our operational structure remains under development.” “Any acquisitions, growth or expansion of our operations may expose us to risks.” and “Technology breaches or failures, including those resulting from a cyberattack on us or our service providers and program administrators, could disrupt or otherwise negatively impact our business.” included in Part I-Item 1A-“Risk Factors” in our 2019 Form 10-K.
As a result of the above risks, the COVID-19 global pandemic could materially and adversely impact our results of operations, financial position and/or liquidity.
A ratings downgrade or other negative action by a rating agency could materially affect our business, financial condition and results of operations. 
Various rating agencies review the financial performance and condition of insurance and reinsurance companies, including our operating subsidiaries, and publish their financial strength ratings as indicators of an insurer’s or reinsurer’s ability to fulfill its contractual obligations. These ratings are important to maintaining public confidence in our insurance and reinsurance products. A downgrade or other negative action by a rating agency with respect to the financial strength ratings of our operating subsidiaries could negatively affect us by limiting or restricting the ability of our operating subsidiaries to pay dividends to us and reducing our revenues by adversely affecting our ability to write insurance and reinsurance business.
Rating agencies also publish credit ratings for us. Credit ratings are indicators of a debt issuer’s ability to meet the terms of debt obligations in a timely manner. These ratings are important to our overall ability to access certain types of capital. Actual or anticipated downgrades in our credit ratings, or an announcement that our ratings are under further review for a downgrade, could potentially have a negative effect on our financial condition and results of operations. Such an event could limit our access to capital markets, increase the cost of debt, or impair our ability to raise capital to refinance maturing debt obligations, thereby potentially limiting our capacity to support growth at our operating subsidiaries or making it more difficult to maintain or improve the current financial strength ratings of our operating subsidiaries.
In particular, in May 2020, A.M. Best announced that it had placed the financial strength ratings of our operating subsidiaries and our credit ratings under review with negative implications. In addition, in June 2020, KBRA reaffirmed the “A” insurance financial strength ratings of our operating subsidiaries, and revised the outlook for all of the ratings to negative. For more information, see Part I, Item 2. “Management’s Discussion and Analysis of Financial Condition and Results of Operations-Financial Condition, Liquidity and Capital Resources- Liquidity and Capital Resources-Ratings” in this report.
Ratings reflect only a rating agency’s views and are not recommendations to buy, sell or hold our securities. Rating agencies assign ratings based upon several factors. While most of the factors relate to the rated company, some of the factors relate to the views of the rating agency, general economic conditions and circumstances outside the rated company’s control. In addition, rating agencies use various models and formulas to assess the strength of a rated company, and from time to time rating agencies have, in their discretion, altered the models. Changes to the models could impact a rating agency’s judgment of the rating to be assigned to the rated company. There can be no assurance that our current financial strength and credit ratings will remain in effect for any given period of time, particularly in light of the recent announcements by A.M. Best and KBRA, or that these ratings will not be lowered, suspended or withdrawn entirely by the rating agencies. We


cannot predict what actions A.M. Best, KBRA or other rating agencies may take, or what actions we may take in response to the actions of the rating agencies, which could negatively affect our business, financial condition and results of operations.
Shareholder activism, including public criticism of our company or our management team, may adversely affect us.
In May 2020, Capital Returns Management LLC published and delivered a letter to our Board of Directors that, among other things, urged our Board to undertake a strategic review of our company. Any perceived uncertainties as to our future direction, strategy or leadership created as a consequence of this letter or other activist shareholder initiatives may adversely affect our business or cause our share price to experience periods of volatility or stagnation.


Item 2. Unregistered sales of equity securities and use of proceeds
In the first quarter of 2020, our board of directors authorized a share repurchase program, which allows us to make repurchases of up to $50 million of our common shares from time to time in open market or privately negotiated transactions. For more information, see Part I Item 2 “Management’s discussion and analysis of financial condition and results of operations—Liquidity and capital resources—Capital resources.”
During the three months ended June 30, 2020, we did not repurchase any of our common shares under our share repurchase program and approximately $47.1 million of unused share repurchase capacity remained available under the program.
  Issuer Purchases of Common Shares
Period Total Number of Shares Purchased Average Price Paid Per Share Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs Approximate Dollar Value of Shares that May Yet be Purchased Under the Plan or Program
Beginning dollar amount available to be repurchased       $47,136
4/1/2020 - 4/30/2020 —
 $—
 —
 —
5/1/2020 - 5/31/2020 —
 —
 —
 —
6/1/2020 - 6/30/2020 —
 —
 —
 —
Total —
 $—
 —
 $47,136
Item 3. Defaults upon senior securities
None.
Item 4. Mine safety disclosures
None.
Item 5. Other information
None.On May 15, 2020, Watford Re renewed its letter of credit facility with Lloyds Bank Corporate Markets Plc, New York Branch from May 16, 2020 through to May 16, 2021. For additional information regarding the Lloyds Facility, see Part I Item 2 “Management’s discussion and analysis of financial condition and results of operations - Contractual obligations and commitments - Letter of credit facility.”
As previously disclosed, on March 31, 2020, Jonathan D. Levy was appointed as our Chief Executive Officer. Mr. Levy’s appointment is subject to Bermuda immigration approval. In connection with Mr. Levy's appointment, we entered into an amended and restated employment agreement, dated August 6, 2020, with Mr. Levy (the "Levy Employment Agreement").

The term of employment is three years commencing January 1, 2018, subject to automatic one-year extensions unless either we or Mr. Levy provide 90 days’ notice of non-renewal. For 2020, Mr. Levy’s

annual base salary is $475,000 and his annual target annual bonus is 70% of his base salary. In connection with and following the completion of the direct listing of our common shares on the Nasdaq Global Select Market on March 28, 2019, and pursuant to the terms of the Levy Employment Agreement, in May 2019, we granted restricted share units of our common shares to Mr. Levy with a value of $900,000 (based on the average of the closing price of our common shares on the first 20 trading days of our common shares on the Nasdaq Global Select Market). The restricted share units vest in equal annual installments on each of the first three anniversaries of April 26, 2019. Upon vesting, Mr. Levy receives a number of shares of common shares equal to the number of restricted share units that have vested. In addition, each calendar year beginning with 2020, we will grant to Mr. Levy restricted share units of our common shares with a target value of $300,000 based upon our compensation committee’s assessment of Mr. Levy’s performance, one-half of which will vest in equal annual installments on each of the first three anniversaries of the grant date and one-half of which will vest based on the achievement of performance goals established by our compensation committee. If we elect not to renew the term of the Levy Employment Agreement, if we terminate Mr. Levy’s employment without Cause or if Mr. Levy terminates his employment for Good Reason (as each term is defined in the Levy Employment Agreement), we will continue to pay Mr. Levy his base salary for 12 months (24 months if the termination follows a change in control of Watford Holdings Ltd.), pay him 100% of his target annual bonus (200% if the termination follows a change in control), and his outstanding unvested restricted share units will remain outstanding and continue to vest in accordance with their terms for 12 months (all unvested restricted share units will vest if the termination is following a change in control, with performance-vesting units vesting at “target” levels). Our severance obligation to Mr. Levy is conditioned on his compliance with the restrictive covenants set forth in the Levy Employment Agreement and his execution and non-revocation of a release of claims in favor of us. Mr. Levy is subject to non-competition and non-solicitation of employees and customers covenants for a period of 12 months following termination of employment. If we elect to enforce the non-competition covenant in circumstances where Mr. Levy is not paid severance, we must continue to pay Mr. Levy his base salary and provide medical insurance for 12 months, and pay him an amount equal to his target annual bonus.

The above summary description of certain terms contained in the Levy Employment Agreement does not purport to be complete and is qualified in its entirety by reference to the full text of the agreement, a copy of which is filed as Exhibit 10.2 hereto.


Item 6. Exhibit index
Incorporated by Reference  
Exhibit
Number
Exhibit DescriptionFormOriginal Exhibit NumberDate FiledFiled Herewith
10.1
Facility extension letter agreement between Lloyds Bank Corporate Markets plc and Watford Re Ltd., effective as of May 15, 2020
X
10.2
Amended and Restated ServicesEmployment Agreement by and among Watford Re Ltd.,between Watford Holdings Ltd., Arch Underwriters Ltd., and HPS Investment Partners, LLC,Jonathan D. Levy, dated January 1, 2019August 6, 2020 (incorporated by reference to Exhibit 10.1 to the Registration Statement on Form 10 filed by Watford Holdings Ltd. on January 29, 2019 (File No. 001-38788)).
10.1.1
Addendum No. 1 effective as of January 1, 2019 to Services Agreement by and among Watford Re Ltd., Watford Holdings Ltd., Arch Underwriters Ltd., and HPS Investment Partners, LLC (incorporated by reference to Exhibit 10.1.1 to the Registration Statement on Form 10 filed by Watford Holdings Ltd. on January 29, 2019 (File No. 001-38788)).
10.2
Letter Agreement with Arch Reinsurance Limited (incorporated by reference to Exhibit 10.40 to Amendment No. 1 to the Registration Statement on S-1 filed by Watford Holdings Ltd. on March 25, 2019 (File No. 333-230080)).
X
31.1
Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
X
31.2
Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
X
32.1
Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
X
32.2
Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
X
101The following financial information from Watford ReHoldings Ltd.’s Quarterly Report for the quarter ended March 31, 2019June 30, 2020 formatted in XBRL: (i) Consolidated Balance Sheets at March 31, 2019June 30, 2020 and December 31, 2018;2019; (ii) Consolidated Statements of Income for the three and six months ended March 31, 2019June 30, 2020 and 2018;2019; (iii) Consolidated Statements of Comprehensive Income for the three and six months ended March 31, 2019June 30, 2020 and 2018;2019; (iv) Consolidated Statements of Changes in Shareholders’ Equity for the three and six months ended March 31, 2019June 30, 2020 and 2018;2019; (v) Consolidated Statements of Cash Flows for the three and six months ended March 31, 2019June 30, 2020 and 2018;2019; and (vi) Notes to Consolidated Financial Statements.



Signatures
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
  WATFORD HOLDINGS LTD.
  (REGISTRANT)
   
  /s/ John F. RathgeberJonathan D. Levy
Date: May 10, 2019August 7, 2020 John F. Rathgeber,Jonathan D. Levy, Chief Executive Officer
   
Date: May 10, 2019August 7, 2020 /s/ Robert L. Hawley
  Robert L. Hawley, Chief Financial Officer

Exhibit 31.1

Certification
of Chief Executive Officer
Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002

I, John F. Rathgeber, certify that:
1.I have reviewed this quarterly report on Form 10-Q of Watford Holdings Ltd.;
2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
3.Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in the report;
4.The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:
a.Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
b.Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
c.Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrants most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and
5.The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and to the audit committee of registrant’s board of directors (or persons performing the equivalent functions):
a.All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarized and report financial information; and
b.Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.
Exhibit 31.1

112
Date: May 10, 2019
By:/s/ John F. Rathgeber
Name:John F. Rathgeber
Title:Chief Executive Officer



Exhibit 31.2

Certification
of Chief Financial Officer
Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002

I, Robert L. Hawley, certify that:
1.I have reviewed this quarterly report on Form 10-Q of Watford Holdings Ltd.;
2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
3.Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in the report;
4.The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:
a.Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
b.Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
c.Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrants most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and
5.The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and to the audit committee of registrant’s board of directors (or persons performing the equivalent functions):
a.All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarized and report financial information; and
b.Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.
Exhibit 31.2

Date: May 10, 2019
By:/s/ Robert L. Hawley
Name:Robert L. Hawley
Title:Chief Financial Officer



Exhibit 32.1

Certification Pursuant to Chapter 63, Title 18 United States Code §1350
As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

In connection with the Quarterly Report of Watford Holdings Ltd. (the “Company”) on Form 10-Q for the period ending March 31, 2019 as filed with the Securities and Exchange Commission on the date hereof (the “Report”), John F. Rathgeber, as Chief Executive Officer of the Company, certifies pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:
1.the Report fully complies with the requirements of section 13(a) of the Securities Exchange Act of 1934; and
2.the information contained in such report fairly presents, in all material respects, the financial condition and results of operations of the Company.
Date: May 10, 2019
By:/s/ John F. Rathgeber
Name:John F. Rathgeber
Title:Chief Executive Officer
A signed original of this written statement required by Section 906 or other document authenticating, acknowledging or otherwise adopting the signature that appears in typed form within the electronic version of this written statement required by Section 906, has been provided to Watford Holdings Ltd. and will be retained by Watford Holdings Ltd. and furnished to the Securities and Exchange Commission or its staff upon request.


Exhibit 32.2

Certification Pursuant to Chapter 63, Title 18 United States Code §1350
As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

In connection with the Quarterly Report of Watford Holdings Ltd. (the “Company”) on Form 10-Q for the period ending March 31, 2019 as filed with the Securities and Exchange Commission on the date hereof (the “Report”), Robert L. Hawley, as Chief Financial Officer of the Company, certifies pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:
1.the Report fully complies with the requirements of section 13(a) of the Securities Exchange Act of 1934; and
2.the information contained in such report fairly presents, in all material respects, the financial condition and results of operations of the Company.
Date: May 10, 2019
By:/s/ Robert L. Hawley
Name:Robert L. Hawley
Title:Chief Financial Officer
A signed original of this written statement required by Section 906 or other document authenticating, acknowledging or otherwise adopting the signature that appears in typed form within the electronic version of this written statement required by Section 906, has been provided to Watford Holdings Ltd. and will be retained by Watford Holdings Ltd. and furnished to the Securities and Exchange Commission or its staff upon request.



92