Hartford Financial Services (NYSE:HIG), and the rest of the insurance sector, is tumbling after Fitch Ratings lowered its outlook on the company, stirring fears among investors regarding exposure to bad credits in insurance companies' portfolios.

Fitch lowered the outlook from negative to stable, citing an "extraordinarily challenging credit market environment" and Hartford's "material exposure to troubled credits" in its portfolio. The company was concerned enough to issue a statement defending its liquidity and capital position: "The Hartford's core operating businesses are performing well and our liquidity remains strong."

An Inside Look
A look at Hartford's investment portfolio will tell an investor what the insurer owns that has spooked the market. The Fitch news release specifically mentioned "subprime residential mortgage-backed securities (RMBS) and commercial real estate CDOs," so we will examine those in particular. All the data are as of June 30. The company has two investment portfolios - one for its life insurance business and one for its property and casualty business.

The life portfolio has $100 billion in total assets, while the property and casualty portfolio has $29 billion. The fixed-income portion of both portfolios totals $79 billion and is 25% invested in AAA bonds, down from 35% on December 31, 2007. Only 5.1% are non-investment grade.

Hartford reports that its exposure to subprime RMBS was $2.04 billion. The company's exposure to regular commercial mortgage-backed securities (CMBS) is $10.9 billion, and it holds commercial real estate CDOs worth $1.3 billion. The company does note that it maintains credit protection on both the subprime RMBS and commercial real estate CDO portfolios that may mitigate further losses. (For more on these securities, read Behind The Scenes Of Your Mortgage.)

Total stockholders' equity is $18.8 billion, and the total "capital cushion" is $1.5 billion.

Equity Losses
Hartford has also reported exposure in its portfolio to equity in companies that have recently performed poorly. In September, the company said it had $252 million in exposure to Lehman Brothers (OTC:LEHMQ) through various securities and $182 million to American International Group (NYSE:AIG). Exposure to Washington Mutual (NYSE:WM) was $156 million.

The entire insurance industry fell in sympathy with Hartford. The KBW Insurance ETF (AMEX:KIE), which contains a cross section of companies in the insurance sector, was down, hitting the lows it reached in July. Phoenix Companies (NYSE:PNX) and Greenlight Capital Re (Nasdaq:GLRE) were particularly hard hit, falling nearly 25%.

The Bottom Line
The recent market action in the insurance sector indicates that investors are becoming increasingly concerned about the investment portfolios of insurance companies.

(To learn more, be sure to read our related article, How Will The Subprime Mess Impact You?)

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Tickers in this Article: HIG, AIG, PNX, GLRE, KIE

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