XL Capital's long-term issuer, senior debt and preferred stock ratings were yesterday downgraded by rating agency Fitch.

At the same time, Fitch reaffirmed the Bermuda insurance and reinsurance giant's financial strength rating and said the rating outlook was stable or unlikely to change.

The actions followed XL announcing on Friday that it would boost its reserves by $160 million after tax, for adverse developments that are expected to have an impact on business written by XL's North American casualty underwriting operations from 1997 to 2000.

The company said the net result of that reserve increase will be that earnings for the third quarter - to be made public on October 29 - could be 57 percent below analyst expectations.

The Fitch rating action dropped XL's long-term issuer and senior debt rating down a notch to A from A+ and the preferred stock rating was also moved down from A to A-.

The 'AA' insurer financial strength rating of XL's property/casualty insurance subsidiaries, were reaffirmed.

Taking the downgrades into consideration, Fitch said: "The ratings continue to reflect XL's position within the global insurance and reinsurance markets, history of favourable underwriting and earnings performance, strong operating cash flow, and adequate capital position at the parent and subsidiary level."

Fitch said its actions were taken with its awareness that XL could boost its reserves again in the fourth quarter, after it completes what XL called an intensive audit to quantify the firm's exposure to potential claims from medical malpractice and professional liability policies dating back that period.

Speaking to the reasons behind its downgrade, Fitch said it believed the earnings impact of the reserve boost would move fixed charge coverage to levels below Fitch's current guidelines for XL's debt ratings. Earnings and coverage were below this threshold in 2001 and 2002 as well.

In addition, Fitch said XL's financial leverage - with a current debt-to-total capital ratio of 20 percent - was also somewhat high for its previous debt ratings.

However, on a positive note, Fitch said, in a press statement, that things still looked favourable for the company: "Besides this adverse reserve development experience, XL is experiencing favourable results on current business as demonstrated by reported net income of $588 million and a combined ratio of 89.2 percent in the first half of 2003."

Looking forward, Fitch said: "The company is likely to benefit from continued favourable property/casualty market conditions going forward."

A Bloomberg report earlier this week indicated XL's reserve study could result in a $400 million charge in the fourth quarter and a possible share sale to replenish capital.