The following is a discussion of our financial condition as of September 30, 2009, compared with December 31, 2008, and our results of operations for the three and nine months ended September 30, 2009, compared with the same periods last year. This discussion and analysis should be read in conjunction with the unaudited condensed consolidated financial statements and the notes thereto included elsewhere in this report and Management's Discussion and Analysis of Financial Condition and Results of Operations included in our Annual Report on Form 10-K for the year ended December 31, 2008 (the "2008 Form 10-K"), to which the reader is directed for additional information. The term "GAAP" refers to accounting principles generally accepted in the United States of America.

This Management's Discussion and Analysis of Financial Condition and Results of Operations contains forward-looking statements, which involve risks and uncertainties. See the "Cautionary Note Regarding Forward-Looking Statements" on page 36 for a list of factors that could cause our actual results to differ materially from those contained in any forward-looking statement. Also, see "Item 1A. Risk Factors" in our 2008 Form 10-K for a further discussion of risks that could materially affect our business.

We are a holding company whose operating subsidiaries provide insurance and fee-based services. Our insurance products include workers' compensation and other commercial property and casualty lines of insurance, which are marketed primarily in the eastern part of the United States. These products are written through The PMA Insurance Group, our property and casualty insurance segment which includes the operations of our principal insurance subsidiaries. Fee-based services include third party administrator, managing general agent and program administrator services. We also have a Corporate and Other segment, which primarily includes corporate expenses and debt service.

The PMA Insurance Group earns revenue and generates cash primarily by writing insurance policies and collecting insurance premiums. Direct premiums written at The PMA Insurance Group were $162.1 million in the third quarter of 2009, compared to $148.3 million in the same period last year. Direct premiums written in the first nine months of 2009 were $433.4 million, compared to $388.1 million during the same period last year. Because time normally elapses between the receipt of premiums and the payment of claims and certain related expenses, we are able to invest the available premiums and earn investment income. The types of payments that we make at The PMA Insurance Group are:

· losses under insurance policies that we write;

· loss adjustment expenses ("LAE"), which are the expenses of settling claims;

· acquisition and operating expenses, which are direct and indirect costs of acquiring both new and renewal business, including commissions paid to agents and brokers and the internal expenses to operate the business segment; and

· dividends and premium adjustments that are paid to policyholders of certain of our insurance products.

Losses and LAE are the most significant payment items affecting our insurance business and represent the most significant accounting estimates in our consolidated financial statements. We establish reserves representing estimates of future amounts needed to pay claims with respect to insured events that have occurred, including events that have not been reported to us. We also establish reserves for LAE, including legal and other fees, and general expenses of administering the claims adjustment process. Changes in reserve estimates may be caused by a wide range of factors, including inflation, changes in claims and litigation trends and legislative or regulatory changes. We would incur a charge to earnings in any period our reserves are increased.

Our Fee-based Business earns revenues and generates cash by providing claims adjusting, managed care and risk control services to customers and by placing insurance business with other third party insurance and reinsurance companies. Revenues for our Fee-based Business were $20.6 million in the third quarter of 2009, compared to $18.8 million in the third quarter of 2008. Revenues in the first nine months of 2009 were $59.8 million, compared to $51.5 million for the same period last year. Payments made at this segment primarily consist of operating expenses, which include internal expenses to operate the business, managed care vendor expenses and commissions paid to sub-producers.

In 2007, we began reporting the results of our Run-off Operations as discontinued operations which requires that the balance sheets be presented with the gross assets and liabilities of discontinued operations in separate lines and the statements of operations be presented with the net results from discontinued operations shown after the results from continuing operations. Our Run-off Operations includes our reinsurance and excess and surplus lines businesses, which we placed into run-off in

2003 and 2002, respectively. The sale of our Run-off Operations is currently pending regulatory approval from the Pennsylvania Insurance Department.

Consolidated Results

We had net income of $7.2 million for the third quarter of 2009, compared to a net loss of $1.1 million for the third quarter of 2008. Operating income, which we define as net income (loss) excluding realized gains (losses) and results from discontinued operations, was $6.7 million for the three months ended September 30, 2009, compared to $6.4 million for the same period last year. For the first nine months of 2009, we had net income of $18.0 million, compared to $9.8 million for the first nine months of 2008. Operating income for the first nine months of 2009 was $18.6 million, compared to $18.0 million for the same period last year. Included in net income and operating income for the nine months ended September 30, 2008 was an after-tax gain of $1.4 million, which resulted from the sale of a property at The PMA Insurance Group.

Income from continuing operations included the following after-tax net realized gains (losses):

                                               Three Months Ended            Nine Months Ended
                                                 September 30,                 September 30,
(dollar amounts in thousands)                 2009            2008           2009          2008
Net realized investment gains (losses)
after tax:
Sales of investments                       $      517       $     792     $    3,907     $   2,725
Other than temporary impairments                    -          (5,946 )       (3,210 )      (5,946 )
Other                                               -               -              -           (18 )
Net realized investment gains (losses)
after tax                                  $      517       $  (5,154 )   $      697     $  (3,239 )

Consolidated revenues for the third quarter of 2009 were $132.9 million, compared to $117.4 million for the same period last year. Consolidated revenues for the first nine months of 2009 were $401.5 million, compared to $361.5 million for the same period in 2008. The increases in consolidated revenues primarily reflected increases in net premiums earned, claims service revenues and net realized gains (losses). Net premiums earned were $102.4 million in the third quarter of 2009, compared to $98.0 million in the same period a year ago. Net premiums earned were $314.3 million for the first nine months of 2009, compared to $286.5 million for the same period last year. Claims service revenues were $17.1 million in the third quarter of 2009, compared to $15.7 million in the third quarter of 2008, and claims service revenues were $49.6 million in the first nine months of 2009, compared to $40.6 million in the first nine months of 2008. The increases in net realized gains (losses) were primarily due to lower other than temporary impairments recorded in 2009, compared to 2008.

In addition to providing consolidated net income (loss), we also provide segment operating income (loss) because we believe that it is a meaningful measure of the profit or loss generated by our operating segments. Operating income, which we define as GAAP net income (loss) excluding net realized investment gains and losses and results from discontinued operations, is the financial performance measure used by our management and Board of Directors to evaluate and assess the results of our businesses. Net realized investment activity is excluded because
(i) net realized investment gains and losses are unpredictable and not necessarily indicative of current operating fundamentals or future performance of the business segments and (ii) in many instances, decisions to buy and sell securities are made at the holding company level, and such decisions result in net realized gains and losses that do not relate to the operations of the individual segments. Operating income does not replace net income (loss) as the GAAP measure of our consolidated results of operations.

The following is a reconciliation of our segment operating results and operating income to GAAP net income (loss):

                                                   Three Months Ended           Nine Months Ended
                                                     September 30,                September 30,
(dollar amounts in thousands)                      2009          2008          2009          2008

Components of net income (loss):
Pre-tax operating income (loss):
The PMA Insurance Group                         $   13,616     $  13,325     $  38,768     $  38,285
Fee-based Business                                   1,574         1,929         5,112         5,316
Corporate and Other                                 (4,768 )      (5,319 )     (14,935 )     (15,754 )
Pre-tax operating income                            10,422         9,935        28,945        27,847
Income tax expense                                   3,690         3,530        10,323         9,876
Operating income                                     6,732         6,405        18,622        17,971
Realized investment gains (losses) after tax           517        (5,154 )         697        (3,239 )
Income from continuing operations                    7,249         1,251        19,319        14,732
Loss from discontinued operations, net of tax          (40 )      (2,310 )      (1,291 )      (4,937 )
Net income (loss)                               $    7,209     $  (1,059 )   $  18,028     $   9,795

We provide combined ratios and operating ratios for The PMA Insurance Group below. The "combined ratio" is a measure of property and casualty underwriting performance. The combined ratio computed on a GAAP basis is equal to losses and loss adjustment expenses, plus acquisition and operating expenses and policyholders' dividends, all divided by net premiums earned. A combined ratio of less than 100% reflects an underwriting profit. Because time normally elapses between the receipt of premiums and the payment of claims and certain related expenses, we invest the available premiums. Underwriting results do not include investment income from these funds. Given the long-tail nature of our liabilities, we believe that the operating ratios are also important in evaluating our business. The operating ratio is equal to the combined ratio less the net investment income ratio, which is computed by dividing net investment income by net premiums earned.

Segment Results

The PMA Insurance Group

Summarized financial results of The PMA Insurance Group were as follows:

                                       Three Months Ended           Nine Months Ended
                                          September 30,               September 30,
(dollar amounts in thousands)          2009          2008          2009          2008

Net premiums written                 $ 119,417     $ 124,117     $ 317,987     $ 317,295

Net premiums earned                  $ 102,586     $  98,096     $ 314,755     $ 286,861
Net investment income                    9,415         8,776        27,383        26,818
Other revenues                               -             -             -         2,120
Total revenues                         112,001       106,872       342,138       315,799

Losses and LAE                          70,158        68,660       219,427       200,154
Acquisition and operating expenses      25,306        23,527        77,762        73,223
Dividends to policyholders               2,786         1,169         5,743         3,544
Total losses and expenses               98,250        93,356       302,932       276,921

Operating income before income
 taxes and interest expense             13,751        13,516        39,206        38,878

Interest expense                           135           191           438           593
Pre-tax operating income             $  13,616     $  13,325     $  38,768     $  38,285

Combined ratio                            95.8 %        95.2 %        96.2 %        96.5 %
Less: net investment income ratio          9.2 %         8.9 %         8.7 %         9.3 %
Operating ratio                           86.6 %        86.3 %        87.5 %        87.2 %

The PMA Insurance Group reported pre-tax operating income of $13.6 million for the third quarter of 2009, compared to $13.3 million for the same period last year. Year-to-date pre-tax operating income increased to $38.8 million, compared to $38.3 million for the first nine months of 2008. The increase in the third quarter of 2009 primarily reflected higher net investment income. The year-to-date increase was mainly attributable to higher net premiums earned and an improved underwriting margin, as reflected in our lower combined ratio. Results for the first nine months of 2008 included a pre-tax gain of $2.1 million, which resulted from the sale of a property that housed one of our branch offices.

Premiums

Direct premium production increased during the third quarter and first nine months of 2009, compared to the same periods last year. The increases for both periods reflected an increase in the amount of captive accounts business written in 2009, compared to 2008, which were partially offset by declines in workers' compensation direct premium production. We define direct premium production as direct premiums written, excluding fronting premiums and premium adjustments. The following is a reconciliation of our direct premium production to direct premiums written:

                                  Three Months Ended           Nine Months Ended
                                     September 30,               September 30,
(dollar amounts in thousands)     2009          2008          2009          2008

Direct premium production       $ 154,754     $ 150,547     $ 404,333     $ 393,891
Fronting premiums                  10,890         2,776        40,189        13,032
Premium adjustments                (3,521 )      (5,008 )     (11,150 )     (18,836 )
Direct premiums written         $ 162,123     $ 148,315     $ 433,372     $ 388,087

The PMA Insurance Group's premiums written were as follows:

                                  Three Months Ended           Nine Months Ended
                                     September 30,               September 30,
(dollar amounts in thousands)     2009          2008           2009          2008

Workers' compensation:
Direct premiums written         $ 136,174     $ 131,491     $  359,696     $ 339,917
Premiums assumed                    2,355         3,265          8,857         8,872
Premiums ceded                    (28,078 )     (19,843 )      (81,688 )     (60,874 )
Net premiums written            $ 110,451     $ 114,913     $  286,865     $ 287,915
Commercial lines:
Direct premiums written         $  25,949     $  16,824     $   73,676     $  48,170
Premiums assumed                       19            40             52           110
Premiums ceded                    (17,002 )      (7,660 )      (42,606 )     (18,900 )
Net premiums written            $   8,966     $   9,204     $   31,122     $  29,380
Total:
Direct premiums written         $ 162,123     $ 148,315     $  433,372     $ 388,087
Premiums assumed                    2,374         3,305          8,909         8,982
Premiums ceded                    (45,080 )     (27,503 )     (124,294 )     (79,774 )
Net premiums written            $ 119,417     $ 124,117     $  317,987     $ 317,295

Direct workers' compensation premiums written were $136.2 million in the third quarter of 2009, compared to $131.5 million during the same period last year. The increase for the quarter was primarily due to more premiums written under fronting arrangements. Direct workers' compensation premiums written during the first nine months of 2009 were $359.7 million, compared to $339.9 million during the first nine months of 2008. The year-to-date increase was primarily due to more premiums written under fronting arrangements and, to a lesser extent, a lower amount of return premium adjustments. The increases for both periods were partially offset by declines in workers' compensation direct premium production of $4.3 million for the quarter and $14.9 million for the first nine months of 2009. Fronting premiums increased for both periods in 2009, primarily as a result of the two fronting arrangements we entered into during August 2008. The year-to-date decrease in premium adjustments primarily reflected a lower amount of return premium adjustments on loss-sensitive products where the insured shares in the underwriting result of the policy. We write these retrospective products because we believe they provide us with greater certainty in achieving our targeted underwriting results as the customer shares in the underwriting result of the policy with us.

Excluding fronting business, we wrote $17.4 million and $65.2 million of new workers' compensation business in the third quarter and first nine months of 2009, compared to $35.3 million and $86.8 million during the same periods last year. The declines primarily reflect a lower amount of rate-sensitive new business. Pricing on our rate-sensitive workers' compensation business increased 1% during the third quarter of 2009, compared to a 7% decrease during the third quarter last year, and on a year-to-date basis, it declined 1% during 2009, compared to a 7% decrease during 2008. Our pricing on this business increased for the first quarter since early 2006.

Payrolls on our renewal customer base decreased by 1% in the first nine months of 2009, compared to the same period in 2008. Our renewal retention rates on existing workers' compensation accounts were 84% for the third quarter and 81% for the first nine months of 2009, compared to 88% and 86% for the same periods in 2008. The decline in the retention rates in 2009 primarily reflected lower retentions on rate-sensitive middle-market business as we continue to maintain disciplined underwriting standards in a price competitive environment. While retention rates were also down on loss-sensitive workers' compensation business, the decrease was lower than that on rate-sensitive business and retention rates remained higher for business written on a loss-sensitive basis than for business written on a rate-sensitive basis.

Direct premiums written for commercial lines of business other than workers' compensation, such as commercial auto, general liability, umbrella, multi-peril and commercial property lines (collectively, "Commercial Lines"), were $25.9 million in the third quarter of 2009, compared to $16.8 million for the same period last year. For the first nine months of the year, direct premiums written for Commercial Lines were $73.7 million in 2009, compared to $48.2 million in 2008. New business increased to $10.8 million in the third quarter of 2009, up from $4.1 million in the third quarter of 2008, and new business for the first nine months in 2009 increased to $34.5 million, compared to $13.0 million for the same period last year. The growth in new business in 2009 related primarily to captive accounts where we earn fees and cede a substantial portion of the premiums and associated underwriting risk. Our renewal retention rate on existing Commercial Lines accounts was 89% for the third quarter of 2009, compared to 92% for the third quarter of 2008, and our renewal retention rate was 87% for the first nine months of 2009, compared to 88% for the same period in 2008. Overall pricing on Commercial Lines declined 1% during the first nine months of 2009, compared to a 6% decrease during the same period last year.

Premiums ceded on workers' compensation business increased by $8.2 million and $20.8 million during the third quarter and first nine months of 2009, compared to the same periods in 2008. The increases were primarily due to more premiums ceded under our fronting arrangements. Premiums ceded on Commercial Lines business increased by $9.3 million and $23.7 million during the third quarter and first nine months of 2009, compared to the same periods last year, mainly resulting from increases in the amount of Commercial Lines business sold to captive accounts, where a substantial portion of the direct premiums are ceded.

In total, net premiums written decreased 4% during the third quarter of 2009, compared to the same period last year, due primarily to a decline in new rate-sensitive workers' compensation business written during the quarter. Net premiums earned increased 5% during the third quarter of 2009 and 10% for the first nine months of 2009, compared to the same periods last year. The increases in both periods reflect the increase in direct premiums written over the past year. Generally, trends in net premiums earned follow patterns similar to net premiums written, adjusted for the customary lag related to the timing of premium writings within the year. In periods of increasing premium writings, the dollar increase in premiums written will typically be greater than the increase in premiums earned. Direct premiums are earned principally on a pro rata basis over the terms of the policies. However, with respect to policies that provide for premium adjustments, such as experience or exposure-based adjustments, such premium adjustment may be made subsequent to the end of the policy's coverage period and will be recorded as earned premium in the period in which the adjustment is made.

Losses and Expenses

The components of the GAAP combined ratios were as follows:


                                  Three Months Ended          Nine Months Ended
                                     September 30,              September 30,
                                  2009           2008         2009           2008

Loss and LAE ratio                   68.4 %        70.0 %        69.7 %       69.8 %
Expense ratio:
Acquisition expense                  15.7 %        16.2 %        16.8 %       17.5 %
Operating expense                     9.0 %         7.8 %         7.9 %        8.0 %
Total expense ratio                  24.7 %        24.0 %        24.7 %       25.5 %
Policyholders' dividend ratio         2.7 %         1.2 %         1.8 %        1.2 %
Combined ratio                       95.8 %        95.2 %        96.2 %       96.5 %

The loss and LAE ratio decreased by 1.6 points during the third quarter of 2009, compared to the same period last year. This improvement in loss experience primarily reflected the impact of our managed care initiatives, and also related to modest favorable prior year development in our captive business, which was offset by the increase in the policyholders' dividend ratio, as discussed below. The loss and LAE ratio remained relatively flat during the first nine months of 2009, compared to the first nine months of 2008, as the lower loss experience on our captive accounts business was offset by the first quarter reduction in audit premiums. While payrolls on our renewal book have been stable overall, the 1% decrease was lower than the rate of growth we experienced in 2008. As a result of the decrease, we reduced our accrual for additional audit premiums by $3.3 million during the first quarter of 2009. Key loss indicators are in line with our expectations for this business, and we will continue to evaluate loss activity on these accounts as they mature, but we did not reduce our expectation of losses on these policies, which were primarily written in 2007 and 2008. Although pricing changes coupled with payroll inflation for rate-sensitive workers' compensation business were below overall estimated loss trends, our current accident year loss and LAE ratio remained consistent between periods as we continued to benefit in the first nine months of 2009 from changes in the type of workers' compensation products selected by our insureds and from our managed care initiatives. We estimate our medical cost inflation to be 6.0% in the first nine months of 2009, compared to our estimate of 6.5% in the first nine months of 2008.

The total expense ratio increased by 0.7 points in the third quarter of 2009, compared to the third quarter of 2008, due primarily to higher state based assessments. During the first nine months of 2009, the total expense ratio improved by 0.8 points, compared to the same period last year, as the increase in net premiums earned outpaced the 2% increase in our controllable expenses, which include salary, benefits and other employee-related costs. Commissions earned under our fronting arrangements reduced the acquisition expense ratios by 0.7 points and 0.6 points for the third quarter and first nine months of 2009, compared to reductions of 0.4 points and 0.7 points for the same periods in 2008, as the ceding commissions earned on this business reduce our commission expense.

The policyholders' dividend ratios increased by 1.5 points and 0.6 points in the third quarter and first nine months of 2009, compared to the same periods last year. The higher policyholders' dividend ratios were primarily in our captive business and reflected better than anticipated underwriting and investment results in many of the captive programs. In this business, the policyholders may receive a dividend based, to a large extent, on their program's underwriting and investment results.

Net Investment Income

Net investment income was $9.4 million for the third quarter of 2009, compared to $8.8 million for the same period a year ago. Net investment income was $27.4 million for the first nine months of 2009, compared to $26.8 million for the first nine months of 2008. The increases for both periods in 2009 were due primarily to increases in average invested assets, which were partially offset by lower investment yields.

Fee-based Business

Summarized financial results of the Fee-based Business were as follows:

                                  Three Months Ended          Nine Months Ended
                                     September 30,              September 30,
(dollar amounts in thousands)      2009          2008         2009          2008

Claims service revenues         $   17,398     $ 15,951     $  50,515     $ 41,272
. . .