The recovery of Bermuda-based business insurer XL Capital Ltd. took another step forward as the firm was removed from Rating Watch Negative by credit rating agency Fitch.

Fitch has also seen signs that the biggest of the Island-based insurance companies has "retained its franchise value" after coming through the most tumultuous period in its 23-year history.

On Friday, the agency also affirmed the financial strength rating of XL's core operating companies at A, but the rating outlook remained negative.

XL suffered last year from having a riskier investment portfolio than many of its peers in the property and casualty insurance market, in a treacherous investment environment, and posted a full-year loss of more than $2.5 billion in 2008.

Fitch's ratings action follow the company's return to profitability in 2009. XL posted $258 million in net income during the first six months of the year. Investors have warmed to the insurer's recovery and its shares have rocketed 305 percent in the year to date, having closed at $14.98 last Friday.

"Fitch views XL's solid renewal retention and improving rates across most lines coupled with low employee turnover as an indication that the company has retained its franchise value," Fitch said in its commentary on affirming the company's ratings.

The agency said resolution of the Negative Watch was dependent on XL de-risking its investment portfolio, stabilisation of investment performance and completion of its strategic review of life operations.

The agency said that this year XL completed asset sales associated with the $400 million restructuring charge it took in the fourth quarter of 2008.

In the first half of the year, XL reduced its exposure to credit-exposed investments such as corporate credit, commercial mortgage-backed securities and consumer asset-backed securities and equities by $3.5 billion.

Additionally, XL sold a portion of the renewal rights to its European life, health and accident business in late 2008 and successfully completed the sale of its US life business in July 2009. The remaining UK and Irish annuity and mortality and critical illness books of business will be actively run-off over the next several years.

Fitch noted that XL's gross premiums written have fallen this year "commensurate with the company's previously forecasted reduction". This was largely driven by the company's decision to exit certain areas, foreign exchange movements, lower levels of long-term agreements and changes in retention rates, limits and attachment points, Fitch said. The agency also noted that XL's equity of $7.5 billion at June 30 was up $1.4 billion or 22 percent from year-end 2008.

"The negative outlook reflects XL's exposure to investment market conditions, particularly in the asset portfolio of its run-off life operations, as well as the uncertain uneconomic environment," Fitch said.

"If the company suffers significant losses, the ratings could be lowered. However, if the company is able to continue to stabilise its earnings and continue to generate consistent internal capital growth, the outlook could return to stable."