Raters Say Insurers Not Looking Too Good

By Caroline McDonald

NU Online News Service, Nov. 25, 12:1 p.m. EST, NewYork?Representatives from three ratings services and onelarge brokerage in a meeting with insurance buyers had little goodnews to give them about insurer solvency.

The bleak reports were delivered at a Risk and InsuranceManagement Society Chapter meeting here by panelists from A.M.Best, Moody's, Fitch Ratings and Marsh USA discussing, "TheSlippery Slope of Rating Downgrades: Will the Insurers Writing YourRisks Today Be Around to Pay Your Claims Tomorrow?"

While there was a moment of levity when an analyst struggledwith a technical goof in a PowerPoint presentation, the tone of thesession was a generally somber one.

The events of 2001 and 2002 were "bad news for commercialinsurers and reinsurers," said Alan G. Murray, vice president,senior credit officer, property and casualty, for Moody's InvestorsService in New York. "There's clearly been a slope," he said.

Trends, he remarked, include improved pricing, tightened termsand conditions, and rising estimates of asbestos liabilities."There is a war going on between the legal and medical views," hesaid.

On the financial side, reserve adequacy "went from bad to worse"for commercial insurers, he said.

Mr. Murray remarked that rate increases of 50 percent are notadequate to offset rates decreased by 50 percent. "You need 100percent rate increase just to get back to adequacy, and that's whywe think it's a slow recovery."

He said that only about one-quarter of the companies haveadequate-to-better or excess reserves. "Personal insurers tend topopulate that group," while commercial insurers "tend to be capitaldeficient," due to reserve inadequacies and catastrophe exposures,he added.

Paul F. Sherbine, managing director, market information group,for Marsh in New York, said the company subscribes to all fourratings agencies because, "while they're looking at the same thing,they're coming at it from different angles."

He warned that even some companies with an "A" rating "will godown" because emerging issues such as mold, asbestos and pollutioncan pop up at any time.

What can you do about it? "You've got to look at trends in theratings" over several years, including company downgrades, hesaid.

Mr. Sherbine urged insurance buyers to "take the time to readthe rationale behind the ratings." He continued that even though"you might not feel like it right now, you're still the customerhere. You're the ones buying the product."

He said to ask questions of an insurance company that has beendowngraded, "And if you don't get a good answer, ask the CFO."

Monitoring your insurance providers is no longer an annualexercise, he said, "it's constant." Some clients, he said, "set upan Excel spreadsheet and list every one of their insurers,"tracking management changes as well as any changes in direction orcoverage.

Another tool his clients are using is "a pie-chart by ratings,highest to lowest." With this tool, risk managers can determine"where your program sits on a relative rating basis," and they canmore easily illustrate credit exposures to the CFO or treasurer, hesaid.

He explained that the three determinations in the past were"price, coverage and security," but "today you can only pick two."He said "If you're going for a triple-A paper today, you are goingto pay for it, so be prepared to explain that on renewals."

Keith M. Buckley, chief financial officer for Fitch Ratings inChicago, said the company's methodology is similar to other ratingscompanies. Its philosophy, however, is "historically lessmodel-driven" than some rating agencies, putting more emphasis on"subjective judgement."

He said its focus "is to be among the first market observers inidentifying changes within a company, either on the negative orpositive side."

Hot topics affecting ratings, he observed, are asbestos, finitereinsurance, loss reserves and the market cycle, which he explainedisn't yet over.

"We want our ratings to go through a normal cycle, but what's anormal cycle?" he asked. He said the industry has been through a10-year soft market followed by a hard market, "but we don't knowhow long it's going to last."

Mr. Buckley said it's critical to understand how the hard marketendures and "whether ratings levels overall are at the right spotor need to come down. He said if the cyclical pattern of "10 yearsof a soft, a short hard, and then a long soft," is repeated, "a lotmore ratings are going to be coming down."

Mr. Murray said that Moody's emphasizes profiles on holdingcompanies, "to the extent to which holding companies use leveragingand financing as part of the capital of their subsidiaries."

He said there has been a "net trend of downgrades," and addedthat most of the upgrades in the late 1990s were related to mergersand acquisitions. "It's continued to be that way, although therehave been some personal lines activities."

Some reasons for upgrades, said Stefan Holzberger, seniorfinancial analyst for A.M. Best Company in Oldwick, N.J., are astrengthened capital position, conservative premium leverage,favorable earnings, a conservative loss reserve position,consistent reserve for redundancies as well as for deficiencies,catastrophe mitigation reflecting a conservative managementphilosophy, and a company being acquired by a more highly ratedorganization.

Reasons for downgrades include weakened capitalization,insufficient loss reserves, uncontrolled runaway growth, earningsdeterioration, and escalating or unmanaged catastropheexposure.

He added that a company could be placed under review because ofa merger or acquisition, a catastrophe, a significant change incapitalization, regulatory or legal developments, or a change inits business focus.

At A.M. Best, he said the first leg of a "three-legged stool" is"capital, which is king." The organization evaluates risk-adjustedcapital, which is "the most important factor of our ratingsprocess."

The other legs of the stool, he said, are "sustained, stableoperating profitability" and "a well-diversified business profile,which leads to stability and strength in operatingperformance."