The cost of using investor capital by property-casualty insurershas dropped from 15 percent in the 1980s to between 7- and 8percent, according an analysis by Swiss Re.

The Zurich-based company said in its latest sigma study that thedecline in costs was due to significantly lower risk-free interestrates, equity risk premium and percentage of equity investedassets.

Veronica Scotti, who wrote the study, said that the analysisalso concluded that insurers who want to keep their share prices upshould focus on good underwriting results and premium volume asopposed to investment gains.

Ms. Scotti said one reason for the drop in cost of capital forthe U.S. insurance sector is the reduction in the interest rate ongovernment bonds.

She also noted that equity risk premium "has come downsignificantly. It was 6-to-7 percent and we're now talking 2-to-4percent."

Ms. Scotti observed that when an insurer pairs good premiumgrowth with profitable underwriting, "investors will be very happywith it, and the share price will go up. If a company were to focuson investing in financial markets, this strategy will not play outin a higher price for the shares."

The sigma study offers insights as to how the cost of capitalrelates to shareholder value in insurance companies both in theoryand practice.

Swiss Re said its study analyzed the historical statutoryaccounts and market capitalization data of 27 U.S. p-cinsurers.

Given such a small sample, Swiss Re said the results should betaken as indicative only, but its main findings are still ofinterest. Among the highlights cited by the carrier:

o Companies with the highest economic price/book ratios achieveda combination of high underwriting profit margins, premium growthand scale of operations.

The results, the reinsurer said, indicate investors will assigna higher value to companies that can simultaneously achieveprofitability and growth, but are unwilling to pay for growth atthe expense of profitability.

Swiss Re found that empirical analysis suggested investors mayfavor investing in larger companies that may be better positionedto secure long-term profitability and achieve the economies ofscale vital in the industry.

o Investment strategy differences were found to have a neutraleffect on the price/book ratio.

It is difficult for insurers to earn excess returns throughinvestment strategies that simply involve taking on more marketrisk. There remain, however, strong liquidity and tax arguments forinsurers to invest in corporate bonds and shares, according to thestudy.

o Higher investment income produced solely by taking morefinancial market risk may help insurers meet return on equitytargets, but is unlikely to increase their price/book ratio, SwissRe said

Increasing investment risk cannot compensate for poorunderwriting, the company advised.

The study is available on Swiss Re's Web site at www.swissre.com/sigma and printeditions can be ordered.