Some standard markets that jumped into the excess and surplus business in recent years have already gotten out, an executive of a large E&S carrier said recently, going on to predict that the retreat--and other factors--could mean a market turn by 2010.
William Berkley, chair and CEO of Greenwich, Conn.-based W.R. Berkley Corp., made the observation and the prediction during an earnings conference call earlier this month.
Some standard insurers, he said, "have seen very quickly how mispriced business can result in losses."
"We've seen intelligent decision-making by some of the large standard markets where they [previously] thought they had opportunities and [they have now] realized that was an error," he continued.
Mr. Berkley gave an example of standard carriers that have gotten burned by underwriting losses from tanning salons in the health spa area.
Giving some historical perspective on the movement of this type of business on and off standard carriers' books, he said that when the market hardened, standard market underwriters started "to do analytics" and recognized that health spas with tanning salons produced 85 percent of their losses and only 15 percent of premiums.
They decided not to write the salons for awhile, but after four or five years of good business in the health spa area, they began looking for ways to expand. "All of a sudden, they asked, 'Why do we have exclusions on this business?'" So they started writing tanning salons again--and within a year they had losses, he reported.
They wrote all the tanning salons in health spas "at one-quarter of the price we charged. They got the business back, and they instantly realized people got sunburns, and they got all kinds of claims. So they got out of the business very quickly," Mr. Berkley said.
He said the speed with which this retreat has started occurring is fueling his optimism that the cycle may be turning more quickly than others have predicted. "Most big companies have better information systems" than they have had in the past, he said. "They know what they're doing."
He added that "E&S insurers' best business is business that leaves the standard market as the market gets hard, because the standard market starts to get a sharper pencil."
Within the E&S segment, Mr. Berkley said he believes most carriers "are being reasonably disciplined," although he added that some new Bermuda players getting into the long-tailed E&S lines are have some impact on the overall E&S market.
"Certainly our retention rates are down a little bit, but the business is still pretty good, and...we're still writing at a substantial underwriting margin," he said.
For the first quarter, W.R. Berkley reported a combined ratio of 90.2, slightly better than average (90.5) for the remainder of 15 publicly traded specialty insurers writing a substantial amount of E&S business reviewed by NU.
(Click the related link below this article for a full chart of underwriting and net income results for first-quarter 2008 and first-quarter 2007.)
Mr. Berkley noted that his company historically has posted combined ratios five-to-10 points better than the industrywide figure. "I look at what I think our accident-year results are, and that tells me that the industry is at best approaching breakeven on an accident-year basis," and that the industry may be operating at a small underwriting loss for 2008, he noted.
"Fundamentally, we think the business will continue in a downward pricing mode through the first half of 2010," he said during a media briefing, going on to reiterate predictions he made during his earnings conference call--that more painful results of declining prices would start hitting the books for the industry in 2009, setting the stage for a market turn in 2010.
For accident-year 2009, he estimates the industry combined ratio will be 105 or 106, "assuming inflation stays modestly in control." He put a "modest" regular economic inflation level at less than 4 percent, with modest medical cost inflation falling in the 5.5-to-6.0 percent range.
In addition, "you have to recognize that whoever is elected [president] will look at recasting medical costs," with the insurance industry paying a greater share, he said.
Next year, poor underwriting results will mean "marginal if any return on capital" for the industry overall, he predicted. "The underwriting losses will wipe out most, [if not] all the investment income," he said, noting this belief is part of what's driving his view that the market will turn in 2010.
There will probably be "very bad results" in the first quarter of 2010, when continued price deterioration combined with a recognition of year-end 2009 results bring about a "real focus" on the need for pricing changes, he said. After 18-to-24 months of worsening results, the underwriting profit picture will start to "get substantially better" in the second half of 2010, he predicted.
Mr. Berkley said another factor driving his view that the market turn is not as far away as history might suggest is the speed with which insurers have been taking down reserve redundancies in recent years.
Historically, insurers let excess reserves "sit there" on their balance sheets, he said, later suggesting that regulatory initiatives aimed at making financial disclosures more transparent have helped to spur the more recent takedowns.
The lack of substantial redundancies to cushion the blow "will cause the realities" of the impact of the downward pricing cycle on results to "hit home more quickly," he said.
Asked why his downbeat view is different from other executives, Mr. Berkley said, "If they don't have a view that profitability is going down, they have imaginary numbers."
On the subject of catastrophe losses, NU asked Mr. Berkley about the notion some analysts have advanced that the soft market won't turn until the industry experiences a catastrophic multibillion-dollar insurance loss.
"People like to think the industry responds to catastrophes, but that truly has not been the case," Mr. Berkley responded during the media briefing, referring to industry actions in the wake of Hurricane Andrew in 1992.
Andrew made people think the cycle was going to turn. "In fact, all it did was put off the inevitable," with the pricing cycle continuing downward "until we had a much worse bottoming out in 1999 and 2000," Mr. Berkley said.
See related story, "Income Down For Most E&S Insurers In Q1," for more on first-quarter financial results of E&S/specialty insurers.
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