KBW Sees $6.4B in Reserve Deficiencies for 2008-2010

NU Online News Service, July 25, 2:12 p.m. EDT

While property and casualty insurers have benefitted from favorable loss-reserve development in recent years, a Keefe, Bruyette & Woods (KBW) analysis contends that accident years 2008 to 2010 are underreserved and that adverse development will result in the future.

KBW says it expects accident years 2003 to 2007 to remain redundant. The firm also says that, according to its analysis, reserve adequacy varies by line, with medical-malpractice and other liability lines appearing redundant while workers’ compensation, nonproportional assumed reinsurance and products liability appear deficient.

KBW says it used both paid losses and case-incurred losses and a number of reserving methods to generate its opinion on reserve adequacy. “These methods generate a range of reserve estimates, and we average the most credible results to determine reserve adequacy,” KBW explains. Looking at reserve adequacy for 2001 to 2010, KBW’s analysis finds that reserves are deficient by $2.7 billion, or 0.5 percent as of year-end 2010.

The analysis shows deficiencies of $415 million and $286 million for accident years 2001 and 2002, respectively. Reserves for subsequent accident years are redundant by $389 million (2003), $928 million (2004), $531 million (2005), $1.66 billion (2006) and $895 million (2007). According to the analysis, accident years 2008 to 2010 show total deficiencies of $6.4 billion: $3.44 billion in 2008, $1.4 billion in 2009 and $1.54 billion in 2010.

At year-end 2010, the lines showing the greatest reserve deficiencies for the 2001 to 2010 time period, according to KBW’s analysis, are workers’ compensation, deficient by $2.33 billion; products liability—occurrence, deficient by $1.6 billion; and reinsurance—nonproportional assumed liability, deficient by $1.34 billion.

KBW notes that reserve analysis “comes with the usual caveats, as results are typically subject to changes in policy terms and conditions, claims handling, reinsurance and business mix.”

The firm says it expects P&C insurers to see a drop-off in the earnings benefit they receive from favorable reserve development, “and we expect many companies will even need to take reserve charges in the next couple of years.

Given this expectation, KBW contends that solid underwriting results will be critical for companies to achieve acceptable returns, as weaker investment income is expected in the near term. KBW notes, though, that the market may be years away from seeing a turn toward a harder rate environment.

“Right or wrong,” KBW says, “many management teams believe their companies’ reserves are still redundant, and expectations for further favorable development may reduce the urgency to seek substantial rate increases now.”

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