Swiss Re: Hard Market Here To Stay Beyond 2005

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By Michael Ha

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NU Online News Service, Dec. 11, 10:04 a.m.EST?Management at Swiss Reinsurance Company said yesterdaythat while some insurance experts may view survival of the currenthard market with "doom and gloom" and see a "desperate harvest of adying bloom," Swiss Re holds to a more optimistic view.[@@]

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At the company's annual U.S. year-end insurance industry reviewand outlook conference, the management predicted the high-pricedhard market for property-casualty will be around through 2005 andbeyond, because of several problems the industry continues to face,including low profitability in recent years, low investment income,loss inflation and deficiencies in loss reserves.

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"There are currently at least three views on the hard market andhow long it would continue," said Patrick Mailloux, head of U.S.Direct, Americas division for Swiss Re, during his talk at theannual conference held in New York.

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First, there is the doom-and-gloom view, which is basically aresigned approach of, "It's already over, forget it; it has comeand it's gone." Then there is thedesperate-harvest-of-a-dying-bloom scenario, which says, "It mightlast through 2004, but after that, it's pretty much over."

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But the scenario that Swiss Re champions is one that says thehard market will last through 2005, "and probably well beyondthat."

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Mr. Mailloux said his company's scenario offers the "mostrealistic" forecast for a number of reasons. He told conferenceparticipants that while the industry is returning to underwritingdiscipline, the return on equity for the U.S. p-c industry is stilldismal.

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The return on equity for the industry in 2002 was 3.2 percent,he observed. "Now, for anyone to suggest that that is the height ofthe hard market, that the best we can do is 3.2 percent ROE andthat we are going to massive softening going forward, is a very sadstatement on our industry."

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The p-c insurance industry's return on equity wasn't always thisbad. For example, from years 1980 to 1999, the industry had 10.1percent ROE, compared to 13 percent for all other industries. "Sowe were right in there. We were doing okay," Mr. Maillouxrecalled.

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But a return on equity at rock bottom, Mr. Mailloux said, is notthe sort of sign one expects with an industry that is at the peakof a hard market. "My contention is that we are much more anindustry that has transitioned into the hard market and will ridethis hard market for a number of years well beyond 2005," hesaid.

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Complicating the problem is the fact that insurers can no longerrely on their good old cash cows--investment income and realizedcapital gains--to buttress their bottom line. In the past,underwriting has been "a profit destroyer" which was propped up by"profit creators," Mr. Mailloux said.

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But, Mr. Mailloux said, when the industry looks at what ishappening in the last couple of years and into the future, theseprofit creators, investment income and realized capital gains, aremuch lower.

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And when one looks into unrealized capital gains, which is the"bank" companies can dip into to realize capital gains, insurersduring the mid-to-late-1990s had significant unrealized capitalgains that they can draw upon to improve profitability. "But inmost recent years, the industry is in unrealized capital lossposition, so one of our profit creators is comprised," Mr. Maillouxsaid

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And then there is the problem of adverse developments thatcontinue to plague the industry. "Nowadays, you can't pick up anarticle in this industry without reading about adverse development.This is how significant adverse development has been on ourresults," Mr. Mailloux said.

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Looking back, though, the industry in fact had benefits fromreserve developments through the late 1990s. "We had benefits fromreserve developments. We used to have favorable reserve developmentwhich really lowered combined ratio by up to four points," but, hesaid, the reverse has happened in the last few years, wherecompanies were taking hits and strengthening reserves.

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"In 2002, for example, the industry had added up to six percentor even higher in combined ratio as the result of reservestrengthening," Mr. Mailloux said .

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Another concern is the surplus level for the p-c industry andthe fact that the sector has not added to its surplus since 1998."As a matter of fact, the surplus has been reduced by severalbillions of dollars," Mr. Mailloux observed. "So no wonder the buzzword right now is security. Everybody wants to know that they havesecurity when they deal with insurers or reinsurers."

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Another challenge insurers have to constantly wrestle with, Mr.Mailloux commented, is the loss inflation. Looking at juryverdicts, some lines of business such as medical malpractice andproduct liability have seen the level of verdicts shoot up 100percent or 200 percent in less than 10 years.

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So what does all this mean? "It continues to put tremendouspressure on underwriting," Mr. Mailloux said, with emphasis on rateincreases.

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The good news, though, he said, is that 1999 seemed to be thebottom in terms of prices. "Since then, we have seen healthyincreases in rates. There has also been a tightening in terms andconditions," he explained. "So when you are looking at rateincreases, you have to put that into perspective of the exposure,which is also diminishing. So the net price increase per exposureis more significant," said Mr. Mailloux.

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A very good thing happened in this process--the p-c industry isnow "reprogrammed" to generate profits not from investment incomeand realized capital gains, but out of very tight underwriting,which will help keep the hard market around longer than whatdoom-and-gloom sayers predict, Mr. Mailloux said.

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