Surplus for the ALIRT Property & Casualty (P&C) Composite rose 5.1% in 2014 on strong operating earnings of $25.2 billion and net capital gains of $15.7 billion, partially offset by shareholder dividends and other miscellaneous charges, according to the “Year End 2014 P&C Industry Review” report, released March 19 by ALIRT Insurance Research LLC, Windsor, Conn. The Composite is composed of 50 large U.S. P&C insurers (excluding professional reinsurers), representing approximately 53% of total industry net written premium.

The report also notes that underwriting and operating results were weaker than in the same period in the prior year, but they did remain above historical averages by most measures, supported by continued positive pricing and moderate catastrophe and weather-related losses. Accident year underwriting results nearly broke even, and prior year reserve releases, while lower, continued to contribute to underwriting gains. Direct and net premiums written increased, the report says, though at lower rates than in the prior two years, attributable to firmer pricing and slowly improved economic conditions.

From 1997 to 2001 the industry found itself in a “significant soft market” in which pricing on broad commercial coverage dropped as insurers hoped to make up for underwriting losses with investment income. The industry saw significant price hikes from 2002 to 2004, which improved cash flow until the financial crisis of 2008.

Net operating cash flows bottomed out in 2011, according to the report, at which point pricing again became positive and P&C cash flow again improved. Soft pricing reversed in 2012 before doing “real damage” to most insurer’s balance sheets, the report says. Prices rose for two years, then began to ease again, although they remain positive.

Next page: 5 reasons why this underwriting cycle is an anomaly

(Source: ALIRT Insurance Research)

Is this current cycle an anomaly or could the commercial lines rate cycle become shallower in the future? ALIRT hypothesizes that the cycle is different this time, for the following five reasons.

1. Data analytics and data mining

The industry has a great ability to gather, order and derive actionable information from massive amounts of data, and “the science of data analytics/data mining will only continue to expand,” the report says, suggesting that this factor has “revolutionary implications” for the insurance industry, particularly the P&C market, which depends on analyzing multivariate datasets to properly price risk.

The ability to have a more accurate sense of the ultimate cost of risk will allow insurers to price with greater discrimination, which should encourage company management to rein in underwriting risks before losses get out of control, leading to what the report calls “shallow underwriting cycles.”

2. Specialty focus

Many insurers are moving to either fully concentrate on or round out their standard lines of business with specialty offerings. Specialty P&C business offers insurers “a means to insulate themselves somewhat from the broad sway of pricing cycles” by providing greater value in terms of underwriting insight to meet targeted needs. The report notes that strong specialty underwriters have a product that few can replicate, thus benefiting them from a supply and demand perspective. Good specialists tend to have a better sense of the ultimate cost of the risk they’re underwriting and should know where and when to pull back when pricing gets out of line.

(Source: ALIRT Insurance Research)

3. Professional management—market leaders

ALIRT finds that the U.S. P&C market continues to witness growth in the professionalism of its leaders. This is perhaps due to a greater involvement in the business by alternative sources of capital, especially given that the P&C industry’s returns are viewed as non-correlated to many other investment classes. It may also reflect greater expectations on the part of professional and institutional investors as the competition for profitable investments becomes more globalized.

4. Consolidation—scale

The combination of excess capacity in the U.S. P&C market, the perceived need for scale and diversification, inexpensive sources of capital, and aggressive private investors has led to a recent increase in the number of mergers and acquisitions. ALIRT expects that the creation of larger insurers should result in more organizations investing in the human capital and technology needed to better understand and price risk. “A smaller number of insurers means fewer ‘cats to herd’ when trying to gain an unofficial consensus on price adequacy,” the report says.

5. Investment environment

The report notes that the U.S. has been operating in an extremely low interest rate environment since the financial crisis of 2008. ALIRT states that the pressure on investment income has kept management more focused on underwriting results over the past seven years. The report speculates that although stronger investment returns in the future may lead some insurers to revert to “cash flow underwriting,” the discipline of having to depend more on underwriting gains to drive returns may become a habit with insurers.

For more information or to obtain a copy of the report, send an e-mail to info@Alirtresearch.com.

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Overall, 2014 was a pretty good year for the P&C industry, says ALIRT report

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