Growing Energy Losses Shrink Coverage

Indeed, he noted that the oil and gas and petrochemical industry has always been a major contributor to Swiss Re corporate business–a situation that altered dramatically when the company began experiencing negative results, starting in 1998 and 1999.

In early 2002, "when we also saw that the underwriting year 2000″ started showing losses, senior management began paying a lot of attention to this sector, he said.

In an interview, Mr. Oppliger noted that for the first time in 2000, the energy sector started reporting its losses late or under-reporting its losses. "In fact, the oil and gas and petrochemical industry was seen by senior management at Swiss Re [as suffering from] an industry disease," he said during his speech, noting that this was how Swiss Re termed the problem internally.

Underwriters came under heavy pressure beginning in 2000 and continuing into 2002 to turn results around, he said.

"Basically a lot of the underwriters [in the energy sector] have been told, Make profit in 2002, otherwise, well stop you writing," said Robert Glynn, senior vice president, Marsh Specialty Operations-Marine Energy Division in London. Mr. Glynn also spoke at the meeting.

Such pressures have led to changes in terms and conditions, Mr. Oppliger indicated. "Most of the clients in the industry will have to bear much higher retentions than they had before," he said.

While retention levels are being adjusted so that larger companies carry larger retentions, and smaller companies carry smaller retentions, "its generally our suggestion to the market that we target a $10 million retention on the property damage side and a 60-day waiting period [for business interruption losses]," he said. The 60-day waiting period used to be 30 days, or 21 days, or even lower in the past, he said. "Its a big increase."

"At the same time, we want to apply a minimum dollar amount to the waiting period," he added.

"We can see a greater need for premium increases on coverages attaching over $100 million," he said, pointing to the last four years, when there were an unusually high number of big losses.

On the policy wording side, improvements still need to be made, he said. "We cannot give wider coverage while not being compensated by adequate premium levels," he said.

"Of course, the large companies should be able to take that increase in retentions," although smaller companies may have more trouble absorbing these increases, Mr. Oppliger said.

"Finite or self-financing programs are becoming attractive to cope with the increase in retentions, which means the client finances over time, over five years say, the increase in retentions," he said.

The same is valid for stop-loss programs on retentions, he said. Stop-loss programs normally work on an aggregate basis, he noted. "We would normally provide a stop-loss program to a captive," which would cap losses at a certain level, he explained. "Normally, we say the captives should be able to bear the first two or even three events, and then after that, the stop-loss kicks in and provides coverage," he said.

Mr. Glynn said rates seemed to have hit a plateau, although this could change dramatically should there be another large loss.

Given the state of the equity markets, Mr. Glynn said, insurer investment returns are down substantially, so underwriting is based on pure, technical rates.

Mr. Oppliger noted that capacity is a problem for some of the bigger gas and petrochemical clients. Offshore facilities in the gas and petrochemical industry are able to obtain $1 billion in capacity, which is sufficient for most plants, he added. However, he emphasized that the onshore market has a greater problem because capacity is limited to around $750 million per plant, "which is not enough for the big clients."

He suggested that alternative market solutions are becoming more attractive to clients with such "capacity gaps." One such solution is contingent capital, which means that capital is available when the loss happens, he continued, noting that the money is paid back over time.

Such finite programs typically run over three-to-five years, he said, explaining that losses are funded on either a pre-financing or post-financing basis.

In pre-financing, the client pays a very large premium upfront, while in post-financing, any losses that occur in a certain period are paid back over a certain number of years, he said.

Mr. Oppliger asserted that another problem facing the industry is treaty renewals, which occur at the end of this year, and which have a big impact on the overall capacity in the market if insurers cant get the same amount of reinsurance coverage.

Mr. Glynn said the higher price for crude oil has led oil companies to increase their investments in new projects on a global basis. The good news for the insurance industry is that this creates more risks to choose from, and underwriters can now be more selective in the risks they choose, he said.

Reproduced from National Underwriter Property & Casualty/Risk & Benefits Management Edition, October 7, 2002. Copyright 2002 by The National Underwriter Company in the serial publication. All rights reserved.Copyright in this article as an independent work may be held by the author.