Industry Back In The Black, But Bad News Still Abounds

In 2002, the industry-wide combined ratio was 107.2 percent, down significantly from 2001 when the ratio was 115.9 percent.

But the good news pretty much stops there.

Surplus dropped $4.4 billion to $285.2 billion at 2002s year end. And combining realized and unrealized losses in 2002, insurers suffered $21.7 billion in overall capital losses last year.

The industry also reported a drop in investment income (interest and dividends) of 2.8 percent, to $36.7 billion last year from $37.7 billion in 2001.

And then there was the fourth-quarter reserve strengthening.

Robert Hartwig, senior vice president at the Insurance Information Institute in New York, said much of the industrys after-tax net income in 2002–$2.1 billion out of $5 billion to be exact–was erased in the fourth quarter.

"Accomplishment of this remarkable feat was not the result of natural disasters or investment debacles, but of massive charges taken during the fourth quarter to strengthen reserves. These charges added billions to 2002 underwriting losses [and] half-a-dozen or more points to the combined ratios of many insurers."

The timing of the reserve strengthening was not a surprise, he said, since fourth quarter is usually the time companies clean up their balance sheets. But the magnitude was certainly unusual.

And while commenting that "every penny" of last year's reserve boost was very much needed, he said investors, who poured billions of dollars into the industry over the last two years to benefit from the hard market, have not done as well as they had hoped.

Mr. Hartwig pointed out that the rate of return for the p-c industry was 1.0 percent last year. Compared to this return, even simple one-year Treasury securities offered more bang for investors' bucks, with a 2.0 percent return, he said, characterizing last year's industry results as "a major disappointment."

"It's difficult to characterize it any other way. With no major terror attack last year, there was bound to be an improvement in 2002," he told National Underwriter.

The industry combined ratio of 107.2 percent, although an improvement over 2001, was also nearly a point higher than what an I.I.I. survey of analysts had estimated in February. That earlier estimate, Mr. Hartwig said, was developed before most of the reserve charges were announced. But he is still expecting an industry combined ratio of a little over 103 and around 12 percent growth in net written premium for the current year.

"The reserve charges were distinctively more. I don't think anyone could have expected the amount of the reserve strengthening that came across," added Mark Dwelle, an equity analyst at Baltimore-based Ferris, Baker Watts Inc. His firm was one of the participants of the I.I.I.'s annual "Groundhog Forecast" survey conducted two months ago.

"There was a surprise in the sense that there was a lot more reserve strengthening than most people would have anticipated. Most companies took what they thought was a very good stab at what they were facing," Mr. Dwelle said. "But there is still a good chance for further reserve strengthening. That's the nature of the industry."

ISO's assistant vice president of financial analysis Michael Murray generally agreed, saying that while "there was some significant reserve strengthening in 2002, our feeling is that the industry, based on our analysis, is still under-reserved, perhaps significantly."

And there is always that excellent question of when insurers will face the music and face their actual reserve deficiencies, he said.

For 2003, Mr. Dwelle expects investment income to decline further this year. But with improving underwriting results, his firm is sticking by its earlier forecast of a 105 combined ratio and the net written premium growth of around 13 percent. "Most of this growth will come from the liability side and less from the property side," he said.

And of course, the billion-dollar question everyone is asking is just how long premium growth will remain strong.

According to ISOs Mr. Murray, the hard market may be maturing. "Our ISO MarketWatch data shows that increases in commercial premiums peaked last July and have been losing momentum since," he said. "One of the big questions is what will happen when rates get to the point where they stop rising? But with the declining surplus, the hard market could last longer than what we have seen before."

A.M. Best in Oldwick, N.J., even suggested in its new report on 2002 results that pricing in a number of large market segments is still below adequate levels.

"We would agree with their finding, particularly with liability lines," Mr. Dwelle said. "The hard market will continue throughout this year and well into next year," he said.

Reproduced from National Underwriter Edition, April 21, 2003. Copyright 2003 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.