Look Out Below If Rates Keep Falling

In late November, you could already see insurance company CEOs start to worry. At one conference, they lectured, scolded and even pleaded with their counterparts to hold the line on underwriting discipline.

"Lets not get pulled into a soft market. We are not ready for a soft market and cannot afford one, not with all the challenges still facing property-casualty insurers today," said James Schiro, CEO of Zurich Financial Services, during the 15th Annual Executive Conference For The Property-Casualty Industry, co-sponsored by PricewaterhouseCoopers, Standard & Poors, the Black Diamond Group and J.P. Morgan.

"Theres no question our industry is moving forward with renewed strength. Weve raised capital, raised rates and started moving our combined ratio in the right direction," Mr. Schiro conceded.

However, he added, "lets not get too excited; we are not past all of our problems." He cited reserve holes, unreliable reinsurance recoverables and an "out of control" tort system as just some of the hurdles the industry has yet to clear.

"Lets not get in a race for marketshare," he said, insisting that "we need several more years of profitability" to reach an acceptable return-on-equitya theme emphasized again and again by CEOs speaking at the meeting.

"We must focus on the fundamental disciplines of our businesssound underwriting and claims management," said Mr. Schiro. He vowed that Zurich underwriters will "put their pencils down when the price isnt right," echoing a pledge voiced by several CEOs.

In a lunch with reporters following his address, Mr. Schiro said "this recovery is a process, not an event." He stressed that while prices are bound to ease in selected lines, "there are still too many fundamental factors going in the wrong direction" to justify a soft market.

Mr. Schiro was far from alone in his position. "Its hard to understand the euphoria over the rate increases of the past couple of years, since as an industry we still have so much farther to go to get to an even marginally acceptable return-on-equity," said Maurice Greenberg, chairman and CEO of American International Group in New York. "How can you attract capital to an industry with such dismal results?"

He told conference attendees that "rates are up, but that hasnt shown up in the bottom lines of a lot of companies because of balance sheet woes," citing the lingering effects of underestimated exposures and underpriced business.

"It doesnt make sense to me to hear that rates are softening with results still so fundamentally poor," he said. "With interest rates as low as they are, we need a much lower combined ratio to attract capital. If premium rates flatten out or start to slip, ROE will stay below 10 percent and no one will want to invest in our industry." He added that "in a risk business like ours, the pursuit of marketshare at the expense of earnings is not a great strategy."

William Berkley, chairman and CEO of W.R. Berkley Corp. in Greenwich, Conn., said during a discussion of capital strength that "the goal of any carrier should not just be to sell more insurance and get bigger, but to make more money on a risk-adjusted basis. That requires adequate pricing."

During a panel discussion assessing the reinsurance industry, John Phelan, chairman and CEO of American Re-Insurance Company in Princeton, N.J., predicted that the market would remain "disciplined" for the next year or two because "reserving issues are not behind us, investment income will not be sufficient to fuel cash-flow underwriting, and there will be pressure from rating agencies."

However, he warned, "if were not careful, all this talk of a soft market will become a self-fulfilling prophesy." Suggesting that the threat of a downgrade will keep carriers from recklessly cutting premiums, he said, "Let your earnings fall and see what happens to your rating."

Brian Duperreault, chairman and CEO of ACE Ltd. in Bermuda, said fear of a soft market might be premature. "The fact that there have been price adjustments doesnt bother me. Its natural to adjust rates according to risk, like the industry is doing in the property market. The rates are still reasonable and appropriate given the risk," he said. "However, the question is whether we as an industry will be disciplined enough to keep demanding appropriate rates, given the risks were being asked to assume."

Lamenting that insurance industry ROEs are "pathetic and have been for some time," he said that "if we start accepting prices knowing they are insufficient for the risks were taking on, we deserve what we get, and the moment of truth is coming."

For all the talk at the meeting of the need for underwriting discipline, Mr. Duperreault conceded that "all bets are off" if investment income rebounds for insurers. "If interest rates go up, insurance rates are going to start to go down. Thats the way it works," he said.

"Were in the professional gambling business," he said. "As with any risk business, you have to know when to stop playing the game and when to fold. We have a lot of people in this industry who dont know how to play this game and are not natural risk-takers."

Sam Friedman, NUs Editor-In-Chief, has ridden the insurance cycles for 22 years. He may be reached at sfriedman@nuco.com.

Reproduced from National Underwriter Property & Casualty/Risk & Benefits Management Edition, January 2, 2004. Copyright 2004 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.