P-C Insurers Feeling The Economic Heat, But Well-Positioned To Land On Their Feet

While no sector is immune to the recession, property-casualty insurers are well positioned to weather the economic turbulence ahead and emerge in a strong position when conditions inevitably turn around, many industry experts believe.

Rebecca Amoroso, vice chair and U.S. insurance industry group leader at Deloitte, said while she hates to use the term "crisis," 2009 will make for an extremely challenging year in the insurance industry.

Both Ms. Amoroso and Cliff Gallant, managing director of Keefe, Bruyette & Woods, cited continued write-downs in investment portfolios as the immediate concern for insurers. Mr. Gallant said he believes the write-downs will be severe across the industry, although not as bad as in other financial services sectors.

The effects of the deteriorating economy on state governments could also be an issue for insurers, according to Ellen Melchionni, president of the New York Insurance Association. She noted that New York Governor David Paterson--looking for all industries to "share the pain" and help the state make a financial recovery--is trying to increase insurance industry assessments, fines and penalties.

NYIA, Ms. Melchionni said, is lobbying hard against the increases, explaining that now is not the time to be causing additional financial stress for insurers.

Paul Ballew, head of the Insights and Analytics group at Nationwide Insurance, said loss severity across personal lines will also continue to challenge insurers in 2009, particularly in homeowners insurance.

Weather, too, could have an impact, as Mr. Ballew noted that 2008 was a challenge not just because of the bad economy, but due to the high number of weather-related losses that occurred.

But despite the obvious obstacles, Rich Marko, a senior vice president in Liberty Mutual's commercial market unit, believes insurers are very well positioned. He noted that p-c insurers have been profitable for a number of years, and the premium-to-surplus ratio is "as strong as it's ever been," while the reinsurance business is also well capitalized.

Both Ms. Melchionni and Stephen W. Broadie, vice president of financial legislation and regulation for the Property Casualty Insurers Association of America, pointed to the conservative investment portfolios of p-c insurers as a main reason why the industry is well positioned to withstand a difficult 2009.

Mr. Gallant said insurers are "holding their heads above water" going into 2009. While he expects change and dislocation in the market this year, as positives he cited an underlying combined ratio--excluding catastrophes--of around 97, underwriting cash flow that is "not bad," and reserves that appear stable.

The p-c industry is indeed positioned well, especially compared to other financial services sectors, according to Robert P. Hartwig, president of the Insurance Information Institute. He said the basic function of insurance--the orderly transfer of risk--"continues without interruption," while banks are "on life support from the federal government" and consumers are finding it difficult to get loans.

Insurers also have a better risk management model than banks, said Jimi Grande, vice president of federal and political affairs for the National Association of Mutual Insurance Companies. Insurers, he said, maintain a stake in the businesses they underwrite, while banks "package [loans] up and securitize them."

Mr. Grande and Ms. Melchionni pointed out insurers generally have small-to-no-debt, and don't borrow to make investments, underwrite insurance, or pay claims.

In general, insurers have gotten better at broad management strategies--including controlling expenses, exposure and risk, according to Mr. Marko. He added that insurers are highly scrutinized--by state regulators, rating agencies and even brokers helping consumers make purchasing decisions--whereas banking regulations have been relaxed.

Mr. Broadie said p-c insurers typically take more risk on the underwriting side and less on the investment side, with most invested more in state and local government bonds and not so much in stocks compared to other financial services companies.

Ms. Melchionni explained that insurers typically have about two-thirds of their investments in highly rated bonds, and about 15-to-20 percent in stocks.

However, insurers will need to adjust some of the assets in which they are invested, according to Mr. Hartwig, who said certain investments that were viewed as conservative and safe--such as collateralized debt obligations and mortgage-backed securities--are no longer seen as reliable.

Mr. Hartwig said interest rates will be lower, which will further eat into companies' investment income, exerting pressure on carriers to maximize profits on the underwriting side--"in other words, to match risk with price and to turn an underwriting profit."

Ms. Melchionni said insurers she has spoken with agree the market will harden through 2009, reporting that commercial lines are already bottoming out, as combined losses in investments and catastrophes have forced a moderate rise in rates.

Homeowners premiums are also up from last year, according to Mr. Hartwig.

"The soft market is over," said Mr. Gallant, citing rising insurer capital losses as one major factor. However, he does not see a traditional hard market emerging, such as what happened after Sept. 11, with flatter prices more likely than rapidly rising rates.

Ms. Amoroso said the worse the economy gets, and the more additional write-downs companies have to take in their investment portfolios, the more probable rate increases will become. She anticipates a "somewhat slow hardening of the market."

Mr. Ballew said the industry may still be a year away from a hardening market.

As for specific lines, Ms. Amoroso said property rates could harden more if 2009 sees any significant weather activity. She added that errors and omissions and directors and officers liability have not yet seen the full impact of losses stemming from the financial crisis--but as claims emerge, those rates could be among the first to rise.

Workers' compensation, meanwhile, remains very competitive, industry observers say--especially with massive layoffs shrinking the available pool of employees to cover.

Mr. Marko said a market usually hardens because of some catastrophic event, or a radical change in liability, such as a new tort. Now, however, the industry's problems are "much more of an asset-side event," such as investment troubles, he said, explaining that as a result, prices in general will likely be driven higher.

However, Mr. Gallant said that if the U.S. and global economies continue to shrink, premium volume could eventually be affected. If customers are buying less insurance, the market will not harden as quickly, he explained.

In addition, some insurers will try to grow in markets they perceive as vulnerable. Mr. Gallant cited troubles at major carriers XL and AIG, which are under pressure as competitors look for opportunities to pick up market share.

On a positive note, Mr. Hartwig also said insurers will be poised to benefit from any stimulus package passed under Barack Obama's new administration--especially if, as expected, the focus is on infrastructure.

Others maintain that the demand for insurance will always be strong, no matter how weak the economy is. Mr. Marko, for one, asked how many consumers have the capacity to self-insure against catastrophe losses from fires or windstorms.

To cope with 2009's challenges, most agree that, other than reexamining risk management strategies, insurers will not make wholesale changes in how they do business.

The role of the chief risk officer will be elevated as insurers face scrutiny from audit committees and rating agencies, Ms. Amoroso predicted, and companies will have to prepare for regulatory reform in whatever shape it may take.

Mr. Broadie said investment officers will likely reconsider portfolios and asset classes, but Mr. Marko predicted the industry will not see a dramatic shift in terms of asset investments because insurer portfolios already are so conservative.

"Depending on how deep is deep, I don't know there's much insurers can do to prepare other than maintaining a strict and prudent philosophy," Mr. Grande agreed.

Good management will be the key, according to Mr. Marko. "The proper response of the insurance industry is to manage its business well and do so continuously, he said. "You manage exposure and risk to capital strength and availability. Investment and reinsurance strategies have to match exposure, risk and capital. And you manage operations well in the sense of keeping expenses under control, rather than making across-the-board cuts if and when revenues shrink."

Aside from just treading water in 2009, there may also be limited opportunities for insurers to take advantage of. Mr. Hartwig said that "smart underwriters will always find opportunities."

Others mentioned a renewed focus on customer service as an opportunity in 2009. Mr. Ballew said insurers should work on delivering the best experience for their customers through the slowdown. While the industry is trying to deal with a severe economic crisis, he said it is also trying to build business for the long term.

Ms. Amoroso said insurers should look to win over the "hearts and minds" of consumers--Generation Y in particular, who are just emerging as insurance consumers. She predicted that insurers making a good first impression on Gen Y will have an opportunity to build strong relationships.

On the commercial side, Ms. Amoroso said insurers should focus on the growing number of women-owned businesses as a new-market approach.

One strategy not expected to play a major role for most p-c insurers is accessing federal bailout funds. Some multiline companies, such as The Hartford, are seeking to become eligible for Troubled Assets Relief Program funds, but Mr. Broadie believes the p-c industry is healthy and doesn't need such assistance.

Many say mergers and acquisitions will probably not be a major factor for p-c insurers, given the brutal credit market and the inability to raise capital. But Ms. Amoroso said while there will not be an M&A boom in 2009, some consolidation is possible as struggling companies are acquired by healthier competitors.

Whenever the economy does turn around, most are confident the insurance industry will emerge in a good position to capitalize. "If things come back by the second quarter, I think [the p-c industry] will have a story to tell on how they weathered this," Mr. Grande said.

He added that this economic crisis may be an opportunity for lawmakers and consumers to understand more about how the industry works, and realize how well managed it really is--especially compared with other financial service sectors.