Fundamentals Will Carry E&S Carriers, Brokers Through Tough Times, Execs Say

While this year marks the "Year of the Ox" on the Chinese calendar, participants in the E&S/specialty insurance segment are ushering in 2009 as the "Year of the Underwriter," according to the head of a large excess and surplus lines carrier.

Explaining how his company will deal with the challenges that an economic downturn will create for specialty insurers in 2009, Peter Eastwood, president and CEO of Lexington Insurance, said that "we must stay focused on what is within our control. 2009 will be the year of the underwriter."

"The carrier that is nimble and executes well, will weather the storm. Those that do not may flounder," he added.

Mr. Eastwood was one of more than a dozen executives contacted by NU's E&S/Specialty Lines Extra recently to share their predictions on the top stories likely to play out in 2009, and how their firms will deal with the challenges ahead.

Glancing in a rearview mirror to look back on the events of 2008, and gazing into their crystal balls to forecast what's ahead, the consensus view of the top story that will impact the E&S/specialty segment might easily be summed up by a phrase popular during a past political campaign--"It's the economy, stupid."

Robert Owens, president of RPS of Lexington, a unit of Risk Placement Services in Kentucky, was the first to tell NU that the economy is "the number one issue affecting our industry for 2009."

"With a slowed economy, the demand for insurance has declined, reducing both premium volume and overall exposures," he said, articulating a view that would be repeated many times over.

While the downward impact of an economic recession on insurance purchases weighed heavily on the minds of executives who shared their views with NU's E&S/Specialty Lines Extra, the turmoil in the financial markets also scored high as a potential top story among those who worried about the uptick in losses that might develop as a consequence of both.

Scott H. Smith, president of S.H. Smith & Company in Hartford, who identified the "impact of the financial meltdown on the insurance industry" as the top story for 2009 "and beyond," said, "We are predicting this monumental event will stagger not only the predictable lines of insurance, such as E&O, and D&O, but also other major areas."

Explaining the less predictable impacts to lines other than professional liability and directors and officers liability, he noted the potential for foreclosures and arson to impact the property line, and for inflated awards and crime to hit general liability.

"The insurance industry needs to reserve for the usual type of activity that accompanies recession in the extreme, in addition to the predictable claim activity for financial setbacks," Mr. Smith said.

Taking a cue from a recent political campaign slogan and the objective of the new administration in Washington--to follow a blueprint for change--responses from many longtime NAPSLO members expressed hope that a top story in 2009 might be one about a changed insurance market with regard to pricing and competition in 2009.

While every broker and insurer responding to a direct question about whether the market would harden this year answered that it would, several doubted that the lessons of 2008 or of past soft markets would be heeded by all.

Some respondents, echoing the promise of real change in Washington from President Barack Obama's administration, predicted federal regulation of the industry in one form or another. Others eyed the economic stimulus package, with its planned investments in the nation's infrastructure, as a potential boost to commercial construction activity and to the demand for E&S insurance this year.

Michael Miller, president of Scottsdale Insurance Company, isn't that optimistic. "The stimulus package from Congress will have a lag effect, as it will take time to roll it out. This would seem to indicate that there will be businesses that will continue to struggle and that the number of new companies will be lower," he said.

Mr. Miller and other carrier executives, however, did foresee one development that could push business back onto the books of E&S carriers in 2009--a potential retrenchment of standard carriers from the E&S business precipitated by impaired capital positions.

"We are seeing a significant reduction in capital across the industry, and the ability to attract new capital is lacking. [Standard] companies will have to evaluate the risk profile of their books of business," he said.

Nathan Warde, president of Aspen Specialty in Atlanta, noted that "the capital markets remain very constricted." While they may not be entirely frozen, he said he believes the inability "to recharge [an insurer's] capital base following a significant loss event...is forcing some management teams to rethink how they have put their capital to use."

"Those carriers with significant catastrophe accumulations are already moving to reduce them. Others are looking at their more volatile lines of business, which could potentially lead to some carriers shedding books of business deemed either as being too volatile or non-core."

"Either trend will push more business into the E&S market," he said, echoing the sentiments of Christopher Timm, president of Century Insurance and executive vice president of Southfield, Mich.-based Meadowbrook Insurance Group, who also predicted a reversal of the "soft market-induced expansion" of standard carrier risk appetites into surplus lines.

Mr. Timm noted that the combination of storm losses and investment write-downs in the past year resulted in an overall loss of surplus in the industry.

He said the standard markets entered traditional surplus lines niches in recent years with standard forms, standard underwriting and standard rates.

As a result, "the experience on this portion of their business cannot be good," he concluded. "Many company executives are seeing a need for rate increases. A simple analysis would show a relatively easy ability to effect a gain in rate adequacy by excising such risks from their books."

Mr. Timm said "this should be especially evident to those executives who take the time to look in the small account and BOP [businessowners policy] segments of their business. We expect this business to start returning to the surplus lines market near the end of this year."

No matter which of the seven stories executives picked as the potential biggest to impact their businesses in 2009, participants in the E&S/specialty market said they are well-equipped to weather the storms ahead. (The list of the seven stories is summarized in an accompanying text below this article.)

"Widespread loss of jobs and loss of opportunities will encourage most [members] to revisit and implement the fundamentals of success," according to John Wood, president of Specialty Risk Associates in Shreveport, La.

"As strange as it may appear, this type of environment could produce more opportunities for the E&S business," said Mr. Wood, who is also president of the Kansas City, Mo.-based National Association of Professional Surplus Lines Offices.

"We are ready to step in and serve our customers," he said, adding that NAPSLO is conducting a media campaign "to inform our retail customers of the value of wholesale brokers and that, through their knowledge, experience and expertise, we bring value to retail insurance agents and corporate risk managers in placing specialty insurance coverage."

At Lexington, Mr. Eastwood outlined his company's approach to the challenges ahead this way: "We must be nimble and focus on those areas where we believe that we have a competitive advantage both in capacity and expertise," he said. "It is those qualities that we will rely on to maintain our underwriting integrity, rather than engaging in expedience-motivated underwriting that surely will come home to roost in future years."

More details of Lexington's approach and the responses of other survey participants are included in a related article, "NAPSLO Members Brace To Weather Economic Storms Ahead."

The List

Insurance and broker executives listed the following topics as potential top stories of 2009 when NU's E&S/Specialty Lines Extra reached out for predictions recently:

#1: It's The Economy, Stupid

#2: Claims Fallout From The Credit/ Subprime Crisis, Madoff-Type Schemes

#3: A Harder Market Ahead

#4: Federal Regulation Comes To Insurance

#5: Economic Stimulus Boosts E&S Insurance Demand

#6: Insurers Work To Preserve Capital

#7: Standard Carriers Retrench From E&S Business