Economy, Model Reliance Called Top Insurer Risks By E&Y

NU Online News Service, June 24, 3:01 p.m. EDT

Besides the financial market crisis, the top business risks multinational insurers face this year are failures to recognize model shortcomings and possible impacts from sweeping regulatory reforms, a report found.

The study by New York-based Ernst & Young consulting firm, titled "Second Annual Business Risk Report–Insurance 2009," puts the financial crisis as the most significant factor facing the industry. "The consequences have been so profound that they are likely to shape the industry for the next 10 years," according to the report.

Insurers must gain liquidity and financial flexibility, retain earnings power, and maintain agency ratings to weather the crisis, the report advised.

Aside from the financial crisis overall, the report stated the failure of insurers to recognize the shortcomings of models and adequately capture the nature of underlying risks has left some insurers unprepared for the current conditions.

"The inherent complexity of financial markets and insurance products arguably makes it impossible to create a model that captures all the nuances and uncertainties in real processes that generate the insured loss exposure," according to the report.

"Even if it were possible to model the complexity of the risk, the random nature of events is such that some analysts expressed skepticism about what could be achieved with models and the need to integrate models with qualitative risk analysis," E&Y said.

The report counseled insurers to prepare for challenges associated with possible major changes to the regulatory landscape.

"While the full extent of regulatory change is unknown, early signs are that revisions to insurance sector regulation have the potential to be dramatic," the analysis said.

"Insurance companies need to recognize the broader implications and prepare for the sweeping changes that lie ahead," E&Y warned.

Other risks facing the industry, according to the report, include:

o Managing the underwriting cycle. The report said the future of the underwriting cycle "can be improved through enhanced branding and expense reduction, including process automation, alternative sourcing and direct distribution."

o Geopolitical and macroeconomic shots stemming from international economic volatility. "Falling incomes generate political pressures and collapsing tax revenues threaten governments' capacity to respond," the report said.

o Demographic shifts in core markets, including meeting the needs of aging baby boomers.

o Taking the right approach to take advantage of emerging markets.

o Managing and defining the appropriate distribution channels for a company's products. "Looking ahead, companies need to adapt to customer demands and develop strategies through the enhancement of mobile and Web-based technology," noted the report.

o Legal risks that will emerge in the wake of the economic downturn.

o Climate change and catastrophic events.