Signs Of Discipline, But No Broad Pricing Change In Uncertain Market

NU Online News Service, June 8, 1:37 p.m. EDT

NEW YORK – The property and casualty market is seeing signs of discipline, and psychologically, underwriters are ready for a pricing turn, but a broad market change is not likely with so much excess capacity remaining in the marketplace, P&C executives here say.

Speaking at the Standard & Poor’s 2011 Insurance Conference, David S. Cash, CEO of Endurance Specialty Holdings Ltd., says the broader P&C market is “reasonably disciplined” right now. He says discipline in the industry is evident as individual companies begin to exit from lines of business because they feel they are not getting adequate rates.

However, he notes that these companies are leaving those business lines because competitors are not as disciplined.

As noted by Michael S. McGavick, CEO of XL Group, the discipline in the market is uneven, but he says there are pockets of appropriate pricing. While some lines are showing improvement, McGavick says he remains concerned about directors & officers’ liability insurance. Speaking to why pricing remains so competitive in this line, he says those writing this business might be looking at recent generous reserve returns and thinking that they had been too tough pricing this business.

Carl H. Linder III, co-CEO and co-president of American Financial Group Inc., says 12 months ago his company was only seeing rate increases in the California workers’ compensation market. Now, he notes, there are “maybe four lines” where he is seeing rate increases.

The phase where there are signs of discipline in some markets but no broad pricing change could last for a long period of time, according to Cash.

McGavick says that in order to see a broad market hardening, two factors must be realized: there must be a psychological change among underwriters, and there must be a drain of capital.

The first factor is occurring, McGavick says. He notes that pricing is showing some improvement, from a company perspective, and the psychology among underwriters is in place for increases to be realized. But that psychology, he notes, needs to be matched by a real capacity drain, which has not happened yet.

Linder notes that the market is going through a period of uncertainty. Companies are holding onto their capital, he says, because they don’t want to be caught without it if conditions worsen.

McGavick adds that regulator reactions to the financial crisis have tended to lean toward mandating more capital, which he says could make the P&C sector less likely to perform its job.

“The fact is,” he says, “that this industry is already struggling to justify the capital it’s carrying around.”

In general, McGavick believes regulators have overreacted in the insurance industry because they are trying to catch up with the banking sector. He says what regulators are fixing with respect to banks could lead to bad behavior in insurance.

“Banking regulators should learn from insurance regulators, and not the other way around,” McGavick says.

He notes that banking interests and concerns tend to dominate the conversation in Washington, and insurance voices tend to be weak. “It’s logical that it’s that way,” he says, “but it’s unfortunate.”

Speaking to whether a significant U.S. catastrophe would drain enough capacity to cause a market turn, McGavick says a major storm during hurricane season could change much of the market, but not all of it. He says it is the risks that companies are not so thoughtful about that change markets. He notes that 9/11 was “dramatically unsettling” because it showed the industry that it does not know everything with respect to risk, and must charge for the “unknown X-factor.”

An earthquake in the U.S. may be such an event, McGavick says. Both he and Linder believe the U.S. earthquake insurance market is not adequately priced. McGavick says major U.S. quakes are “so infrequent that we can’t get our heads around it,” and he adds that such an event would more dramatically impact the pricing cycle rather than a windstorm.

Overall, the executives agreed that the industry is adequately reserved today but, as Cash notes, “right can turn wrong in a matter of 18 months.”

Linder says as the economy starts to recover, claim frequency may increase. He also says inflation is something to keep an eye on. “Those things can add up quickly,” he notes.

McGavick says that during this “shakeout phase,” not every company will have the capacity to adapt to the changes and survive. During this phase, he says, it is important to create differentiation from competitors—and underwriting is crucial to success, particularly in a market where economic activity, and therefore premium generation, is reduced and where interest rates remain low. He says the key is not necessarily absolute performance, but relative performance compared to competitors in a given sector.