A growing number of insurers may soon find themselves in a predicament similar to that facing the proverbial group of hunters who are being pursued by a hungry bear. Rather than having to outrun the predator to survive, carriers might just have to stay ahead of competitors that are slower to adapt to evolving market conditions.
However, to accomplish this, companies will likely need to upgrade internal systems and become more cost-efficient so they can maintain, and perhaps even increase profitability despite looming threats to their income streams. That was my chief takeaway from the recent Property-Casualty Insurance Joint Industry Forum, attended by many top executives and association leaders, which I found to be a rather somber annual family reunion this time around.
Part of the problem is that the "firm" property-casualty market of the past few years (in which prices were rising by small percentages but coverage was rarely difficult to find) has begun to decay, as capital builds faster than the demand for coverage.
Indeed, a poll taken by the Insurance Information Institute during the Forum revealed that nearly half of the attendees expect premium growth to be no better this year than the modest four percent total posted in the first half of 2014, while only a little over one-third predict any improvement. With eight of 10 surveyed at the Forum anticipating an increase in capacity, it's no wonder 61 percent see auto insurance profitability deteriorating in 2015, while 58 percent feel the same way about commercial lines.
There was some optimism expressed about how rising U.S. GDP and accelerating job growth is likely to boost top-line results, since there will be many additional insurable exposures for carriers to write. However, no one seemed to be in any mood to celebrate, given the formidable challenges faced by insurers looking to improve their bottom-line return on equity.
The first challenge likely to hinder profit gains is historically low interest rates, which is starting to undermine investment income as carriers buy new bonds offering much lower yields to replace those that are maturing in their portfolios. Even if interest rates start rising as anticipated around mid-year—which is no sure thing—the upticks will likely be minor and gradually spaced out over a long period of time, so it could take a few years to restore bond returns to more lucrative levels.
The second challenge to profitability is maintaining underwriting discipline and charging adequate rates as capital pours into the business at record levels, especially for property-catastrophe coverage and particularly in the reinsurance sector. Individual and institutional investors are buying more catastrophe bonds than ever before, while hedge funds have launched new reinsurance facilities. All this alternative capital is putting pressure on traditional insurers to cut rates, or else scale back in certain lines or regions, which will impact the top- and bottom lines for many carriers.
So, how is an insurance company CEO supposed to come up with a viable growth strategy in such an environment? Some may choose to buy market share and increase cost efficiency by adding scale, as 92 percent at the Forum expect an increase in merger and acquisition activity.
But others suggested that sustainable growth should perhaps be redefined, with bottom line improvement generated more through planned internal improvements.
That theme was echoed by a number of CEOs at the Forum, who said they would be significantly increasing technology investments over the next few years. Initiatives to enhance underwriting, policy administration, claims management, and customer experience capabilities while lowering overhead were described as crucial difference-makers at a time when price hikes and organic growth may be hard to come by.
For example, carriers will likely look to become more granular on both the front end of their business (by bolstering data management and predictive modeling capabilities for underwriters), as well as on the back end (in terms of being better equipped to spot potentially suspicious claims). Meanwhile, to meet evolving consumer needs, they'll also likely keep adding mobile applications—not only to provide 24/7 service, but to help intermediaries educate customers about their product features and to more effectively close sales.
Keep in mind that even if overall industry growth and return rates do end up trending lower this year, when you drill down you're likely to see far more variety in individual performance. System upgrades may help carriers beat the averages despite investment returns and pricing power being under duress.
In other words, a streamlined insurance operation that performs with higher efficiency and greater effectiveness is more likely to outrun its competitors, not to mention beating the bear.
Sam Friedman (samfriedman@deloitte.com) is insurance research leader with Deloitte's Center for Financial Services in New York. Follow Sam on Twitter at @SamOnInsurance, as well as on LinkedIn.
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