Magazine article Risk Management

Taming the Beast: Will Insurance Market Cycle Become a Thing of the Past

Magazine article Risk Management

Taming the Beast: Will Insurance Market Cycle Become a Thing of the Past

Article excerpt

Commercial insurance in the United States in 2015 is a buyer's market. Led by commercial property, rates are decreasing in all lines, and the softening cycle that began in early 2014 is expected to continue into 2016. This is certainly good news for customers, who can anticipate a moderate price environment.

But are these conditions a sign of a larger, more permanent shift? In recent years, much has been said about whether market cycles are becoming a thing of the past. The thinking is that improvements in data, analytics and technology and the influx of alternative capital will make the insurance market more efficient. As a result, pricing cycles will become shallower in magnitude and shorter in duration, perhaps eventually leveling off altogether. While this idea is solid in theory, the reality is that we are still far away from a perfectly efficient market. In fact, in many cases, the current double-digit rate decreases are tied to market forces and not actual account performance. Paradoxically, some of the developments that will ultimately lead to an efficient market are actually creating a level of volatility that is perpetuating traditional market cycles.


Last year was a strong year for the property/casualty industry. While some of the performance was the result of relatively minimal catastrophe losses, performance was good in almost all segments. According to A.M. Best, the industry posted a combined ratio of 97.2% in 2014. This was the second consecutive year of a sub-100% combined ratio and only the second time since 1990 that the industry posted consecutive combined ratios below 100%. The trend is expected to continue, with Conning & Company predicting that 2015 will be a third year of sub-100% combined ratio.

As a result of this underwriting performance, policyholder surplus grew to a record $674 billion, an increase of more than 50% since 2009. This level of surplus is well in excess of what is needed to keep the market in equilibrium--estimates of excess capacity in the industry range from $50 billion to $120 billion dollars. Premium to surplus dropped to a record low of 0.73 to 1. While this figure points to industry strength and claims-paying ability, it also highlights a low use of that capital to underwrite risk. In the current low interest rate environment, insurers are struggling to generate an adequate investment return on their swelling portfolios. This creates pressure to write more risk in order to generate an acceptable return on capital. Industry return on surplus in 2014 was a respectable 9.5%, but down 10.7% from 2013.

This excess capacity has led to price reductions across almost all lines in the first quarter of 2015. According to the Council of Insurance Agents and Brokers, rates decreased an average of 2.3% in the first quarter. Many risks saw larger reductions. By most reports, large risks saw more downward pricing than small ones. Overall, the decline was led by property rates, which frequently saw double-digit declines. Large layered programs were frequently over-lined by up to 100%, putting significant downward pressure on pricing and causing more liberalization of terms. According to a Marsh report, the only area that has consistently witnessed upward pricing pressure in 2015 is cyberliability, due to increased demand, limited empirical data with which to build credible pricing models and some high-profile claims.

Clearly, market cycles are alive and well. But while the industry is moving to more effectively differentiate by geography, line of business, customer size and profile, high-quality risks can generally experience a positive result at renewal regardless of the underlying account pricing fundamentals. This is because the forces that will ultimately create an efficient market--data analytics, emerging risk identification and alternative capital--still have limitations. In some cases, these forces are even having the opposite effect, creating more market disruption than efficiency. …

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