Another Soft Market Creates a Hard Reality

Like a commercial airline scrambling to squeeze out a profit in the face of increased competition and skyrocketing fuel prices, many insurance agents find themselves caught in the downward spiral of another soft market cycle.

An abundance of capacity coupled with factors beyond the control of an average producer have resulted in another round of rate cuts that could mean a rough road ahead for agents and brokers who believed the good times of the hard market would last forever.

Price cuts in the airline industry have traditionally taken on the appearance of a group decision. An aggressive airline that attempts to raise fares is often forced to reverse course when market pressure forces their competition to maintain current levels. Apparently, the same logic applies to the insurance industry.

“Like the airlines, unless someone big and brave, or small and ambitious, comes forward and takes a real price dive, the underwriters who were so short for so many years are still trying to make up those lost dollars,” said Mary Eisenhart, a managing partner with Agency Management Resource Group (AMRG) of Lincoln, Calif., and Portland, Ore. “We saw the hard market endure, and will no doubt be seeing the softer market last as well.”

Associates for Lloyd’s of London have been witness to the cyclical nature of the insurance industry since the late 17th century. The company’s resurgence is a direct result of strict underwriting and an eye on profitability.

“Businesses at Lloyd’s must be prepared to take an active choice to behave differently and reject the worst effects of the cycle that have prevailed in the past,” said Julian James, Lloyd’s director of Worldwide Markets. “At Lloyd’s we are determined to do everything we can to encourage the right active choice to be made; through the work of the Franchise Performance team and our supervision of the market.”

Wendy Baker, the president of Lloyd’s America, hopes that producers have used the window of opportunity created by the hard market as a period to educate clients in the value of placing business with an insurance company that maintains the capacity and the surplus required to survive when competition increases and rates begin to tumble. She emphasized the importance of a strong personal relationship with each client to establish credibility in a volatile marketplace.

“From New York to Los Angeles, I have found agents who have taken the time to share the basic belief that it is a sound business practice to place your trust in a carrier that will be solvent when it comes time to pay a claim, if and when that becomes necessary,” Baker said. “An agent and the (insurance) company must form a team that works to protect the consumer from the risk of a claim and the danger of an insurance company that may collapse under pressure of a severe loss.”

The soft market has reduced premium dollars, according to Baker, but most insurers have maintained the high deductibles that were negotiated during the three years of a hard market. She added that business clients generally prefer to place their trust with a stable company that will provide consistent coverage and predictable rates that fit into the annual budgeting process.

“Insurance may be a commodity, but (commercial clients) prefer to avoid the budget nightmare of paying $1 this year, $500 next year and then $1.50 in the third year for the identical coverage,” Baker said. “There will always be low-cost alternatives. But what protection do those companies provide if they are stretched so thin they are not prepared to cover a catastrophic loss?”

These shoes were made for walking
The president of Lloyd’s America compared clients who buy purely on price to shopping for a pair of shoes with the same criteria.

“Sure, you can buy a pair of shoes for less money if the shoes are made of paper. But wouldn’t you pay a little more for shoes made of leather rather than for shoes that were made of paper?” Baker asked. “The leather shoes are a much better value and will be the wiser decision over the life of the shoes.”

Lloyd’s of London provides specialized insurance services in 189 countries through its 66 syndicates around the world.

Carol Spurlock, managing director – national product leader at Aon Risk Services, took the importance of educating a client before renewal one step further, adding that knowledgeable consumers are looking for something more than just an insurance company and a simple policy.

“It’s important to define the issues, including loss and capacity before a producer drives the sale,” Spurlock said. “Consumers are savvy regarding the insurance market. There are market expectations that must be handled in a proactive manner by selling value-added secondary benefits. It is the diversity of services that will retain a book of business.”

Aon ranks as the second largest privately held commercial insurance brokerage in the world with 600 offices worldwide and annual revenue of more than $6 billion.

Lower interest rates and unpredictable investments—particularly in the stock and bond market—have put greater pressure on underwriters to add profitability to the bottom line of insurance companies. But that has not stopped a new round of rate cuts that have resulted in some premium dollars dropping to where they were at the depth of the last soft market.

In the opinion of Anthony Pulgine, the chief marketing officer for T.J. Adams Group in suburban Chicago, an agent or producer who is successful in both hard and soft markets cultivates his or her clients to the point that the insurance portion of the business becomes transparent.

“The client has to trust that the agent will do the diligence to follow market trends,” Pulgine said. “Selling strictly by price without emphasizing the service and added value of a professional broker is a recipe for failure. You need to take the dollar figures off the table.”

According to Pulgine, T.J. Adams Group provides added value through pay-for-service loss control in payroll and human resources as a boost to its commercial customers. T. J. Adams Group is a partner with the privately-held Assurex Global brokerage.

“A client will think twice about changing providers if they stand to lose the added benefits that T.J. Adams offers as a part of our complete commercial coverage,” Pulgine explained. “We do not invest our time or energy with clients who buy merely on price. Those clients have very little loyalty and will switch every year to wherever they can find lower rates in the short-term.”

Increased competition and lower rates are also the result of economic conditions and the lack of substantial losses over the past eight quarters, according to an appraisal of executives and analysts from the insurance industry. A recent survey by Aon found that gross premium dollars have dropped as much as 17 percent in some areas of the market.

“Those agents who wish to survive and grow in such environments must come to grips with the fact they must align with partner-carriers that are willing to work with them and not abandon them for other sources of revenue,” wrote Edward Curry, president and founder of Targeting Marketing Management Consulting in Virginia Beach, Va. “The insurance industry that emerges five years from now will bear little or no resemblance to the market or conditions that exist today.

“Times of turbulence and uncertainty often bring exceptional opportunities for those who have the ability, the financial stamina and the willpower to survive.”

Rate increases in the commercial property and casualty markets have dropped across the board in the first quarter of 2004 to levels that were last seen as the previous soft market bottomed out just before the turn of the new century.

“It is clear there is sufficient capacity to write most areas of business,” explained William Witt, an equity research analyst at Morgan Stanley. “I think underwriters, actuaries and agents are all trying to figure out the right price for risks and to strike that balance between earning a good return without earning an excessive return-on-equity.”

Back to back
Rates for property insurance fell by almost 1.5 percent during the first three months of this year, while decreases in general liability fell by a slightly smaller percentage, marking the first time in four years that prices for the two major lines of insurance gave ground during the same quarter in more than a decade. The latest report on property insurance came on the heels of an 8.8 percent decline in premium during the fourth quarter of 2003.

The reduction of potential commission dollars has finally even crept into the rock hard markets of D&O liability and medical malpractice coverage. Professional liability rates that jumped at 175 percent in 2003 have dropped to single digit increases this year as a direct result of increased supply and a reduction in demand.

“I would not say the market is softening,” said Lortetta Worters, a vice president with the Insurance Information Institute (III) in New York. “But companies are testing the waters.”

The added capacity in the tight markets can be linked directly to groups or industries that have utilized self-insurance or captive markets as a safety net against the high cost of adequate coverage.

“Unless those market drivers start contributing more to the cash reserves, insurers will have to reply on pricing to sustain necessary cash positions,” said David Bradford, the chief knowledge officer at Advisen. “The question is not whether the market is softening, but instead how long it will stay this way. We wonder if insurers will be able to take a protracted hit on the prices in the current economic climate.”

Economic models at Advisen indicate that the current soft market will begin to solidify by the end of 2004, at which time prices will begin to rise ahead of companies beginning to abandon hard-hit sectors of the market. Bradford said it remains to be seen how long the industry will subsidize a soft market, predicting that prices will begin to rise again in the “not-too-distant future.”

No news is not always good news
Premium increases began to lose impetus almost a year ago, according to Frank Coyne, the president, chairman and CEO of Insurance Services Office (ISO).

“Rate increases gained momentum through July 2002. Since then, rate increases have been losing steam, dwindling last September to less than half of what they were at their peak,” Coyne reported. He added that hard market prices may be coming to an end, a feat that is significant considering that insurers’ rate of return was 9.4 percent in 2003.

The record surplus of $347 billion posted at the end of 2003 is the simple explanation why competition has turned to the market with such fervor, Coyne concluded.

“There is a sense that the market is on the verge of turning even more,” said David Benson, senior vice president of the Risk Management Practice for Marsh in Denver. Another executive agreed, adding that increased capacity and the lack of catastrophic events and high-profile scandals over the past 18 months has led to improved balance sheets for most carriers.

Earnings reports from property/casualty underwriting for the fourth quarter of last year confirmed that 2003 concluded as one of the most profitable years for underwriters in recent memory. Barring any unforeseen circumstances, the strong earnings are expected to continue through the end of the year. The same survey of executives confirmed that continued low interest rates will translate into many carriers continuing to rely heavily on strong underwriting to bolster earnings.

Bright spots
The standard homeowners market remains a strong line for aggressive agents and producers; with major price increases expected this year after a series of high claims in 2003.

Falling revenue in the commercial market is not indicative of the entire property/casualty market, according to Ken A. Crerar, the president of Council of Insurance Agents and Brokers. Crerar said coverage in several areas remains hard to find and expensive, including residential construction, umbrella coverage, workers’ compensation and medical malpractice.

A survey by CIAB indicted that rates for workers’ comp were either unchanged or up less than 10 percent, compared to the 30 percent boosts reported in the third quarter of 2003. Respondents to the survey on med-mal pointed to increases of between 10 percent and 30 percent, well within line of the 20 percent boosts of last spring and 30 percent increases in the fall of 2003.

“2003 had some catastrophic losses, but they were not extraordinary,” Karen Horvath, an analyst for A.M. Best, said. “I don’t want to say it was a surprise, but a couple of years ago we were skeptical to whether this (rate increases) could happen.”

Some areas of the rock hard market have merely stabilized, including the traditional high-risk property markets in California, Texas, Florida and Louisiana. Coastline properties along the Gulf of Mexico and up the East Coast as far as New England remain a specialty arena for the London market.

More business for MGAs
The cycle of hard and soft markets remain an opportunity to write more business as a managing general agent (MGA), according to the outgoing president of the American Association of Managing General Agents (AAMGA), Ronnie C. Moore. Moore is president of The Southeastern General Agency in Bowling Green, Ky.

“I’ve seen hard markets and soft markets (as an MGA for 30 years),” Moore said during the recent AAMGA conference in Phoenix, Ariz. “MGAs are in the strongest position that I can recall, in any market.”

Pulgine of T.J. Adams Group described the “perceived soft market” as the product of producers who live life on the edge and have been swayed by anectdotal evidence.

“It’s important to stay close with your customer,” Pulgine explained. “If an agent understands a client’s business and knows what makes them tick on a personal level, the normal cycle of hard and soft markets will not play a factor in their relationship or their livelihood.”

Pulgine emphasized the importance of the personal side of a relationship with a client to solidify that trust. He concluded by saying that the consumer will always benefit from the agent’s knowledge of the market in individual sectors of the market.

James from Lloyd’s of London did not mince words when discussing the approach successful producers can emulate to duplicate the success of a worldwide leader in the field.

“Good businesses in the market have always made the right choice, and performed excellently as a result. At the right time in the past they have cut back, restricted their appetite for premium in favour of preserving their return,” James said.

“They will do so again,” he surmised. “The challenge is for the Lloyd’s market, and the industry as a whole, to do the same and continue to maintain pricing adequacy and underwriting discipline as market conditions change.”

The sooner insurance companies realize that they are not in business to simply take the money of shareholders, the sooner carriers will realize the importance of improved underwriting as a tool for improved asset and liability management, Zurich CEO James Schiro told a group of risk managers.

“Insurance is a notoriously cyclical business,” Schiro said. “We have to get better at the way we manage cost structure. I continue to see realistic pricing, and the necessity to earn an underwriting profit is not disputed. The building blocks are in place that may help us break out of the stark cyclicality of the past.”