RIMS: Commercial Rates Going Down; Benfield: Reinsurance Rates Holding

As Abbott and Costello famously observed, “Who’s on First?” A new report from independent insurance intermediary Benfield concludes that despite “ample capacity and signs of resurgent competition, the reinsurance market generally maintained underwriting discipline during the 2003-2004 renewal season.”

On the primary side, the “Benchmark Survey” commissioned by the Risk and Insurance Management Society (RIMS) found that the cost of commercial property insurance fell 8.8 percent in the fourth quarter of 2003, “marking the first decline in premium prices in any major line of commercial insurance in nearly four years.”

The answer depends on what market you’re observing. Benfield’s 63-page report, “Holding the Line,” notes that “while property catastrophe prices weakened, the process was orderly, with no sign of the unbridled competition which normally characterizes the start of a soft market. Casualty rates, meanwhile, increased further, but at a slower rate.”

RIMS found that while risk managers were “still experiencing some price inflation,” price increases on most commercial insurance products “were either significantly lower than in the third quarter or those prices remained relatively flat, quarter over quarter.”

Advisen Ltd., the company that gathered the information for RIMS, also found that according to fourth quarter renewal information, as summarized by leading indicators such as policy counts (the number of policies required to complete a desired level of insurance coverage), excess liability and director and officers liability premiums may be the next to experience declines in pricing.

“These developments reinforce the mounting evidence that the overall commercial insurance market, which had been weathering torrents of price increases since 2000, is calming and the ‘hard’ market of the past few years is softening,” Advisen concluded.

That’s not really at odds with Benfield’s report, which offers the first real evidence that repeated efforts to tame the dreaded “cycle” might actually be having success. For months, executives and commentators from all sectors of the reinsurance industry have been inveighing against the pernicious effects of the hard/soft market cycle, and, as the report shows, a lot of people seem to have taken the advice to heart. “So far,” Benfield said, “reinsurers appear to have enshrined underwriting discipline and a commitment not to chase market share as top priorities.”

The result is the appearance of a “perfect calm” rather than the usual “perfect storm;” primary rates are going down, while reinsurance rates hold firm.

“An actual decline in prices of any major line of commercial insurance is something we have not seen in the market in over four years,” observed Christopher Mandel, RIMS vice president, chief risk officer and secretary. “Coupled with the continuing indications of market price moderation, we can say with more confidence than in the past, that some aspects of the market are poised for a change,” he continued. “There are still some anomalies, but actual purchase data from risk managers does not lie: price increases have either stabilized or retreated in most lines, and the next few months should make renewals and new placements a bit less challenging than in the past few years.”

The stability may be ephemeral. “Will underwriters continue to hold the line?” asked Grahame Chilton, Benfield Group’s chief executive. “There is substantial new capacity. A few players seem willing to pursue growth aggressively. Except for a few difficult casualty lines, there is no shortfall for capacity. And catastrophe losses have been low. With this set of circumstances, history would suggest a rapid softening of the market. However, there appear to be specific reasons for the current state of the market, which Benfield expects to contribute to continued stability through 2004 and possibly longer. The question now is, how long will this last?”

The best explanation is that, as rates have already increased substantially, the rate of increase is slowing, but not enough to put downward pressure on reinsurance rates. RIMS found that “premiums for property insurance decreased by 8.8 percent and the size of limits also declined by 4.4 percent. Other premiums continued to rise, but the rate of those increases slowed dramatically.

“For example, directors and officers liability, where increases neared 200 percent in 2003, the rate of increase slowed from 75 percent in the third quarter to just 17 percent in the last quarter. Excess liability experienced similar slowdowns in increases dropping from about 60 percent over the summer to just 12.4 percent last fall.” That being the case, rates may have reached at least a temporary equilibrium—a balance point that both reinsurers and primary carriers can live with.

Fundamentals seem finely balanced
A late but disciplined renewal season belied some expectations of a return to soft market conditions. With challenging fundamentals and competition still muted, there seems to be little to test underwriters’ resolve to “hold the line.”

Consequently, barring a major catastrophe loss, Benfield expects the market to remain relatively stable through 2004.

Conditions changed little at renewal
Property catastrophe rates weakened although there were few signs of irresponsible pricing or of a marked resurgence in competition. Casualty pricing increased further albeit at a slower rate. Coverage in some areas such as terrorism was more widely available but terms and conditions generally remained more stringent than before 9/11. Credit quality surpassed even price at the forefront of many cedants’ concerns. Capacity was ample in most lines but this should be viewed in the context of two years of exceptionally benign catastrophe losses and substantial IBNR (incurred but not reported) overhang from 9/11.

Discipline remains key
Historically, underwriters tend to focus on top line premium volume once cyclical losses ease. However, investors, regulators and rating agencies are now demanding sustainable profitability. Despite recent interest rate rises, investment returns are unlikely to offset underwriting losses as they have in the past.

The ‘big squeeze’ continues
Balance sheets continue to be squeezed. Some pressures, such as asset depreciation, have eased but others, such as legacy reserving, remain. Balance sheet replenishment remains a high priority.

Rating scrutiny intensifies
As balance sheets have weakened, rating agencies have belatedly reassessed their methodologies, while cedants have become even more focused on ratings in the wake of further downgrades across the sector. Ratings are now crucial to market share and a potential survival issue for some reinsurers.

Appetite for new ventures curbed
Most new capital raised in 2003 was used to plug balance sheet holes. Reinsurance start-ups reduced to a trickle suggesting that expected medium term returns are now less attractive. Meanwhile poor results have prompted some primary insurers to dispose of their reinsurance activities.

Excluding fiduciary liability coverage—E&O and D&O
—RIMS found hard evidence that primary rates are no longer going up, confirming what had been only hearsay. “The entire industry has intuitively known that the market is softening and now we have the first statistical evidence that gives us the cold hard fact: the market is turning,” stated Thomas P. Ruggieri, Advisen’s CEO. “Unlike other qualitative and speculative overviews, the data we are seeing is directly from the renewals of risk management professionals.”

Those figures show third quarter declines in property insurance policy counts and declines in property premiums in the fourth quarter. Declines were also found in policy counts for the fourth quarter, even for excess liability, and stability in D&O liability coverage. If “policy counts” is an accurate measure, this suggests that “even though the costs of some policies continue to rise, supply is catching up to or has caught and surpassed demand,” the RIMS survey concluded.

While admitting, “we can’t predict what the market will do,” Ruggieri observed that, “given past performance where slowdowns in rate increases, coupled with declines in policy counts eventually amounted to declines in premiums, there are indications that excess liability and D&O could be in for changes in the coming months.”

Benfield’s report can be viewed at www.benfieldgroup.com/research. For the RIMS survey, contact Sarah Hemingway at (212) 655-6059, or at: shemingway@rims.org.