At the end of each year we turn to the expertise of Robert Hartwig, Ph.D., CPCU, president of the Insurance Information Institute (I.I.I.), to get his insight on different aspects of the insurance industry. We began our conversation about Superstorm Sandy and then turned to the Commercial Lines market and specifically Workers Compensation.
Dr. Hartwig joined I.I.I. in 1998 and as a chief economist has focused his work on improving the understanding of key insurance issues across all industry stakeholders including media, consumers, insurers, producers, regulators, legislators and investors.
Annie George (AG): On the heels of Sandy, I'd like to get your perspective as to the impact the storm will have on the insurance industry.
Robert Hartwig (RH): "Sandy will be the event by which 2012 is remembered in insurance history. It's the most significant insurance event of 2012 for the insurance industry not only in the United States but on a global scale, with insured loss estimates as high as $25 billion. There is substantial flood damage, significant business interruption and contingent business interruption exposures that are still ongoing.
"Prior to Sandy, the industry had done relatively well compared to 2011 in terms of catastrophe losses. In fact, up until Sandy struck, cat losses were running about 40% lower than in 2011. If the insurance industry winds up with losses in the $20-$25 billion range, Sandy will become somewhere between the third-, fourth- or fifth-worst disaster in the U.S. in terms of insured losses.
"However, it's a manageable event from an insurance perspective and of the magnitude for which insurers plan. In today's dollars, for example, Katrina would cost $47 billion; 9/11 insured losses today would be at $40 billion. There are other events in the past that have cost more and the industry was able to manage these events."
AG: Do you see Sandy contributing to the firming of prices in our industry?
RH: "We have experienced strong pricing trends in areas like Commercial Property, and Sandy is only going to add additional pressure to this. Across the board, Commercial Lines has strengthened in 2012 relative to 2011 and all indicators are that there will be positive pricing momentum."
AG: Let's now turn to Workers Compensation. Last year when we spoke, we had discussed that various lines were moving at different paces in terms of price firming with Workers Comp leading the way. Will prices continue to firm for this line?
RH: "We know that the combined ratio last year for Workers Compensation was about 117% nationwide. This can vary considerably from carrier to carrier - from the high 90s to well into the 120s and even 130s. Therefore, the headline number when looking at the combined ratio can be a bit misleading in terms of how companies are faring relative to each other. Nevertheless, we do know that on an industry-wide basis the combined ratio needs to come down to improve underwriting performance and restore profitability in this very important commercial line. The firming trend for Workers Comp, therefore, that began in 2011 and gained momentum in 2012 is likely to remain strong in 2013.
"Furthermore, Workers Comp was the fastest-growing line in 2011 with premium volume up 10%. When all the numbers are in for 2012, we're likely to eclipse that 10% in terms of growth. This is due to three factors: the firming of rates, continued expansion of payroll exposure as more jobs have been added this year, and wage growth. All three of these are pushing Workers Compensation in the right direction. This will improve the combined ratio while at the same time insurers seek to have reforms adopted in the industry in various states. It does, however, take a while for the benefits of these reforms to work their way through the system.
"In addition, a very low-interest rate environment during the last several years has also put pressure on the Workers Compensation market and is lasting longer than I anticipated a year ago, which will help continued firming in prices into 2013 and beyond. The low-interest rate environment, according to the Federal Reserve, is likely to remain in place through mid-2015. This is a type of pressure insurers have not seen in decades apart from the last few years. Therefore, insurers, particularly those writing a great deal of long-tail coverage, whether it's in Workers Compensation, Medical Malpractice or Product Liability, for example, are more sensitive to interest rates than those writing lines such as Auto or Homeowners insurance. This factor is invisible to many policyholders. Policyholders can see higher medical costs, they can see if injury rates rise, for example. But what's not as obvious is what happens to their premium dollar when it comes through the insurer's door. Insurers invest about 70% of premiums in fixed-income securities (bonds or similar credit instruments) and therefore what they earn off their investment portfolio is very sensitive to the current low interest rate environment."
AG: With pricing increasing and reforms taking place, will we be seeing improved underwriting results?
RH: "Improvement in Workers Compensation historically is a gradual process and there is no reason to expect it to be different this time around. Underwriting profitability in the next couple of years should begin to improve because of rate increases rippling through the system as well as some of the reforms being implemented. But this will be gradual. Typically it takes a number of years after a hard market begins in terms of Workers Compensation for reforms to bring a dramatic reduction in the combined ratio."
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