"In 2010, NCCI defined the state of the workers compensation industry as 'precarious' based on considerable uncertainty about where the market was headed," said NCCI President and CEO Steve Klingel. "Unfortunately, that uncertainty has, to a large extent, been resolved—and not in a positive direction. We have continued to witness ongoing deterioration in market fundamentals. Today, the workers compensation industry faces a number of difficulties that will confront market stakeholders in the weeks and months to come."
"The workers compensation line continues to experience an ever-lengthening list of challenges," added NCCI Chief Actuary Dennis Mealy. "Those challenges include poor underwriting results, declining premiums, healthcare reform uncertainty, and, now, an uptick in claim frequency."
As reported above, the workers compensation calendar year combined ratio for private carriers was 115 in 2010, up 5 points from 2009. However, 3 points of the increase in combined ratio again this year was due to one carrier adding more than $800 million to excess workers compensation reserves. This is the second straight year of significant excess reserve strengthening.
In terms of premium, economic recovery appears to help slow the precipitous declines in workers compensation net written premium for private carriers that had been experienced from 2007–2009. For 2010, net written premium for workers compensation private carriers declined just 1.3%—a much smaller decline than the prior two years. (From 2007 to 2009, the workers compensation premium declined a total of 20%.)
Other market indicators/trends highlighted in NCCI's 2011 State of the Line report include the following:
• The 2010 Accident Year combined ratio is 114, also up 5 points from 109 for Accident Year 2009.
• Workers compensation prices continued to drift down in many jurisdictions. However, NCCI did file 14 increases in loss costs/rates in the 2010/2011 filing cycle, up from 8 increases the previous cycle. ?
• NCCI estimates that the reserve position of private carriers continued its recent pattern of modest deterioration in 2010. The reserve deficiency is now estimated to be $10 billion at year-end 2010, up $1 billion from year-end 2009. After consideration of the allowable discounting of the indemnity reserves for lifetime pension cases, the reserve position remains a relatively slight inadequacy of about $5 billion, on a total carried reserve base of more than $109 billion. ?
• The decline in lost-time claim frequency stopped in 2010. The usual measure of the frequency change indicates a significant increase of 9%. However, NCCI research indicates that several distortions in the data, due to the recession and subsequent recovery, are significantly increasing the change. Once those distortions are accounted for, frequency is up 3%. (See below for more information.) ?
• The average medical cost per lost-time claim increased 2% in 2010. This is the smallest increase in medical cost since 1993. The average medical cost change is also likely influenced by the influx of small lost-time claims discussed below. ?
• NCCI estimates that the cost of the indemnity portion of lost-time claims was 3% lower in 2010. This is the first actual decrease in indemnity claim cost since 1993, which was in the era of the big reform efforts in the early 1990s. As with medical cost (above) the change is influenced by the influx of small lost time clams. ?
• It's important to note that the small change in average severity of lost-time claims in 2010 is likely an aberration. It is likely caused by a temporary influx of medical only claims becoming smaller loss time claims as the recovery firms and does not reflect an underlying reduction in medical and indemnity cost drivers. ?
• Investment gains for the insurance industry did rebound in 2010—though investment yields remain at historically low levels. This is true both for the total property/casualty industry and for the investment gains associated with workers compensation insurance transactions. In both cases, some of the increase was due to rebounding realized gains, which went from a realized loss of $8 billion to a gain of about $6 billion. However, the industry will not be able to maintain this level of investment gains without increases in interest rates. ?
• Although the investment gain is improved, the line showed deterioration in bottom line results after investment income. Workers compensation private carriers posted a pre-tax operating loss of 1%. This is the first pre-tax operating loss for the line since 2002, and the worst result since 2001. ?
• The combined ratio of the residual market pools increased a bit to 120 in 2010 after several years of being in the 111–115 range. At this point in time, the pools are quite small, so individual state losses can have a disproportionate impact on the combined ratio. ?
• Depopulation of the residual market did continue, however, albeit at a slower pace than in recent years. Premiums dropped another 20% in 2010 and are now approximately $400 million. Overall, the market share of the residual market pools serviced by NCCI for 2010 held steady at about 5%. The current policy year underwriting loss is about $88 million—slightly higher than the $74 million in 2009. ?
Unexpected Claims Frequency Result
As noted above, the decline in lost-time claim frequency stopped in 2010, showing (by traditional measure) a significant increase of 9%. However, NCCI's research indicates that, once distortions in collected data are accounted for, frequency is more likely up 3%.
The biggest adjustment in data is to the calendar year earned premiums that underlie the calculation. This more properly reflects the exposures earned. These distortions are largely caused by the impact of the recession on audit premiums and the year in which they are booked. NCCI's analysis indicates that these distortions depressed 2010 earned premium by about 3%, and overstated 2009 premium by about 2%. The combined effects of these two distortions result in an approximate reduction of the frequency change by 5 points for 2010. The other 1-point adjustment is due to the impact of an industry group mix change (reduction of manufacturing and construction employment) and the change in the hours worked per week. The average workweek declined a bit in 2009 and increased a bit in 2010.
Further, many of the new claims coming into the system and causing the frequency increase appear to be small lost-time claims that may have been medical-only claims in more "normal" times. This is apparent when one sees the change in the average cost of lost-time claims from 2009 to 2010. In NCCI states, the average indemnity cost per lost-time claims declined 3% from 2009; the average medical cost per lost-time claim increased 2%, yielding a total lost-time claim cost change of 0%. More on this topic can be found by visiting ncci.com.
Other market challenges that NCCI will continue to monitor include:
• Deteriorating underwriting results. With investment yields at historic lows, the current levels of underwriting losses are not sustainable. Even with what appears to be a temporary increase in investment gains, the combined ratio will need to decline substantially to earn a reasonable return on capital. ?
• Frequency. Although the impact on the loss ratio from the increase in frequency is moderated by a year of no severity increase, it is unclear whether this frequency increase is a "new normal" or a one- or two-year phenomenon coming on the heels of the "great recession." ?
• The political situation in Washington, DC. With the enactment of the financial reform bill and the establishment of the new Federal Insurance Office, the influence of the federal government over property/casualty insurance issues is likely to increase significantly. In addition, the large federal deficits and the potential for an increase in inflation are definitely a challenge. ?
• The healthcare reform bill. The impact on workers compensation insurance remains uncertain.
The entire NCCI State of the Line presentation can be found at ncci.com.
For more information about NCCI's State of the Line report, please visit ncci.com or contact NCCI Media Relations Director Gregory Quinn at 607-723-7878 or gregory_quinn@ncci.com.
NCCI Holdings, Inc., the nation's largest database of workers compensation insurance information, analyzes industry trends, prepares workers compensation insurance rate recommendations, determines the cost of proposed legislation, and provides a variety of services and tools to maintain a healthy workers compensation system.