D&O Executives: Some Professional Lines Harden

Buoyed by a rising economy, but facing pressures of low investment rates, professional liability insurance rates are beginning to harden, according to featured speakers at the Professional Liability Underwriting Society’s D&O Symposium.

“It’s not a hard market yet, but it’s headed in that direction for the first time since 1999,” said Jay Gelb managing director of Barclays Capital, who spoke Feb. 8 at a panel.

David McElroy, president of financial and professional liability products for Arch Insurance, said when the economy grows, so does business. “We are completely tethered to the economy,” McElroy said.

When companies see their assets rising, they buy more insurance, said Brian R. Meredith, managing director of UBS Securities. “What drives sales is gross domestic product,” he said.

Insurers are paying more attention to pricing and underwriting because interest rates, and investment income, are so low, Meredith said.

That wasn’t always the case. McElroy said from 2003 to 2007, “if you were breathing, you made money.”

But with investment returns hovering at about 3%, companies have to write more profitable business to reach their financial goals today, he said.

For instance, a 95 combined ratio in 2004 would have resulted in a 15% return on equity. To get that same 15% ROE today, companies have to produce a combined ratio of 87 to 88, McElroy said.

“It’s difficult to translate that knowledge from the CEO to the underwriting level,” McElroy said.

Gelb agreed that companies used to be able to win a 10% ROE, “just by showing up. You just can’t do that anymore.”

He said for every 1% decrease in investment income, companies must make up 2.5 points in their combined ratio.

But, he warned if companies maintain a too conservative approach in their investing, it could lead to missed opportunities.

Eric J. Andersen, chief executive officer with Aon Risk Solutions, Aon’s U.S. retail arm, said the market is a dichotomy. Insurers will push hard for price increases on renewal business, but tend to be more competitive on new business that they are trying to woo away from other carriers.

“As long as that gap exists, it is a soft market. But for the first time, in the fourth quarter, we actually started to see that gap narrow,” Andersen told Best’s News Service after the panel.

Even though D&O is a single product, it’s divided by segments, he said. For instance, private or nonprofit companies still find insurers competing for their business, but large public companies are finding the market more difficult.

While there may be 50 or 60 companies in the D&O marketplace, for very large Fortune 500 companies, the market has narrowed to just five to 10 players, Andersen said.

For difficult segments such as financial institutions and pharmaceutical companies the market is even smaller.

But there’s more competition in the excess layers, as companies from Bermuda, London and the United States are looking to capture market share, Andersen said. “The primary market has already firmed; the excess market is now catching up,” he said.

Insured companies are more likely to diversify their insurance by turning to multiple carriers today, Andersen said.

“It’s what we call the AIG effect,” Andersen said. “People learned in 2008 that you need a couple of good relationships instead of one big one. You need to spread out, diversify.”

Every recent very hard market1986, 1992 and 2001was formed after a number of insurers fell into insolvency said Michael C. Sapnar, president and CEO of Transatlantic Holdings.

“It’s never just one event,” Sapnar said during the panel discussion. “And it has to be companies that have holes in their balance sheets.”

While the number of financial impairments of property/casualty companies continues to accelerate, A.M. Best’s analysis shows the primary cause of impairments was a combination of deficient loss reserves and inadequate pricing.

P/C impairments increased to 28 in 2011 from 21 in 2010, according to an A.M. Best special report. That includes 10 additional 2010 impairments recorded since A.M. Best published its 2010 study last year. P/C impairments have been on a steady upward trend since the record low of five impairments in 2007, which represents the fewest number of impairments in the 43 years that A.M. Best has done its impairment study (Best’s News Service, Feb. 2, 2012).

Another challenge facing the industry today is the growing sophistication and accessibility of information. Clients may know about losses elsewhere, but don’t feel responsible to pay more for their own insurance as a result, Andersen said.

“It’s made it hard to spread risk,” Andersen said during the panel. “You’re not going to find U.S. businesses willing to pay for losses in Thailand.”

Arch Insurance Group’s subsidiaries currently have Best’s Financial Strength Ratings of A+ (Superior). Transatlantic Holding’s subsidiaries currently have Best’s Financial Strength Ratings of A (Excellent).

A video with excerpts from interviews with Eric Andersen of Aon Risk Solutions and David McElroy of Arch Insurance is available at http://www.ambest.com/media/MA.asp?vid=plus212

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