If you are a broker with a customer seeking professional liability insurance, prepare to deliver the bad news: rates are up again! Insurers and reinsurers alike are accumulating losses. Reinsurers’ reaction is to raise rates to new heights. Even in personnal lines property and casualty (P&C) insurance, insurers are looking at double-digit increases Canada-wide.
No one can deny that the global reinsurance industry is in the red. The global rating agencies are downgrading reinsurers one after another, including world-class heavyweights such as Munich Re. Moody’s lowered the reinsurer’s rating from Aaa to Aa1 in September, after Munich Re was forced to reinject US$ 2 billion into its reserves to cover losses related to the World Trade Center.
There is not much good news on the claims front either: natural and human catastrophes mushroomed this year. Canada, the world’s fourth largest reinsurance market (behind the United States, Europe and Japan), was not immune to this scourge. Global capacity has shriveled, sparking a sea of change in underwriters’ mentality. This context prompted American and European parent corporations to order their reinsurance subsidiaries, including Canadian firms, to tighten their underwriting and increase rates, even if it means losing market share.
“No sector of activity will escape the general hardening,” explained John Kartechner, President of Gerling Global Re. “Reinsurers did not have a chance to recover their losses of the ‘90s, and the last few years were miserable. Some people lost their jobs because of these results. Even when some players make money, their balance sheets are still unacceptable.”
Mr. Kartechner said he foresees an average increase of 15% for all sectors combined. “ In Canada, reinsurers are nervous. Head offices issued their warnings. The pressures are there. Currently, some reinsurers’ existence is at stake if they do not produce acceptable results.”
Some reinsurers have already left the Canadian market, including Sorema (purchased by SCOR) and Terra Nova, a subsidiary of the London-based insurance group Markel International (which is also one of the largest syndicates of Lloyd’s). Reached in London, Terra Nova’s reinsurance manager Jeremy Brazil told The Insurance Journal that the reinsurer “was reorganizing” just before he passed the phone to a public relations manager. The latter did not comment on the reasons behind Terra Nova’s departure from Canada.
Gerling Global Re is another player that no longer writes global or Canadian reinsurance risks and it is up for sale.
Capacity down, cost up
The withdrawal of Gerling and other players has whittled away the general capacity of the Canadian reinsurance market. Not surprisingly, capacity now costs more.
Brian Gray, President of Swiss Re Canada, affirmed that since September 11, the global capacity of P&C insurance and reinsurance combined slumped by 25%. This does not mean that the remaining capacity is dramatically more expensive in all areas. “It all depends on the nature of the risk, the sector of activity, the financial health of the insurer and the customer. For some risks, the current capacity is quite sufficient.”
“The market will harden considerably over the next few years,” said Cameron MacDonald, President of Transatlantic Re and the Reinsurance Research Council, an organization that represents most P&C reinsurers registered in Canada. Mr. MacDonald pointed out that reinsurance rates decreased for an entire decade, at about 10% per year, until the late 1990s.
“In this context, if you apply an increase of 30%, you are still not out of the woods!” said Mr. MacDonald. “The only exception is Quebec, where primary insurers have imposed rate increases since the ice storm. The rates in the Quebec market approach an appropriate level from the technical standpoint. Elsewhere it’s a nightmare.”
Mr. MacDonald foresees average rate hikes of between 10% and 20% in January. “It will be harder in special classes such as directors and officers liability insurance (D&O). Accounting scandals and other missteps by corporate executives have boosted rates by at least 40% to 50% in this sector. Some reinsurers are not even writing this class anymore.”
In the United States, D&O insurance will be hit with dramatic increases, stated a recent report by the insurance brokerage firm Marsh. The firm said that even companies considered low risk must swallow heavy increases. A bank, for example, must assume a rise of between 50% and 100%.
“In Canadian P&C insurance, expect a general increase of 10% to 20% for all segments combined: home, auto, and commercial risks,” said Mr. MacDonald.
Mr. MacDonald mentioned that in 2001, the combined ratio of the Canadian reinsurance industry (primary insurers excluded) was 119%, including losses related to the World Trade Center, he explained. And the results of 2002 do not look rosier.
A recent report on global reinsurance in 2002 published by the insurance brokerage firm Guy Carpenter found that the loss ratio in 2001 was the worst for general reinsurance in Canadian history.
The situation is so abysmal, Mr. Carpenter added, that new reinsurers will leave the Canadian market in the next few months, either through mergers or the sale of their portfolios.
Insurers under the microscope
Rates will be hiked to double digits in 2003 but will not be as dramatic as last year says, Mr. Gray. “It all depends on the way the prices are established in each contract. This season, it will be systematically case-by-case. One fact remains: nobody is using the prices of last year to establish those of this year. Everybody will want to play underwriting catch up. Reinsurers are facing a formidable challenge: generating returns and attracting capital to Canada.”
Mr. Gray did not want to set a percentage on the average increase to come. To arrive at a figure, reinsurers take into account a host of parameters, including variables that provide a picture of the financial health of their front line insurers. In this context, any increase in reinsurance rates is indirectly linked to those of primary insurers.
“Reinsurers will analyse the financial information supplied by insurers in greater detail before signing a contract,” explained Henry Klecan, President of SCOR Canada. “They will certainly require financial information of better quality than in the past. For example, some of our clients have announced that they will no longer assume more than 50% of some large risks, even though they used to underwrite at 100%. It is clear reinsurers, for their part, will also modify the risk selection they write.”
In general, Mr. Klecan foresees average rises of between 15% and 40% in reinsurance depending on the type of risk.
Hard commercial risk
What risks will be dogging brokers and insurers this winter? Mr. Gray answered without hesitation that earthquake exposure and proportional (see inset text) auto insurance will be the main culprits. Professional liability files are another menace.
“The most difficult risks to cover are for terrorism in large buildings, including life reinsurance for nuclear and bio-terrorism,” says François Dagneau, Vice-President of broker AON Re. “I manage to place these risks, but it is very tough. A risk such as Place Ville-Marie in Montreal is a much hotter target today. Their terrorist coverage must cost them an arm and a leg. In life insurance, imagine the costs incurred by a nuclear explosion in downtown Montreal, which would kill a million people, at $100,000 per insured. Not all reinsurers are willing to rake such risks.”
Mr. Dagneau acknowledges that the situation is less troubling in Canada than in the United States, where these risks are even more expensive and difficult to cover.
Generally, however, the broker considers that it has no problem finding capacity, even for sectors where reinsurers are skittish. “The capacity is there. It’s as if the store shelves were full, but the products were more expensive.”
Capacity that is more expensive is igniting prices of liability insurance and exotic risks and guarantees precisely because these types of risks require substantial capacity, commented Mr. Klecan.
Mr. Klecan estimated that all policies would be analysed meticulously this winter. “All the underwriting components will be scrutinized. Some painful decisions must be made. Premiums in the primary market will climb, but not throughout the country, because you have to take into account provincial jurisdictions. The insurers that will be in this uncomfortable position will be looked at askance by their reinsurers. But everyone will have to make an effort, including the broker on the street corner, to boost profits in this industry.”
Following September 11 the arrival of new catastrophe insurers in Bermuda, which translated into an injection of several billions of dollars capital overnight, did not have a significant effect in Canada, until now, said Mr. Dagneau. “The phenomenon may have compensated for the reduction of capacity and dampened the price hikes in the catastrophe classes, but not elsewhere. For other risks, I would say that Canada is situated in the average of the global hard market. Even in liability insurance, it is not as trying here as in the United States or in Europe. In the Old World, they are heading for a major crisis in this area. Unbelievably there is still unlimited reinsurance coverage in this class!”
Louis-Thomas Labbé, President and CEO of Willis Canada, said that as soon as the two global reinsurance titans (Munich Re and Swiss Re) and the Canadian leaders make their decisions, the rest of the market would follow suit. “I expect some firmness, because these large players must also recapitalize. They will not achieve acceptable returns for their shareholders this year.”
Mr. Labbé expects increases of 10% to 40% depending on the contract, the country, and the risk. He agrees that the D&O classes will generate hefty increases. “These risks were poorly priced. In civil liability, employer liability, and environment there are losses everywhere. What’s more, as soon as you have a toehold in the U.S., claims escalate because of lawsuits. Customers of commercial risk insurers should anticipate increases of between 50% to 100%, depending on the products, operations and experience.”
He believes that the adjustments and reinsurers’ selective approach do not signal a change in the economic cycle of the insurance industry. “It’s structural. The rules of the game change because underwriters have changed their perception of each of the risks submitted.”
Will a sizeable increase in a reinsurer’s rates have a major impact on auto insurance policyholders? “I don’t think so,” said Gerry Wolfe, President of General Cologne Re. “In auto, especially in Ontario and excluding Quebec, nobody at insurers and reinsurers is making money. This means there will be increases of 30% to 40% in contracts in this area. Maybe even more. For the insurer it is enormous, but for the consumer it is minimal, because the increase, which will inevitably be offloaded, represents just a few dollars on each policy.”
Not everyone shares this viewpoint. Chief economist at Swiss Re for North America, Kurt Karl, recently suggested that in P&C insurance, primary insurers’ rates should increase between 10% and 15% on average in 2003, 5% in 2004 and maybe another 5% in 2005.
“Commercial customers will certainly feel the increase more strongly,” Mr. Wolfe added. “Particularly in trucking if the carrier has a route in the United States. In fact, Canadian carriers do considerable business south of the border. The entire sector will be hit head on.”
Will the hard market be with us for years? ”I’d like that,” Mr. Kartechner said. “But in this industry, we have serious memory problems. We succumb very quickly to greed. I simply hope that when signs of softening emerge, some members of the industry will remind everyone of the facts.”
Constantin Petallas, President of AXA Re (the new name for AXA Corporate Solutions) and a Canadian reinsurance leader in premium volume, sees the hard market persisting at least until the end of 2003.
“Personally, I hope it will last two or three years,” he said. “I am relatively optimistic about this. Too many of the Top 20 reinsurance players are fragile right now. Losses in the industry are simply unbearable! Shareholders and analysts that follow the sector need to see profits on insurers’ and reinsurers’ balance sheets. Now. Not next year.”
Mr. Gray predicts that the hard market will continue beyond 2003 if there is an accumulation of natural and human catastrophes this year or next, and if the stock market does not rally by then.
Guy Carpenter pointed out that reinsurance experienced its third consecutive year of rate hikes in 2002, after six years of a global soft market.
“The difference between the current hard market and that of the 1980s is that we have had ten consecutive years of losses in Canada,” noted Mr. Gray. “It’s a new phenomenon in the industry. For the first time in ages, underwriters are extremely prudent. It’s a good sign.”
Proportional insurance: price up, popularity down
Insurers are buying less proportional insurance. Higher prices are not helping.
Prices are rising in tandem with those of primary insurers, explains Ken Irwin, President of Munich Re Canada. Proportional insurance is a product that involves the sharing of risk between the insurer and reinsurer, in addition to the usual coverage assumed by the reinsurer.
“The financial situation of some insurers plays a major role in rate increases in proportional,” added Henry Klecan, president of SCOR Canada. “Reinsurers have hardened the game.”
“The decline in purchases of proportional is emerging as a long-term trend,” confirms François Dagneau, a broker at AON Re. “Conditions have tightened dramatically. We are seeing a drop in commissions of 5% to 10%.”