Weak Investment Results Hamper Property/Casualty Insurers' Recovery at Nine-Month Mark

January 1, 2011 / 11 min read

JERSEY CITY, NJ, Dec. 17, 2002 — Thanks to strong premium growth and lower catastrophe losses, the U.S. property/casualty industry earned $9.3 billion in net income after taxes through nine-months 2002, in sharp contrast to the $2.6 billion net loss through nine-months 2001. But the industry's surplus, or net worth, fell 5.6 percent to $273.3 billion at September 30 from $289.6 billion at year-end 2001, as a result of capital losses on investments, according to Insurance Services Office, Inc. (ISO) and the National Association of Independent Insurers (NAII).

Net written premiums for nine-months 2002 rose 13.6 percent versus year-ago levels to $279.8 billion, and the catastrophe losses included in insurers' financial results declined to $3.9 billion through nine-months 2002 from $16.3 billion through nine-months 2001. Reflecting these positive developments, the industry's net loss on underwriting fell 51.4 percent to $18 billion for nine-months 2002 from $37.1 billion for nine-months 2001. The combined ratio — a key measure of losses and other underwriting expenses per dollar of premium — improved to 104.9 percent for nine-months 2002, 9.5 percentage points better than the 114.4 percent for the same period last year.

The figures are consolidated estimates for the entire industry based on the reports of insurers that account for 96 percent of the U.S. property/casualty insurance business.

"The decline in catastrophe losses accounts for 5.2 percentage points of the 9.5-percentage-point improvement in the industry's combined ratio for nine-months 2002," observed John J. Kollar, ISO vice president for consulting and research. "The news is not that catastrophe losses fell from 2001 levels elevated by terrorism losses, but that almost half of the improvement in underwriting results came from premium growth in excess of growth in non-catastrophe losses and other expenses. Firming in insurance markets is finally benefiting underwriting results. All else being equal, premiums might grow in proportion to the economy. But, every year from 1988 to 2000 with just one exception, premium growth fell short of economic growth, with the cumulative shortfall coming to 52.5 percent. That situation finally reversed in 2001, with premium growth exceeding GDP growth by 0.6 percent. The positive spread between premium growth and GDP growth widened substantially in 2002, but not nearly enough to make up for the cumulative shortfall that developed over 13 years," Kollar added.

Improvement in underwriting results drove the industry's net income higher, despite declines in investment income and realized capital gains on investments. Net investment income — primarily dividends earned from stocks and interest on bonds — declined 5.4 percent to $26.4 billion in nine-months 2002 from $28 billion in nine-months 2001. Insurers realized $3.1 billion in capital gains on investments in nine-months 2002, down 53.9 percent from $6.7 billion in the first nine months of last year. Combining net investment income and realized capital gains, the industry's net investment gain through nine-months 2002 amounted to $29.5 billion, down 14.8 percent from $34.6 billion through nine-months 2001.

"The 5.4 percent decrease in investment income versus year-ago levels reflects a decline in the yield on investments," noted Don Griffin, NAII assistant vice president for business and personal lines. "Insurers' average holdings of cash and invested assets during the first nine months of 2002 were 1.6 percent above their average holdings of cash and invested assets in the first nine months of 2001, but the annualized yield on cash and invested assets during the period fell 6.9 percent versus year-ago levels. With market interest rates languishing near 40-year lows and the Federal Reserve having cut its benchmark discount rate to 0.75 percent on November 6, low yields are apt to impede the growth of investment income going forward," added Griffin.

Also limiting the improvement in the industry's overall net income after taxes, insurers' income from other miscellaneous operations amounted to negative $103 million through nine-months 2002, compared with negative $46 million through nine-months 2001, and the industry's federal income taxes rose to $2.1 billion from $51 million.

Netting realized capital gains of $3.1 billion through nine-months 2002 against $28 billion in unrealized capital losses, the industry suffered $25 billion in overall capital losses through nine-months 2002. The $28 billion in unrealized capital losses on investments caused the industry's surplus to drop $16.3 billion during the first nine months of 2002, even as the industry earned $9.3 billion in net income after taxes.

"The capital losses on investments and the decline in surplus through nine-months 2002 are a direct result of weakness in stock markets," noted Kollar. "The S&P 500 declined 29 percent during the first-nine months of the year. Since then, stock prices have recovered a bit from their lows, with the S&P 500 rising 9.1 percent from the end of the third quarter through Friday, December 13. Whether insurers will enjoy capital gains or suffer capital losses going forward depends on whether recent increases in stock prices mark the start of the next bull market or prove to be just a blip in the bear market that has cut 39.5 percent from the S&P 500 since year-end 1999," Kollar said.

Growth in net written premiums accelerated to 13.6 percent versus year-ago levels in nine-months 2002 from 8.6 percent in nine-months 2001. The 13.6 percent increase is the largest percentage increase in premiums through nine months since 1986, when premiums rose 23 percent versus year-ago levels.

"Even with the strength in premium growth, insurers' recovery from the terrorist attack on September 11, 2001, remains far from complete," observed Griffin. "The industry's annualized rate of return on average surplus for the first nine months of 2002 was just 4.4 percent — well below recent and long-term norms and not high enough to attract the capital insurers will need to keep up with society's ever-increasing demand for insurance protection," Griffin added.

"Paradoxically, the federal terrorism backstop provided by the Terrorism Risk Insurance Act of 2002 may actually increase the risk-adjusted rate of return demanded by investors supplying capital to the insurance industry," observed Kollar. "Before the act, insurers were able to exclude terrorism coverage from many commercial policies. Now, insurers must offer terrorism coverage, and, even with the federal backstop, some may suffer substantial terrorism losses as a result of the high deductibles and the 10 percent participation in losses above deductibles specified by the law. Mandating terrorism coverage makes the insurance business riskier, at least in the short term, because of all the uncertainty about losses from future terrorist attacks, how the backstop will actually work, and whether insurers will be able to buy reinsurance protection against future attacks."

"The new federal law also increases the pressure on insurers to learn how to underwrite, price and manage terrorism risk," said Griffin. "For example, effective immediately, insurers must disclose how much they are charging for terrorism coverage when writing new commercial policies. Given there is almost no historical data for pricing terrorism coverage, insurers will need to rely on models such as those developed by AIR Worldwide," added Griffin.

Overall loss and loss-adjustment expenses increased 0.5 percent to $205.4 billion in nine-months 2002 from $204.4 in nine-months 2001, as non-catastrophe loss and loss-adjustment expenses rose 7.1 percent to $201.4 billion in nine-months 2002 from $188.1 billion a year earlier.

According to ISO's Property Claim Services (PCS) unit, catastrophe losses through nine months totaled $3.9 billion, down from the estimated $16.3 billion in catastrophe losses actually included in insurers' financial results for nine-months 2002. The $16.3 billion reflects ISO's estimate that insurers' reported financial results for nine-months 2001 included $9 billion in net losses after reinsurance from the terrorist attack on September 11 and $7.3 billion in losses from other catastrophes during the first nine months of last year.

ISO estimates that U.S. insurers' losses from the terrorist attack will ultimately be between $15 billion and $25 billion for all lines on a net basis after reinsurance recoveries and that the tab for all insurers worldwide will ultimately range from $30 billion to $50 billion. ISO's PCS unit estimates that property and business-interruption losses from the attack will ultimately total $20.3 billion and that property and business-interruption losses from all catastrophes through nine-months 2001 will ultimately total $27.6 billion.

Other underwriting expenses — primarily acquisition expenses, other expenses associated with underwriting, pricing and servicing insurance policies, and premium taxes — rose 9.8 percent to $70.1 billion in the first nine months of this year from $63.9 billion in the first nine months of last year.

Dividends to policyholders decreased 16.4 percent to $918 million in nine-months 2002 from $1.1 billion in nine-months 2001.

The $18 billion net loss on underwriting for nine-months 2002 amounts to 7 percent of the $258.4 billion in premiums earned during the period, down from 16 percent of the $232.3 billion in premiums earned during the comparable period last year.

Pre-tax operating income — the sum of gains or losses on underwriting, net investment income and income from other miscellaneous operations — rose to positive $8.3 billion for nine-months 2002 from negative $9.2 billion for nine-months 2001.

The $16.3 billion decline in the industry's consolidated surplus — its assets minus its liabilities — through nine-months 2002 compares with a $36.1 billion decline through nine-months 2001. The $16.3 billion decline in surplus reflects the excess of $28 billion in unrealized capital losses on investments and $4.8 billion in dividends to shareholders over $9.3 billion in net income after taxes, $6 billion in new funds paid in and $1.2 billion in miscellaneous additions to surplus.

The $28 billion in unrealized capital losses on investments through nine-months 2002 is down $6.5 billion from $34.5 billion in unrealized capital losses through nine-months 2001.

The $4.8 billion in dividends to shareholders is down $4 billion from $8.8 billion for nine-months 2001.

The $9.3 billion in net income after taxes is up $11.9 billion from negative $2.6 billion for the first nine months of 2001.

The $6 billion in new funds paid in compares with $4.9 billion for nine-months 2001.

The $1.2 billion in miscellaneous additions to surplus is down $3.8 billion from $4.9 billion for nine-months 2001.

Combining realized capital gains and unrealized capital losses, insurers' $25 billion in overall capital losses on investments through nine-months 2002 was $2.9 billion, or 10.4 percent, less than insurers' $27.9 billion in overall capital losses through nine-months 2001.

Third-Quarter Results
The industry's consolidated net income after taxes for third-quarter 2002 was $4.8 billion, a $5.5 billion improvement from the industry's $730 million net loss for second-quarter 2002 and a $10.1 billion swing from the $5.3 billion net loss after taxes for third-quarter 2001.

The $4.8 billion in net income for third-quarter 2002 consisted of $2.3 billion in pre-tax operating income and $3.6 billion realized capital gains on investments, reduced by $1.2 billion in federal income taxes.

The industry's third-quarter pre-tax operating income of $2.3 billion compares with a pre-tax operating loss of $7.7 billion in third-quarter 2001. Third-quarter 2002 operating income consisted of $6.1 billion in pre-tax underwriting losses, $8.6 billion in pre-tax net investment income and $131 million in losses on other miscellaneous operations.

The $6.1 billion underwriting loss is down 65.3 percent from the $17.7 billion underwriting loss in the third quarter of 2001.

According to ISO's PCS unit, catastrophe losses fell to $675 million in the third quarter of 2002. ISO estimates that insurers' financial results for third-quarter 2001 included $9.4 billion in net catastrophe losses after reinsurance recoveries, with the $9.4 billion consisting of $9 billion in net losses from the terrorist attack on September 11 and $370 million in losses from other catastrophes during third-quarter 2001. ISO's PCS unit estimates that property and business-interruption losses from all catastrophes during third-quarter 2001 will ultimately total $20.7 billion on a direct basis before reinsurance recoveries.

The third-quarter 2002 underwriting loss represents 6.9 percent of the $89.4 billion in premiums earned during the period, down from 22.4 percent of the $78.7 billion in premiums earned during the third quarter of last year. The $6.1 billion underwriting loss includes $299 million in premiums returned to policyholders as dividends, down from $360 million in third-quarter 2001.

Written premiums totaled $97.4 billion, up 16.6 percent from $83.5 billion for third-quarter 2001. The 16.6 percent written premium growth compares with third-quarter 2001 written premium growth of 6.1 percent over 2000, 6.3 percent for 2000 over 1999 and 3.4 percent for 1999 over 1998.

The $8.6 billion in net investment income is down 6.6 percent from $9.2 billion in the same period a year ago.

The $131 million loss from other miscellaneous operations contrasts with a $718 million in income from such operations in third-quarter 2001.

The $3.6 billion in realized capital gains is more than twice the $1.4 billion in realized capital gains during the third quarter of 2001.

Combining net investment income and realized capital gains, the industry posted $12.3 billion in total investment gains in third-quarter 2002, up 15.9 percent from $10.6 billion a year earlier.

OPERATING RESULTS FOR 2002 and 2001 ($ Millions)

NINE MONTHS	2002	2001
NET WRITTEN PREMIUM	279,797	246,353
NET EARNED PREMIUM	258,396	232,263
INCURRED LOSS & LOSS ADJUSTMENT EXPENSE	205,376	204,415
STATUTORY UNDERWRITING GAIN (LOSS)	(17,111)	(36,005)
POLICYHOLDERS' DIVIDENDS	918	1,098
NET UNDERWRITING GAIN (LOSS)	(18,028)	(37,103)
PRE-TAX OPERATING INCOME	8,303	(9,194)
NET INVESTMENT INCOME EARNED	26,434	27,955
NET REALIZED CAPITAL GAIN (LOSS)	3,084	6,684
NET INVESTMENT GAIN	29,518	34,639
NET INCOME (LOSS) AFTER TAXES	9,314	(2,560)
SURPLUS (CONSOLIDATED)	273,287	281,302
LOSS AND LOSS ADJUSTMENT EXPENSE RESERVES	383,347	366,533
COMBINED RATIO, POST-DIVIDENDS (%)	104.9	114.4

THIRD QUARTER	2002	2001
NET WRITTEN PREMIUM	97,363	83,498
NET EARNED PREMIUM	89,414	78,742
INCURRED LOSS & LOSS ADJUSTMENT EXPENSE	71,040	75,115
STATUTORY UNDERWRITING GAIN (LOSS)	(5,826)	(17,295)
POLICYHOLDERS' DIVIDENDS	299	360
NET UNDERWRITING GAIN (LOSS)	(6,125)	(17,656)
PRE-TAX OPERATING INCOME	2,347	(7,732)
NET INVESTMENT INCOME EARNED	8,603	9,206
NET REALIZED CAPITAL GAIN (LOSS)	3,648	1,362
NET INVESTMENT GAIN	12,251	10,568
NET INCOME (LOSS) AFTER TAXES	4,764	(5,349)
SURPLUS (CONSOLIDATED)	273,287	281,302
LOSS AND LOSS ADJUSTMENT EXPENSE RESERVES	383,347	366,533
COMBINED RATIO, POST-DIVIDENDS (%)	104.6	120.9

Release: Immediate

Contacts:
Michael R. Murray (ISO)
201-469-2339
mmurray@iso.com

Sue McKenna (NAII)
847-297-7800

Loretta Worters (III)
212-346-5500