Moody’s: Wildfires Will Hurt Insurers’ Bottom Line

November 12, 2003

Moody’s Investors Service said in a statement that it does not expect its ratings or outlook on the U.S. personal lines insurance sector as a whole to be impacted solely by the recent spate of California wildfires.

Moody’s noted, however, that the losses will be evaluated in the context of earnings and capitalization expectations for individual firms’ ratings. Certain exposed insurers are expected to experience substantial near-term earnings disruptions, but the negative impact on the industry’s overall capital adequacy and credit profile will likely be much more moderate.

Moody’s said it believes that ultimate losses will in the $2.5 to 3.5 billion range — somewhat higher than previously reported industry estimates of around $2 billion. The rating agency noted that, in these early stages of loss assessment, claim counts continue to climb and associated smoke damage losses remain very difficult to estimate.

In terms of the relative proportion of loss between the reinsurance and primary insurance sectors, whether the fires are classified as one or multiple events will dictate reinsurance attachment levels. Either way, the rating agency believes that most catastrophe reinsurance protection will attach above or near the upper-end of current loss estimates.

This would mean that primary personal lines insurers will assume the vast majority of liability for claims from the wildfires. Over the past several years, catastrophe experience has tended to be lower in severity and higher in frequency, leading some insurers to purchase more reinsurance to limit aggregate or net loss exposures. Moody’s notes that there are likely to be some exceptional cases where more conservative reinsurance attachment points were maintained, moving responsibility for a larger portion of the loss to reinsurers.

Based on news reports and discussions with leading insurers, it appears that the wildfires have primarily affected residential properties, though several commercial sites have also been destroyed by the fires. Moody’s estimates that catastrophe losses in 2003 will be significantly higher than in prior years due to the combined effect of losses from the California wildfires, Hurricane Isabel and widespread Midwestern storm losses earlier in the year.

These losses have handicapped the ability of many personal lines insurers to achieve anticipated earnings growth following recently implemented higher rates and underwriting improvements.

Overall, underwriting profit margins in the personal lines sector continue to improve over prior years and Moody’s believes that pricing strength will moderate in the coming year due to competition and regulatory pressure. Moody’s has often highlighted the vulnerability of personal lines insurance companies to state-specific regulatory risks.

In California, the regulatory environment for personal lines insurance has historically been challenging, as evidenced by prohibitions on non-renewal capabilities following the Northridge earthquake in 1994 and, more recently, by premium rate roll-backs mandated by Proposition 103. Moody’s notes that most insurers that operate in California have applied for and received rate increase approvals over the past few years.

Moody’s is somewhat concerned about the earnings prospects for insurers in California that are not currently rate-adequate or are reporting weak underwriting profit margins, as the approval of future rate increases is not guaranteed, even after such a catastrophe.

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