CEOs, Concerned About Capacity and Pricing, Stress Underwriting Discipline

June 20, 2006

Although property casualty insurance capacity still exists in some areas in the U.S.’s east coast, the rate at which it is vanishing, especially in coastal areas, as well as the steep prices being offered for available capacity, have industry executives concerned about pricing discipline.

“Someone’s going to have to blink soon,” said Ted Kelly, chairman, president, and CEO of Liberty Mutual Group Inc.

Property catastrophe capacity was high on the list of concerns for panelists from the property casualty industry at Standard & Poor’s Ratings Services’ recent annual insurance conference, “Insurance 2006: Rethinking Risk.”

Whether insurers price risk properly is a worry. Even though premiums have doubled in the past three to four years, “pricing in primary markets isn’t supporting the cost of reinsurance,” Kelly said.

Kelly said that reinsurance capacity might still be 20 percent short of demand in the southeastern U.S., and “[p]roblems getting insurance in the Gulf region haven’t been settled yet.”

Companies “should look at their enterprise risk management, and what kinds of controls management has on currency and hedging,” said Martin Sullivan, president and CEO of American International Group Inc., who would also like to see construction codes improved in the Southeast.

Property casualty industry pricing, looking forward, is a huge question mark, and an additional worry for these CEOs. If 2006’s hurricane season is benign, pricing discipline will remain, especially in the catastrophe area, Sullivan said.

Kelly, however, was not so sure. “A pricing bloodbath” could ensue if the hurricane season is moderate, he said. “Watch October renewals–they will be the first sign of a lack of discipline,” he warned.

The role capital markets now play in maintaining financial strength also had panelists, as well as the moderator, Standard & Poor’s credit analyst Thomas Upton, concerned. Although capital to replace what was lost to the catastrophes of 2005 and 2004 was readily available, it might not be if severe catastrophes hit in 2006.

“I was surprised at the ease of which companies recapitalized after Katrina,” said Dinos Iordanou, president and CEO of Arch Capital Group Ltd.

Would companies be better off if they had to replenish capital organically rather than going to the capital markets? Opinions were not uniform. Kelly was emphatic about the industry’s need for a free flow of capital, but Sullivan said the industry would be tested if the season were active. Iordanou cited that even if a major hurricane does come, $600 billion-$650 billion of surplus still exists in the global marketplace.

Bottom line, underwriting discipline continues to be important.

“Given the legal environment, what we are writing today will be the issue five to seven years down the road,” Sullivan said. Surprisingly, the industry has made an underwriting profit only once in the past 25 years–in 2004. “Clearly, there’s room for improvement,” Sullivan added.

Source: Standard & Poor’s

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