Regardless of whether insurance is mandated by law or contract, or purchased as a best practice, it represents a major expense for most businesses. As such, it’s wise to have a full grasp on the current economics of the insurance industry and where rates are headed.
Economics of the Insurance Industry
The insurance industry has generated an underwriting profit in only three of the last 10 years. An underwriting profit is achieved when losses plus all expenses are less than premiums. When the former is divided by the latter, the result is called the combined ratio. Averaging the last decade, the combined ratio equals 101.5 percent. Most insurance company executives would like to see their combined ratio below 95 percent (ideally 92.5 percent or lower).
The insurance industry lost 3.7 percent on underwriting in 2017, which was a terrible year for property-driven catastrophic losses, but it earned an overall return of 5 percent. The difference is attributable to investments. During periods of substantial investment returns, insurance companies are willing to tolerate inferior underwriting results.
The industry’s surplus has increased nearly 65 percent in the last 10 years and is currently at an all-time high. This bodes well for insurance buyers.
To increase surplus and attract investors, insurance companies need to generate bottom line profits and provide reasonable returns. Most investors want to earn 10 percent or more, but the last decade has generated a meager 5.71 percent. Meanwhile, the S&P 500 averaged 11.6 percent.
If underwriters price their policies where they know they can achieve their desired profits, they risk being undercut by aggressive competitors seeking to acquire market share. It’s a balancing act between charging a reasonable premium and generating an appropriate investment return.
Because the insurance industry’s surplus is currently at an all-time high, prices should go down. On the other hand, insurance company returns have been mediocre, so they need to increase rates, which have been relatively flat during the last three years (i.e., efforts to increase premiums do not appear to be working). While most underwriters are seeking single-digit increases where possible, rates are still predicted to be flat, and some lines will see minor decreases.
Allied Lines: Property, General Liability, Auto and Umbrella
As expected, preferred property risks are experiencing the largest decreases, but even challenging accounts benefit from somewhat relaxed underwriting and increased competition. While property rates in general should be flat, two notable exceptions are property in high-risk locations, such as the Southeast, and risk of residential wood frames (completed and under construction).
General liability is also stable and 2019 should bring flat renewal pricing, with preferred accounts seeing single-digit decreases. Not surprisingly, the companies that have the best risk management programs and positive loss histories are experiencing the most favorable renewals.
On the other hand, automobile rates are going up across the country due to increased frequency (distracted driving) and severity. Poor profitability in this line is increasing the average premiums anywhere from 5 to 25 percent. Differences among insurers are also greater in this line, which means this coverage is being shopped more frequently than other lines. Increased focus on fleet safety is critical to managing auto insurance premiums.
Excess liability (umbrella) remains reasonably competitive. Pricing is usually based on underlying policies, so excess liability pricing will increase if the underlying auto premiums increase.
Professional and Pollution Liability Insurance
These lines remain competitive, and several new players are looking for business. However, coverage and risk control services differ dramatically, as does the quality of the claims teams for each insurance company. While price is important, the best value in this line is rarely the least expensive.
Executive Risk
Executive risk—which includes directors and officers liability, employment practices and fiduciary liability—remains stable, but it is being carefully underwritten. Adverse loss experience or poor internal controls will impact pricing. As much or more than most exposures, these areas lend themselves to being proactively managed. It is also important to understand the coverage being purchased, as every policy is unique and coverage differences can be significant.
Cyber Coverage
Cyber coverage continues to be the fastest growing insurance product, yet it is still under-purchased. Every business has cyber risk, and managing these exposures goes beyond backing up data. Cyber extortion and social engineering (i.e., cyber deceit) continue to grow. The application process alone will serve as a self-audit for a company’s exposures and reveal areas that can be improved.
Workers’ Compensation
Workers’ compensation rates continue to improve across the country. As this line turned profitable in 2012 for the first time since 2007, more insurance companies became interested in writing workers’ compensation. Since 2014, rates have dropped approximately 20 percent.
Although the combined ratio is creeping up, workers’ compensation rates are still anticipated to drop 5 to 10 percent. Note that this can differ dramatically by classification. In addition, a firm’s experience modification rate and schedule credits will directly affect its net rate.
Health Insurance
The Affordable Care Act is still the law, but the individual mandate ends in 2019, which means that individuals will no longer have to carry medical insurance or prove that they have coverage. It’s unclear how this will affect the Employer Group Plans, but it may have a negative impact on rates if the pool of insureds sees higher claims and lower premiums.
One of the last provisions of the ACA is the Cadillac Tax—intended to help fund benefits to the uninsured—which may or may not be implemented in 2020. Under the provision, employers would pay a 40 percent tax on the cost of health plans that are above $10,200 per individual and $27,500 per family.
Throughout 2018, rates remained flat with only minor increases. The ACA allowed teenage rate bands to change, which resulted in higher increases for employees with dependents on the group plan.
For 2019, expect low single-digit rate increases and minimal plan changes. Rates for all “small” employers (two to 99 eligible employees) will be based on the employee and his or her dependents’ individual ages, plan design and company location. As a result, some younger employees or families with one child may realize lower premiums.
Expect additional plan changes in 2019 so insurance companies can remain compliant with the ACA’s metallic tier guidelines.
Using the platinum plan as an example, if the actuarial value of a plan this year was $1,000, then the platinum plan has to cover 90 percent ($900) and pass 10 percent ($100) to the plan member. In the second year, if the actuarial value goes up to $1,100, then 10 percent ($110) can be passed to the plan member and the benefits will change. This will always be a moving target until the values are fixed or the law is changed.
For insurance carriers to be competitive in 2019, plans will continue to offer “skinny network” choices that offer an attractive price, but employees will only be able to choose from a few providers.
Insurance carriers continue to seek greater discounts from hospitals, medical groups and doctors, and are offering patient exclusivity in return. Some insurance carriers will allow skinny networks to be offered side by side with full networks, with the price and contribution being set by the employer to favor one or the other.
Trust plans, or association plans, are being formed so industry-specific companies can band together to lower their cost. Captives, self-funding and partially self-funded plans continue to be popular and could be a viable option for companies with more than 50 employees. Another way to reduce costs includes supplementing a bronze level plan with cancer, hospital, accident and critical illness plans.
Surety Bonding
Surety industry profits are at an all-time high, loss margins remain low, and demand for bonding, along with total spending in the building industry, continues to grow across the nation.
Since 2012, the direct written premium for the surety industry has grown from $5 billion to more than $6.2 billion at the end of 2017—a 23 percent increase. And the industry does not appear to be slowing down any time soon, with projected direct written premiums exceeding $6.5 billion in 2018.
The positive forecast for both underwriters and contractors have many wondering when the market will reach its boiling point. Rather than speculate, surety underwriters are depending even more on their clients and agents to proactively manage their operations and associated risks to grow in an expanding economy. Best-in-class contractors are using the market’s positive growth to focus on what they do best and intelligently grow their backlogs, rather than over-extending themselves by taking on work outside their capacity.
