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Property and Casualty Insurers See Profits Slip

Melissa Gannon

Although large insurers have begun reporting year-end results, the latest full set of regulatory data for the more than 2,600 property/casualty insurers reflects results through Sept. 30, 2007.

The property/casualty industry comprises more than 30 lines of business, and across the board premiums are flat or declining as the industry suffers through a soft market.

As a result of declining underwriting revenues, the industry looks to investment gains to compensate for the declines. Investment gains through third quarter 2007 hit $49.9 billion, up 13.7% from $43.9 billion in 2006. At the same time, gains from underwriting business fell 25.5% to $19.3 billion through third quarter 2007 from $25.9 billion in 2006.

Melissa Gannon, vice president of insurance and bank ratings for TheStreet.com Ratings, discusses:

Q: Will insurers raise rates to make up for declining profits?

A: Not yet. The soft market is expected to last two to three more years, so rates generally will stay flat or decline until the market hits the trough of the cycle.

As a result of declining underwriting profitability across all lines of business, TheStreet.com Ratings' quarterly review resulted in 29 downgrades and 11 upgrades. The relatively large number of downgrades also reflects the crisis in the mortgage and financial guaranty, or bond, insurance industry, which accounted for 10 of the 29 downgrades.

Q: What impact has the subprime mortgage crisis had on the insurance industry?

A: Mortgage and financial guaranty insurers have obviously been the hardest hit. With losses at historic levels, many are seeking external sources to shore up capital. The depth of total losses is yet to be seen, but there's no doubt that these insurers have, and will continue to, suffer significant losses. Based on the data of the entities underwriting the coverage, we downgraded the financial strength ratings of ten insurers. Four companies owned by PMI Group. (PMI Quote) were downgraded: PMI Insurance Company, PMI Mortgage Guaranty Company, Financial Guaranty Insurance Company, and PMI Mortgage Insurance Company. Two companies owned by Radian Group(RDN Quote) were downgraded: Radian Guaranty and Amerin Guaranty.

The five largest mortgage insurers:

The five largest bond insurers:

While we may see an insurer fail before this crisis is over, it's important to note that of the 83 insurers that write either mortgage or bond insurance, TheStreet.com Ratings currently considers 61 to be financially sound. Fourteen are considered weak, and the remaining are not rated.

Q: Is the industry being affected in any other way by the mortgage crisis?

A: Yes, but at nowhere near the same level of severity. As a result of the more than $230 billion in writedowns from the mortgage crisis, investor class action lawsuits have kicked in. That means companies that write directors and officers liability insurance will be affected. A report by Advisen Ltd., released Feb. 11, estimates D&O losses of $3.6 billion in 2007 and 2008 and lists the five largest D&O insurers as AIG(AIG Quote), Lloyd's, XL(XL Quote), Chubb(CB Quote), and Travelers(TRV Quote). These five companies make up 63% of the market.

Q: Do you think the homeowners insurance industry has improved since there have been two seasons now with no major storms?

A: The homeowners insurance market continues to be very tenuous in coastal areas of the country. Florida, in particular, is struggling to stabilize its market with the latest announcement coming from State Farm, who announced this week that it will stop writing new policies for coastal residents. Florida officials say that the void in capacity can be filled by new insurers that continue to enter the market, but these insurers with such little experience in the market tend to be less financially sound.

Although there are various theories about how to stabilize this market, true reform will require a collaborative effort with the industry, regulators, community growth planners, and the building industry. Florida's unilateral attack on the insurance industry in the past year will not result in a long-term solution.

Interestingly, on Feb. 22, the National Oceanic and Atmospheric Administration's (NOAA) National Hurricane Center released a study indicating that increasing economic damages suffered by hurricanes over time has not been caused by an increase in the number or severity of storms but rather by the increased wealth along the coastline.

The study estimated that if the 1926 Great Miami Hurricane were to hit today, it would cause losses of $140 billion to $157 billion, potentially almost double the $81 billion caused by Hurricane Katrina.

Q: You mentioned earlier that the industry is relying increasingly on investment income. Isn't this dangerous since the stock market has been declining?

A:Yes and no. Common stock makes up about 25% of all industry invested assets. Bonds make up about 60% which are primarily comprised of Treasuries and AAA corporate bonds which have been performing well. Going forward, we will watch for any shifts toward lower-rated bonds providing higher yields and thus more risk.

Q: In addition to investment quality, what do you look for when rating a company?

A: We look to see if a company has enough capital to support the risk level it has taken on in its portfolio. For example, a company that holds all government-guaranteed bonds (with no default risk) is required to hold less capital than a company that holds a sizable portion of junk bonds or common stock.

Likewise, we also look to see that the company holds enough capital to support its lines of business and premium growth. Consistency in profitability is also key to the stability of the business and the growth in capital.

Finally, liquidity, relationship to affiliates and their financial strength, and overall trends in asset, premium, and capital growth are a measure of operational stability.

The current financial strength ratings for all property/casualty insurers as well as life and health insurers can be found at the Ratings Screener.