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Casualty Insurance Markets in Turbulent TimesTrends & Challenges
Robert P. Hartwig, Ph.D., CPCU, PresidentInsurance Information Institute 110 William Street New York, NY 10038
Tel: (212) 346-5520 Fax: (212) 732-1916 bobh@iii.org www.iii.org
Insurance Information Institute
March 2008
Presentation Outline
• Shifting Legal Liability & Tort Environment• The Economic Storm: What it Means for the Insurance
Industry• Profitability & Performance: Strong but Starting to
Experience Cyclical Weakening• Ratings & Financial Strength: Weathering the Storm?• Underwriting Trends: Strength in Numbers• Premium Growth: At a Standstill• Capacity: Too Much of a Good Thing?• Investment Overview: More Pain, Less Gain
Q&A
Shifting Legal Liability & Tort
Environment
Recent Reforms Have Helped, but Will Tort Pendulum Swing Against
Corporations & Insurers?
$17.0$49.6 $58.7
$85.6$17.1
$51.0$70.9
$85.6
$5.2
$20.4
$30.0
$45.5
$0
$50
$100
$150
$200
$250
1980 1990 2000 2006
Commercial Lines Personal Lines Self (Un)Insured
Bil
lion
s
Total = $39.3 Billion
*Excludes medical malpracticeSource: Tillinghast-Towers Perrin, 2007 Update on US Tort Cost Trends.
Total = $121.0 Billion
Total = $159.6 Billion
Total = $216.7 Billion
Personal, Commercial & Self (Un) Insured Tort Costs*
Growth in Cost of U.S. Tort System,1951-2009F
Source: Tillinghast-Towers Perrin.
9.8%
11.9%
3.2%
13.8%
5.6% 5.7%
0.4%
-5.4%
2.4%
4.7%
11.6% 11.8%13.7%
-10%
-5%
0%
5%
10%
15%
1951-60
1961-70
1971-80
1981-90
1991-2000
2001 2002 2003 2004 2005 2006 2007E 2008E
Tort costs moderated beginning in 2003 as many improvements in the tort system began to bear fruit
Asbestos-related and other costs drove tort growth sharply upward in 2001 and 2002
2001-2005: 7.8%
2006-2009F: 1.6%
Cost of US Tort System ($ Billions)
$129
$130 $1
41
$144
$148 $1
59
$156
$156 $1
67
$169 $1
80 $205
$233 $2
46 $260
$261
$247
$253 $2
65 $277
$0
$50
$100
$150
$200
$250
$300
90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06
07E
08E
09E
Tort costs consumed 1.87% of GDP in 2006, down from 2.24% in 2003
Per capita “tort tax” was $825 in 2006, up from $680 in 2000
Reducing tort costs relative to GDP by just 0.25% (to 1.84%) would produce an
economic stimulus of $31.1B
Source: Tillinghast-Towers Perrin, 2007 Update on US Tort Cost Trends.
Tort System Costs, 1950-2009E
$1.8 $5.4 $7.9$13.9$20.0
$83.7
$130.2
$179.2
$246.0$265
$277
$158.5
$247.0
$42.7
$3.4
0.62%
0.82%
1.03%
1.34%1.22%
1.98%2.14%
1.82% 1.83%1.83%
1.87%
2.24%2.24%
1.53%
1.11%
$0
$50
$100
$150
$200
$250
$300
50 55 60 65 70 75 80 85 90 95 00 03 06 08E 09E
Tor
t S
yste
m C
osts
0.0%
0.5%
1.0%
1.5%
2.0%
2.5%
Tor
t C
osts
as
% o
f G
DP
Tort Sytem Costs Tort Costs as % of GDP
Source: Tillinghast-Towers Perrin, 2007 Update on U.S. Tort Costs as % of GDP
After a period of rapid escalation,
tort system costs as a % of GDP are
now falling
Tort System Costs and Tort Costs as a Share of GDP, 2000-2009F
$179
$233$246
$265
$253
$260
$261
$277
$247
$205
1.82%2.03%
2.22% 2.23%
1.83%1.84%
2.10%
1.83%1.87%
2.24%
$100
$120
$140
$160
$180
$200
$220
$240
$260
$280
$300
00 01 02 03 04 05 06 07E 08E 09E
Tor
t S
yste
m C
osts
0.0%
0.5%
1.0%
1.5%
2.0%
2.5%
Tor
t C
osts
as
% o
f G
DP
Tort Sytem Costs Tort Costs as % of GDP
After a period of rapid escalation, tort system costs as % of GDP are now falling
Source: Tillinghast-Towers Perrin, 2007 Update on US Tort Cost Trends.
The Nation’s Judicial Hellholes (2007)
Source: American Tort Reform Association; Insurance Information Institute
TEXAS
Rio Grande Valley and Gulf Coast
South Florida
ILLINOIS
Cook County West Virginia
Some improvement in “Judicial
Hellholes” in 2007
Watch ListMadison County, ILSt. Clair County, IL
Northern New Mexico
Hillsborough County, FLDelawareCalifornia
Dishonorable Mentions
District of ColumbiaMO Supreme Court
MI LegislatureGA Supreme Court
Oklahoma
NEVADA
Clark County (Las Vegas)
NEW JERSEY
Atlantic County (Atlantic City)
Business Leaders Ranking of Liability Systems for 2007
Best States1. Delaware2. Minnesota3. Nebraska4. Iowa5. Maine6. New Hampshire7. Tennessee8. Indiana9. Utah10. Wisconsin
Worst States41. Arkansas42. Hawaii43. Alaska44. Texas45. California46. Illinois47. Alabama48. Louisiana49. Mississippi50. West Virginia
Source: US Chamber of Commerce 2007 State Liability Systems Ranking Study; Insurance Info. Institute.
New in 2007
ME, NH, TN, UT, WI
Drop-Offs
ND, VA, SD, WY, ID
Newly Notorious
AK
Rising Above
FL
Midwest/West has mix of good and bad states
Total Top 10 Verdicts, 1995 through 2006
Source: Lawyers USA, 2007
Number of Top 10 Jury Awards, 1995 - 2007
22 2220
17
8 75 4 3 2 2 2 2 1 1 1
6
0
5
10
15
20
25
TX, NY and CA lead the U.S. in jumbo-size jury awards
Source: LawyersWeekly USA,, January 22, 2008. *All against Iran for terrorist activity
Sum of Top 10 Jury Awards
$ Millions
$615.0$815.0
$2,953.7
$5,158.8
$0
$1,000
$2,000
$3,000
$4,000
$5,000
$6,000
2004 2005 2006 2007
Source: Insurance Information Institute from LawyersWeekly USA, January 2005, 2006, 2007 and 2008.
Total of Top 10 awards in 2007 was 25% lower than in 2006
2007 Top Ten Verdicts
Source: LawyersWeekly USA, January 22, 2008.
Value Issue State
$109 Million Medical Malpractice New York
$102.7 Million Premises Liability, Death Florida
$55.2 Million Product Liability, Death California
$54 Million Private Air Crash Florida
$54 Million Nursing Home, Death New Mexico
$50 Million DUI Crash Florida
$50 Million Product Liability, Death Alabama
$47.6 Million Prempro Nevada
$47.5 Million Vioxx New Jersey
$45 Million Auto Crash, Death Florida
2006 Top Ten Verdicts
Source: LawyersWeekly USA, 2007.
Value Issue State
$216.7 Million Medical Malpractice Florida
$160 Million Nursing Home Negligence Texas
$106 Million Wrongful Death California
$61 Million Workplace Harassment California
$51 Million Vioxx Louisiana
$47.5 Million Death of Prisoner Texas
$46 Million Auto Accident Missouri
$44.2 Million Business Dispute Florida
$44 Million Police Brutality Maryland
$38.5 Million Product Liability Texas
INFLUENCE OF TORT ENVIRONMENT AND LEGAL
LIABILITY TRENDS ON PRICING AND AVAILABILITY
Excess Liability Market Capacity – North America
Source: Marsh, 2007 Limits of Liability Report
$1.660$1.645
$1.570$1.535$1.425
$1.575
$1.710
$2.045
$1.941$2.011
$1.721
$1.405$1.334
$1.432
$1.0
$1.2
$1.4
$1.6
$1.8
$2.0
$2.2
$2.4
$2.6
$2.8
94 95 96 97 98 99 00 01 02 03 04 05 06 07
Bil
lio
ns
Capacity is up 16.5% since its 2003 trough
Liability: Average Cost per $1,000 of Revenue* United States, 2001 to 2007
$1.2
5
$0.6
5
$0.6
7
$0.3
3
$0.1
7
$0.1
1
$0.2
3
$3.2
1
$1.5
6
$1.2
7
$0.8
6
$0.3
6
$0.1
8 $0.4
8
$2.4
9
$1.0
7
$1.0
6
$0.6
3
$0.2
3
$0.1
4
$0.3
2
$0.00
$0.50
$1.00
$1.50
$2.00
$2.50
$3.00
$3.50
$4.00
$0 - $200M $201M-$500M
$501M-$1B $1B-$5B $5B-$10B $10B+ All
2001 2004 2007
*Across entire liability program (full population)
Source: Marsh, 2007 Limits of Liability Report
Liability insurance costs relative to the client’s revenues are down by 25% - 35% since 2004
31.3
%
22.0
% 37.5
%
20.8
%
46.7
%
40.8
%
37.5
%
24.9
%
11.2
%
10.1
%
39.7
% 53.8
%
40.5
%
22.6
%
11.3
%
10.0
%
42.2
%
70.0
%
48.0
%
28.3
%
10.0
%
11.1
%
36.7
% 56.6
%
27.1
%
10.1
%
11.0
%
31.7
% 51.6
%
29.2
%
19.0
%
5.5%10
.4%
8.4%9.
9%
134.5%
0%
20%
40%
60%
80%
100%
120%
140%
160%
CommercialMultiperil**
ProductsLiability
MedicalMalpractice
GeneralLiability
Comm. Auto Liability
WorkersComp
2001 2002 2003 2004 2005 2006
Defense Costs and Cost Containment Expenses as % of Incurred Losses*
* Net of reinsurance; excludes state funds. **Liability portion onlySource: Insurance Information Institute 2008 Fact Book from NAIC Statement Database.
Defense costs as a percentage of incurred
losses are flat or tracking upward
Average Total Liability Limits Purchased by All U.S. Firms*
*Includes underlying primary limits
Source: Limits of Liability 2007, Marsh, Inc.
$77.9
$85.8$83.2
$85.9$88.7
$99.1
$105.0$101.8
$95.7
$87
$77$75
$66 $66
$50
$60
$70
$80
$90
$100
$110
94 95 96 97 98 99 00 01 02 03 04 05 06 07
Limits purchased fell by 37.1% between 2000 and 2007.
Price/capacity are issues.
$ Millions
Average Underlying Limits – U.S. (Attachment Points)
*Source: Marsh, 2007 and 2006 Limits of Liability Report
$ Millions$2.2
$2.1
$1.8 $1.8
$2.0$1.9$1.9
$1.8
$1.0
$1.2
$1.4
$1.6
$1.8
$2.0
$2.2
$2.4
2000 2001 2002 2003 2004 2005 2006 2007
Average Jury Awards1994 vs. 2001 and 2005
419
187
333 1,
185
1,14
0
1,74
4
948
245 63
6
2,50
1 3,28
9
1,39
4
407
541
6,27
3
3,83
0
8,11
86,
358
$0
$1,000
$2,000
$3,000
$4,000
$5,000
$6,000
$7,000
$8,000
$9,000
$10,000
Overall VehicularLiability
PremisesLiability
WrongfulDeath*
MedicalMalpractice
ProductsLiability
($00
0)
1994 2001 2005
*Award trends in wrongful deaths of adult males.Source: Jury Verdict Research; Insurance Information Institute.
The average jury award continued to rise through 2005
Trends in Million Dollar Verdicts*4%
10%
8%
23%
22%
36%
48%
4%
8%
12%
31% 37
%
49%
59%
13%
14%
29%
51%
62%
5%
17%
13%
32%
41%
55%
64%
4%
39%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
VehicularLiability
PersonalNegligence
PremisesLiability
BusinessNegligence
GovernmentNegligence
MedicalMalpractice
ProductsLiability
1996-1998 1999-2001 2002-2003 2004-2005
*Verdicts of $1 million or more.Source: Jury Verdict Research; Insurance Information Institute.
Across all liability types, million dollar-plus awards rose from 10% of all awards from 1996-98 to 17% in 2004-05.
Some Emerging and Potential Casualty & Litigation Risks
Source: Insurance Information Institute
1. Securities Litigation• Increased market volatility generally leads to more litigation. Subprime and
broader credit crunch are central issues.
2. Bad Faith Litigation• Major area of focus for trial bar; Potential ballot referenda (e.g., WA)
3. Products Liability on Imported Goods• Defective products, drugs; Increased federal penalties/activism: CPSC
4. Climate Change• CO2 Supreme Court decision/EPA• Claims that hurricanes, rising sea levels, wildfiresGHG emissions• Carbon emissions caps, sequestration (storage & infrastructure)
5. Energy• Capacity and technology currently pushed to the edge• Alternative fuels (e.g., is ethanol really “clean”?), Sequestration
6. Latent Occupational Disease• Manifestation is significantly delayed from exposure• Degenerative neurological disorders (e.g., Parkinsons), Cancers
Emerging and Potential Casualty & Litigation Risks (cont’d)
Source: Insurance Information Institute
7. First Responder Litigation• Disease manifestation traced back to disaster response
8. Employment Practices Liability• Weak labor market, layoffs could spawn more litigation, especially age
discrimination cases
9. Environmental Liability• Continued erosion of “absolute pollution exclusion”• “Green” movement; increased environmental awareness
10. Nanotechnology• Science is wide open on any harm caused
11. Assisted Living Facilities• Surge in nursing home population ahead; Fertile ground for litigation
12. Financial Fiduciary/Advice• Extent of liability for management of funds could be stretched• Litigation based on “faulty” advice; Failure to follow investor wishes
A STORMY ECONOMIC FORECAST
What a Weakening Economy & Credit Crunch Mean for
the Insurance Industry
What’s Going On With the US Economy Today?
Fundamental Factors Affecting US Economy in 2008• Puncture of Two Bubbles: Credit and Housing• Credit Crunch: Credit is the lifeblood of the US economy, but some
markets have effectively seized (at least to some degree) Problem originated with interest rates being left too low for too long in the
early 2000s Subprime mortgage market first part of credit bubble to burst; Spread via
securitization and amplified via leverage and concentration of risk As lenders tighten standards, credit issues have spread to prime borrowers,
commercial mortgages, munis, credit cards, student loans• General Economic Impacts: Burst BubbleAsset Deflation
Home price bubble is bursting: Loss of value in most valuable asset impacts wealth via loss of home equity
Negative “wealth effect” implies consumers (2/3 of spending) become more cautious
Business scale back as prospects diminish in classic economic slowdown Job growth stagnating (-17,000 in Jan. 2008)
Source: Insurance Information Institute.
What’s Being Done to Fix theUS Economy?
Fundamental Factors Affecting US Economy in 2008• Federal Reserve: Slashing RatesDown 2.25 points since April
Necessary but not sufficient. Need to reopen credit arteries
• Federal/State Government: Traditional role of government is to provide economic stimulus, appropriate regulation President signed $170 billion stimulus package Feb. 13 Hope is that it will create 500,000 jobs Expansion of jumbo mortgage limit from $417,000 nationally to $700K+ in some
expensive real estate markets (expands Federal guarantee limit) Dinallo/Spitzer proposals to rescue monoline (bond) insurers
• Private Sector: Scrubbing Balance Sheets Financial institutions trying to determine exposure and recognize via accounting
statements (e.g., writedowns) Attempt to create some sort of private rescue package for bond insurers Purchase of distressed assets by some; Sovereign Wealth Fund infusions Buffet efforts in muni markets
Source: Insurance Information Institute.
Summary of Economic Risks and Implications for Insurers
Economic Concern Risks to Insurers
Credit Crunch/ Subprime Problems
•Some insurers have some asset risk•D&O/E&O exposure for some insurers•Client asset management liability for some•Bond insurer problems; Muni credit quality
Housing Slump •Reduced exposure growth•Deteriorating loss performance on neglected, abandoned and foreclosed properties
Lower Interest Rates •Lower investment income
Stock Market Slump •Decreased capital gains (which are usually relied upon more heavily as a source of earnings as underwriting results deteriorate)
General Economic Slowdown/Recession
•Reduced commercial lines exposure growth•Surety slump•Increased workers comp frequency
3.7
%
0.8
%
1.6
%
2.5
%
3.6
%
3.1
%
2.9
%
0.6
%
3.8
%
4.9
%
0.5
%
2.3
%
2.5
%
2.7
%
2.8
%
2.9
%
2.9
%
0.6
%
1.1
%
0%
1%
2%
3%
4%
5%
6%
2
00
0
2
00
1
2
00
2
2
00
3
2
00
4
2
00
5
2
00
6
07
:1Q
07
:2Q
07
:3Q
07
:4Q
08
:1Q
08
:2Q
08
:3Q
08
:4Q
09
:1Q
09
:2Q
09
:3Q
09
:4Q
Real GDP Growth*
*Yellow bars are Estimates/Forecasts.Source: US Department of Commerce, Blue Economic Indicators 2/08; Insurance Information Institute.
Economic growth is expected to slow
dramatically in the year ahead
5.2%
-0.9
%-7
.4%
-6.5
%-1
.5%
1.8%
4.3%
18.6
%20
.3%
5.8%
0.3%
-1.6
%-1
.0%
-1.8
%-1
.0%
3.1%
1.1%
0.8%
0.4%
0.6%
-0.4
%-0
.3%
1.6%
5.6%
13.7
%7.
7%1.
2%-2
.9% -0
.5%
-2.9
%-2
.7%
-10%
-5%
0%
5%
10%
15%
20%
25%7
87
98
08
18
28
38
48
58
68
78
88
99
09
19
29
39
49
59
69
79
89
90
00
10
20
30
40
50
60
70
8F
Rea
l N
WP
Gro
wth
-4%
-2%
0%
2%
4%
6%
8%
Rea
l G
DP
Gro
wth
Real NWP Growth Real GDP
Real GDP Growth vs. Real Premium Growth: Modest Association
P/C insurance industry’s growth is influenced modestly by growth
in the overall economy
Sources: A.M. Best, US Bureau of Economic Analysis, Blue Chip Economic Indicators, 2/08; Insurance Information Inst.
New Private Housing Starts,1990-2013F (Millions of Units)
2.07
1.80
1.36
1.02
1.17
1.54 1.
58 1.65
1.62
1.48
1.35
1.46
1.29
1.20
1.01
1.19
1.47
1.62 1.64
1.57 1.
60
1.71
1.85
1.96
1.0
1.1
1.2
1.3
1.4
1.5
1.6
1.7
1.8
1.9
2.0
2.1
90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07F 08F 09F 10F 11F 12F 13F
Source: US Department of Commerce; Blue Chip Economic Indicators (10/07), except 2008/09 figures from 2/08 edition of BCEF; Insurance Info. Institute
Exposure growth forecast for HO insurers is dim for 2008/09
Impacts also for comml. insurers with construction risk exposure
New home starts plunged 34% from 2005-2007; Drop
through 2008 trough is 51% (est.)—a net
annual decline of 1.05 million units
I.I.I. estimates that each incremental 100,000 decline in housing starts costs
home insurers $87.5 million in new exposure (gross premium). The net
exposure loss in 2008 vs. 2005 is estimated at $920 million.
16.916.9
16.6
17.1
17.5
17.8
17.4
16.5
16.1
15.7
16.0
16.4
16.7 16.8 16.9
14.5
15.0
15.5
16.0
16.5
17.0
17.5
18.0
99 00 01 02 03 04 05 06 07F 08F 09F 10F 11F 12F 13F
Weakening economy, credit crunch and high gas prices are hurting
auto sales
New auto/light trick sales are expected to experience
a net drop of 1.2 million units annually by 2008 compared with 2005, a
decline of 7.1%
Impacts of falling auto sales will have a less pronounced effect on auto insurance exposure growth
than problems in the housing market will on home insurers
Auto/Light Truck Sales,1999-2013F (Millions of Units)
Source: US Department of Commerce; Blue Chip Economic Indicators (10/07), except 2008/09 figures from 2/08 edition of BCEF; Insurance Info. Institute
$1
,08
2
$1
,14
4
$1
,22
6
$1
,30
7
$1
,37
0
$1
,39
6
$1
,43
8
$1
,49
5
$1
,56
3
$1
,64
1
$0
$200
$400
$600
$800
$1,000
$1,200
$1,400
$1,600
$1,8000
3
04
05
06
07
E
08
F
09
F
10
F
11
F
12
F
0%
1%
2%
3%
4%
5%
6%
7%
8%
% C
han
ge
Nonresidential Fixed Investment% Change Nonresidential Fixed Investment
Nonresidential Fixed Investment,* 2003 – 2012F
Sharp dip in business
investment in 2007/2008 will
slow commercial exposure growth
*Nonresidential fixed investment consists of structures, equipment and software.
Sources: US Bureau of Economic Analysis (Historical), Value Line (2/22/08) estimates/forecasts for 2008-2012.
Non
resi
den
tial F
ixed
In
vest
men
t ($
Bill
)
Total Industrial Production,(2007:Q1 to 2009:Q4F)
1.1%
3.5% 3.6%
-1.0%
0.2%0.7%
1.8%
2.4%2.7% 2.7% 2.6% 2.6%
-2.0%
-1.0%
0.0%
1.0%
2.0%
3.0%
4.0%
07:Q1 07:Q2 07:Q3 07:Q4 08:Q1 08:Q2 08:Q3 08:Q4 09:Q1 09:Q2 09:Q3 09:Q4Sources: US Bureau of Labor Statistics; Blue Chip Economic Indicators (2/08); Insurance Info. Inst.
Industrial production shrank during the final quarter of 2007 and is expected to grow only very slowly
during the first half of 2008
Industrial production affects exposure both directly and indirectly
Employment Change by Industry
(27,000)(28,000)
11,000
(11,000)
47,000
19,000
(18,000)
(40,000)
(30,000)
(20,000)
(10,000)
0
10,000
20,000
30,000
40,000
50,000
60,000
Construction Manuf. Retail Trade Professional& Biz
Services
Education &Health
Leisure &Hospitality
Government
Sources: US Bureau of Labor Statistics; Insurance Information Institute.
Employment fell by 17,000 in January, the first decline since Aug. 2003.
Manufacturing and Construction are always the hardest hit in an economic slowdown, with each losing more than 150,000 jobs over the past 12 months.
Dec. 2007 to Jan. 2008p
Unemployment Rate,(2007:Q1 to 2009:Q4F)
4.5% 4.5% 4.6%4.8%
5.0%5.2%
5.3% 5.4% 5.3% 5.3%5.2% 5.2%
3.0%
3.5%
4.0%
4.5%
5.0%
5.5%
6.0%
07:Q1 07:Q2 07:Q3 07:Q4 08:Q1 08:Q2 08:Q3 08:Q4 09:Q1 09:Q2 09:Q3 09:Q4
Sources: US Bureau of Labor Statistics; Blue Chip Economic Indicators (2/08); Insurance Info. Inst.
Rising unemployment rate negative impacts workers comp exposure and could signal a temporary claim
frequency surge
$0
$1,000
$2,000
$3,000
$4,000
$5,000
$6,000
$7,000
89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07*
$0
$5
$10
$15
$20
$25
$30
$35
$40
$45Wage & SalaryDisbursementsWC NPW
*As of 7/1/07 (latest available).Source: US Bureau of Economic Analysis; Federal Reserve Bank of St. Louis at http://research.stlouisfed.org/fred2/series/WASCUR; I.I.I. Fact Books
Wage & Salary Disbursements (Payroll Base) vs. Workers Comp
Net Written Premiums
7/90-3/91
Shaded areas indicate recessions
3/01-11/01
Wage & Salary Disbursement (Private Employment) vs. WC NWP$ Billions $ Billions
Weakening wage and salary growth is
expected to cause a deceleration in workers comp
exposure growth
Inflation Rate (CPI-U, %),1990 – 2009F
4.9 5.1
3.0 3.2
2.6
1.51.9
3.3 3.4
1.3
2.5 2.3
3.0
3.8
2.2
4.3
2.9
2.32.82.9
2.4
0
1
2
3
4
5
6
90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08* 08F 09F
*12-month change Jan. 2008 vs. Jan. 2007; CPI rose at 6.8% pace NSource: US Bureau of Labor Statistics; Blue Chip Economic Indicators, Feb. 10, 2008; Ins. Info. Institute.
Inflation was just 2.2% in 2007 but is accelerating. Medical cost inflation, important in WC, auto liability
and other casualty covers is running far ahead of inflation. Rising inflation can also lead to rate inadequacy and adverse reserve development
Potential Industry Groups for Insurer Exposure Growth
Industry Rationale
Health Care •Economic NecessityRecession Resistant•Demographics: aging/immigrationGrowth
Alternative Energy •Solar, Wind, Bio-Fuels, Hydro & Other
Agriculture & Food Processing & Manufacturing
•Consumer StapleRecession Resistant•Grain and land prices high due to global demand, weak dollar (exports)•Ethanol/Bio-Fuel Source•Acreage GrowingFarm Equipment, Transport•Benefits many other industries
Export Driven •Weak dollar, globalization persist; Cuba angle?
Natural Resources & Commodities
•Strong global demand, •Supplies remain tight…but beware of bubbles•Significant investments in R&D, plant & equip required
Sources: Insurance Information Institute
Credit Crunch: Key Points
Source: Insurance Information Institute
1. Credit Issue Will Ultimately Cost Hundreds of Billions Globally
• Problem exacerbated by leveraged bets taken by some financial institutions therefore its reach extends beyond simple defaults
2. Heavy Toll on Capital Base of Some Large Financial Institutions Worldwide; US Bond Insurers
• Cash infusions necessary; Sovereign Wealth Funds primary source
3. Most Significant Economic Event in a Generation• US economy will recover, but will take 18-24 months
4. Shuffling of Global Economic Deck; Economic Pecking Order Shifting
• China, oil producing countries hold the upper hand
5. IOUs are Being Redeemed• Stakes in hard assets/institutions demanded;
6. Good News: No Shortage of Available Capital• Central banks are (generally) making right decisions; Dollar sinks
Shareholder Class Action Lawsuits*
*Securities fraud suits filed in U.S. federal courts; 2008 figure is current through February 29.Source: Stanford University School of Law (securities.stanford.edu); Insurance Information Institute
164202
163
231188
111
173
242210215
497
267226237
182
118
176
24
0
100
200
300
400
500
600
91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08*
Pace of suits is up due in part to subprime issues,
housing collapse and market volatility.
Defendants include banks, investment banks,
builders, lenders, bond and mortgage insurers
Includes 44 suits related to subprime in 2007/08
Financial Restatements Filed Continue to Grow
116 158 216 233 270 330
613
1,195
1,538
514
0
200
400
600
800
1,000
1,200
1,400
1,600
1,800
1997 1998 1999 2000 2001 2002 2003 2004 2005 2006
Sources: Huron Consulting Group 1997-2002, Glass Lewis & Co. 2003-2006
Restatements can serve as starting points for plaintiff attorneys looking to form class actions
Restatements rose to a record 1,538 in 2006, as companies came under continuing intense scrutiny.
Origin of D&O Claims for Public Companies, 2006
Customers & Clients, 4%Competitors,
6%
Employees, 25%
Government, 2%
Other 3rd Party, 22%
Shareholders, 40%
40% of D&O suits originate
with shareholders
Source: Tillinghast Towers-Perrin, 2006 Directors and Officers Liability Survey.
Average Settlement Value of Shareholder Class Actions*
(Excl. Settlements Above $1 Billion)
$8.5 $8.8$10.7 $11.1
$15.7$13.9
$21.6$19.7
$24.7$22.7
$33.2
$23.8
$0
$5
$10
$15
$20
$25
$30
$35
96 97 98 99 00 01 02 03 04 05 06 07
Settlement values have been on the rise
The average settlement reached a record high of
$33.2 million in 2007
*Does not include partial or tentative settlements.Source: NERA Economic Consulting, Recent Trends in Shareholder Class Actions, Dec. 2007.
$ Millions
Shareholder Class Actions:Median Investor Losses vs. Ratio of
Settlement to Loss, 1991-2007*
$60 $62 $63$85
$66
$119$113
$176
$296$319
$333
$407
$310
$162
$217
$94$96
4.7%4.8%
5.9% 6.1%
7.2%
4.9%
4.0%
3.4%
2.1%2.4%
3.1%
2.4%2.9%
2.9%
4.7%
5.5%5.8%
$0
$50
$100
$150
$200
$250
$300
$350
$400
$450
91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07
Med
ian
In
vest
or L
osse
s
0%
1%
2%
3%
4%
5%
6%
7%
8%
Med
ian
Rat
io o
f In
vest
or L
oss
to
Set
tlem
ent
Median Investor Losses Median Rate of Settlement to Investor Losses (%)
Source: NERA Economic Consulting, Recent Trends in Shareholder Class Actions, Dec. 2007. *Refers to settlement year.
As losses rise, ratio of settlement to
loss has been falling.
Shareholders recovered 2.4% of losses in 2007
PROFITABILITY & PERFORMANCE
Profits in 2006/07 ReachedTheir Cyclical Peak
P/C Net Income After Taxes1991-2007F ($ Millions)*$1
4,17
8
$5,8
40
$19,
316
$10,
870
$20,
598
$24,
404 $3
6,81
9
$30,
773
$21,
865
$3,0
46
$30,
029
$63,
500
-$6,970
$63,
695
$44,
155
$20,
559
$38,
501
-$10,000
$0
$10,000
$20,000
$30,000
$40,000
$50,000
$60,000
$70,000
91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06
07E
*ROE figures are GAAP; 1Return on avg. surplus. 2007E figure is annualized actual 9-month net income of $49.399B **Return on Average Surplus; Actual 9-month 2007 result. Sources: A.M. Best, ISO, Insurance Information Inst.
2001 ROE = -1.2%2002 ROE = 2.2%2003 ROE = 8.9%2004 ROE = 9.4%2005 ROE= 9.6%2006 ROE = 12.2%2007E ROAS1 = 13.1%**
Insurer profits peaked in 2006/7
-5%
0%
5%
10%
15%
20%
US P/C Insurers All US Industries
ROE: P/C vs. All Industries 1987–2008E
*2007 is actual 9-month ROAS of 13.1%. 2008 P/C insurer ROE is I.I.I. estimate.Source: Insurance Information Institute; Fortune
Andrew Northridge
Hugo Lowest CAT losses in 15 years
Sept. 11
4 Hurricanes
Katrina, Rita, Wilma
P/C profitability is cyclical, volatile and vulnerable
Personal/Commercial Lines & Reinsurance ROEs, 2006-2008F*
14.0%
16.8%
12.3%
9.4%
13.2%
6.3%
9.8% 10.7%9.8%
0%
2%
4%
6%
8%
10%
12%
14%
16%
18%
Personal Commercial Reinsurance
2006 2007E 2008F
Sources: A.M. Best Review & Preview (historical and forecast).
ROEs are declining as underwriting
results deteriorate
-5%
0%
5%
10%
15%
20%
25%
75 76 77 78 79 80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 0607
E08
F
Profitability Peaks & Troughs in the P/C Insurance Industry,1975 – 2008F*
1975: 2.4%
1977:19.0% 1987:17.3%
1997:11.6%
2006:12.2%
1984: 1.8% 1992: 4.5% 2001: -1.2%
10 Years
10 Years 9 Years
*GAAP ROE for all years except 2007 which is actual 9-month ROAS of 13.1%. 2008 P/C insurer ROE is I.I.I. estimate.Source: Insurance Information Institute; Fortune
-4%
-2%
0%
2%
4%
6%
8%
10%
12%
14%
16%
18%
91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07E
ROE Cost of Capital
ROE vs. Equity Cost of Capital:US P/C Insurance:1991-2007E
Source: The Geneva Association, Ins. Information Inst.
The p/c insurance industry achieved its cost of capital in 2005/6 for the first time in many years
-13.
2 p
ts
+0.
2 p
ts
US P/C insurers missed their cost of capital by an average 6.7 points from 1991 to 2002, but on
target or better 2003-07
-0.1
pts
+1.
7 p
ts
-9.0
pts
The cost of capital is the rate of return
insurers need to attract and retain
capital to the business
+3.
1 p
ts
P/C, L/H Stocks: Ahead of the S&P 500 Index in 2008
-11.76%
-36.25%
-9.68%
-18.90%
-9.59%
-5.08%
-11.49%
-9.38%
-40.0% -30.0% -20.0% -10.0% 0.0%
S&P 500
All Insurers
P/C
Life/Health
Multiline
Reinsurance
Mortgage*
Brokers
*Includes Financial Guarantee.Source: SNL Securities, Standard & Poor’s, Insurance Information Inst.
Total YTD Returns Through February 29, 2008
P/C insurance stocks not affected as much as the overall
market by credit, subprime concerns
Mortgage & Financial Guarantee insurers were
down 69% in 2008
Top Industries by ROE: P/C Insurers Still Underperformed in 2006*
30.7%30.3%
26.4%24.6%
24.2%22.6%
21.8%21.5%
20.9%20.9%
20.5%19.6%19.4%19.1%
14.9%15.4%
31.8%
0% 5% 10% 15% 20% 25% 30% 35%
Oil & Gas Equip., ServicesPetroleum Refining
MetalsFood Services
Household & Pers. ProductsPharmaceuticals
Industrial & Farm EquipmentMining & Crude Oil Prod.
Aerospace & DefenseChemicalsSecurities
Food Consumer Prod.Medical Prod. & Equip.
Specialty RetailersHomebuilders
P/C Insurers (Stock)All Industries: 500 Median
*Excludes #1 ranked Airline category at 65.1% due to special one-time bankruptcy-related factors.Source: Fortune, April 30, 2007 edition; Insurance Information Institute
P/C insurer profitability in 2006 ranked 30th out of 50
industry groups despite renewed
profitabilityP/C insurers
underperformed the All Industry median for the 19th consecutive
year
FINANCIAL STRENGTH &
RATINGS Industry Has Weathered
the Storms Well, But Cycle Has an Impact Too
P/C Insurer Impairment Frequency vs. Combined Ratio, 1969-2007E
90
95
100
105
110
115
120
69
70
71
72
73
74
75
76
77
78
79
80
81
82
83
84
85
86
87
88
89
90
91
92
93
94
95
96
97
98
99
00
01
02
03
04
05
06
07
E
Co
mb
ine
d R
ati
o
0
0.2
0.4
0.6
0.8
1
1.2
1.4
1.6
1.8
2
Imp
air
me
nt
Ra
te
Combined Ratio after DivP/C Impairment Frequency
Impairment rates are highly correlated
underwriting performance and could reach near-record low in 2007
Source: A.M. Best; Insurance Information Institute
2006 impairment rate was 0.43%, or 1-in-233 companies, half the 0.86% average since 1969;
2007 will be lower; Record is 0.24% in 1972
Reasons for US P/C Insurer Impairments, 1969-2005
*Includes overstatement of assets.
Source: A.M. Best: P/C Impairments Hit Near-Term Lows Despite Surging Hurricane Activity, Special Report, Nov. 2005;
Catastrophe Losses8.6%
Alleged Fraud11.4%
Deficient Loss
Reserves/In-adequate Pricing62.8%
Affiliate Problems
8.6%
Rapid Growth
8.6%
2003-2005 1969-2005
Deficient reserves,
CAT losses are more important factors in
recent years
Reinsurance Failure3.5%
Rapid Growth16.5%
Misc.9.2%
Affiliate Problems
5.6%
Sig. Change in Business
4.6%
Deficient Loss
Reserves/In-adequate Pricing38.2%
Investment Problems*
7.3%
Alleged Fraud8.6%
Catastrophe Losses6.5%
Cumulative Average Impairment Rates by Best Financial Strength Rating*
0%
10%
20%
30%
40%
50%
60%
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15Average Years to Impairment
D
C/C-
C++/C+
B/B-
B++/B+
A/A-
A++/A+
Sources: A.M. Best: Best’s Impairment Rate and Rating Transition Study—1977-2002, March 1, 2004.
Insurers with strong ratings are far less likely to become impaired over
long periods of time. Especially important in long-tailed lines.
*US P/C and L/H companies, 1977-2002
UNDERWRITINGTRENDS
Extremely Strong 2006/07;Relying on Momentum &
Discipline for 2008
90
95
100
105
110
115
120
70
71
72
73
74
75
76
77
78
79
80
81
82
83
84
85
86
87
88
89
90
91
92
93
94
95
96
97
98
99
00
01
02
03
04
05
06
07
Combined Ratios
1970s: 100.3
1980s: 109.2
1990s: 107.8
2000s: 101.8*
Sources: A.M. Best; ISO, III *Estimate based on actual 9-month data.
P/C Insurance Combined Ratio, 1970-2007E*
115.8
107.4
100.198.3
100.7
92.593.8
90
100
110
120
01 02 03 04 05 06 07F
P/C Insurance Combined Ratio, 2001-2007E
Sources: A.M. Best; ISO, III. *Actual 9-month result.
2005 figure benefited from heavy use of reinsurance which lowered net losses
2006 produced the best underwriting result
since the 87.6 combined ratio in 1949
As recently as 2001, insurers were paying out nearly $1.16 for
every dollar they earned in premiums
2007 deterioration due primarily to falling rates, but results still strong assuming
normal CAT activity
87.6
91.2
92.1 92.3 92.4 92.593.1 93.1 93.3
93.8
93.0
85
86
87
88
89
90
91
92
93
94
95
1949 1948 1943 1937 1935 2006 1950 1939 1953 1936 2007E
Ten Lowest P/C Insurance Combined Ratios Since 1920 vs. 2007E
Sources: Insurance Information Institute research from A.M. Best data. *2007: III Earlybird survey.
2007 was one of the Top 12
best since 1920
The industry’s best underwriting years are associated with
periods of low interest rates
The 2006 combined ratio of 92.5 was the best since the 87.6 combined in 1949
-55-50-45-40-35-30-25-20-15-10-505
101520253035
75
76
77
78
79
80
81
82
83
84
85
86
87
88
89
90
91
92
93
94
95
96
97
98
99
00
01
02
03
04
05
06
07F
Source: A.M. Best, Insurance Information Institute *Actual 2007:9M underwriting profit = $18.146B annualized to $24.192B.
$ B
illi
ons
Insurers earned a record underwriting profit of $31.7 billion in 2006, the largest ever but only the
second since 1978. Expected gain for 2007 is approximately $24 billion. Cumulative
underwriting deficit since 1975 is $417 billion.
Underwriting Gain (Loss)1975-2007F*
U.S. Insured Catastrophe Losses*$7
.5
$2.7
$4.7
$22.
9
$5.5 $1
6.9
$8.3
$7.4
$2.6 $1
0.1
$8.3
$4.6
$26.
5
$5.9 $1
2.9 $2
7.5
$6.5
$100
.0
$61.
9
$9.2
$0
$20
$40
$60
$80
$100
$120
89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07
20??
*Excludes $4B-$6b offshore energy losses from Hurricanes Katrina & Rita. Note: 2001 figure includes $20.3B for 9/11 losses reported through 12/31/01. Includes only business and personal property claims, business interruption and auto claims. Non-prop/BI losses = $12.2B.Source: Property Claims Service/ISO; Insurance Information Institute
$ Billions
2006/07 were welcome respites. 2005 was by far the worst year ever for insured catastrophe losses in the US, but the worst has yet to come.
$100 Billion CAT year is coming soon
$1
0.8 $
22
.8 $3
3.4
$3
6.9
$1
8.9
($5.0)($6.0)($5.3)
$0.4
($7.0)
8.9
-1.1-1.3-1.6
4.5
-1.20.1
3.5
8.6
6.5
($10)
($5)
$0
$5
$10
$15
$20
$25
$30
$35
$40
00 01 02 03 04 05 06 07F 08F 09F
Re
se
rve
De
ve
lop
me
nt
($B
)
(3)(2)(1)012345678910
Co
mb
ine
d R
ati
o P
oin
ts
PY Reserve DevelopmentCombined Ratio Points
Impact of Reserve Changes on Combined Ratio
Source: A.M. Best, Lehman Brothers estimates for years 2007-2009
Reserve adequacy has
improved substantially. Inflation is a
threat.
Cumulative Prior Year Reserve Development by Line (As of 12/31/06)
-$1,
886 -$
1,17
4
-$1,
116
-$77
9
-$47
5
-$41
3
-$25
4
-$10
0
-$10
0
-$96
-$53
-$48
$366
$1,176$1,172
-$3,006-$3,500
-$3,000
-$2,500
-$2,000
-$1,500
-$1,000
-$500
$0
$500
$1,000
$1,500
PPA Liab
ility
PPA PD
Home
Med
Mal
Special
ty P
rop
Comm
. Auto
Prod. L
iabili
ty
Finl.
Guaran
ty
Inte
rnat
ional
Other
Special
ty L
iab.
Wor
ker's
Comp
Fideli
ty/S
urety
Comm
ercia
l Mul
ti
Other
Liab
ility
Reinsu
rance
$ B
illi
ons
Sources: Lehman Brothers; A.M. Best’s Aggregates & Averages Schedule P, Part 2.
Reserve redundancies in most lines have resulted
in releases in recent years
Release
Strengthening
110.
3
110.
2
107.
6
103.
9
109.
7
112.
3
111.
1
122.
3
110.
2
102.
5
105.
4
91.2 94
.0 97.5
102.
0
112.
5
85
90
95
100
105
110
115
120
125
93 94 95 96 97 98 99 00 01 02 03 04 05 06 07E 08F
Recent results benefited from favorable loss cost trends, improved tort environment, low CAT losses, WC reforms and reserve releases
Commercial coverages have exhibited significant
variability over time.
Commercial Lines Combined Ratio, 1993-2008F
Outside CAT-affected lines, commercial insurance is
doing fairly well. Caution is required in underwriting
long-tail commercial lines.
Sources: A.M. Best (historical and forecasts)
KEY COMMERCIAL LINES
PERFORMANCE
112.
1
112
113 11
5.9 12
0.5
120.
1
106.
6
99.4
96.6
93.4
94
96.7
102.
2 105.
6 108.
9 112.
1
105.
9
101.
6
93.8
84.5
82.8
88.3
87.7
94.5 98
122.5
80
85
90
95
100
105
110
115
120
125
95 96 97 98 99 00 01 02 03 04 05 06 07E* 08F*
Comm Auto Liab Comm Auto PD
Commercial Auto Liability& PD Combined Ratios
Average Combined: Liability = 108.8
PD = 97.5
Commercial Auto has improved dramatically
Sources: A.M. Best (historical and forecasts) *Includes both liability and property damage.
119.0
119.8
108.5
125.0
113.1
115.0
121.0
116.2
116.1
104.9
101.9 105.5
100.7
116.8
113.6
115.3
122.4
115.0
117.0
97.3
89.0
97.7
93.8
83.6
93.5
98.0
80
85
90
95
100
105
110
115
120
125
130
95 96 97 98 99 00 01 02 03 04 05 06 07E* 08F*
CMP-Liability
CMP-Non-Liability
Commercial Multi-Peril Combined (Liability vs. Non-Liability Portion)
Liab. Combined 1995 to 2004 = 113.8
Non-Liab. Combined = 105.2
CMP- has improved recently
Sources: A.M. Best (historical and forecasts) *Includes both liability and property damage.
99.8 10
6.6
107.
9 115.
7
129.
7
133.
8
154.
8
142.
3
137.
5
111
101
91.2
83
94.5
138.
6
117.
6
104.
5 110.
9
122.
5
124.
3
115.
9
117.
4
113.
1
99
104.
5
108.
5
112.
3
95.4
80
90
100
110
120
130
140
150
160
95 96 97 98 99 00 01 02 03 04 05 06 07E 08F
Med MalProducts & Other Liability*
Medical Malpractice & Products & Other Liability* Combined Ratios
Tort sensitive lines improved
dramatically since the early 2000s, but
some deterioration is now occurring
Sources: A.M. Best (historical and forecasts) *Includes professional liability, D&O, E&O, Excess Casualty/Umbrella, Environmental/Pollution, GL and EPL.
Workers Comp Calendar Year vs. Ultimate Accident Year – Private Carriers
101
97
111
110
107
103
95
101 10
6
119
131
140
135
123
88 87 87
101.
5
98.5
100
101 10
7 115 11
8 122
97
104
96
80
90
100
110
120
130
140
94 95 96 97 98 99 00 01 02 03 04 05 06p 07E 08F
Calendar Year Accident Year
Percent
p Preliminary AY figure. Accident Year data is evaluated as of 12/31/2006 and developed to ultimateSource: Calendar Years 1994-2005, A.M. Best Aggregates & Averages; Calendar Year 2006p and Accident Years 1994-2006pbased on NCCI Annual Statement Analysis.
Includes dividends to policyholders *2007/2008 figures are A.M. Best estimates/forecasts.
Workers Comp Combined Ratios, 1994-2008F*
Lost-Time Claims
-4.2 -4.4
-6.9
-4.5 -4.1 -3.9
-6.8
-9.2
0.3
-6.5
-4.5
0.5
-3.9
-2.3
-4.5
-6.6
-10
-8
-6
-4
-2
0
2
91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06p
Cumulative Change of –52.1%since 1991 means that lost work
time claims have been cut by more than half
Accident Year
Percent Change
Workers Comp Lost-TimeClaim Frequency (% Change)
2003p: Preliminary based on data valued as of 12/31/20061991-2005: Based on data through 12/31/2005, developed to ultimateBased on the states where NCCI provides ratemaking servicesExcludes the effects of deductible policiesSource: NCCI
4.5%3.6%
2.8% 3.2% 3.5%4.1%
4.6% 4.7%4.0% 4.4% 4.2% 4.0%
5.1%
7.4%
10.1%
8.3%
10.6%
8.2%
14.0%
7.4%
9.0%
6.8%
11.7%
7.5%
0%
2%
4%
6%
8%
10%
12%
14%
16%
1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006
Change in Medical CPIChange Med Cost per Lost Time Claim
WC Medical Severity Rising Far Faster than Medical CPI
Sources: Med CPI from US Bureau of Labor Statistics, WC med severity from NCCI based on NCCI states.
3.5
pts
WC medical severity rose more than twice as fast as the medical CPI (8.8% vs. 4.0%)
from 1995 through 2006
Med Costs Share of Total Costs is Increasing Steadily
Indemnity55%
Medical45%
Source: NCCI (based on states where NCCI provides ratemaking services).
Indemnity52%
Medical48%
Indemnity41%
Medical59%1986
1996
2006p
PREMIUM GROWTH
At a Virtual Standstillin 2007/08
-10%
-5%
0%
5%
10%
15%
20%
25%
1970
1971
1972
1973
1974
1975
1976
1977
1978
1979
1980
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
Note: Shaded areas denote hard market periods.Source: A.M. Best, Insurance Information Institute
Strength of Recent Hard Markets by NWP Growth*
1975-78 1984-87 2001-04
*2007 figure is actual 9-month figure.
Post-Katrina period resembles
1993-97 (post-Andrew)
2007: 0.0% premium growth is the lowest since 1943
Growth in Net Written Premium, 2000-2008F
*2007 figure based on actual 9-month results.Source: A.M. Best;
5.0%
8.4%
15.3%
10.0%
3.9%
0.5%
2.7%
0.0%
2000 2001 2002 2003 2004 2005 2006 2007*
P/C insurers are experiencing their slowest growth rates since 1943…
but underwriting results are expected to remain relatively healthy
Personal/Commercial Lines & Reinsurance NPW Growth, 2006-2008F
2.0% 3.5%
28.1%
-0.1%
-1.5%
1.4%
-2.3%
-8.5%-5.0%
-15%
-10%
-5%
0%
5%
10%
15%
20%
25%
30%
Personal Commercial Reinsurance
2006 2007E 2008F
Sources: A.M. Best Review & Preview (historical and forecast).
Net written premium growth is expected to be slower for commercial insurers and reinsurers
109.4110.2
118.8
109.5
112.5
110.2
107.6
104.1
109.7 110.2
102.5
105.4
90.5
102.0
111.1112.3
122.3
$7.3
0
$6.4
9
$13.
91
$13.
15
$11
.94
$11
.95
$8.3
0
$13.
50
$8.4
2
$4.8
3
$5.2
0
$5.7
1
$5.2
5
$5.7
0
$7.7
0
$6.4
0
$6.1
0
90
95
100
105
110
115
120
125
90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06
Co
mm
erc
ial L
ine
s C
om
bin
ed
Ra
tio
($1)
$1
$3
$5
$7
$9
$11
$13
$15
Co
st
of
Ris
k/$
10
00
Re
ve
nu
e
CommercialCombined Ratio
Cost of Risk
Source: RIMS, A.M. Best 2007 Aggregates & Averages; Insurance Information Institute
Cost of Risk vs. Commercial Lines Combined Ratio
How the Risk Dollar is Spent (2006)
Source: RIMS (2007); Insurance Information Institute
Firms w/Revenues < $1 Billion
Prof. Liability Costs, 7%
Other Costs, 4%
Property Premiums,
18%
Retained Property
Losses, 5%
Liability Premiums,
20%
Admin Costs, 14%
WC Premiums,
14%
Liability Retained
Losses, 5%
Total Mgmt. Liab., 5%
Retained WC Losses, 7%
Firms w/Revenues > $1 Billion
Retained WC, 21%
Other Costs, 4%
Property Premiums,
13%Retained Property
Losses, 11%
Liability Premiums,
11%
Total Mgmt. Liab., 7%
WC Premiums,
5%
Retained Liability
Losses, 13%
Admin Costs, 12%
Prof. Liability Costs, 2%
Total liability costs account for 30% - 35% of the risk dollar
COMPETIVE PRICING
Intense Competitive Pressure in 2007/08,
Especially Commercial
Average Commercial Rate Change,All Lines, (1Q:2004 – 4Q:2007)
-3.2
%
-5.9
%
-7.0
%
-9.4
%
-9.7
% -8.2
%
-4.6
% -2.7
%
-3.0
%
-5.3
%
-9.6
%
-11.
3%
-11.
8%
-13.
3% -12.
0%
-16%
-14%
-12%
-10%
-8%
-6%
-4%
-2%
0%
1Q04
2Q04
3Q04
4Q04
1Q05
2Q05
3Q05
4Q05
1Q06
2Q06
3Q06
4Q06
1Q07
2Q07
3Q07
4Q07
Source: Council of Insurance Agents & Brokers; Insurance Information Institute
Magnitude of rate decreases diminished greatly after Katrina but have grown again
KRW Effect
-0.1
%
Cumulative Commercial Rate Change by Line: 4Q99 – 4Q07
Source: Council of Insurance Agents & Brokers
Commercial account pricing has been trending down for 3+ years and is now on par with prices in late 2001, early 2002
Average Commercial Rate Changes by Line: 4Q99 – 4Q07
Source: Council of Insurance Agents & Brokers
Commercial account pricing has been trending down for 3+ years and is now on par with prices in late 2001, early 2002
Post-Katrina bump was short-lived
Rate Changes by Line,4th Qtr. 2005
-1.0% -0.9%
-4.6% -4.7%
-2.0%
-2.7%
-0.4%
-4.6%
0.2%
-4.2%
-3.0%
-5%
-4%
-3%
-2%
-1%
0%
1%
Comm Prop BizInterruption
Comm Auto WC GL Umbrella EPL D&O Surety Const. ALL Lines
Source: Council of Insurance Agents & Brokers; Insurance Information Institute
Strong tightening in 05Q4—the Katrina effect
Rate Changes by Line,4th Qtr. 2007
-13.0%
-8.9%
-11.9%-13.0%
-11.9%
-7.6%
-9.3%
-12.2%
-1.7%
-11.0%
-6.1%
-14%
-12%
-10%
-8%
-6%
-4%
-2%
0%
Comm Prop BizInterruption
Comm Auto WC GL Umbrella EPL D&O Surety Const. ALL Lines
Source: Council of Insurance Agents & Brokers; Insurance Information Institute
ALTERNATIVE RISK TRANSFER
Total Commercial Risk Protection Market (US, 2004)
Commercial Insurance, 70%
Alternatives, 30%
Source: Conning; MarketStance analysis; Insurance Information Institute.
Alternative market mechanisms cover
about 30 percent of the total commercial risk
protection market
$ Billions
Alternative markets include captives, RRGs,
large deductible programs, etc.
U.S. Domiciled Captives- Net Premiums Written ($ Millions)
$8.4
$9.0
$9.3
$9.9
$10.2
$8.0
$8.5
$9.0
$9.5
$10.0
$10.5
2002 2003 2004 2005 2006
$ M
illi
ons
Source: A.M. Best, 2007 Special Report: U.S. Captive Insurers – 2006 Market Review
Following a five-year period of rapid growth, U.S. captive insurers saw net premiums written increase by just 2.7 percent in 2006, after 6.2 percent growth in 2005.
Risk Retention Group Premiums,1988 – 2006*
$1,7
37.7 $2
,197
.8
$2,4
49.1
$2,7
73.7
$585
.8
$527
.2
$493
.7
$493
.6
$419
.3
$358
.4
$250
.2 $575
.5
$707
.6
$751
.9
$790
.5
$875
.3
$775
.5
$944
.0 $1,2
65.1
0
500
1,000
1,500
2,000
2,500
3,000
88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06*
*2006 ProjectedSource: Risk Retention Reporter, Insurance Info. Institute
Millions of Dollars
Risk retention (& self-insurance) group premiums have risen rapidly in recent years and represent a form
of competition to traditional insurers and captives
733
542
380
382
242
208
165
158
989
740
563
381
235
208
161
160
166*
*
987*
169*
*
383*
0
200
400
600
800
1,000
Berm
uda
Caym
ans
Verm
ont
BVI
Guer
nsey
Barbad
os
Luxem
bourg
Turks &
Cai
cos
Isle
of M
an
Haw
aii
2005 2006
Leading Captive Domiciles Worldwide, 2005 vs. 2006
Mixed growth rates in captive domiciles worldwide in 2006 as competition intensifies in
traditional market.
*BI estimate. **Excludes credit life insurers.
Sources: Business Insurance, March 12, 2007, III
542
158
122
58 53 59
33 15 13 15 6
563
160
146
97
74 70
39 30 21 17 10
0
100
200
300
400
500
600
VT HI SC NV AZ DC NY UT MT GA KY
2005 2006
Leading US Captive Domiciles, 2005 vs. 2006
U.S. captive domiciles experienced dramatic
growth in 2006.
Sources: Business Insurance, March 12, 2007; III
100%
67%
67%
62%
40%
20%
19%
18%
13%
4% 1.3%
0
0
0
1
1
1
1
UT NV KY MT AZ SC DC NY GA VT HI
Fastest Growing US Captive Domiciles, 2006 over 2005
Newer U.S. captive domiciles led the way in growth rates in 2006,
but from small bases in 2005 (e.g., UT increased from 15 domiciles in
2005 to 30 in 2006)
Sources: Business Insurance, March 12, 2007; III
RISING EXPENSES
Expense Ratios Rise as Premium Growth Slows:A Cyclical Phenomenon
Personal vs. Commercial Lines Underwriting Expense Ratio*
23.4%24.3%
25.0%27.1%
24.4%
24.5%24.8%25.6%
24.6%
25.6%24.7%
26.1%26.6%
27.5%
30.8%
27.0%
26.3%26.4%25.6%
30.0%
31.1%
29.4%
29.9%29.1%
26.6%
25.0%
20%
22%
24%
26%
28%
30%
32%
96 97 98 99 00 01 02 03 04 05 06 07E 08F
Personal Commercial
*Ratio of expenses incurred to net premiums written.Source: A.M. Best; Insurance Information Institute
Expenses ratios will likely rise as premium growth slows
43.6
%
43.2
%
42.8
%
38.8
%
37.5
%
36.7
%
34.8
%
32.7
%
27.6
%
27.3
%
26.5
%
25.9
%
26.0
%
26.1
%
27.4
%
25.5
%
26.3
%
20.0
%
0%
5%
10%
15%
20%
25%
30%
35%
40%
45%
50%
30 35 40 45 50 55 60 65 70 75 80 85 90 95 00 05 06 17
Underwriting Expense Ratio, P/C Insurance, 1930-2006
Source: A.M. Best; Insurance Information Institute.
TRANSFORMATIONAL CHANGE: Taking down the cost of selling insurance to 20% of premium or less by 2017 would
be transformational.
CAPACITY/SURPLUS
Accumulation of Capital/ Surplus Depresses ROEs
$0
$50
$100
$150
$200
$250
$300
$350
$400
$450
$500
$550
75 76 77 78 79 80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 0607*
U.S. Policyholder Surplus: 1975-2007*
Source: A.M. Best, ISO, Insurance Information Institute. *As of September 30, 2007
$ B
illi
ons
“Surplus” is a measure of underwriting capacity. It is analogous to “Owners Equity” or “Net Worth” in non-insurance organizations
Capacity as of 9/30/07 was $521.8B, 5.3% above year-end
2006, 80% above its 2002 trough and 54% above its 1999 peak.
Premium-to-surplus ratio neared a record
low of $0.84:$1 at year end 2007, suggesting
excess capital
Capacity exceeded a half trillion dollars for the first time during
the 2nd quarter of 2007
Q3 = First 3 quarters as of 9/30/07Source: Insurance Information Institute; 1985–2006, A.M. Best Aggregates & Averages;; 2007 ISO
0
100
200
300
400
500
600
0.0
0.5
1.0
1.5
2.0
2.5
NWP Surplus P:S Ratio
$ Billions P:S Ratio
Calendar Year
P/C Industry Premium-to-SurplusRatio, 1985-2007:Q3
Private Carriers
$521.8B
$76 B
$145 B
$450 B
Low P:S Ratio 0.84:1 in 1998 0.86:1
1.92:1
At 0.86:1 as of 9/30/07, now approaching record premium-to-
surplus ratio of 0.84:1 in 1998
Annual Catastrophe Bond Transactions Volume, 1997-2007
$1,729.8
$966.9
$7,329.6
$4,693.4
$1,991.1
$1,142.8$1,219.5$846.1$984.8$1,139.0
$633.0
$0
$1,000
$2,000
$3,000
$4,000
$5,000
$6,000
$7,000
$8,000
97 98 99 00 01 02 03 04 05 06 07
Ris
k C
apita
l Iss
ues
($ M
ill)
0
5
10
15
20
25
30
35
Nu
mb
er o
f Iss
uan
ces
Risk Capital Issued Number of Issuances
Source: MMC Securities Guy Carpenter, A.M. Best; Insurance Information Institute.
Catastrophe bond issuance has soared in the wake of Hurricanes
Katrina and the hurricane seasons of 2004/2005, despite two
quiet CAT years
P/C Insurer Share Repurchases,1987- Through Q3 2007 ($ Millions)
$564
.0
$646
.9
$311
.0
$952
.4
$418
.1
$566
.8
$310
.1
$658
.8
$769
.2
$4,5
86.5
$5,2
66.0
$763
.7
$5,2
42.3
$4,3
70.0 $7,0
94.1
$17,412.7
$4,4
97.5
$1,5
39.9
$2,7
64.2
$2,3
85.6
$4,2
97.3
$0
$2,000
$4,000
$6,000
$8,000
$10,000
$12,000
$14,000
$16,000
$18,000
$20,000
87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06
07Q
3
Sources: Credit Suisse, Company Reports; Insurance Information Inst.
First 9-months 2007 share buybacks are already
133% of the 2006 record
Reasons Behind Capital Build-Up & Repurchase Surge
•Strong underwriting results
•Moderate catastrophe losses
•Reasonable investment performance
•Lack of strategic alternatives (M&A, large-scale expansion)
Returning capital owners (shareholders) is one of the
few options available
2007 repurchases to date equate to 4.4% of industry surplus, the highest in 20 years
Largest Sovereign Wealth Funds($ Billions, as of September 2007)
$341
$330
$300
$250
$200
$159
$50
$43
$40
$38
$875
$0 $200 $400 $600 $800 $1,000
United Arab Emirates
Norway
Singapore (GIC)
Saudi Arabia
Kuwait
China
Singapore (Tamasek)
Libya
Algeria
Qatar
US (Alaska)
Source: Morgan Stanley; Council of Foreign Relations http://www.cfr.org/publication/15251/#2; Insurance Information Institute
Abu Dhabi Investment Authority
controls some $875 billion in assets
Though not major investors in the insurance industry, SWFs held nearly
$3 trillion in assets, double the $1.5 trillion of hedge funds but a fraction
of the $53 trillion held by institutional investors like hedge
funds and endowments
MERGER & ACQUISITION
Are Catalysts for P/C Consolidation Growing
in 2008?
P/C Insurance-Related M&A Activity, 1988-2006
$2,4
35
$5,1
00
$19,
118
$40,
032
$1,2
49
$486
$20,
353
$425
$9,2
64
$35,
221
$55,825
$30,
873
$8,0
59
$11,
534
$1,8
82
$3,4
50
$2,7
80
$5,1
37
$5,6
38
$0
$10,000
$20,000
$30,000
$40,000
$50,000
$60,000
88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06
Tran
sact
ion
Val
ue ($
Mill
)
0
20
40
60
80
100
120
140
Num
ber o
f Tra
nsac
tions
Transaction Values Number of Transactions
Source: Conning Research & Consulting.
M&A activity began to accelerate during the second
half of 2007
Motivating Factors for Increased P/C Insurer Consolidation
Motivating Factors for P/C M&As• Slow Growth: Growth is at its lowest levels since the late 1990s
NWP growth was 0% in 2007; Appears similarly flat in 2008 Prices are falling or flat in most non-coastal markets
• Accumulation of Capital: Excess capital depresses ROEs Policyholder Surplus up 6-7%% in 2007 and up 80% since 2002 Insurers hard pressed to maintain earnings momentum Options: Share Buybacks, Boost Dividends, Invest in Operation, Acquire Option B: Engage in destructive price war and destroy capital
• Reserve Adequacy: No longer a drag on earnings Favorable development in recent years offsets pre-2002 adverse develop.
• Favorable Fundamentals/Drop-Off in CAT Activity Underlying claims inflation (frequency and severity trends) are benign Lower CAT activity took some pressure of capital base
Source: Insurance Information Institute.
Distribution Sector: Insurance-Related M&A Activity, 1988-2006
$542
$446
$1,9
34
$7$1,633
$2,7
20
$689
$60 $2
12
$944
$0
$500
$1,000
$1,500
$2,000
$2,500
$3,000
96 97 99 00 01 02 03 04 05 06
Tran
sact
ion
Val
ue ($
Mill
)
0
50
100
150
200
250
300
Num
ber o
f Tra
nsac
tions
Transaction Values Number of Transactions
Source: Conning Research & Consulting.
No extraordinary trends evident
Distribution Sector M&A Activity, 2005 vs. 2006
Source: Conning Research & Consulting
Title9%Insurer
Buying Distributor
7%
Agency Buying Agency
51%
Other4%
Bank Buying Agency
29%
2005 2006
Title4%
Insurer Buying
Distributor7%
Agency Buying Agency
62%
Other2%
Bank Buying Agency
25%
Number of bank
acquisitions is falling
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
72 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06
Direct Independent Agents
Commercial P/C Distribution Channels, Direct vs. Independent Agents
Source: Insurance Information Institute; based on data from Conning and A.M. Best.
Direct channels account for less than 30% of commercial
insurance purchases (vs. 65% personal lines)
INVESTMENT OVERVIEW
More Pain, Little Gain
Property/Casualty Insurance Industry Investment Gain1
$ Billions
$35.4
$42.8$47.2
$52.3
$44.4
$36.0
$45.3$48.9
$59.4$55.7
$63.6
$56.9$51.9
$57.9
$0
$10
$20
$30
$40
$50
$60
94 95 96 97 98 99 00 01 02 03 04 05* 06
07**
1Investment gains consist primarily of interest, stock dividends and realized capital gains and losses. 2006 figure consists of $52.3B net investment income and $3.4B realized investment gain. *2005 figure includes special one-time dividend of $3.2B. **Annualized 9-month result of $47.718B.Sources: ISO; Insurance Information Institute.
Investment rose in 2007 but are just 9.8% higher than what they were
nearly a decade earlier in 1998
2%
3%
4%
5%
6%
7%
8%
9%
90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08*
P-C Inv Income/Inv Assets 10-Year Treasury Note
P/C Investment Income as a % of Invested Assets Follows 10-Year US T-Note
*As of January 2008 month-end.Sources: Board of Governors, Federal Reserve System; A.M.Best; Insurance Information Institute.
Investment yield historically tracks 10-year Treasury note quite closely
REINSURANCE MARKETS
Reinsurance Prices are Stabilizing; Falling in Some
Areas
Share of Losses Paid by Reinsurers, by Disaster*
30%25%
60%
20%
45%
0%
10%
20%
30%
40%
50%
60%
70%
Hurricane Hugo(1989)
Hurricane Andrew(1992)
Sept. 11 TerrorAttack (2001)
2004 HurricaneLosses
2005 HurricaneLosses
*Excludes losses paid by the Florida Hurricane Catastrophe Fund, a FL-only windstorm reinsurer, which was established in 1994 after Hurricane Andrew. FHCF payments to insurers are estimated at $3.85 billion for 2004 and $4.5 billion for 2005.Sources: Wharton Risk Center, Disaster Insurance Project; Insurance Information Institute.
Reinsurance is playing an increasingly
important role in the financing of mega-
CATs;
US Reinsurer Net Income& ROE, 1985-2006
$1.9
4
$2.0
3
$1.9
5 $3.7
1
$4.5
3
$5.4
3
$1.4
7
$1.9
9
$1.3
1 $3.1
7
$3.4
1
$2.5
1
$9.6
8
($2.98)
$0.1
2
$1.9
5
$1.3
8
$1.2
2
$1.8
7
$1.1
7 $2.5
2
$1.7
9
($4)
($2)
$0
$2
$4
$6
$8
$10
$12
85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06
Net
Inco
me
($ B
ill)
-10%
-5%
0%
5%
10%
15%
20%
RO
E
Net Income ROE
Source: Reinsurance Association of America.
Reinsurer profitability has rebounded
Summary of Risks to Reinsurers: Economic
Risk Impacts on Reinsurers
General Economic Slowdown/Recession
•Reduced exposure growth for primary insurers negatively impacts reinsurer premium growth
Subprime Meltdown/ Credit Crunch
•Some insurers have some asset risk•D&O/E&O/Financial Guarantee exposure for some (re)insurers•More difficult to raise capital if needed•Post-crash: new regulations, acctg. Rules
Falling Interest Rates/ Stock Market Slump
•Lower investment income•Deteriorating loss performance on neglected, abandoned and foreclosed properties
Currency Risks •Weak dollar repatriation of profits less attractive
Inflation •Rate inadequacy occurs more rapidly•Reserve deficiencies emerge•Burn-through of retentions faster
Tax Policy •Potential crackdown on tax havens and certain tax treatments globally
Summary of Risks to Reinsurers: Competitive Risks
Risk Impacts on Reinsurers
Soft Markets Loss of Pricing & Underwriting Discipline
•Highly competitive reinsurance market, excess capacity could lead to unfavorable reinsurance environment as:•Pricing weakens•Reserve adequacy deteriorates•Terms & conditions broaden•Multi-year deals become more common
Disintermediation •Increasing securitization of CAT, casualty & mortality risk•Higher retentions (attachment points)•More government-run reinsurers
Consolidation •Could face larger, better capitalized competitors with global scale and scope•Reinsurance broker concentration rising
Ease of Entry •Barriers to entry into reinsurance business are low and getting lower•Large number of alternative sources of capital•Class of 20XX will compete against you someday
Sources: Insurance Information Institute.
Summary of Risks to Reinsurers: Property Risks
Risk Rationale
Escalation of Insured Losses Due to Major Natural CATs
•Long-term trend is clearly toward larger scale CAT losses•Demand surge•Accuracy of CAT models; Forecast horizons?•Litigation challenging contract language
Mega Man-Made Disasters
•Multi-billion dollar marine hull & cargo losses now possible•Aviation hull PML up (e.g., A380)•Mega-scale energy sector losses possible•Potential simultaneous casualty exposure
Terrorism •Despite TRIA (and other programs abroad) costs could still be high
Emerging Markets •Large CAT losses outside US will be more common; Risks not well understood
Sources: Insurance Information Institute.
Summary of Risks to Reinsurers: Casualty Risks
Risk Rationale
Credit Crunch/ Subprime Meltdown
•D&O/E&O exposure
Products Liability/ Incl. Food Safety
•Large number of high profile issues•US beefing up enforcement, fines•More opportunities for trial lawyers
Climate Change •Supreme Court ruled EPA can regulate CO2 emissions as a pollutant; Potentially opens door to much future litigation•Alternative fuels, sequestration liability
Employment Practices Liability
•EPL cover more common for even smaller risks. Reinsurers have accommodated•Economic downturn will increase litigation
Nanotechnology •Long-term risks associated with use of nanotech products is unknown
Summary of Risks to Reinsurers: Casualty Risks (cont’d)
Risk Rationale
Pharmaceuticals •Remains major trial lawyer target despite tort reforms•Shift from chemistry-based to gene-based therapies could shift liability environment
Environmental •“Greening” of US, Europe and even China may lead to more stringent environmental regulations and harsher penalties•More opportunities to sue created
Latent Disease in Occupational Settings
•Evidence associating certain degenerative neurological disorders (e.g., Parkinson’s) with occupation, but manifesting years later•Lung ailments also an issue
Erosion of Tort Reforms
•New tort reforms less likely under current Congress•Erosion of recent reforms inevitable•Export of US tort experience abroad
Sources: Insurance Information Institute.
Summary• Economy will provide muted bumps for insurers• Results were excellent in 2006/07; Overall profitability reached its highest level
(est. 13-14%) since 1988 Strong 2007 but ROEs slipping; Momentum for 2008
• Underwriting results were aided by lack of CATs & favorable underlying loss trends, including tort system improvements
• Property cat reinsurance markets past peak & more competitive• Premium growth rates are slowing to their levels since WW II; Commercial
leads decreases.• Rising investment returns insufficient to support deep soft market in terms of
price, terms & conditions as in 1990s• How/where to deploy/redeploy capital??• Major Challenges:
Slow Growth Environment Ahead; Cyclical & EconomicMaintaining price/underwriting disciplineManaging variability/volatility of resultsManaging regulatory/legislative activism
Insurance Information Institute On-Line
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