The Property/Casualty Insurance Industry Today

Critical Issues & Emerging RisksSeptember 3, 2003

Robert P. Hartwig, Ph.D., CPCU, Senior Vice President & Chief EconomistInsurance Information Institute 110 William Street New York, NY 10038

Tel: (212) 346-5520 Fax: (212) 732-1916 bobh@iii.org www.iii.org

Presentation Outline

• Profitability Issues What Does Wall Street Think of Us?Economic Concerns

• Underwriting Performance• (In)Solvency Concerns• Investment Performance• Capacity Crunch?

US, World, Bermuda, Captives• Pricing• Tort Environment• Emerging Risks• Q & A

P/C PROFITS:

NO LONGER AN OXYMORON

Highlights: Property/Casualty First Quarter 2003 ($ Millions)

2003 2002 Change

Net Written Prem. $101,329 $89,874 +12.7%

Loss & LAE 69,956 63,185 +10.7%

Net UW Gain (Loss) (1,461) (3,644) -59.9%

Net Inv. Income 8,984 9,007 -0.3%

Net Income (a.t.) 6,365 5,279 +20.6%

Surplus* 289,167 285,235 +1.4%

Combined Ratio** 99.5 107.2 -7.7 pts.*Comparison with year-end 2002.

**Comparison is with full year 2002 combined ratio. Comparable 1st quarter 2002 figure is 102.2.

P/C Net Income After Taxes1991-2003* ($ Millions)

$14,178

$5,840

$19,316

$10,870

$20,598

$24,404

$36,819

$30,773

$21,865$20,559

-$6,970

$2,903$6,365

-$10,000

$0

$10,000

$20,000

$30,000

$40,000

91 92 93 94 95 96 97 98 99 00 01 02 03*

*First quarterSources: A.M. Best, ISO, Insurance Information Institute.

2001 was the first year ever with a full year net loss

2002 ROE = 1.0%

2003 ROE = 8.8%*

-5%

0%

5%

10%

15%

20%

87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03F

US P/C Insurers All US Industries

ROE: P/C vs. All Industries 1987–2003E*

*2003 p/c estimate based on first quarter data.Source: Insurance Information Institute; Fortune

-5%

0%

5%

10%

15%

20%

1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003E

ROE Cost of Capital

ROE vs. Cost of Capital: US P/C Insurance: 1991 – 2003E

Source: The Geneva Association, Ins. Information Inst.

The gap between the industry’s cost of capital and its rate of return is narrowing

14.6

pts

10.2

pts

US P/C insurers missed their cost of capital by an average 6.9 points from 1991 to 2002

2.2

pts

After-Tax ROE for Selected AY Combined Ratios*

*Assumes 4% tax-equivalent yield, 28% expense ratio and 140% premium/surplus ratioSource: Dowling & Partners Securities

23.5%21.8%

20.1%18.4%

16.6%14.9%

13.2%11.5%

9.8%8.1%

6.3%

2.1%

80% 82% 84% 86% 88% 90% 92% 94% 96% 98% 100% 105%

RNW for Major P/C Lines,1992-2001 Average

17.0%

14.0%

9.6% 9.5% 8.6%7.4% 7.2%

3.4%

0.9%

-3.4%

-14.8%

9.8%7.9%

-15%

-10%

-5%

0%

5%

10%

15%

20%

InlandMarine

AllOther

PersonalAuto

MedMal

WC Fire All Lines OtherLiab

CommAuto

CMP FMP HO Allied

Source: NAIC; Insurance Information Institute

10-Year returns for some major p/c lines surprisingly

good, but…

-5%

0%

5%

10%

15%

20%

25%

US P/C Insurers All US Industries Life

Diversified Finl. Comm. Banks

ROE: Financial Services Industry Segments, 1987–2002

Source: Insurance Information Institute; Fortune

WALL STREET:

HIGH EXPECTATIONS

P/C Performance Volatile, Underperforming S&P 500 Lately

-25.7%

43.4%

-1.2%-6.4%

10.0%

21.0%

-9.1% -10.9%

-23.4%

14.6%

-50%

-40%

-30%

-20%

-10%

0%

10%

20%

30%

40%

50%

1999 2000 2001 2002 2003*

P/C S&P 500

*Through August 29, 2003.Source: SNL Securities, Insurance Information Institute

P/C Insurer Stocks: Lagging the S&P 500

3.48%

8.46%

10.02%

11.20%

15.09%

14.56%

35.56%

0% 10% 20% 30% 40%

Nasdaq

S&P 500

Life/Health

All Insurers

P/C

Brokers

Multiline

Source: SNL Securities, Insurance Information Institute

Total Return 2003 YTD Through August 29, 2003

Swiss Re stock price is down 3.2% through 1 Sept. 2003 (in SF terms).

ECONOMIC CONCERNS

Economic Summary•Weak Econ. Growth GDP Growth: +1.9% 1st Half ‘03

•Stubborn Unemployment Unemp. Rate: 6.2% (July)

•Low Inflation CPI: +2.1% (July ’03 over ’02)

•Interest Rates 1-Yr T-bill =1.26%; 10-yr=4.45%

•Cautious Consumers Sentiment Up

•Massive/Record Budget Deficit $480B+ Soon (FY 2004)

•Uncertain Invest. Environment Low Rates but Rising; Stocks??

Exposure growth picture for insurers mixed:

Personal lines better than commercial, but commercial is improving

Source: Insurance Information Institute as of September 1,2003.

4.4%3.5%

2.5%

5.7%

8.3%

4.8%5.6%

2.2%

1.0%

-0.6%

-1.6%

-0.3%

1.4%2.2%

3.3%2.9%

2.3%

3.7%2.7%

-2%

-1%

0%

1%

2%

3%

4%

5%

6%

7%

8%

9%

10%

Real GDP Growth

Source: US Department of Commerce, Blue Economic Indicators 7/03;Insurance Information Institute.

Economy continues to experience uneven growth

following the recession of 2001.

Unemployment Rate (%)5.

6

5.4

4.9

4.5

4.2

4.0

4.8

5.8

6.2

5.8

3.0

3.5

4.0

4.5

5.0

5.5

6.0

6.5

7.0

7.5

8.0

95 96 97 98 99 00 01 02 03* 04F*July 2003.Source: US Bureau of Labor Statistics; Blue Chip Economic Indicators (7/03), Insurance Info. Institute.

Unemployment

The unemployment in June 2003 (6.4%) was at its highest level since

1993, harming WC exposure growth.

129.0

129.5

130.0

130.5

131.0

131.5

132.0

132.5

133.0

Jan-00

Apr-00

Jul-00

Oct-00

Jan-01

Apr-01

Jul-01

Oct-01

Jan-02

Apr-02

Jul-02

Oct-02

Jan-03

Apr-03

Jul-03

Number of Employed Workers(Millions)

Source: U.S. Bureau of Labor Statistics; Insurance Information Institute

2.69 Million Jobs Lost Since Feb. 2001Employment peaked at 132. 56 million in February 2001.

By July 2003, employment stood at

129.87 million, its lowest level since October 1999.

$631$684

$745

$818

$899

$1,009

$1,136

$1,228

$1,324

$1,255$1,192

$1,172$1,183

$500

$750

$1,000

$1,250

$1,500

92 93 94 95 96 97 98 99 00 01 02 03:I 03:II

Private Non-Residential Investment (Real, $1996)

Source: U.S. Bureau of Economic Analysis, Insurance Information Institute

Bil

lion

s

Commercial exposure growth is slowing as corporations cut back on capital spending, but

that may be changing…

10.1

%

8.0%

2.1% 2.5%

0.2%

6.1% 7.

3% 8.1%

11.2

%

14.7

%

1.3%

9.0%

5.1% 6.

4% 7.3%

5.7%

7.4%

7.6%

-1.1

%

-2.1

%

10.7

% 12.0

%

-5%

0%

5%

10%

15%

92 93 94 95 96 97 98 99 00 01 02

Health Benefit Costs WC

Med Claim Costs Rising Sharply

Source: NCCI; William M. Mercer, Insurance Information Institute.

Health care inflation is affecting the cost of medical care, no matter

what system it is delivered through

UNDERWRITING CONCERNS

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

P/C Industry Combined Ratio

2001 = 115.7

2002 = 107.2

2003F = 103.2*

2003:Q1 Actual = 99.5

Combined Ratios

1970s: 100.3

1980s: 109.2

1990s: 107.7

2000s: 111.0

Sources: A.M. Best; III *Based on III Earlybird Survey, February 2003.

110.

5

105.

0 113.

6

119.

2

104.

8

100.

8

100.

5

114.

3

106.

5

121.

3

97.9

108.

8 115.

8

106.

9

108.

5

106.

5

105.

8

101.

6

105.

6

107.

7

110.

0 115.

7

107.

2

99.5

162.

5

126.

5

90

100

110

120

130

140

150

160

170

91 92 93 94 95 96 97 98 99 00 01 02 03*

Reinsurance All Lines Combined Ratio

Combined Ratio: Reinsurance vs. P/C Industry

*First quarter 2003 figures for full industry from ISO; 1st half reinsusrance figures from RAA.

Source: A.M. Best, ISO, Reinsurance Association of America, Insurance Information Institute

2001’s combined ratio was the worst-ever for reinsurers; 2003 was bad as well.

2003: Big improvement in Q1

Light weather helped Q1:03

($60)

($50)

($40)

($30)

($20)

($10)

$0

$101

97

51

97

61

97

71

97

81

97

91

98

01

98

11

98

21

98

31

98

41

98

51

98

61

98

71

98

81

98

91

99

01

99

11

99

21

99

31

99

41

99

51

99

61

99

71

99

81

99

92

00

02

00

12

00

22

00

3

Underwriting Gain (Loss)1975-2003*

*2003 figure of $5.84 billion is annualized based on first quarter underwriting loss of $1.46 billionSource: A.M. Best, Insurance Information Institute

$ B

illi

ons

Based on first quarter results, 2003 will likely be a much better year in terms of underwriting

losses. First quarter losses totaled $1.46 billion or $5.8 billion on an annualized basis

0.5

1.3

2.0

2.8

Net Premiums Written to Policyholder Surplus Ratio

Source: A.M. Best, Insurance Information Institute

2000: 0.95

2001: 1.13

2002 : 1.29

2003(Forecast): 1.35

U.S. InsuredCatastrophe Losses

$7.5

$2.7$4.7

$22.9

$5.5

$16.9

$8.3 $7.3

$2.6

$10.1$8.3

$4.3

$28.1

$5.9$7.6

$0

$5

$10

$15

$20

$25

$30

89 90 91 92 93 94 95 96 97 98 99 00 01 02 03*

*Through August 2003.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.Source: Property Claims Service/ISO; Insurance Information Institute

$ Billions

$ Billions, Calendar Year Basis

$2.3 $2.2 $1.2

($8.5)

($1.5)

($7.5)($6.7)($10.0)

$23

$0.3

($3.7)($0.3)

$9.9

($15)

($10)

($5)

$0

$5

$10

$15

$20

$25

90 91 92 93 94 95 96 97 98 99 00 01 02E

P/C Insurance Industry Prior Year Reserve Development*

*Negative numbers indicate favorable development; positive figures represent adverse development.Source: A.M. Best, Morgan Stanley, Dowling & Partners Securities

Adverse reserve development of about $23 billion accounted for most of the

industry’s 2002 underwriting loss and “ate” much of the industry’s $37 billion

increase in earned premiums

Points (Reduced)/Increased

0.5

(2.4)

5.2

6.3

(0.4)

-3

-2-1

0

12

3

4

56

7

1998 1999 2000 2001 2002

Combined Ratio:Impact of Reserve Changes (Points)

Source: ISO, A.M. Best, MorganStanley.

Adverse reserve development totaling an estimated $23 billion

added more than 6 points to the p/c combines ratio in 2002

SOLVENCY ISSUES

P/C Company Insolvency Rates,1993 to 2002

Source: A.M. Best; Insurance Information Institute

1.20%

0.58%

0.21%0.28%

0.79%

0.60%

0.23%

1.02% 1.03%

1.33%

1993 1994 1995 1996 1997 1998 1999 2000 2001 2002

•Insurer insolvencies are increasing•10-yr industry failure rate: 0.72%

•Failure rating for B+ or better rating: 0.49%•Failure rate for D through B rating: 1.29%

383030

10-yr Failure Rate

= 0.72%

Reason for P/C Insolvencies(218 Insolvencies, 1993-2002)

Unidentified17%

Impaired Affiliate3%

Overstated Assets2%

Change in Business

3%

CAT Losses3%

Reinsurer Failure0%

Rapid Growth10%

Discounted Ops8%

Alleged Fraud3%

Deficient Loss Reserves

51%

Source: A.M. Best, Insurance Information Institute

Reserve deficiencies account for

more than half of all p/c insurers

insolvencies

INVESTMENT PERFORMANCE:

$0

$9

$18

$27

$36

$45

75 77 79 81 83 85 87 89 91 93 95 97 99 01 03E

Net Investment Income

History

1997 Peak = $41.5B

2000= $40.7B

2001 = $37.7B

2002 = $36.7B

2003E = $35.9B

Bil

lion

s

(US

$)

Investment income fell 2.8%in 2002 and 0.3% in Q1 of 2003 (v. Q1:2002) due primarily to historically low interest rates

Note: 2003 estimate is based on annualized first quarter investment income of $8.984 billion.Source: A.M. Best, Insurance Information Institute

-$5.6 Billion

0%

2%

4%

6%

8%

10%

12%

14%

16%

1980

1981

1982

1983

1984

1985

1986

1987

1988

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

*

3-Month T-Bill 1-Yr. T-Bill 10-Year T-Note

Interest Rates: Lower Than They’ve Been in Decades

*As of June 13, 2003.Source: Board of Governors, Federal Reserve System; Insurance Information Institute

1. Historically low interest rates are the primary driver behind lower investment yields. Nevertheless, overall insurer investment performance outpaces all major market indices and almost every major category of mutual fund.

2. 66% of the industry’s invested assets are in bonds

-30%

-20%

-10%

0%

10%

20%

30%

40%

19

70

19

72

19

74

19

76

19

78

19

80

19

82

19

84

19

86

19

88

19

90

19

92

19

94

19

96

19

98

20

00

20

02

*As of August 8, 2003.Source: Ibbotson Associates, Insurance Information Institute

Total Returns for Large Company Stocks: 1970-2003*

2002 was 3rd consecutive year of decline for stocks

Will it be the last?

S&P 500 up 11.1% so

far this year

Property/Casualty Insurance Industry Investment Gain*

$ Billions

$35.4

$42.8$47.2

$52.3

$44.4

$36.6$40.3

$57.9

$51.9

$56.9

$0

$10

$20

$30

$40

$50

$60

94 95 96 97 98 99 00 01 02 03E

*Investment gains consists primarily of interest, stock dividends and realized capital gains and losses.Source: Insurance Services Office; Insurance Information Institute estimate annualized as of 3/31/03.

Investment gains are simply returning to “pre-bubble” levels

-$600

-$500

-$400

-$300

-$200

-$100

$0

$100

$200

$300

80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02

03E

04F

05F

06F

07F

08F

Bu

dg

et

De

fic

it (

$ B

illio

ns

)

-7%

-6%

-5%

-4%

-3%

-2%

-1%

0%

1%

2%

3%

% G

DP

Deficit % GDP

Source: Congressional Budget Office, Office of Management and Budget (July 2003); Insurance Information Institute

Federal Budget Deficit:Is it Out of Control?

Record Deficits:

FY 2003: $455B

2004: $475

Yield on 10-Year US Treasury Notes

3.20%3.31%

3.42%

3.67%3.73%

3.93%

4.18%

4.29%4.40%

3.00%

3.25%

3.50%

3.75%

4.00%

4.25%

4.50%

13-Jun 20-Jun 27-Jun 3-Jul 8-Jul 18-Jul 25-Jul 1-Aug 8-Aug

…But is the Bond BubbleAbout to Burst? Rates Will Rise!

Source: Board of Governors of the Federal Reserve; Insurance Information Institute

WHY RATES WILL RISE• Expectation of

improving economy• Rotation out of bonds

into stocks• Recording breaking

government budget deficits leading to massive borrowing

The yield on 10-year notes is up 109 basis

points in 7 weeks despite the Fed’s easing

CAPACITY CRUNCH?

U.S. & Global CapacityBermudaLloyd’s

Captives

$0

$50

$100

$150

$200

$250

$300

$350

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 0203*

U.S. Policyholder Surplus: 1975-2003*

Source: A.M. Best, Insurance Information Institute *First Quarter

$ B

illi

ons

Surplus (capacity) peaked at $336.3 Billion in mid-1999 and fell by 15.2% ($51 billion) to $285.2 billion at year-end 2002 (a trough?)

•Surplus during the first quarter of 2003 rose by $4B or 1.4% to $289.2B

“Surplus” is a measure of underwriting capacity. It is analogous to “Owners Equity” or “Net Worth” in non-insurance organizations

$47 Billion

Capacity of Lloyd’s Market

£8.9

£10.9£10.2 £10.0

£10.3 £10.2£9.9 £10.1

£11.1

£12.2

£14.4

£8

£9

£10

£11

£12

£13

£14

£15

93 94 95 96 97 98 99 00 01 02 03

After remaining stable at around GBP10bn, Lloyd’s capacity has increased by over 40% in the last three years.

2003 capacity is GBP14.4bn, 18% higher than 2002.

Source: Lloyd’s

Number of Captive Formations & Liquidations 1993 to 2002

294

305

250

245

316

462

238

289

243 29

0

150

113

103

102 13

5

154

156

170 20

2

311

0

100

200

300

400

500

1993 1994 1995 1996 1997 1998 1999 2000 2001 2002

New Captives Liquidated CaptivesSource: AM Best, Tillinghast-Towers Perrin

Hard market fueling captive formation

Corporate collapses and captive consolidations fueled the upward trend in captive liquidations in 2002.

PRICING

-10%

-5%

0%

5%

10%

15%

20%

25%

19

70

19

71

19

72

19

73

19

74

19

75

19

76

19

77

19

78

19

79

19

80

19

81

19

82

19

83

19

84

19

85

19

86

19

87

19

88

19

89

19

90

19

91

19

92

19

93

19

94

19

95

19

96

19

97

19

98

19

99

20

00

20

01

20

02

20

03

Current $ Real $

Note: Shaded areas denote hard market periods.Source: A.M. Best, Insurance Information Institute

Strength of Recent Hard Markets by Real NWP Growth

Real NWP Growth During Past 3 Hard Markets

1975-78: 8.6%

1985-87: 14.5%

2001-03F: 9.4%

1975-78 1985-87 2001-03

*2003 figure is estimate on first quarter result.

Insurance is the Biggest Concern of Small Business Owners

Regulations9%

Competition7%

Labor Qlty.10%

Taxes17%

Poor Sales18%

Labor Costs5%

Inflation2%

Insurance28%

Credit/Int. Rates2%

Source: National Federation of Independent Business (June 2003); Insurance Information Institute

Council of Insurance Agents & Brokers Rate Survey

Second Quarter 2003

Rate Increases By Line of BusinessRate Increases By Line of Business

No Change Up 1-10% 10-20% 20-30% 30-50% 50%-100% >100%Change Up 1-10% 10-20% 20-30% 30-50% 50%-100% >100%

Comm. Auto 8% 31% 43% 8% 2% 0% 0%

Workers Comp 11% 27% 28% 15% 3% 0% 2%

General Liability 10% 32% 41% 9% 1% 0% 0%

Comm. Umbrella 8% 21% 28% 27% 6% 3% 0%

D&O 3% 17% 30% 19% 13% 2% 1%

Comm. Property* 17% 32% 23% 5% 2% 0% 0%

Construction Risk 8% 18% 26% 17% 7% 1% 1%

Terrorism* 27% 18% 13% 4% 1% 0% 1%

Business Interr. 21% 38% 16% 3% 0% 0% 0%

Surety Bonds 12% 17% 13% 9% 2% 0% 1%

Med Mal 1% 2% 4% 20% 11% 12% 6%Source: Council of Insurance Agents & Brokers.

P/C Soft Spots: % Accounts With Negative Price Change(2nd Qtr 2003)

17%

9%

3%2% 2%

1%

9%

2%

0%

5%

10%

15%

20%

Comm Prop BizInterruption

Terror Comm Auto WC GL EPL Umbrella

Source: Council of Insurance Agents & Brokers; Insurance Information Institute

Property-related coverages are clearly the softest segment

of the p/c market today.

Proportion of Accounts Renewing With Increase of 20% or More,

(Select Lines)

Source: Council of Insurance Agents and Brokers; Insurance Information Institute

54%

38% 38%32%

20%

78%

53% 53% 53%

35%

10%

23%

48%

38%

63%

5%

14%

23%

2002:II 2002:III 2002:IV 2003:I 2003:II

D&O Construction Risk GL Terrorism

Urban Legend Insurance is More Expensive than Ever, Putting Businesses

Over the Edge

Cost of Risk per $1,000 of Revenues: 1990-2002E

$6.10

$6.40

$8.30$7.70

$7.30

$6.49

$5.70$5.25

$5.71

$5.20$4.83

$5.55

$6.94

$4

$5

$6

$7

$8

$9

$10

90 91 92 93 94 95 96 97 98 99 00 01E 02E

Source: 2001 RIMS Benchmark Survey; Insurance Information Institute estimates.

•Cost of risk to corporations fell 42% between 1992 and 2000

•Estimated 15% increase in 2001, 25% in 2002

Cost of risk is still less than it was a decade ago!

TORT-ureABUSE OF THE U.S. CIVIL

JUSTICE SYSTEM

TORT-ure

• Asbestos• “Toxic” Mold• Medical Malpractice• Construction Defects• Lead• Fast/Fattening Foods & Obesity• Reality TV• Arsenic Treated Lumber • Guns• Genetically Modified Foods (Corn)• Pharmaceuticals & Medical Devices• Security exposures (workplace violence, post-9/11 issues)• Slavery• What’s Next?

New

New

Average Jury Awards1994 vs. 2001

419 187 333759

1,185 1,1401,744

1,365

323789

1,7272,288

3,902

9,113

$0

$1,000

$2,000

$3,000

$4,000

$5,000

$6,000

$7,000

$8,000

$9,000

Overall VehicularLiability

PremisesLiability

BusinessNegligence*

WrongfulDeath

MedicalMalpractice

ProductsLiability

($00

0)

1994 2001

*Figure is for 2000 (latest available)Source: Jury Verdict Research; Insurance Information Institute.

Trends in Million Dollar Verdicts*

4%

10%

8%

21%

21%

36% 42

%

4%

11%

11%

27%

25%

43%

59%

6%

10% 17

%

44% 47

% 54%

68%

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

VehicularLiability

PersonalNegligence

PremisesLiability

BusinessNegligence

GovernmentNegligence

MedicalMalpractice

ProductsLiability

95-97 98-99 2000-2001

*Verdicts of $1 million or more.Source: Jury Verdict Research; Insurance Information Institute.

Very sharp jumps in multi-million dollar awards in recent years across virtually all types of defendants

Cost of U.S. Tort System($ Billions)

Source: Tillinghast-Towers Perrin. 2005 forecasts from Tillinghast.

$129 $130$141 $144 $148

$159 $156 $156$167 $169 $180

$205

$298

$0

$50

$100

$150

$200

$250

$300

$350

90 91 92 93 94 95 96 97 98 99 00 01 05F

Tort costs consumed 2.0% of GDP annually on average since 1990, expected to rise to 2.4% of GDP by 2005!

Per capita “tort tax” expected to rise to $1,000 by 2005, up from $721 in 2001

Even a modest reduction in tort costs would be more stimulative than the $674 billion Bush tax/spending plan

Where the Tort Dollar Goes(2000)

Source: Tillinghast-Towers Perrin

Awards for Non-Economic

Loss22%

Claimants' Attorney Fees

17%Awards for

Economic Loss20%

Defense Costs16%

Administration25%

Tort System is extremely inefficient:

Only 20% of the tort dollar compensates victims for economic losses

At least 58% of every tort dollar never reaches the victim

Personal, Commercial & Self (Un) Insured Tort Costs*

$17.0

$49.1 $57.2$17.1

$51.0

$70.9

$5.4

$20.1

$29.6

$0

$20

$40

$60

$80

$100

$120

$140

$160

$180

1980 1990 2000

Commercial Lines Personal Lines Self (Un)Insured

Bil

lion

s

Total = $39.5 Billion

*Excludes medical malpracticeSource: Tillinghast-Towers Perrin

Total = $120.2 Billion

Total = $157.7 Billion

States With the Most Top 10 Jury Awards1995-2002

18

1312

7

54 4

0

5

10

15

20

NY CA TX MO FL GA AL

Source: Lawyers Weekly USA; Insurance Information Institute.

•79% (63/80) of Top 10 awards came from just 7 states between 1995-2002

•TX has 3rd largest number of giant awards

•23 States have had no award in the top 10

Business Leaders Ranking of Liability Systems for 2003

Best States1. Delaware2. Nebraska3. Iowa4. South Dakota5. Indiana6. North Dakota7. Utah8. Virginia9. Minnesota10. New Hampshire

Worst States41. New Mexico42. South Carolina43. Hawaii44. California45. Arkansas46. Texas47. Louisiana48. Alabama49. West Virginia50. Mississippi

Source: US Chamber of Commerce States Liability Systems Ranking Study; Insurance Info. Institute.

The Nation’s Judicial Hellholes:An International Embarrassment

Source: American Tort Reform Association; Insurance Information Institute

City of St. Louis, MO

CALIFORNIA

Alameda County

Los Angeles County

San Francisco County

Orleans Parish, LA

MIAMI

Madison County, IL

TEXAS

Jefferson County

Hidalgo County

Starr County

Mississippi’s 22nd Judicial

District

There is a Glimmer of Hopefor Tort Reform

Best Chance for Tort Reform in Years

• Medical MalpracticeStates—already happening: 20+ states have caps

Federal reform discussed in Congress but bill failed in Senate

• Class Action ReformClass Action Fairness Act

Presently 2 or 3 votes short in the Senate. Vote in September

• Asbestos ReformFairness in Asbestos Injury Resolution of 2003; Sept. vote?

• Punitive Damages—What’s ReasonableSupreme Court ruled favorably in Campbell v. State Farm

Are We Finally Seeing Punitives Reigned In by the Supreme Court?

10:1 ??

145:1

500:1

0

100

200

300

400

500

1996 2003 The Future?

Rat

io o

f P

un

itiv

e A

war

d t

o C

omp

ensa

tory

Sources: Insurance Information Institute

In Campbell v. State Farm (2003) the Supreme Court ruled in a 22-year old Utah case that punitive awards that were 145 to 1 were

excessive (actual damages in the case, which involved insurer bad faith were $1

million)

In BMW of North America v. Gore (1996)the Supreme Court ruled in an Alabama case that

punitive awards that were 500 to 1 were excessive (actual damages in the case, which involved the repainting of a car, were $4,000 but the jury awarded the plaintiff $2 million)

In Campbell v. State Farm the Court added that “…few awards exceeding a single- digit ratio between punitive and compensatory damages will satisfy due process…Single digit multipliers are

more likely to comport with due process, still achieving the State’s deterrence and

retribution goals…”

INFLUENCE OF TORTS ENVIRONMENT AND LEGAL

LIABILITY TRENDS ON PRICING

Liability: Average Cost per $1,000 of Revenue*2001 vs. 2002

$1.25

$0.65 $0.67

$0.33

$0.17$0.11

$0.23

$1.96

$0.94

$0.72

$0.38$0.24 $0.26

$0.13

$0.00

$0.50

$1.00

$1.50

$2.00

$0 - $200M $201M-$500M $501M-$1B $1B-$5B $5B-$10B $10B+ All

2001

2002

*Across entire liability program

Source: Marsh, 2002 Limits of Liability Report

Average Cost per $1 Million Liability Coverage2001 vs. 2002

$3,8

01

$3,8

30 $5,3

17

$5,3

68

$5,5

31

$8,2

13

$5,4

11

$4,8

78

$5,6

09

$6,4

64

$6,0

54 $7,6

06

$7,1

06

$12,649

$0$1,000$2,000$3,000$4,000$5,000$6,000$7,000$8,000$9,000

$10,000$11,000$12,000$13,000

$0 - $200M $201M-$500M

$501M-$1B $1B-$5B $5B-$10B $10B+ All

($00

0)

2001

2002

Source: Marsh, 2002 Limits of Liability Report

Excess Layer Hit With Leveraged Impact of Increase in Trend

Assumptions: Primary Limit of $1 M

Ground Up Trend of 7.0%

ClaimTotal Loss

Primary Loss

Excess Loss

% Loss Trend

Total Loss

Primary Loss

Excess Loss

1 0.900 0.900 0 7.0 0.963 0.963 02 1.000 1.000 0 7.0 1.070 1.000 0.0703 2.000 1.000 1.00 7.0 2.140 1.000 1.140

Total 3.900 2.900 1.00 4.173 2.963 1.210

7.0% 2.2% 21.0%Loss Trend:Trend in excess layers is 3 times the ground-up

trend and nearly 10 times the primary trend

INFLUENCE OF MASS TORTS AND LEGAL LIABILITY TRENDS ON

AVAILABILITY

Average Total Limits Purchased by All Firms* ($ Millions)

*Includes underlying primary limits

Source: Limits of Liability 2002, Marsh, Inc.

$77.9

$85.8$83.2

$85.9$88.7

$99.1

$105.0$101.8

$95.7

$50

$60

$70

$80

$90

$100

$110

1994 1995 1996 1997 1998 1999 2000 2001 2002

Limits purchased fell by 9.9% between 2000 and 2002. Price/capacity are issues.

Average Underlying Limits(Attachment Points)

* Percent Change 2002 from 2001Source: Marsh, 2002 Limits of Liability Report

$1.8 $1.9 $1.9

$1.0

$1.2

$1.4

$1.6

$1.8

$2.0

All

2000 2001 2002

+0%*

Average Limits by Revenue Class 2000-2002 ($ Millions)

* Percent Change 2002 over 2001.Source: Marsh, 2002 Limits of Liability Report

$45 $5

9 $88

$148

$256

$337

$92

$146

$241

$338

$50 $7

0

$48

$94

$256

$376

$61

$0

$50$100

$150$200

$250

$300$350

$400

$0 - $200 M $201 - $500M

$501M - $1B $1 - $5B $5 - $10B $10+ B

Mill

ions 2000 2001 2002

-6.2%* -3.3%* -6.4%* 1.4%* 0%* -10.4%*

Russian Roulette? Many risks skimping on coverage to save money

Excess Liability Market Capacity

Source: Marsh, 2002 Limits of Liability Report

$1,575$1,710

$2,045$1,941

$2,011

$1,721

$1,405$1,334

$1,432

$0

$500

$1,000

$1,500

$2,000

$2,500

$3,000

1994 1995 1996 1997 1998 1999 2000 2001 2002p

Mil

lio

ns Capacity has dropped 23% since peaking in 2000

CASE STUDIES

Possible Top Risks from Current Perspective

27.026.5

25.5

24.524.0

26.0

24.0

20

22

24

26

28

30

EMF/Electrosmog

BSE (MadCow)

GM Food &Labelling

Eco/BioDamage

DeterioratingAcct. Stds.

AccidentalGM/non-GM

Mixing

GM Crops

Source: Swiss Re: Emerging Risks

No shortage of emerging problems, other include: Generic Drugs, MTBE, Softeners, Xenotransplants, Nanotechnology, Asbestos, Stress in the Workplace, Repetitive Strain Disorders, Antibiotic resistance, Chem Additives to Building Materials (IAQ)

ASBESTOS

Who Will Pay for the US Asbestos Mess?

Source: Tillinghast-Towers Perrin; Insurance Information Institute

US Insurers30%Asbestos

Defendants39%

Foreign Insurers

31%

Estimated Total US Settlements & Expenses = $200 billion

$78 billion $60 billion

$62 billion

MEDICAL MALPRACTICE

Medical Malpractice: Tort Cost Growth is Skyrocketing

$ Billions

$1.2

$1.5

$1.9

$2.3

$5.4 $6

.5 $7.1

$7.0

$6.8

$7.1

$7.2 $7

.9 $8.7 $9

.4 $10.

8

$11

.6

$12.

4

$13.

5

$14.

6 $16.

2

$17.

6 $19.

4 $20.

9

$2.9

$3.6 $4

.4

$0

$2

$4

$6

$8

$10

$12

$14

$16

$18

$20

$22

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

Sources: Tillinghast-Towers Perrin, US Bureau of Labor Statistics, Insurance Information Institute

•Over the period from 1990 through 2000, medical malpractice tort costs rose 140%, more than double the 60% increase in medical costs generally over the same period!

•Over the period from 1975 through 2000, medical malpractice tort costs skyrocketed by 1,642% while medical costs generally rose 449%, nearly 4 times as fast!

WORKERS COMP

WC Combined Ratios

Source: A.M. Best, NCCI

*Includes dividends to policyholdersAccident year is developed to ultimate;2002estimate from NCCI.

Calendar Year vs. Ultimate Accident Year Countrywide—Private Carrier*

123 122

109

10197

100

122

110

101

108

115117 118

9095

100105110115120125130135140

90 91 92 93 94 95 96 97 98 99 00 01 02P

Per

cent

Calendar Year

1.9 points due to 9/11

+1.0% +1.7%+5.8%

+5.7%+6.4%

+7.3%+7.8%

+7.7%+7.0%

-3.1% -2.8%+4.9%

5

7

9

11

13

15

17

Accident Year

WC Indemnity Claim Costs Has Accelerated Since 1995

Indemnity Claim Cost (000s)

Annual Change 1991-1995: +0.3%

Annual Change 1996-2002p: +6.8%

Based on data through 12/31/2001, developed to ultimate, as of 12/2/2002; 2002 data are preliminary.Based on the states where NCCI provides ratemaking servicesExcludes the effects of deductible policies

Source: NCCI

+6.8%+1.3%

+5.1%+6.4%

+7.3%+5.7%

+7.4%

+7.6%

+10.7%

+12.0%

-2.1%+9.0%

6

7

8

9

10

11

12

13

14

15

16

Accident Year

WC Medical Claim Costs Accelerating Too

Medical Claim Cost (000s)

Annual Change 1991-1995: +4.0%

Annual Change 1996-2001: +8.1%

Based on data through 12/31/2001, developed to ultimate, as of 12/2/2002Based on the states where NCCI provides ratemaking servicesExcludes the effects of deductible policies

Source: NCCI

Average Payment per Claim for Chiro. Visits

$468$771 $824

$1,191 $1,209$1,539

$2,317

$4,836

$0

$1,000

$2,000

$3,000

$4,000

$5,000

FL MA GA CT WI PA CA TX

Pay

men

t pe

r C

laim

to

Chi

ros

Source Eccleston, Wang, Watson and Zhao (2000) in Targeting More Costly Care: Area Variation in Texas Medical Costs and Utilization, Workers Compensation Research Institute (2002).

Major problems with payments to chiropractors in CA, TX

Schwartzenegger’s Solution to California’s Chiro Problem

You will terminate all

excess utilization!

MOLD

$0

$50

$100

$150

$200

$250

Wa

ter

Da

ma

ge

Pa

id L

os

se

s*

($M

illio

ns

)

0

5000

10000

15000

20000

25000

30000

Cla

im C

ou

nt

Paid Losses

Claim Count

Source: Texas Department of Insurance; Insurance Information Institute

* Data are for TDI Cause 61: Discharge – Other Damage. Not all claims in cause 61 are mold and mold claims may also arise from other (non-water) causes of loss.

Texas: Mold Losses/Claims Are Finally Moderating*

California: Surging Water Claim Frequency and Costs:

Symptom of Growing Mold Problem

$224.1

$298.9$316.5

$441.6

$496.3

$562.4

24%

36%

27%

32%33%

31%

$100

$150

$200

$250

$300

$350

$400

$450

$500

$550

$600

1997 1998 1999 2000 2001 2002

20%

22%

24%

26%

28%

30%

32%

34%

36%

38%

Paid Water Losses ($ Mill) Water Claims as % of All Homeowners Claims

Source: Insurance Information Network of California; Insurance Information Institute

•Water losses paid rose 151% from 1997 to 2002 and 77% since 1999

•Water claims accounted for less than 1/4 of all HO claims in 1997, now they for 1/3.

California may be in a drought, but homeowners say they’re drowning

Where are the Next Battlefields for Mold?

• Homeowners issue probably crested in 2002• Migration to commercial area affects many lines:

Commercial Property Commercial LiabilityProducts Liability Builders Risk/Construction DefectsWorkers Comp…

• Hot Spots: Apartments/Condos/Co-ops Office Structures (e.g., IBM) Schools Municipal BuildingsCars? (GM case in NC)

• Trend toward class actions since science doesn’t support massive individual non-economic damagesMuch more lucrative for trial lawyers to form class

Source: Insurance Information Institute.

Construction Defect Litigation Destroying CA Condo Market

$1.87

$2.95

$1.00

$1.25

$1.50

$1.75

$2.00

$2.25

$2.50

$2.75

$3.00

1998 2000

Source: ISO, Insurance Information Institute

Condo construction in parts of CA has come to a virtual stop.

Insurer costs rose 58% in just 2 years!

Ratio of Losses Paid Out to Premiums Taken In

“Right-to-Cure” laws now in 5

states: AZ, CA, NV, TX, WA

16 considering such laws.

CORPORATE GOVERNANCE

Financial Restatements Filed

116

158

216233

270

330

0

50

100

150

200

250

300

350

1997 1998 1999 2000 2001 2002

Sources: Huron Consulting Group; Insurance Information Institute

The number of financial restatements is rising even thought the number of publicly

traded companies is falling.

Impact of Sarbanes-Oxley??

Financial Restatements by Industry (1987-2002)

Transp & Comm12%

Computer Mfg.11%

Ag & Mining6%

Trade10%

Software15%

Services11%

Fin, Ins, Real Est.14%

Manufacturing21%

Source: Huron Consulting; Insurance Information Institute

Financial Restatements by Revenue Size (1998-2002)

$500-$999M7%

$100-$249M17%

Greater than $1B18%

$250-$499M10%

Under $100M48%

Source: Huron Consulting; Insurance Information Institute

OBESITY/FAST FOOD

Fast Food/Junk Science:Edible Asbestos?

•Are the food service & manufacturing industry’s vulnerable to suits over obesity?•McDonald’s sued in late 2002 over allegations that their food makes people fat•Kraft sued earlier this year over trans fats in Oreo cookies

CYBER RISK

The Cost of Worms & Viruses($ Billions)

Source: USA TODAY, September 3, 2003

$10bn

$9bn

$80m

$1bn

$590m to $2bn

$2.6bn

$0 $2 $4 $6 $8 $10 $12

Melissa virus (1999)

Slammer worm (2003)

Nimda virus (2001)

Code Red I and II worms (2001)

Klez worm (2002)

Love Bug virus (2000)

Estimated cleanup and lost productivity costs of worms and viruses can add up to

billions of dollars!

Cyber-Risk Gaps in Insurance Coverage

Source: Ernst & Young 2003 Global Information Security Surveyof 1,400 organizations from 66 countries

33%

34%

22%

7%

0 5 10 15 20 25 30 35 40

Risks covered bygeneral policies

Do not haveinsurance

Do not know theanswer

Insured by aspecific policy

Despite increasing risks, only 7% of respondents knew they had specific insurance geared to

cyber-risks!

EMPLOYMENT PRACTICES LIABILITY

Employment Practices Liability:Median Compensatory Award ($000)

Source: Trends in Employment Practices Liability, LRP Publications.

($ 000)

$128.0$140.9

$150.8 $146.6

$182.5$175.0

$200.0

$50

$70

$90

$110

$130

$150

$170

$190

$210

1996 1997 1998 1999 2000 2001 2002

CONSTRUCTION DEFECTS

Construction Defect Problem• Growing number of lawsuits target:

Builders, Contractors, Developers, Sub-Contractors, Material Suppliers, Product Manufacturers, Architects & Engineers.

• Construction defect claims include:Subsidence, collapse, cracks in walls & foundations.Leaking roofs, windows, doors, foundations.Dry rot of wood or other building materials, pest

infestations.Mold, code violations, improper specification of building

materials.

• Hotspots:California, Nevada, Colorado, Texas, the Carolinas, Florida,

New York.

Construction Defect Litigation Destroying CA Condo Market

$1.87

$2.95

$1.00

$1.25

$1.50

$1.75

$2.00

$2.25

$2.50

$2.75

$3.00

1998 2000

Source: ISO, Insurance Information Institute

Condo construction in parts of CA has come to a virtual stop.

Insurer costs rose 58% in just 2 years!

Ratio of Losses Paid Out to Premiums Taken In

“Right-to-Cure” laws now in 5

states: AZ, CA, NV, TX, WA

16 considering such laws.

TERRORISM

Terrorism:Sept. 11 Industry Loss Estimates

($ Billions)

Life$2.7 (7%)

Aviation Liability$3.5 (9%)

Other Liability

$10.0 (25%)

Biz Interruption$11.0 (27%)

Property -WTC 1 & 2$3.5 (9%)

Property - Other

$6.0 (15%)

Aviation Hull$0.5 (1%)

Event Cancellation

$1.0 (2%)

Workers Comp

$2.0 (5%)

Consensus Insured Losses Estimate: $40.2BSource: Insurance Information Institute

Status of 9/11 Death Claims (Through August 2003)

Claim Filed and Compensation Sought (1,035)

34%

Claim Filed but No

Compensation Sought (205)

7%

No Claim Filed (1,776)

59%

Source: September 11 Victims Compensation Fund; Insurance Information Institute

Out of 3,016 9/11 deaths (excl. hijackers), only 34%of claimants had sought

compensation by Aug. 29, 2003. The deadline is Dec. 22.

Will many choose litigation?

•Fund has paid $623.1 million to date

•Total could exceed $3 billion

OTHER

Blackouts???

SARS: Limited P/C Insurance Industry Exposure

•Are there any potential SARS-related p/c insurance exposures?

Workers comp? Mostly health care workers

Event cancellation? Fear of SARS insufficient, but legitimate claims possible

CGL? Several courts have ruled that viruses/bacteria (e.g., E. Coli, Legionnaires’ disease) not covered

EIL? Court decisions + fact that at least half of EILs have “naturally occurring substance” exclusions preclude coverage.

Summary

• Profitability on the mend, but for how long?

• Underwriting still needs improvement

• Economic & Investment outlook uncertain

• Tort system: A partial fix is in underway

• Emerging Risks: No Shortage

• Constant Challenge for Underwriters

Insurance Information Institute On-Line

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