2001: The Insurance Industry’s ‘Annus Horribilis’

In future years property/casualty insurers will no doubt look back on the year 2001 and shudder. Right now they’re too busy coping with the reality of the industry’s “annus horribilis,” to borrow Queen Elizabeth II’s view of 1992.

Dominating the entire year, much as they used to dominate the New York skyline, were the twin towers of the World Trade Center, and the events of Sept. 11 that destroyed them. The losses, human and financial, were enormous. Nothing like it had occurred before, except in wartime.

The Insurance Services Office’s (ISO) Property Claims Service (PCS) issued a bulletin in mid-March estimating claims for insured property damage at $24 billion, “making 2001 the costliest year ever for catastrophe losses.” A Swiss Re sigma report put them at $34.3 billion, while other estimates go even higher.

While the PCS estimated the cost of the attacks so far at around $16.6 billion, based on more than “74,000 personal and commercial property and vehicle claims,” it warned that “losses from this event will take several months to compile with greater accuracy, and so the PCS estimate is likely to be revised further.” Michael R. Murray, ISO asstistant, vice president for financial analysis stressed the complexity of trying to gauge the losses from Sept. 11.

“So far there’s only been around $10 billion in claims filed,” said Murray, whose office is currently working on a full report for the year. “But we’re going to see more in 2002 and beyond.” He noted that many victims and their families are still considering whether to apply for compensation from the Federal Government’s disaster relief fund, which would require that they give up any future rights to file lawsuits, or to proceed through legal channels. “Many people feel that the fund’s reimbursement [for their losses] will be inadequate, and they’re reluctant to waive their rights, so they’re delaying making a decision.”

The ISO’s figures only apply to insured losses for property damage and related coverages, such as business interruption insurance. This is “only a portion of the total insured losses from the attack and does not include liability insurance; workers’ compensation insurance; aviation property/casualty losses; or life and health insurance from the World Trade Center complex, and the immediate surrounding area locations near the Pentagon in Virginia,” the bulletin indicated.

Claims payments are part of the insurance business, but the unprecedented number of them following Sept. 11 caused more than the usual problems. Lloyd’s, which now puts its net loss estimate at around $2.7 billion, announced that it has transferred over $5 billion in cash and/or guarantees equivalent to cash to satisfy the deposit requirements of the trust funds (mainly reinsurance) run by the New York State Insurance Department.

Munich Re, the world’s largest reinsurer, recently announced that its “combined ratio rose to 135.1%, of which 15.4 percentage points are attributable to the attack of 11th September, which gave rise to claims costs of ¤2.2bn [$1.94 billion].” Its profits decreased by ¤1.5 billion ($1.32 billion) to a meager $220 million.

AIG estimated its Sept. 11 claims at around $820 million. Swiss Re and 20 other insurers are involved in a lawsuit with Silverstein Properties, the WTC master lease holder, over whether the destruction of the twin towers constituted one single, or two separate occurrences, and $3.7 billion is riding on the outcome. Even before the case is decided Swiss Re expects to report a loss for the first time in 135 years. Every company has its own story to tell, but no one in the industry was left unaffected by Sept. 11.

Catastrophe losses, however, are only part of the equation. As Berkshire Hathaway’s chief Warren Buffet explained in his annual letter to shareholders, insurers make money from investing the funds they’re paid in premiums, while they’re waiting to pay them out in claims. This “float” is subject to market fluctuations, and 2001, while it was no 1929, wasn’t a great year either. “There’s been a definite decline in investment income,” said Murray, “and a 13 percent drop in the S&P 500.”

Mark Lescault, Swiss Re’s chief U.S. underwriter told Reuters News Agency that the claims, together with declines in the stock and bond markets, had wiped more than $100 billion off insurers’ and reinsurers balance sheets in the U.S. The worldwide drop is probably twice that figure. The losses diminished the overall capacity of most insurers at the same moment when they were called upon to increase loss reserves—a real double whammy.

Sept. 11 wasn’t the only story, however. Many insurers, especially those who wrote surety bonds, have significant exposure to claims resulting from Enron’s bankruptcy. While Chubb Corp. and others have resisted paying over $1 billion in claims to JP Morgan Chase, asserting that the policies they wrote were used to cover loans and were financial guarantees, not surety bonds, they still have to recognize the possibility they may lose, and set aside appropriate reserves.

Enron’s collapse also knocked the stuffing out of D&O liability coverage. Claims had already risen dramatically in 2001, due primarily to the dot com crash, which wiped out many small investors, and made targets out of the managers of the collapsed firms, their investment bankers, and, as with Enron, their accountants.

What plaintiff’s lawyer worth his salt wouldn’t sue all of the above, plus anyone else at Enron? Does anyone imagine that its ex-CEO Jeffery Skilling could get away with telling a jury, as he told a Senate Committee, that he didn’t know what was going on at his own company because he wasn’t a CPA? More reserves are going to be required for that one—a lot more. Even if D&O coverage is denied because of the commission of criminal acts, there will still be lots of lawsuits.

If Sept. 11 was a multi-car accident, and Enron was a cardiac arrest, then the steady rise in asbestos-related claims and the growth of “toxic mold” litigation can be classified as wasting diseases, long-tail liabilities, which could end up costing the industry more than two or three Sept. 11’s. Murray noted that in some cases insurers are being named directly as defendants and that old cases, which had been assumed settled, might be reopened.

Tillinghast-Towers Perrin released a report which reached the conclusion that, “Settlements to individuals exposed to asbestos in the U.S. and related expenses will ultimately reach $200 billion.” Thirty percent of that amount, around $60 billion, “will be borne by the U.S. insurance industry.”

No one is certain how large the toxic mold problem is, but lawsuits and jury verdicts last year were a wake up call to insurers that the threat is growing. A study by American Re in September quoted an unidentified lawyer as stating “It is a trend. It’s one of the hottest areas in construction defect as well as toxic tort law. I view these claims as similar to asbestos 30 years ago.”

Out of the rubble of the losses some causes for hope did emerge. Dr. Robert P. Hartwig, Ph.D., vice president & chief economist of the Insurance Information Institute in his “Groundhog Forecast 2002” noted that, “The average forecast calls for an increase in net written premiums of 14.7 percent in 2002, resulting from a combination of increased prices and higher demand. If realized, the industry will grow at its fastest pace since 1986. Moreover, estimates for net written premium growth in 2001 have been revised significantly upward to 9.8 percent (from 7.4 percent in last year’s survey).”

Leading industry figures, including Buffett, Greenberg, Hartwig and the heads of both Munich Re and Swiss Re have observed that the market was hardening even before Sept. 11. After the attacks the trend accelerated. It’s been accompanied by the growing realization that gaining market share at the cost of abandoning underwriting standards was no longer worth the losses.

Murray, however, was more cautious. “Insurance is a cyclical industry,” he observed. “24 billion in new capital has come into the market since, 9/11.” While some of this was debt, which would eventually have to be repaid, and some represented a redeployment of capital by insurers and brokers, much of it is from outside the industry, from investors who see an opportunity to make money.

“It’s really a question of supply and demand,” Murray said. “Insurers can’t make a profit if they don’t write any business.” New capital will eventually exert downward pressure on premiums. “It’s not easy to predict when this will happen, when the pendulum will swing, or how accurate a guide [past experience] is for the future, but ‘cost based-pricing’ [charging enough premium to cover loss estimates] will be hard to achieve.”

Topics USA Carriers Profit Loss Claims Property Market