Year to date Sept. 30, 2002 Surplus Lines Combined Ratios Show Improvement

On Dec. 31, 2001, the weighted average combined ratio of the 21 surplus lines insurance companies identified in the graphic was approximately 113 percent. By March 30, 2002, the weighted average combined ratio had declined to approximately 103 percent. By June 30, 2002, the weighted average combined ratio approximated 102 percent. As of Sept. 30, 2002, it had declined even further to 101 percent.

By the time you read this article year-end 2002 results should be trinkling out and we will know if there was a continuation of the improvement in combined ratios. The industry aggregate experienced comparable improvement.

The improvement in operating results are shown below:

The surplus lines insurance companies identified in the analysis experienced a decline in their combined ratio equal to about 11 percent of their year-end 2001 combined-ratio. On the same measure, the P/C industry aggregate declined by about 7.5 percent.

Let’s put things in perspective—a recent Conning and Company research report projected that net premium growth rates in 2002 would be approximately 13 percent.

“Conning expects strong premium growth in 2002 with continued but lesser growth in 2003 and 2004, which we expect will result in combined ratio improvement,” Jack Gohsler, a senior vice president at Conning, said.

“While underwriting improvement is expected, investment returns are likely to remain depressed. Overall, we expect the industry to be slightly more profitable, but overall financial performance leaves much room for improvement.”

This being the case, some quick (and admittedly naïve) arithmetic would indicate that the industry’s aggregate 2002 combined ratio may decline to about 102 (115.42 divided by 1.13) and the surplus lines aggregate 2002 combined ratio should decline to 99 (100.80 divided by 1.13).

Some P/C insurance industry critics argue that after-tax GAAP earnings in the P/C insurance industry are depressed because the P/C industry remains under-reserved and continue to make reserve adjustments to address the inadequacy of prior period loss reserve estimates. As an aside, at Demotech Inc. we have always believed that balance sheet integrity should be a priority.

If a company is willing to be average and to permit the rising tide to lift all boats, then a 99 combined ratio for a surplus lines insurance company would appear to be the estimate; however, the real winners will distinguish themselves by showing marked improvement from the year-end 2001 period to year-end 2002 period.

Joseph L. Petrelli is president of Ohio-based Demotech Inc.