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Reinsurance After
9/11
The Financial Impact of the Brave New
World
By Kennerly Clay
CRS Review, Winter 2002
One day prior to the tragic events of
September 11, Business Insurance reported that insurance
analysts were already preparing for a hardening market, predicting
double-digit rate hikes at year-end renewals. The World Trade Center
attacks, in some ways, simply seconded the motion.
There’s
now talk of reinsurance rate hikes in the triple digits across many
lines - property, liability and aviation in particular - regardless
of any direct impact felt by September 11. While the U.S. and U.K.
will feel it the most, the effect has rippled worldwide.
And
some things will never be quite the same.
The Insurance
Services Office (ISO) Inc. has filed optional terrorism exclusions
in every U.S. jurisdiction, allowing primary carriers to exclude
terrorism coverage from their policies. (While reinsurers retain the
right to exclude terrorism from their policies, primary carriers
generally cannot, which, without the ISO regulation, would put them
in the position of having to take terrorism exposure net.)
Thus far 38 jurisdictions have approved the exclusions. New
York remains undecided while California recently became the first to
reject the exclusion, based on some discrepancy over what
constitutes “terrorism”, particularly in the realm of personal
homeowners’ coverage. Though reinsurers are upholding contracts
written before September 11, everyone is scrambling to write
terrorism and war exclusions into the new contracts.
However, terrorism in workers’ compensation cannot be
excluded. As a result, workers’ compensation considerations are
changing and some carriers are even downsizing their workers’ comp
business, according to Paul Forbes, senior vice president of Legion
Insurance Company. Rates are going up for workers in high-risk
areas, and risk managers now must be much more specific with
insurers about how many workers occupy a certain location.
“In the past we weren’t overly concerned about concentration
of employees,” says Forbes. “Now with terrorism, there’s a much
greater loss potential, depending on where the (work facility) is.”
Workers’ comp for employees at a factory located next to a major
U.S. defense center, for example, will be underwritten in an
entirely different light.
While larger companies will
probably survive, smaller ones that relied so heavily on reinsurance
may find themselves struggling to stay afloat. A small regional
company that may have had workers’ comp coverage for people on a few
floors of the World Trade Center, observes Forbes, “was not set up
to handle that kind of loss.”
Both primary insurers and
reinsurers could not have anticipated the types of losses that could
be incurred by something as catastrophic as the World Trade Center
collapse. “There’s much more sensitivity to aggregation of exposure
in one loss events,” says Jamie Hole, vice president & principal
of Towers Perrin Reinsurance.
Availability of certain kinds
of coverage is also getting harder to come by, especially in the New
York City area and other major East Coast cities. Coverage that is
available comes at a steep premium, or with a sub-limit that may
cover only a certain number of deaths for any one accident. As
reinsurance capacity decreases, alternative structures arise.
“As in previous crises,” says Hole, “alternative risk
financing comes to the fore because traditional risk transfer
products aren’t available or are too costly. Alternative risk
financing enables companies to fund for risks they can no longer
transfer to insurers and reinsurers.”
Reinsurers continue to
adjust their loss estimates as new claims come in, and costs due to
additional property damage and business interruption steadily
accrue. Few have been willing to stick out their necks with new
rates and premiums for fear of underestimating what the final cost
to their business will be. Many insurers are delaying year-end
renewals (some may renew as late as March) as they try to put a
number on what is, as of yet, not quantifiable.
“The fact is
that $40-$60 billion of capital just evaporated,” says Hole. “The
industry needs to restore its capital base. Both insurers and
reinsurers are going to have to collect significantly more premium
to cover their traditional exposures while they also attempt to
price for the new terror exposure.” In a fall survey conducted by
the Reinsurance Association of America, reinsurers reported a 139.5
percent combined ratio for the nine months ended September 30, 2001.
Silverstein Properties, which took on the World Trade Center
lease in July 2001, is embroiled in a suit against Swiss Re over
whether the attacks on the Twin Towers constitute one act,
necessitating a $3.55 billion payout, or two, which would double the
payout. The same issue affects how much aviation insurers will have
to pay to renew their reinsurance protection.
And this may
just be the beginning, with some predicting it will take upwards of
15 years to recover from the estimated $60 billion loss.
“It’ll be a long time before we see the full impact,” says
Hole. “Tillinghast forecasts losses of between $32 and $58 billion,
and to date, the industry has only reported at the low end of that
range. While there is certainly the possibility of an adverse
development, this seems to have been mitigated by the lower number
of deaths than originally estimated.”
The events of
September 11 constitute the worst insured loss since Hurricane
Andrew hit Florida back in 1992. A similar uncertainty hangs in the
air, and similar trends are taking place. Not surprisingly, Bermuda
is seeing new organizations, with an eye on the dollar signs in the
insurance rate hikes, raising billions of dollars in fresh capital
for property/casualty insurance.
Meanwhile, the industry
watches and waits to see if the government comes through with a
federally funded reinsurance plan to minimize the load. “It’s on
everybody’s wish list,” says Forbes, “but everybody’s proceeding as
if the government’s not going to react in the short-term.” In
September, the House approved a bill that would allow the Treasury
to make loans to insurers suffering losses from terrorism. However,
a Senate bill that seeks to have the government share the cost of
terrorism losses with insurers has yet to be approved.
Hole
says he doubts the government plans to step in at this point, adding
that “the momentum for that seems to have been lost. The government
seems to want the market to sort out the terrorism issue.
Ultimately, this exposure will fall on creditors and firms that fail
to obtain coverage.”
Pre-9/11 Tightening
But many
see September 11 as simply the catalyst for the inevitable hardening
of the market after a 13-year soft market trend. Prior to the terror
attacks, some smaller European reinsurers were already struggling to
keep up with their larger competitors with some giving up certain
lines of business or selling out altogether. The European liability
market, too, was already seeing rate firming earlier in 2001. U.S.
insurance companies were seeing less profit due to increases in
property and casualty claims costs-with asbestos and mold claims
adding to the load. Added to that is a weakening economy and a long
period of inadequate pricing all around.
Hole points out
that in the last quarter of 2001, the P&C industry added more
than $4 billion of reserves to their balance sheets unrelated to
September 11th. “That shows just how bad things were and how
insurers are able to manage results going forward,” he says.
Program business was also hit early on, says Spencer
Woodbury, President of Market Re in San Francisco. “September 11
just threw everything up in the air and essentially brought the
market to a standstill.”
Woodbury recalls how during the
soft market, managing general agents (MGAs) were writing as much
business as possible (and some that they shouldn’t have written)
with no allegiance to the results. Consequently, reinsurers were
forced to keep a more watchful eye on the business. When the market
turned in late 2000, he says, “MGA business turned first. Now
reinsurers won’t even look at small premium accounts they were once
tripping over themselves to get. We lost two to three small MGA
programs this year due simply to the size and lack of available
reinsurance.”
“The events of September 11 affected other
lines more than program business,” he says, “but indirectly, rates
are going up so precipitously, reinsurers wonder why they even
bother with MGA business when they can get a higher rate of return
on other more traditional business.”
Once the actual threat
of terrorism is decreased and everyone has a better understanding of
how to put a realistic price on it, the proverbial dust will settle
in the industry. “A lot depends on what happens with terrorism
within the next year,” says Hole. “If we suffer some more big
losses, then all bets are off. If not, private markets carrying
terrorism insurance and reinsurance can develop.”
Forbes
concurs that within six months to a year, carriers will come out
with a new terrorism product and will structure their reinsurance
accordingly. “The industry has a tendency to react like a pendulum,”
he says, observing that for now, it has swung conservatively to one
side. And despite the incredibly negative impact, financial and
otherwise, says Forbes, “The September 11 disaster probably will
speed up the process of the industry becoming healthy again.”
Ms. Clay is an independent writer and can be reached at
kennerly.clay@verizon.net.
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