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Insurance Information Institute May 23, 2012

This overview discusses the state of the P/C insurance industry and predicts growth, underwriting challenges, and increased demand for commercial insurance in 2012. It also explores the impact of the economy on P/C insurer opportunities.

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Insurance Information Institute May 23, 2012

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  1. An Industry and Economy in Transition:Overview and Outlook for theP/C Insurance Markets/Western State Focus Insurance Information Institute May 23, 2012 Robert P. Hartwig, Ph.D., CPCU, President & Economist Insurance Information Institute  110 William Street  New York, NY 10038 Tel: 212.346.5520  Cell: 917.453.1885  bobh@iii.org  www.iii.org

  2. Economics 2012: The World Is Changing 2012 Is the First Year Since 2005 Where Economic Perceptions and Reality in the US Will Be Positive Potentially Enormous Benefits for P/C Insurers 3

  3. Insurance Industry Predictions for 2012 • P/C Insurance Exposures Grow Robustly • Personal and commercial exposure growth is certain in 2012; Strongest since 2004 • But restoration of destroyed exposure will take until mid-decade • P/C Industry Growth in 2012 Will Be Strongest Since 2004 • Growth likely to exceed A.M. Best projection of +3.8% for 2012 • No traditional “hard market” emerges in 2012 • Underwriting Fundamentals Deteriorate Modestly • Some pressure from claim frequency, in some severity in key lines • Increasing Private Sector Hiring Will Drive Payrolls/WC Exposures • Wage growth is also positive and could modestly accelerate • WC will prove to be tough to fix from an underwriting perspective • Increase in Demand for Commercial Insurance Will Accelerate in 2012 • Includes workers comp, property, marine, many liability coverages • Laggards: inland marine, aviation, commercial auto, surety • Personal Lines: Auto leads, homeowners lags (though HO leads in NPW growth due to rates) • Investment Environment Is/Remains Much More Favorable • Return of realized capital gains as a profit driver • Interest rates remain low; Some upward pressured if economic strength surprises • Industry Capacity Hits a New Record by Year-End 2012 (Barring Mega-CAT) eSlide – P6466 – The Financial Crisis and the Future of the P/C

  4. The Strength of the Economy Will Influence P/C Insurer Growth Opportunities Growth Will Expand Workers Comp Payroll Exposure Base America’s Manufacturing Renaissance?Construction Activity Still Depressed? 6

  5. US Real GDP Growth* The Q4:2008 decline was the steepest since the Q1:1982 drop of 6.8% Real GDP Growth (%) Recession began in Dec. 2007. Economic toll of credit crunch, housing slump, labor market contraction has been severe but modest recovery is underway 2012 is expected to see a modest but choppy acceleration in growth continuing into 2013 Demand for Insurance Continues To Be Impacted by Sluggish Economic Conditions, but the Benefits of Even Slow Growth Will Compound and Gradually Benefit the Economy Broadly * Estimates/Forecasts from Blue Chip Economic Indicators. Source: US Department of Commerce, Blue Economic Indicators 5/12; Insurance Information Institute.

  6. Consumer Sentiment Survey (1966 = 100) January 2010 through May 2012 Optimism among consumers is recovering, in part due to an improving jobs outlook, after plunging amid the debt debate debacle and S&P downgrade Consumer confidence has been low for years amid high unemployment, falling home prices and other factors adversely impact consumers, but improved substantially in late 2011 and early 2012 Source: University of Michigan; Insurance Information Institute

  7. Auto/Light Truck Sales, 1999-2022F New auto/light truck sales fell to the lowest level since the late 1960s. Forecast for 2012-13 is still far below 1999-2007 average of 17 million units, but a recovery is underway. (Millions of Units) Job growth and improved credit market conditions will boost auto sales in 2012 and beyond Car/Light Truck Sales Will Continue to Recover from the 2009 Low Point, Bolstering the Auto Insurer Growth and the Manufacturing Sector. Source: U.S. Department of Commerce; Blue Chip Economic Indicators (10/11 and 5/12); Insurance Information Institute.

  8. New Private Housing Starts, 1990-2022F New home starts plunged 72% from 2005-2009; A net annual decline of 1.49 million units, lowest since records began in 1959 (Millions of Units) Job growth, improved credit market conditions and demographics will eventually boost home construction The plunge and lack of recovery in homebuilding and in construction in general is holding back payroll exposure growth Little Exposure Growth Likely for Homeowners Insurers Until at least 2014. Also Affects Commercial Insurers with Construction Risk Exposure, Surety Source: U.S. Department of Commerce; Blue Chip Economic Indicators (10/11 and 5/12); Insurance Information Institute.

  9. Construction Employment,Jan. 2010—Apr. 2012* Construction employment is still below where it was in Jan. 2010. In a normal recovery, construction employment would be growing robustly (Thousands) *Seasonally adjusted Sources: US Bureau of Labor Statistics at http://data.bls.gov; Insurance Information Institute. 11 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  10. Value of Construction Put in Place, Mar. 2012 vs. Mar. 2011* Growth (%) Private: +11.5% Public: -3.2% Private sector construction activity is up in both the residential and nonresidential segments Public sector construction activity remains depressed Overall Construction Activity is Up, But Growth Is Entirely in the Private Sector as State/Local Government Budget Woes Continue *seasonally adjustedSource: U.S. Census Bureau, http://www.census.gov/construction/c30/c30index.html ; Insurance Information Institute.

  11. Value of Private Construction Put in Place, by Segment, Mar. 2012 vs. Mar. 2011* Private sector construction activity is up by double digits in many segments after plunging during the “Great Recession” Growth (%) Private Construction Activity is Up in Most Segments, Including Residential Construction *seasonally adjustedSource: U.S. Census Bureau, http://www.census.gov/construction/c30/c30index.html ; Insurance Information Institute.

  12. ISM Manufacturing Index (Values > 50 Indicate Expansion) January 2010 through April 2012 Optimism among manufacturers was increasing in late 2011 and into early 2012 The manufacturing sector has been expanding and adding jobs. The question is whether this will continue. Source: Institute for Supply Management at http://www.ism.ws/ismreport/mfgrob.cfm; Insurance Information Institute.

  13. Dollar Value* of Manufacturers’ Shipments Monthly, Jan. 1992—Mar. 2012 $ Millions The value of Manufacturing Shipments in Mar. 2012 was up 31% to $466B from its May 2009 trough. Dec. figure is only 3.9% below its previous record high in July 2008. Monthly shipments are nearly back to peak (in July 2008, 8 months into the recession). Trough in May 2009. Growth from trough to March 2012 was 31%. This growth leads to gains in many commercial exposures: WC, Commercial Auto, Marine, Property and Various Liability Coverages *seasonally adjustedSource: U.S. Census Bureau, Full Report on Manufacturers’ Shipments, Inventories, and Orders, http://www.census.gov/manufacturing/m3/ 16 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  14. Manufacturing Growth for Selected Sectors, 2012 vs. 2011* Growth (%) Non-Durables: +8.5% Durables: +11.4% Manufacturing of durable goods has been especially strong Manufacturing Is Expanding Across a Wide Range of Sectors that Will Contribute to Growth in Insurable Exposures Including: WC, Commercial Property, Commercial Auto and Many Liability Coverages *Seasonally adjusted; Date are YTD comparing data through March 2012 to the same period in 2011.Source: U.S. Census Bureau, Full Report on Manufacturers’ Shipments, Inventories, and Orders, http://www.census.gov/manufacturing/m3/

  15. Recovery in Capacity Utilization is a Positive Sign for Commercial Exposures March 2001 through April 2012 The US operated at 79.2% of industrial capacity in Apr. 2012, above the June 2009 low of 68.3% and the highest level since April 2008 “Full Capacity” Percent of Industrial Capacity Hurricane Katrina The closer the economy is to operating at “full capacity,” the greater the inflationary pressure March 2001-November 2001 recession December 2007-June 2009 Recession 18 Source: Federal Reserve Board statistical releases at http://www.federalreserve.gov/releases/g17/Current/default.htm.

  16. Manufacturing Employment,Jan. 2010—Apr. 2012* Manufacturing employment is up by nearly 500,000 or 4.3% since Jan. 2010—a surprising source of strength in the economy (Thousands) *Seasonally adjusted Sources: US Bureau of Labor Statistics at http://data.bls.gov; Insurance Information Institute. 19 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  17. ISM Non-Manufacturing Index (Values > 50 Indicate Expansion) January 2010 through April 2012 Optimism among non-manufacturers was stable in late 2011 and increased in early 2012 Non-manufacturing industries have been expanding and adding jobs. The question is whether this will continue. Source: Institute for Supply Management at http://www.ism.ws/ismreport/nonmfgrob.cfm; Insurance Information Institute.

  18. Business Bankruptcy Filings,1980-2012: Q1 % Change Surrounding Recessions 1980-82 58.6% 1980-87 88.7% 1990-91 10.3% 2000-01 13.0% 2006-09 208.9%* 2011 bankruptcies totaled 47,806, down 15.1% from 56,282 in 2010—the second consecutive year of decline. Business bankruptcies more than tripled during the financial crisis. Through Q1:2012, filings are down 11.1% vs. Q1:2011 Significant Exposure Implications for All Commercial Lines as Business Bankruptcies Begin to Decline Sources: American Bankruptcy Institute at http://www.abiworld.org/AM/AMTemplate.cfm?Section=Home&TEMPLATE=/CM/ContentDisplay.cfm&CONTENTID=61633; Insurance Information Institute 21 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  19. Private Sector Business Starts, 1993:Q2 – 2011:Q3* Business Starts2006: 872,0002007: 843,0002008: 790,0002009: 697,000 2010: 722,0002011: 748,000** (Thousands) Business starts were up 3.5% to 561,000 in the first 9 months of 2011 vs. first 9 months of 2011. 722,000 new business starts were recorded in 2010, up 3.6% from 697,000 in 2009, which was the slowest year for new business starts since 1993 Business Starts Were Down Nearly 20% in the Recession, Holding Back Most Types of Commercial Insurance Exposure, But Are Recovering Slowly * Data through June 30, 2011 are the latest available as of May 21, 2012; Seasonally adjusted. **Annualized based on data through Q3:2011. Source: Bureau of Labor Statistics, http://www.bls.gov/news.release/cewbd.t08.htm. 22 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  20. NFIB Small Business Optimism Index January 1985 through April 2012 Small business optimism has increased but is still only at the level it was when the Financial Crisis began Source: National Federation of Independent Business at http://www.advisorperspectives.com/dshort/charts/indicators/Sentiment.html?NFIB-optimism-index.gif ; Insurance Information Institute.

  21. 12 Industries for the Next 10 Years: Insurance Solutions Needed Health Care Health Sciences Energy (Traditional) Many industries are poised for growth, though insurers’ ability to capitalize on these industries varies widely Alternative Energy Petrochemical Agriculture Natural Resources Technology (incl. Biotechnology) Light Manufacturing Insourced Manufacturing Export-Oriented Industries Shipping (Rail, Marine, Trucking)

  22. Presidential Politics & the P/C Insurance Industry How Is Profitability Affected by the President’s Political Party? 25

  23. P/C Insurance Industry ROE by Presidential Administration, 1950- 2012* OVERALL RECORD: 1950-2012* Democrats 7.67% Republicans 7.97% Party of President has marginal bearing on profitability of P/C insurance industry *Truman administration ROE of 6.97% based on 3 years only, 1950-52; ROEs for the years 2008 forward exclude mortgage and financial guaranty segments. Estimated ROE for 2012 = 7.0%. Source: Insurance Information Institute

  24. P/C insurance Industry ROE by Presidential Party Affiliation, 1950- 2012* BLUE = Democratic PresidentRED = Republican President Nixon/Ford Clinton Bush II Reagan/Bush I Carter Obama Truman Eisenhower Kennedy/ Johnson *ROEs for the years 2008 forward exclude mortgage and financial guaranty segments; Estimated 2012 ROE = 7.0% Source: Insurance Information Institute

  25. Labor Market Trends Massive Job Losses Sapped the Economy and Commercial/Personal Lines Exposure, But Trend is Improving 28

  26. Unemployment and Underemployment Rates: Stubbornly High in 2012, But Falling January 2000 through April 2012, Seasonally Adjusted (%) U-6 went from 8.0% in March 2007 to 17.5% in October 2009; Stood at 14.5% in Apr. 2012 Recession ended in November 2001 Unemployment kept rising for 19 more months Recession began in December 2007 Unemployment stood at 8.1% in April 2012 Unemployment peaked at 10.1% in October 2009, highest monthly rate since 1983. Peak rate in the last 30 years: 10.8% in November - December 1982 Apr 12 Stubbornly high unemployment and underemployment constrain overall economic growth, but the job market is now clearly improving Source: US Bureau of Labor Statistics; Insurance Information Institute. 29 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  27. Monthly Change in Private Employment January 2008 through April 2012* (Thousands) 130,000 private sector jobs were created in April Monthly Losses in Dec. 08–Mar. 09 Were the Largest in the Post-WW II Period Private Employers Added 4.159 million Jobs Since Jan. 2010 After Having Shed 4.66 Million Jobs in 2009 and 3.81 Million in 2008 (State and Local Governments Have Shed Hundreds of Thousands of Jobs Source: US Bureau of Labor Statistics: http://www.bls.gov/ces/home.htm; Insurance Information Institute

  28. Cumulative Change in Private Employment: Dec. 2007—Apr. 2012 December 2007 through April 2012* (Millions) Cumulative job losses peaked at 8.444 million in December 2009 Cumulative job losses as of Apr. 2012 totaled 4.089 million All of the jobs “lost” since President Obama took office in Jan. 2009 have been recouped Private Employers Added 4.36 million Jobs Since Jan. 2010 After Having Shed 4.66 Million Jobs in 2009 and 3.81 Million in 2008 (State and Local Governments Have Shed Hundreds of Thousands of Jobs) Source: US Bureau of Labor Statistics: http://www.bls.gov/ces/home.htm; Insurance Information Institute

  29. Cumulative Change in Government Employment: Jan. 2010—Apr. 2012 January 2010 through April 2012* (Millions) Government at all levels has shed more than a half million jobs since Jan. 2010 even as private employers created 4.36 million jobs. Cumulative job losses through Apr. 2012 totaled 510,000 Temporary Census hiring distorted 2010 figures Governments at All Levels are Under Severe Fiscal Strain As Tax Receipts Plunged and Pension Obligations Soared During the Financial Crisis, Causing Them to Reduce Staff Source: US Bureau of Labor Statistics http://www.bls.gov/data/#employment; Insurance Information Institute

  30. Unemployment Rates by State, April 2012:Highest 25 States* In April, 37 states and the District of Columbia reported over-the-month unemployment rate decreases, 5 had increases, and 8 had no change. *Provisional figures for April 2012, seasonally adjusted. Sources: US Bureau of Labor Statistics; Insurance Information Institute.

  31. Unemployment Rates By State, April 2012: Lowest 25 States* In April, 37 states and the District of Columbia reported over-the-month unemployment rate decreases, 5 had increases, and 8 had no change. *Provisional figures for April 2012, seasonally adjusted. Sources: US Bureau of Labor Statistics; Insurance Information Institute.

  32. Nonfarm Payroll (Wages and Salaries):Quarterly, 2005–2012:Q1 Billions Latest (2011:Q4) was $6.88 trillion, a new peak Peak was 2008:Q1 at $6.60 trillion Pace of payroll growth is accelerating Recent trough (2009:Q3) was $6.25 trillion, down 5.3% from prior peak Growth rates in 2011/12Q2 over Q1: 0.6%Q3 over Q2: 0.4% Q4 over Q3: 1.3% Q1 over Q4: 1.0% Note: Recession indicated by gray shaded column. Data are seasonally adjusted annual rates. Sources: http://research.stlouisfed.org/fred2/series/WASCUR; National Bureau of Economic Research (recession dates); Insurance Information Institute. 39 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  33. Payroll vs. Workers Comp Net Written Premiums, 1990-2011 Payroll Base* WC NWP $Billions $Billions 12/07-6/09 7/90-3/91 3/01-11/01 WC premium volume dropped two years before the recession began +7.9% in 2011 WC net premiums written were down $14B or 29.3% to $33.8B in 2010 after peaking at $47.8B in 2005 Continued Payroll Growth and Rate Increases Suggest WC NWP Will Grow Again in 2012; +7.9% Growth in 2011 Was the First Gain Since 2005 *Private employment; Shaded areas indicate recessions. Payroll and WC premiums for 2011 is I.I.I. estimate Sources: NBER (recessions); Federal Reserve Bank of St. Louis at http://research.stlouisfed.org/fred2/series/WASCUR ; NCCI; I.I.I.

  34. Mass Layoff Announcements,Jan. 2002—Mar. 2012* Mass layoff announcements peaked at more than 3,000 per month in Feb. 2009 The 1,273 mass layoffs announced in Mar. 2012 was the smallest since Sept. 2007 *Percentage change from same month in prior year; through March 2012; seasonally adjusted Note: Recessions indicated by gray shaded columns. Sources: US Bureau of Labor Statistics at http://www.bls.gov/mls/; National Bureau of Economic Research (recession dates); Insurance Information Institute. 42 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  35. Average Weekly Hours of All Private Workers, Mar. 2006—Apr. 2012 (Hours Worked) Hours worked plunged during the recession, impacting payroll exposures Hours worked totaled 34.5 per week in April, just shy of the 24.6 hours typically worked before the “Great Recession” *Seasonally adjusted Note: Recessions indicated by gray shaded columns. Sources: US Bureau of Labor Statistics at http://www.bls.gov/data/#employment; National Bureau of Economic Research (recession dates); Insurance Information Institute. 43 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  36. Average Hourly Wage of All Private Workers, Mar. 2006—Apr. 2012 (Hourly Wage) The average hourly wage was $23.38, up 10.0% from $21.25 when the recession began in Dec. 2007 Wage gains continued during the recession, despite massive job losses *Seasonally adjusted Note: Recessions indicated by gray shaded columns. Sources: US Bureau of Labor Statistics at http://www.bls.gov/data/#employment; National Bureau of Economic Research (recession dates); Insurance Information Institute. 44 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  37. P/C Insurance Industry Financial Overview Profit Recovery Was Set Back in 2011 by High Catastrophe Loss & Other Factors 51

  38. P/C Net Income After Taxes1991–2011 ($ Millions) P-C Industry 2011 profits were down 46% to $19.2B vs. 2010, due primarily to high catastrophe losses and as non-cat underwriting results deteriorated • 2005 ROE*= 9.6% • 2006 ROE = 12.7% • 2007 ROE = 10.9% • 2008 ROE = 0.1% • 2009 ROE = 5.0% • 2010 ROE = 6.6% • 2011:Q3 ROAS1 = 3.5% * ROE figures are GAAP; 1Return on avg. surplus. Excluding Mortgage & Financial Guaranty insurers yields a 4.6% ROAS for 2011, 7.6% for 2010 and 7.4% for 2009. Sources: A.M. Best, ISO, Insurance Information Institute

  39. A 100 Combined Ratio Isn’t What ItOnce Was: Investment Impact on ROEs A combined ratio of about 100 generated ~5.5% ROE in 2009/10,10% in 2005 and 16% in 1979 Combined Ratio / ROE Combined Ratios Must Be Lower in Today’s DepressedInvestment Environment to Generate Risk Appropriate ROEs * 2008 -2011 figures are return on average surplus and exclude mortgage and financial guaranty insurers. 2011 combined ratio including M&FG insurers is 108.2, ROAS = 3.5%. Source: Insurance Information Institute from A.M. Best and ISO data.

  40. Profitability Peaks & Troughs in the P/C Insurance Industry, 1975 – 2011* History suggests next ROE peak will be in 2016-2017 ROE 1977:19.0% 1987:17.3% 2006:12.7% 10 Years 1997:11.6% 2011:4.6%* 10 Years 9 Years 1975: 2.4% 2001: -1.2% 1992: 4.5% 1984: 1.8% *Profitability = P/C insurer ROEs are I.I.I. estimates. 2011 figure is an estimate based on ROAS data. Note: Data for 2008-2011 exclude mortgage and financial guaranty insurers. For 2011:Q3 ROAS = 3.5% including M&FG. Source: Insurance Information Institute; NAIC, ISO, A.M. Best.

  41. Profitability and Growth in California, Louisiana, Oklahoma and Texas P/C Insurance Markets Analysis by Line and Nearby State Comparisons 58

  42. RNW All Lines: CA, LA, OK, TX vs. U.S., 2001-2010 (Percent) Average 2001-2010 US: 7.1% CA: 9.2% TX: 4.9% OK: 4.0% LA: -11.5% Sources: NAIC. 59

  43. RNW All Lines: CA, LA, OK, TX vs. U.S., 2001-2010 (Excl. 2005 LA Data) (Percent) Average 2001-2010 US: 7.1% CA: 9.2% LA: 7.5% (excl. 2005) TX: 4.9% OK: 4.0% LA: -11.5% Sources: NAIC. 60

  44. RNW Comm. Auto: CA, LA, OK, TX vs. U.S., 2001-2010 (Percent) Average 2001-2010 US: 9.2% CA: 10.6% LA: 7.5% TX: 6.8% OK: 8.1% LA: -3.1% Sources: NAIC. 61

  45. RNW Comm. Multi-Peril: CA, LA, OK, TX vs. U.S., 2001-2010 (Percent) Average 2001-2010 US: 8.3% CA: 11.9% TX: 2.2% OK: 4.3% LA: -18.1% Sources: NAIC. 62

  46. RNW Comm. Multi-Peril: CA, LA, OK, TX vs. U.S., 2001-2010 (Percent) Average 2001-2010 US: 8.3% CA: 11.9% TX: 2.2% OK: 4.3% LA: 5.0% Sources: NAIC. 63

  47. RNW Workers Comp: CA, LA, OK, TX vs. U.S., 2001-2010 (Percent) Average 2001-2010 US: 6.1% LA: 9.6% TX: 9.5% CA: 5.6% OK: 2.4% Sources: NAIC. 64

  48. All Lines: 10-Year Average RNW CA, LA, OK, TX vs. U.S. 2001-2010 Source: NAIC, Insurance Information Institute

  49. All Lines DWP Growth: CA, LA, OK, TX vs. U.S., 2002-2011 (Percent) OK is the growth leader in recent years Source: SNL Financial. 70

  50. Workers Comp DWP Growth: CA, LA, OK, TX vs. U.S., 2002-2011 (Percent) Source: SNL Financial. 71

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