NAMIC Commercial Lines Seminar Chicago, IL February 25, 2013 Download at iii/presentations

1. Overview & Outlook for the Commercial P/C Insurance Industry: Challenges and Opportunities for 2013 & Beyond NAMIC Commercial Lines Seminar Chicago, IL February 25, 2013 Download at www.iii.org/presentations 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. Presentation Outline • Economic Outlook & Exposure Analysis • Exposure and premium growth depend critically on growth trajectory for the economy • P/C Industry Performance: Overview & Outlook • Underwriting • Catastrophe Losses • Pricing • Growth • Capacity • Investments eSlide – P6466 – The Financial Crisis and the Future of the P/C

3. The Strength of the Economy Will Influence P/C Insurer Growth Opportunities Growth Will Expand Insurer Exposure Base Across Most Lines 3

4. 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 was severe 2013 is expected to see initially slow growth, then gradually accelerate throughout the year and into 2014 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 2/13; Insurance Information Institute.

5. 2012:Q4 GDP Number Was Not as Bad as the Headline Suggests • GDP declined by 0.1% in Q4 • The shrinkage in the economy was driven mostly by a decline in defense spending and a decumulation of inventory • State and local govt. are dragging on the economy as well • The private economy actually expanded by 1.2% Federal defense spending and govt. spending in general will drag on the economy Sources: Washington Post, Jan. 30, 2013; BEA ;Insurance Information Institute.

6. The Fiscal Cliff Was Just the Beginning: Budget Battles for Years to Come? Poll: 94% of P/C insurance executives think looming budget battles In Washington will hurt the economy.* • The “Fiscal Cliff” was just the beginning • There are 10+ “Fiscal Speed Bumps” over the next 5 years, setting up a potentially extended period of fiscal uncertainty • Creates long-term uncertainty around federal spending, tax policy, entitlements • Insurable exposures impacted Cuts seem certain Possible shutdown *P/C Insurance Joint Industry Forum press release (www.iii.org/press_releases), January 15, 2013. Source: Fix the Debt Coalition, January 18, 2013; Insurance Information Institute

7. Federal Spending as a Share of State GDP: Vulnerability to Sequestration Varies Sources: Pew Center on the States (2012) Impact of the Fiscal Cliff on the States; Wells Fargo; Insurance Information Institute.

8. Defense and Non-Defense Federal Spending as a Share of State GDP: Top 10 States* Defense Spending Non-Defense Spending Federal defense spending accounts for approximately 10%+ of GDP in 5 states Federal non-defense spending accounts for 10%+ of GDP in 3 states Sequestration Could Adversely Impact Commercial Insurance Exposures Directly at Defense Contractors and Indirectly in Impacted Communities *As of 2010. Sources: Pew Center on the States (2012) Impact of the Fiscal Cliff on the States; Wells Fargo Securities; Insurance Information Institute.

9. State-by-State Leading Indicatorsthrough 2013:Q1 Near-term growth forecasts vary widely by state 5 Fastest Growing States South Carolina 6.97%Michigan 4.32%West Virginia 3.59%Idaho 3.14%Georgia 3.04% 5 Slowest Growing States Wyoming -1.09% Delaware -0.24%North Dakota -0.19% Vermont 0.09%Minnesota 0.18% Sources: Federal Reserve Bank of Philadelphia at http://www.philadelphiafed.org/index.cfm ;Insurance Information Institute.

10. Consumer Sentiment Survey (1966 = 100) January 2010 through February 2013 Optimism among consumers rose in February despite tax hike, federal budget concerns 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 in 2012 Source: University of Michigan; Insurance Information Institute

11. Auto/Light Truck Sales, 1999-2014F Job growth and improved credit market conditions will boost auto sales in 2013 and beyond (Millions of Units) New auto/light truck sales fell to the lowest level since the late 1960s. Forecast for 2013-14 is still far below 1999-2007 average of 17 million units, but a robust recovery is well underway. 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 (2/13); Insurance Information Institute.

12. New Private Housing Starts, 1990-2014F Job growth, low inventories of existing homes, low mortgage rates and demographics are stimulating new home construction for the first time in years (Millions of Units) New home starts plunged 72% from 2005-2009; A net annual decline of 1.49 million units, lowest since records began in 1959 Homeowners Insurers Are Starting to See Meaningful Exposure Growth for the First Time Since 2005. Commercial Insurers with Construction Risk Exposure, Surety Also Benefit Source: U.S. Department of Commerce; Blue Chip Economic Indicators (2/13); Insurance Information Institute.

13. Construction Employment,Jan. 2010—January 2013* (Thousands) Construction employment growth accelerated in the second half of 2012. Stronger growth in this key sector is possible in 2013. *Seasonally adjusted Sources: US Bureau of Labor Statistics at http://data.bls.gov; Insurance Information Institute. 14 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

14. Construction Employment, Jan. 2003–Jan. 2013 (Thousands) Construction employment as of Jan. 2013 totaled 5.731 million, an increase of 296,000 jobs or 5.4% from the Jan. 2011 trough Construction employment peaked at 7.726 million in April 2006 Construction employment troughed at 5.435 million in Jan. 2011, after a loss of 2.291 million jobs, a 29.7% plunge from the April 2006 peak The “Great Recession” and housing bust destroyed 2.3 million constructions jobs The Construction Sector Could Be a Growth Leader in 2013 and 2014 as the Housing Market and Private Investment Recover. Commercial Insurers Will Benefit. Note: Recession indicated by gray shaded column. Sources: U.S. Bureau of Labor Statistics; Insurance Information Institute. 15 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

15. Commercial & Industrial Loans Outstandingat FDIC-Insured Banks, Quarterly, 2006-2012:Q3* $Trillions Commercial lending activity is nearly back to pre-crisis levels (+24.9% or $290B) Commercial lending plunged by 21.2% ($330B) during the financial crisis and ensuing period of tight credit Outstanding Commercial Loan Volume Has Been Growing for Over Two Years and Is Now Nearly Back to Early Recession Levels. Bodes Very Well for the Creation of Current and Future Commercial Insurance Exposures *Latest data as of 2/24/2013. Source: FDIC at http://www2.fdic.gov/qbp/ (Loan Performance spreadsheet); Insurance Information Institute. eSlide – P6466 – The Financial Crisis and the Future of the P/C

16. Value of Construction Put in Place, December 2012 vs. December 2011* Growth (%) Private: +15.0% Public: -5.6% Public sector construction activity remains depressed Private sector construction activity is up in both the residential and nonresidential segments 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.

17. Value of Private Construction Put in Place, by Segment, Dec. 2012 vs. Dec. 2011* Led by the Residential Construction, Lodging, Office, Transportation and Power industries, Private sector construction activity is up across many segments after plunging during the “Great Recession” Growth (%) Private Construction Activity is Up in Most Segments, Including the Key Residential Construction Sector *seasonally adjustedSource: U.S. Census Bureau, http://www.census.gov/construction/c30/c30index.html ; Insurance Information Institute.

18. Value of Public Construction Put in Place, by Segment, Dec. 2012 vs. Dec. 2011* Growth (%) Public sector construction activity is down substantially in many segments, but is actually now up in some key segments Transportation and Power projects lead public sector construction Public Construction Activity is Down in Many Segments as State and Local Budgets Remain Under Stress; Improvement Possible in 2013. *seasonally adjustedSource: U.S. Census Bureau, http://www.census.gov/construction/c30/c30index.html ; Insurance Information Institute.

19. ISM Manufacturing Index (Values > 50 Indicate Expansion) January 2010 through January 2013 Manufacturing activity expanded in 3 of the past 4 months, but only slightly. The recent trend is basically flat. The manufacturing sector expanded for 33 of the 37 months from Jan. 2010 through Jan. 2013. The question is whether this will continue. Source: Institute for Supply Management at http://www.ism.ws/ismreport/mfgrob.cfm; Insurance Information Institute.

20. Manufacturing Growth for Selected Sectors, 2012 vs. 2011* Growth (%) Non-Durables: +2.2% Durables: +7.0% Manufacturing of durable goods was especially strong in 2012 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 December 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/

21. Recovery in Capacity Utilization is a Positive Sign for Commercial Exposures March 2001 through January 2013 “Full Capacity” The US operated at 79.1% of industrial capacity in Jan. 2013, well above the June 2009 low of 68.3% 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 23 Source: Federal Reserve Board statistical releases at http://www.federalreserve.gov/releases/g17/Current/default.htm.

22. Manufacturing Employment,Jan. 2010—January 2013* Manufacturing employment is up by nearly 500,000 or 4.3% since Jan. 2010—a surprising source of strength in the economy. Employment in the sector is close to a multi-year high. (Thousands) *Seasonally adjusted Sources: US Bureau of Labor Statistics at http://data.bls.gov; Insurance Information Institute. 24 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

23. ISM Non-Manufacturing Index (Values > 50 Indicate Expansion) January 2010 through January 2013 Optimism among non-manufacturers is stable and remains expansionary in 2013 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.

24. Business Bankruptcy Filings,1980-2012:Q3 % 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 Q3:2012, filings were down 15.8% vs. Q3:2011 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 26 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

25. Private Sector Business Starts, 1993:Q2 – 2012:Q2* Business Starts2006: 872,0002007: 843,0002008: 790,0002009: 697,000 2010: 742,000 2011: 748,000 2012: 768,000* (Thousands) Business starts were up 2.2% to 748,000 in 2011 vs. 2010. In 2012, starts are likely to be up by about 2.7% over 2011 levels. Business Starts Were Down Nearly 20% in the Recession, Holding Back Most Types of Commercial Insurance Exposure, But Are Recovering Slowly * Annualized based on data through Jun. 30, 2012 (latest available as of Feb. 24, 2013); Seasonally adjusted. Source: Bureau of Labor Statistics, http://www.bls.gov/news.release/cewbd.t08.htm. 27 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

26. NFIB Small Business Optimism Index January 1985 through January 2013 Small business optimism has increased but took a big hit over fiscal fears Source: National Federation of Independent Business at http://www.advisorperspectives.com/dshort/charts/indicators/Sentiment.html?NFIB-optimism-index.gif ; Insurance Information Institute.

27. 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)

28. Oil & Gas Extraction Employment,Jan. 2010—January 2013* (Thousands) Oil and gas extraction employment is up 23.4% since Jan. 2010 as the energy sector booms. Domestic energy production is essential to any robust economic recovery in the US. *Seasonally adjusted Sources: US Bureau of Labor Statistics at http://data.bls.gov; Insurance Information Institute. 30 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

29. Growth Analysis by State and Business Segment Premium Growth Rates Vary Tremendously by State 33

30. Direct Premiums Written: Total P/CPercent Change by State, 2006-2011* Top 25 States A limited number of states showed strong growth over the past 5 years Sources: SNL Financial LC.; Insurance Information Institute.

31. Direct Premiums Written: Total P/CPercent Change by State, 2006-2011* Bottom 25 States States with the poorest performing economies also produced the most negative net change in premiums of the past 5 years Sources: SNL Financial LC.; Insurance Information Institute.

32. Direct Premiums Written: Comm. LinesPercent Change by State, 2006-2011* Top 25 States Only 12 states showed any commercial lines growth 2006 and 2011 Sources: SNL Financial LC.; Insurance Information Institute.

33. Direct Premiums Written: Comm. LinesPercent Change by State, 2006-2011* Bottom 25 States States with the poorest performing economies also produced the most negative net change in premiums of the past 5 years Sources: SNL Financial LC.; Insurance Information Institute.

34. Direct Premiums Written: Workers’ CompPercent Change by State, 2006-2011* Top 25 States *Excludes monopolistic fund states: ND, OH, WA, WY as well as WV, which transitioned to a competitive structure during this period. Sources: SNL Financial LC.; Insurance Information Institute.

35. Direct Premiums Written: Worker’s CompPercent Change by State, 2006-2011* Bottom 25 States States with the poorest performing economies also produced the most negative net change in premiums of the past 5 years *Excludes monopolistic fund states: ND, OH, WA, WY as well as WV, which transitioned to a competitive structure during this period. Sources: SNL Financial LC.; Insurance Information Institute.

36. Labor Market Trends Massive Job Losses Sapped the Economy and Commercial/Personal Lines Exposure, But Trend is Improving 43

37. Unemployment and Underemployment Rates: Stubbornly High in 2012, But Falling January 2000 through Jan. 2013, Seasonally Adjusted (%) U-6 went from 8.0% in March 2007 to 17.5% in October 2009; Stood at 14.4% in Jan. 2013 Recession ended in November 2001 Unemployment kept rising for 19 more months Recession began in December 2007 Unemployment stood at 7.9% in Jan. 2013—lowest in 4 years. 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 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. 44 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

38. Monthly Change in Private Employment January 2008 through Jan. 2013 (Thousands) 166,000 private sector jobs were created in January Monthly Losses in Dec. 08–Mar. 09 Were the Largest in the Post-WW II Period Jobs Created 2012: 2.247 Mill 2011: 2.420 Mill 2010: 1.235 Mill Private Employers Added 6.07million Jobs Since Jan. 2010 After Having Shed 4.98 Million Jobs in 2009 and 3.80 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

39. Cumulative Change in Private Sector Employment: Jan. 2010—Jan. 2013 January 2010 through January 2013* (Millions) Job gains and pay increases have added more than $600 billion to payrolls since Jan. 2010 Cumulative job gains through Jan. 2013 totaled 6.08 million Private Employers Added 6.07million Jobs Since Jan. 2010 After Having Shed 4.98 Million Jobs in 2009 and 3.80 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

40. Cumulative Change in Government Employment: Jan. 2010—Dec. 2012 January 2010 through Dec. 2012* (Millions) Government at all levels has shed more than half a million jobs since Jan. 2010 even as private employers created 5.42 million jobs, though losses may now be ending. Cumulative job losses through Dec. 2012 totaled 544,000 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

41. Unemployment Rates by State, December 2012:Highest 25 States* In December, 22 states reported over-the-month unemployment rate decreases, 16 states and the District of Columbia had increases, and 12 states had no change. *Provisional figures for December 2012, seasonally adjusted. Sources: US Bureau of Labor Statistics; Insurance Information Institute.

42. Unemployment Rates by State, December 2012: Lowest 25 States* In December, 22 states reported over-the-month unemployment rate decreases, 16 states and the District of Columbia had increases, and 12 states had no change. *Provisional figures for December 2012, seasonally adjusted. Sources: US Bureau of Labor Statistics; Insurance Information Institute.

43. US Unemployment Rate Forecast 2007:Q1 to 2014:Q4F* Jobless figures have been revised slightly downwards for 2013/14 Rising unemployment eroded payrolls and workers comp’s exposure base. Unemployment peaked at 10% in late 2009. Unemployment forecasts have been revised slightly downwards. Optimistic scenarios put the unemployment as low as 7.0% by Q4 of nextyear. * = actual; = forecasts Sources: US Bureau of Labor Statistics; Blue Chip Economic Indicators (2/13 edition); Insurance Information Institute.

44. Nonfarm Payroll (Wages and Salaries):Quarterly, 2005–2012:Q3 Billions Latest (2012:Q2) was $6.88 trillion, a new peak--$663B above 2009 trough Prior Peak was 2008:Q1 at $6.60 trillion Pace of payroll growth is slowing in 2012 Recent trough (2009:Q3) was $6.25 trillion, down 5.3% from prior peak Growth rates in 2012Q1:12 over Q4:11: 1.8%Q2 over Q1: 1.4% Q3 over Q2: 0.3% 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. 54 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

45. Payroll vs. Workers Comp Net Written Premiums, 1990-2012E 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 +9% in 2012E 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 2012 is I.I.I. estimate based YTD 2012 actuals. Sources: NBER (recessions); Federal Reserve Bank of St. Louis at http://research.stlouisfed.org/fred2/series/WASCUR ; NCCI; I.I.I.

46. P/C Insurance Industry Financial Overview Profit Recovery in 2012 After High CAT Losses; Ultimate Impact of Sandy Still Unclear 57

47. P/C Net Income After Taxes1991–2012:Q3 ($ Millions) P-C Industry 2012:Q3 profits were up 222% from 2011:Q3, due primarily to lower catastrophe losses • 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 ROAS1= 3.5% • 2012:Q3 ROAS1 = 6.3% * ROE figures are GAAP; 1Return on avg. surplus. Excluding Mortgage & Financial Guaranty insurers yields a 6.6% ROAS through 2012:Q3, 4.6% ROAS for 2011, 7.6% for 2010 and 7.4% for 2009. Sources: A.M. Best, ISO, Insurance Information Institute

48. A 100 Combined Ratio Isn’t What ItOnce Was: Investment Impact on ROEs A combined ratio of about 100 generates an ROE of ~6.6% in 2012, ~7.5% ROE in 2009/10,10% in 2005 and 16% in 1979 Combined Ratio / ROE Year Ago 2011:Q3 = 108.1, 3.1% ROE Combined Ratios Must Be Lower in Today’s DepressedInvestment Environment to Generate Risk Appropriate ROEs * 2008 -2012 figures are return on average surplus and exclude mortgage and financial guaranty insurers. 2012:Q3 combined ratio including M&FG insurers is 100.9, ROAS = 6.3%; 2011 combined ratio including M&FG insurers is 108.2, ROAS = 3.5%. Source: Insurance Information Institute from A.M. Best and ISO data.

49. Profitability Peaks & Troughs in the P/C Insurance Industry, 1975 – 2012:Q3* 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% 10 Years 2012:Q3: 6.6% 9 Years 2011:4.6%* 1975: 2.4% 2001: -1.2% 1992: 4.5% 1984: 1.8% *Profitability = P/C insurer ROEs. 2011 figure is an estimate based on ROAS data. Note: Data for 2008-2012 exclude mortgage and financial guaranty insurers. 2012:Q3 ROAS = 6.2% including M&FG. Source: Insurance Information Institute; NAIC, ISO, A.M. Best.

50. ROE vs. Equity Cost of Capital:U.S. P/C Insurance:1991-2012* (Percent) The P/C Insurance Industry Fell WellShort of Its Cost of Capital Every Year Since 2008 -3.2 pts -2.4 pts +1.7 pts -6.9 pts -7.3 pts -6.4 pts +2.3 pts -9.0 pts -13.2 pts The Cost of Capital is the Rate of Return Insurers Need to Attract and Retain Capital to the Business US P/C Insurers Missed Their Cost of Capital by an Average 6.7 Points from 1991 to 2002, but on Target or Better 2003-07, Fell Short in 2008-2012 * Return on average surplus in 2008-2012 excluding mortgage and financial guaranty insurers. 2012 figures are III estimates. Source: The Geneva Association, Insurance Information Institute 61 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C