LOOKING UP

First Net Underwriting Gains Since 2007 Mark P/C Insurers’ 2013 Results

Private U.S. property/casualty insurers’ net income after taxes grew to $63.8 billion in 2013 from $35.1 billion in 2012, with insurers’ overall profitability as measured by their rate of return on average policyholders’ surplus climbing to 10.3 percent from 6.1 percent. At 10.3 percent, insurers’ overall rate of return had risen to its highest level since the 12.4 percent for 2007.

Insurers’ pretax operating income — the sum of net gains or losses on underwriting, net investment income, and miscellaneous other income — rose to $64.3 billion in 2013 from $35.0 billion in 2012. Improvement in underwriting results drove the increases in insurers’ pretax operating income, net income after taxes, and overall rate of return, with insurers’ $15.5 billion in net gains on underwriting in 2013 constituting a $30.9 billion swing from their $15.4 billion in net losses on underwriting in 2012. The combined ratio — a key measure of losses and other underwriting expenses per dollar of premium — improved to 96.1 percent for 2013 from 102.9 percent for 2012, according to ISO, a Verisk Analytics company (Nasdaq:VRSK), and the Property Casualty Insurers Association of America (PCI). The swing to net gains on underwriting is attributable to premium growth and a drop in net losses and loss adjustment expenses (LLAE). Net written premiums climbed 4.6 percent in 2013 to $477.7 billion, and net earned premiums grew 4.2 percent to $467.9 billion. Conversely, net LLAE fell 5.5 percent in 2013 to $315.0 billion. Those positive developments were partially offset by increases in underwriting expenses and dividends to policyholders, which both rose last year. Insurers’ overall results for 2013 also benefited from a $4.6 billion increase in net investment gains — the sum of net investment income and realized capital gains (or losses) on investments — which rose to $58.8 billion in 2013 from $54.2 billion in 2012. Partially offsetting the improvement in underwriting and investment results, insurers’ miscellaneous other income fell $0.9 billion to $1.5 billion in 2013 from $2.4 billion in 2012, and their federal and foreign income taxes rose $5.8 billion to $12.0 billion from $6.1 billion. Policyholders’ surplus — insurers’ net worth measured according to Statutory Accounting Principles — grew $66.3 billion to a record $653.3 billion at year-end 2013 from $587.1 billion at year-end 2012, largely as a result of insurers’ $63.8 billion in net income after taxes. The figures are consolidated estimates for all private property/casualty insurers based on reports accounting for at least 96 percent of all business written by private U.S. property/casualty insurers. “The $66.3 billion increase in policyholders’ surplus to a record-high $653.3 billion at year-end 2013 is a testament to the strength and safety of insurers’ commitment to policyholders. Insurers are strong, well capitalized, and well prepared to pay future claims,” said Robert Gordon, PCI’s senior vice president for policy development and research. “The U.S. marketplace emerged relatively unscathed from the hurricane season last year. But advanced risk models show that losses from catastrophic events will continue to increase, and insurers will need to keep on building their financial resources to protect policyholders and bolster economic resiliency before the next major event like Hurricane Katrina or the September 11 terrorist attack occurs. Insurers are taking the steps necessary to secure their financial commitments to consumers. We are also working with homeowners, businesses, and federal, state, and local officials to improve disaster readiness and mitigation to minimize future human tragedy and economic losses. Catastrophe planning and preparation continue to be critical watchwords for 2014.” “The swing to net gains on underwriting in 2013 is certainly welcome news for insurers, whose net investment income — primarily interest on bonds and dividends from stocks — peaked at $55.1 billion in 2007 but totaled just $47.4 billion last year as a consequence of the historically low investment yields brought about by the financial crisis, the Great Recession, and the economy’s slow recovery from those events,” said Michael R. Murray, ISO’s assistant vice president for financial analysis. “Insurers earned net gains on underwriting in just 12 of the 55 yearsfrom the start of ISO’s data in 1959 to 2013, with insurers posting cumulative net losses on underwriting amounting to $485.9 billion during that period. But with much of the improvement in underwriting results last year attributable to special developments including relatively benign weather, a sharp drop in catastrophe losses, and increases in reserve releases, one has to wonder just how sustainable the net gains on underwriting will prove to be. Other items clouding the outlook for underwriting results include insurers’ record high policyholders’ surplus to the extent that it sheds light on insurers’ capacity to bear risk and the potential supply of insurance in competitive markets governed by the law of supply and demand.” The property/casualty industry’s 10.3 percent rate of return for 2013 was the net result of double-digit rates of return for mortgage and financial guaranty (M&FG) insurers and high single- digit rates of return for other insurers. ISO estimates that M&FG insurers’ rate of return on average surplus improved to 30.2 percent for 2013 from 0.4 percent for 2012. Excluding M&FG insurers, the industry’s rate of return rose to 9.8 percent in 2013 from 6.3 percent in 2012.

Underwriting Results

Underwriting gains (or losses) equal earned premiums minus LLAE, other underwriting expenses, and dividends to policyholders. Net gains on underwriting swung to positive $15.5 billion in 2013 from negative $15.4 billion in 2012 as premiums rose and LLAE declined. Net written premiums rose $21.0 billion, or 4.6 percent, to $477.7 billion for 2013 from $456.7 billion for 2012. Rising 4.6 percent, written premiums grew at their fastest pace since 2004, when written premiums rose 4.9 percent. Net earned premiums rose $19.0 billion, or 4.2 percent, to $467.9 billion from $448.9 billion. Earned premiums last increased this rapidly in 2006, when they rose 4.3 percent. Net LLAE (after reinsurance recoveries) dropped $18.2 billion, or 5.5 percent, to $315.0 billion in 2013 from $333.2 billion in 2012. The growth in premiums and the decline in LLAE were partially offset by increases in other underwriting expenses and dividends to policyholders. Other underwriting expenses increased $5.9 billion, or 4.6 percent, to $134.8 billion in 2013 from $128.9 billion in 2012 as dividends to policyholders grew $0.4 billion to $2.5 billion from $2.1 billion. The decrease in overall LLAE was driven by a decline in catastrophe losses, with ISO estimating that private insurers’ net LLAE from catastrophes fell $19.0 billion to $14.1 billion in 2013 from $33.1 billion in 2012. Other net LLAE rose $0.8 billion, or 0.3 percent, to $301.0 billion in 2013 from $300.1 billion in 2012. U.S. insurers’ $14.1 billion in net LLAE from catastrophes in 2013 is primarily attributable to catastrophes that struck the United States. Though estimating U.S. insurers’ LLAE from catastrophes elsewhere around the globe is difficult, the available information suggests that U.S. insurers’ net LLAE from catastrophes overseas were immaterial in both 2013 and 2012. Based on the information available as of April 18, 2014, ISO’s Property Claim Services® (PCS®) unit estimates that direct insured property losses from catastrophes striking the United States dropped $22.1 billion to $12.9 billion in 2013 from $35.0 billion in 2012. At $12.9 billion, direct catastrophe losses were $11.0 billion below the $23.9 billion average for direct catastrophe losses during the past ten years. Direct losses are before reinsurance recoveries and exclude loss adjustment expenses. These figures are for all insurers, including residual market insurers, foreign insurers, and reinsurers, but exclude ocean marine losses and losses covered by the National Flood Insurance Program. Reflecting the growth in premiums and the decline in LLAE, the combined ratio improved by 6.8 percentage points to 96.1 percent in 2013 from 102.9 percent in 2012. “The drop in net LLAE accounts for more than half of the improvement in underwriting results in 2013,” said Gordon. “Specifically, insurers’ combined ratio improved by 6.8 percentage points last year, with the drop in net LLAE accounting for 3.9 percentage points of that improvement. The remaining 2.9 percentage points of improvement are due to premium growth.” Underwriting results for 2013 benefited from $16.0 billion in favorable development of LLAE reserves based on new information and updated estimates for the ultimate cost of old claims from prior accident years. The $16.0 billion of favorable reserve development in 2013 follows $10.2 billion of favorable development in 2012. The $16.0 billion of favorable reserve development for the industry overall in 2013 reflects $3.5 billion of favorable reserve development for M&FG insurers and $12.4 billion of favorable reserve development for other insurers. M&FG insurers’ $3.5 billion of favorable reserve development in 2013 contrasts with their $2.0 billion of unfavorable reserve development in 2012. The amount of favorable reserve development for the industry excluding M&FG insurers rose $0.3 billion to $12.4 billion in 2013 from $12.1 billion the year before. Excluding development of LLAE reserves, total industry net LLAE fell $12.4 billion, or 3.6 percent, to $331.0 billion in 2013 from $343.4 billion in 2012, and the combined ratio improved by 5.7 percentage points to 99.5 percent from 105.2 percent. The $15.5 billion in net gains on underwriting in 2013 amounted to 3.3 percent of the $467.9 billion in net premiums earned during the period, whereas the $15.4 billion in net losses on underwriting in 2012 amounted to 3.4 percent of the $448.9 billion in net premiums earned during that period. “Largely as a result of favorable reserve development, mortgage and financial guaranty insurers posted superior underwriting results,” said Murray. “Mortgage and financial guaranty insurers’ combined ratio dropped 101.8 percentage points to 43.7 percent for 2013 from 145.6 percent for 2012, and their combined ratio for 2013 was 53.0 percentage points better than the 96.7 percent combined ratio for the industry excluding mortgage and financial guaranty insurers.” M&FG insurers’ net written premiums rose 6.1 percent to $5.1 billion for 2013 from $4.8 billion for 2012, but their net earned premiums fell 2.1 percent to $5.7 billion from $5.8 billion. The adverse effects of the decline in earned premiums and a $0.1 billion increase in underwriting expenses to $1.1 billion from $0.9 billion were more than offset by a decline in M&FG insurers’ LLAE, which fell 82.0 percent to $1.3 billion in 2013 from $7.4 billion in 2012. Excluding M&FG insurers, industry net written premiums rose 4.6 percent in 2013 to $472.6 billion, net earned premiums increased 4.3 percent to $462.2 billion, LLAE fell 3.7 percent to $313.7 billion, other underwriting expenses increased 4.5 percent to $133.8 billion, and dividends to policyholders increased 19.3 percent to $2.5 billion. As a result, the combined ratio for the industry excluding M&FG insurers improved to 96.7 percent for 2013 from 102.3 percent for 2012. “Growth in overall net written premiums accelerated to 4.6 percent in 2013 from 4.3 percent in 2012. Premiums last grew this rapidly in 2004, when they rose 4.9 percent,” said Murray. “But growth varied significantly by sector. Excluding mortgage and financial guaranty insurers, net written premium growth for insurers writing predominantly commercial lines slowed to 4.0 percent in 2013 from 5.5 percent in 2012 as premium growth for insurers writing more balanced books of business slipped to 4.1 percent from 4.6 percent. Conversely, net written premium growth for insurers writing mostly personal lines accelerated to 5.3 percent in 2013 from 3.5 percent in 2012.” “Underwriting profitability improved for all major sectors of the industry, reflecting the effects of premium growth and the drop in LLAE,” said Gordon. “Excluding mortgage and financial guaranty insurers, commercial lines insurers’ combined ratio dropped 8.0 percentage points in 2013 to 94.3 percent as balanced insurers’ combined ratio improved by 6.1 percentage points to 98.7 percent and personal lines insurers’ combined ratio fell 3.5 percentage points to 97.6 percent.”

Investment Results

Insurers’ net investment income — primarily dividends from stocks and interest on bonds — fell 1.4 percent to $47.4 billion in 2013 from $48.0 billion in 2012. But insurers’ realized capital gains on investments rose $5.3 billion to $11.4 billion in 2013 from $6.2 billion a year earlier. Combining net investment income and realized capital gains, overall net investment gains grew $4.6 billion, or 8.5 percent, to $58.8 billion for 2013 from $54.2 billion for 2012. “The decline in insurers’ investment income reflects declines in market yields, with the yield on insurers’ investments falling to 3.4 percent in 2013 from 3.6 percent in 2012. Insurers’ average holdings of cash and invested assets — the assets on which insurers earn investment income — actually rose 5.5 percent in 2013 compared with their average holdings a year earlier,” said Murray. “Based on annual data, insurers’ investment yield last fell this low in 1967, when it was 3.3 percent. From 1960 to 2013, insurers’ investment yield averaged 5.1 percent but ranged from as low as 2.8 percent in 1961 to as high as 8.2 percent in 1984 and 1985.” Combining the $11.4 billion in realized capital gains in 2013 with $36.1 billion in unrealized capital gains during the same period, insurers posted a record $47.6 billion in overall capital gains for 2013 — up $22.9 billion from the $24.6 billion in overall capital gains for 2012. From the start of ISO’s data in 1959 to 2012, insurers’ total capital gains ranged from as high as $39.8 billion in 1997 to as low as negative $72.7 billion in 2008 during the financial crisis. “Insurers’ overall capital gains for 2013 reflect positive developments in financial markets. The New York Stock Exchange Composite rose 23.2 percent in 2013 as the Dow Jones Industrial Average increased 26.5 percent, the S&P 500 rose 29.6 percent, and the NASDAQ Composite climbed 38.3 percent,” said Gordon. “Insurers’ investment results also benefited from a decrease in realized losses on impaired investments, which fell $1.4 billion to $1.7 billion in 2013 from $3.1 billion in 2012.”

Pretax Operating Income

Pretax operating income — the sum of net gains or losses on underwriting, net investment income, and miscellaneous other income — jumped $29.3 billion to $64.3 billion for 2013 from $35.0 billion for 2012. The $29.3 billion increase in operating income reflects the $30.9 billion swing to $15.5 billion in net gains on underwriting from $15.4 billion in net losses, with that development partially offset by the $0.7 billion decline in net investment income and the $0.9 billion drop in miscellaneous other income. M&FG insurers’ operating income improved to positive $4.2 billion in 2013 from negative $0.4 billion in 2012. Excluding M&FG insurers, the insurance industry’s operating income climbed $24.6 billion to $60.1 billion for 2013 from $35.4 billion for 2012.

Net Income after Taxes

Combining operating income, realized capital gains (losses), and federal and foreign income taxes, the insurance industry’s net income after taxes increased $28.7 billion to $63.8 billion for 2013 from $35.1 billion for 2012. The increase in net income was the net result of the $29.3 billion increase in operating income, the $5.3 billion increase in realized capital gains, and the $5.8 billion increase in federal and foreign income taxes. M&FG insurers’ net income after taxes rose to $4.2 billion for 2013 from $0.1 billion for 2012. Excluding M&FG insurers, the insurance industry’s net income after taxes grew $24.5 billion to $59.5 billion for the 12 months ending December 31, 2013, from $35.0 billion for the 12 months ending December 31, 2012.

Policyholders’ Surplus

Policyholders’ surplus climbed $66.3 billion to a record-high $653.3 billion as of December 31, 2013, from $587.1 billion at year-end 2012. Additions to surplus in 2013 included insurers’ $63.8 billion in net income after taxes, $36.1 billion in unrealized capital gains on investments (not included in net income), and $3.9 billion in new funds paid in. Those additions were partially offset by $28.3 billion in dividends to shareholders and $9.2 billion in miscellaneous charges against surplus. Unrealized capital gains on investments rose $17.7 billion to $36.1 billion in 2013 from $18.5 billion in 2012. New funds paid in fell to $3.9 billion in 2013 from $4.6 billion in 2012. Dividends to shareholders grew $4.6 billion, or 19.2 percent, to $28.3 billion in 2013 from $23.8 billion in 2012. Miscellaneous charges against surplus climbed to $9.2 billion in 2013 from $1.1 billion in 2012. M&FG insurers’ surplus rose to $15.7 billion as of December 31, 2013, from $12.5 billion at year-end 2012. Excluding M&FG insurers, industry surplus rose $63.1 billion to $637.7 billion as of December 31 last year from $574.6 billion as of December 31, 2012. “As of yearend 2013, the premium-to-surplus ratio was 0.73 — falling from 0.78 at year-end 2012 to a new record low based on data extending back to 1959. The new record-low 0.73 is only about half the 1.45 average premium-to-surplus ratio for the 55 years from 1959 to 2013. Similarly, the ratio of loss and loss adjustment expense reserves to surplus as of year-end 2013 was 0.88 — down from 0.98 a year earlier and far below the 1.39 average LLAE-reserves-to-surplus ratio for the past 55 years,” said Murray. “To the extent that these leverage ratios shed light on the amount of risk supported by each dollar of surplus, insurers are extremely well capitalized at this point and have ample capacity to meet increasing demand for coverage as the economy grows.”

Fourth-Quarter Results

The property/casualty insurance industry’s consolidated net income after taxes rose to $20.8 billion in fourth-quarter 2013, up $13.5 billion from $7.3 billion in fourth-quarter 2012. Property/casualty insurers’ annualized rate of return on average surplus climbed to 13.0 percent in fourth-quarter 2013 from 5.0 percent a year earlier. M&FG insurers’ annualized rate of return rose to 21.3 percent in fourth-quarter 2013 from 20.1 percent in fourth-quarter 2012 as their net income after taxes increased to $0.8 billion from $0.6 billion. Excluding M&FG insurers, the insurance industry’s annualized rate of return rose to 12.8 percent in fourth-quarter 2013 from 4.6 percent in fourth-quarter 2012 as net income after taxes grew to $20.0 billion from $6.6 billion. The $20.8 billion in net income after taxes for the entire insurance industry in fourth-quarter 2013 was a result of $18.6 billion in pretax operating income, $5.4 billion in realized capital gains on investments, and $3.2 billion in federal and foreign income taxes. The industry’s $18.6 billion in pretax operating income for fourth-quarter 2013 was up $15.0 billion from $3.6 billion for fourth-quarter 2012. The industry’s fourth-quarter 2013 pretax operating income was the net result of $5.0 billion in net gains on underwriting, $13.0 billion in net investment income, and $0.6 billion in miscellaneous other income. Excluding M&FG insurers, pretax operating income for fourth-quarter 2013 amounted to $17.9 billion — a $14.8 billion increase from $3.1 billion in pretax operating income for the industry excluding M&FG insurers in fourth-quarter 2012. The $5.0 billion in net gains on underwriting for the entire industry in fourth-quarter 2013 constitutes a $14.2 billion swing from the $9.2 billion in net losses on underwriting in fourth-quarter 2012. ISO estimates that the net LLAE from catastrophes included in private U.S. insurers’ financial results dropped to $1.3 billion in fourth-quarter 2013 from $15.7 billion a year earlier. Those amounts exclude LLAE that emerged after insurers closed their books for each period but do include late-emerging LLAE from events in prior periods. Excluding loss adjustment expenses, direct insured losses from catastrophes striking the United States in fourth-quarter 2013 totaled $1.0 billion — down $17.7 billion from the $18.8 billion in direct insured losses caused by catastrophes that struck the United States in fourth-quarter 2012, according to ISO’s PCS® unit. Fourth-quarter 2013 net gains on underwriting amounted to 4.2 percent of the $119.6 billion in premiums earned during the period, whereas fourth-quarter 2012 net losses on underwriting amounted to 8.1 percent of the $114.1 billion in premiums earned during that period. The industry’s combined ratio improved to 97.1 percent in fourth-quarter 2013 from 109.6 percent in fourth-quarter 2012. At 97.1 percent, the combined ratio for fourth-quarter 2013 was the lowest fourth-quarter combined ratio since the 95.0 percent combined ratio for fourth-quarter 2006. Since the start of ISO’s quarterly data in 1986, the fourth-quarter combined ratio has averaged 106.9 percent but has ranged from as high as 123.3 percent in 1992 to as low as 95.0 percent in 2006. The $5.0 billion in net gains on underwriting in fourth-quarter 2013 was after deducting $1.3 billion in premiums returned to policyholders as dividends, with dividends to policyholders up $0.3 billion from $1.0 billion in fourth-quarter 2012. Net written premiums rose $6.2 billion, or 5.8 percent, to $114.2 billion in fourth-quarter 2013 from $108.0 billion in fourth-quarter 2012, with fourth-quarter net written premiums growing at their fastest rate since 2003, when written premiums grew 8.5 percent. Net earned premiums grew $5.5 billion, or 4.8 percent, to $119.6 billion in fourth-quarter 2013 from $114.1 billion in fourth-quarter 2012, with fourth-quarter earned premiums rising at their fastest pace since 2004, when earned premiums rose 6.9 percent. LLAE fell 12.0 percent to $79.5 billion in the last quarter of 2013 from $90.3 billion in the last quarter of 2012 as a result of the decline in LLAE from catastrophes. Non-catastrophe LLAE rose 4.9 percent to $78.2 billion in fourth-quarter 2013 from $74.6 billion a year earlier. Excluding M&FG insurers, net written premiums rose 5.8 percent in fourth-quarter 2013, net earned premiums rose 5.0 percent, LLAE fell 12.2 percent, and the combined ratio improved to 97.4 percent from 110.0 percent in fourth-quarter 2012. “In fourth-quarter 2013, the industry achieved its fifteenth successive quarter of growth in written premiums, following 12 quarters of declines, and earned premiums have now risen for 14 successive quarters,” said Gordon. “The growth in earned premiums and the drop in loss and loss adjustment expenses were the biggest contributors to improvement in insurers’ overall results in fourth-quarter 2013.” The $13.0 billion in net investment income in fourth-quarter 2013 was up 2.9 percent compared with the $12.7 billion in net investment income in fourth-quarter 2012. Miscellaneous other income grew to $0.6 billion in fourth-quarter 2013 from $0.2 billion in fourth-quarter 2012. Realized capital gains on investments rose to $5.4 billion in fourth-quarter 2013 from $3.2 billion in fourth-quarter 2012. Combining net investment income and realized capital gains, net investment gains grew $2.5 billion, or 15.9 percent, to $18.4 billion in fourth-quarter 2013 from $15.9 billion a year earlier. Insurers posted $16.0 billion in unrealized capital gains on investments in fourth-quarter 2013 — up $14.3 billion from insurers’ $1.7 billion in unrealized capital gains in fourth-quarter 2012. Combining realized and unrealized amounts, the insurance industry posted $21.4 billion in overall capital gains in fourth-quarter 2013 — up $16.4 billion from the $5.0 billion in overall capital gains on investments in fourth-quarter 2012. The $21.4 billion in overall capital gains for fourth-quarter 2013 is after $0.4 billion in realized losses on impaired investments, with the amount of realized losses on impaired investments falling from $0.5 billion in fourth-quarter 2012.

About ISO

Since 1971, ISO has been a leading source of information about property/casualty insurance risk. For a broad spectrum of commercial and personal lines of insurance, the company provides statistical, actuarial, underwriting, and claims information; policy language; information about specific locations; fraud identification tools; and technical services. ISO serves insurers, reinsurers, agents and brokers, insurance regulators, risk managers, and other participants in the property/casualty insurance marketplace. ISO is a member of the Verisk Insurance Solutions group at Verisk Analytics (Nasdaq:VRSK). For more information, visit www.iso.com and www.verisk.com.

About PCI

PCI is composed of more than 1,000 member companies, representing the broadest cross section of insurers of any national trade association. PCI members write over $195 billion in annual premium, 39 percent of the nation’s property casualty insurance. Member companies write 46 percent of the U.S. automobile insurance market, 32 percent of the homeowners market, 37 percent of the commercial property and liability market, and 41 percent of the private workers compensation market. For more information, visit www.pciaa.net.