financial crisis and the future of p/c insurance challenges amid the global economic and regulatory...
TRANSCRIPT
Financial Crisis and the Future of P/C Insurance
Challenges Amid the Global Economic and Regulatory Storm
Robert P. Hartwig, Ph.D., CPCU, PresidentInsurance Information Institute 110 William Street New York, NY 10038
Tel: (212) 346-5520 Fax: (212) 732-1916 [email protected] www.iii.org
20th Annual P/C Insurance Executive ConferenceNew York, NY
November 20, 2008
Presentation Outline
• Financial Crisis: Federal Government’s Financial Rescue PackageEmergency Economic Stabilization Act of 2008 (w/revisions)Troubled Asset Relief Program (TARP)AIG Impacts for Financial Services and Insurers
• The Weakening Economy: Insurance ImpactsExposure & Claim ImpactsWhat Accelerating Inflation Means for InsurersLooming Financial Services Regulatory Reform
• P/C Insurance Industry Overview & Outlook
Q & A
Federal Government’s Financial Rescue
Package*(a.k.a. “The Bailout”)
Plan Details &Insurer Implications
*Including additional provision of the Emergency Economic Stabilization Act of 2008
Federal Government FinancialServices Rescue Package
Source: US Treasury, CNN Money.com and I.I.I. research.
THE SOLUTION: A 6-POINT PLAN1. Treasury Purchase of Equity Stakes in Banks
Treasury will buy up to $250B in senior preferred shares in wide variety of banks (out of $700B in EESA)
9 largest banks get $125B Stakes come in the form of non-voting shares and pay
5% for first 5 years and 9% thereafter Feds get warrants to buy up to 15% more shares Banks can buy back stake from government Must agree to limits on CEO compensation GOAL: Bolster bank capital/liquidity
Federal Government FinancialServices Rescue Package
Source: I.I.I. research; WSJ 10/25/08.
THE SOLUTION: A 6-POINT PLAN2. Treasury Purchase of Equity Stakes in Insurer(s)
Treasury has already purchased stake in AIG (on 11/9) & may expand Already being done in Europe (e.g., ING, Fortis, Aegon) Effort led by life insurers EESA language allows Treasury to take stakes in any financial
institution, but in rules governing spending of first $250B to recapitalize banks, program was limited to banks and bank holding companies
Treasury must therefore redraft or create new rules Unclear how Treasury would take an “equity” stake in a mutual insurer Smaller, healthy insurers may be upset if infusion puts them at
competitive disadvantage, funds are used to make acquisitions or decision to not take funds gives appearance of financial weakness
GOAL: Bolster insurers capital; Meet ratings agency/regulatory reqs.3. Backing New Debt from Banks
FDIC will guarantee new, senior unsecured debt issued by banks, thrifts and bank holding cos. Must mature within 3 years; Banks can opt in until 6/30/2009
GOAL: Restore confidence of buyers of bank debt that they will be paid back (no matter what happens to bank)
Federal Government FinancialServices Rescue Package
THE SOLUTION: A 6-POINT PLAN (Cont’d)4. More Coverage for Bank Deposits
FDIC will provide unlimited coverage for all non-interest bearing accounts through 12/31/09. (Such accounts are typically used by businesses to meet short-term expenses such as payrolls)
Paid for by fees/premiums paid to FDIC GOAL: Boost liquidity for otherwise healthy banks
(esp. regional and local banks that might see nervous depositors withdraw money in favor of bigger banks
5. Buy Short-Term Commercial Paper Federal Reserve will buy until 4/30/09 high-quality 3-month
debt issued by businesses in commercial paper market Commercial paper is the prime source of funding to cover
op. expenses at many large corps. and financial institutions GOAL: Guarantees there will be a buyer of debt, so private
sector buyers will be willing to buy tooSource: US Treasury, CNN Money.com and I.I.I. research.
Federal Government FinancialServices Rescue Package
THE SOLUTION: A 6-POINT PLAN (cont’d)6. Buy Troubled Assets: “Troubled Asset Relief
Program” (TARP) Up to $450B available (theoretically) available to
purchase troubled assets from banks (and others?) Limits on CEO Compensation in Participating Firms Pricing: Debt Sold to Feds via Reverse Auction• Reverse auction is one in which sellers bid lowest price it will
accept from the government (i.e., rather a traditional auction in which the highest bid from buyer wins). Helps ensure that the Feds (taxpayer) does not overpay for questionable debt
• Will be sold in multi-billion dollar increments and run by outside asset managers in amounts ranging up to $50 billion
• Recoupment provision allows government to assess users of program to make taxpayers whole if program loses money
• GOAL: By removing “toxic” assets with uncertain underlying value from bank balance sheets, banks should be better able to attract capital
Source: I.I.I. research.
SCRAPPED by Tre
asury
on
11/12/08
Taking Stakes In Insurers• Government May View Taking Stakes in Insurers as the
Next Phase of TARP$40B investment in AIG made 11/9
• Life Insurers and Diversified Insurers• Some seeking access to TARP via Capital Purchase Program• Insurers need to own thrift (i.e., S&L) in order to be eligible• Several insurers now purchasing thrifts; Many already own one
and could use them to seek funds if need arises
• Bond (a.k.a. Monoline Insurers) Looking for InfusionView is that bond insurance function is too valuable to failMuni debt markets are struggling and yields are highNeed to separate CDO/CDS exposure from tradition bond
insurance exposure; All written on the same capital
Source: I.I.I. research.
Top 10 Largest Bank Failures
$12.2 $13.0 $15.1 $18.5 $21.7 $30.2 $32.0 $32.5 $40.0
$307.0
$0
$50
$100
$150
$200
$250
$300
$350
Hom
efed
Ban
k(1
992,
San
Die
go)
Fir
st C
ity
Ban
corp
orat
ion
(198
8, H
oust
on)
Gib
ralt
arS
avin
gs (
1989
,S
imi V
alle
y)
Mco
rp (
1989
,D
alla
s)
Ban
k o
f N
ewE
ngl
and
(19
91,
Bos
ton
)
Am
eric
anS
avin
gs &
Loa
n(1
988,
Sto
ckto
n, C
A)
Ind
yMac
(20
08,
Pas
aden
a)
Fir
st R
epu
blic
(198
8, D
alla
s)
Con
tin
enta
lIl
linoi
s (1
984,
Ch
icag
o)
Was
hin
gton
Mu
tual
(20
08,
Sea
ttle
)
$ B
illi
ons
Source: FDIC; Insurance Information Institute research.
Resurgent bank failures (13 in 2008 as of Oct. 12)
are symptomatic of weakness in the financial system. FDIC says many
more may fail
Failure of IndyMac was the 4th largest in
history
Sept. 25 failure of Washington
Mutual was bar far the largest in
US history. Sold to JP Morgan Chase by govt. for $1.9B
plus WaMu’s loans and deposits
US Bank Failures:* 1995-2008
8
6
1
3
87
4
11
34
0 0
3
19
0
2
4
6
8
10
12
14
16
18
20
95 96 97 98 99 00 01 02 03 04 05 06 07 08*
Through November 8, 2008
Remarkable, as recently as 2005 and 2006, no banks
failed—the first time this had happened in FDIC history
(dating back to 1934)
*Includes all commercial banking and savings institutions. Source: FDIC: http://www.fdic.gov/bank/historical/bank/index.html; Insurance Info. Institute
Bank failures are up sharply. 19 banks have failed so far in 2008, including the largest in history—Washington Mutual with $307 billion in assets
US Bank Failures:* 1934-2008**
0
100
200
300
400
500
600
34
36
38
40
42
44
46
48
50
52
54
56
58
60
62
64
66
68
70
72
74
76
78
80
82
84
86
88
90
92
94
96
98
00
02
04
06
08
Through November 8, 2008
Great Depression
355 failures between 1934 and 1940*
Savings & Loan Crisis
2808 depository institutions failed between 1982 and 1992;
*Includes all commercial banking and savings institutions.**Data begin in 1934, the year the FDIC was established.Source: FDIC: http://www.fdic.gov/bank/historical/bank/index.html; Insurance Info. Institute
The S&L bailout cost taxpayers as much as
$160 billion. The current bailout could cost the government
much more.
Current Financial Crisis
19 banks have failed so far in 2008
Top 10 P/C Insolvencies, Based Upon Guaranty Fund Payments*
$2,265.8
$1,272.7
$1,049.7$843.4
$699.4$566.5 $555.8 $543.1 $531.6 $516.8
$0
$500
$1,000
$1,500
$2,000
$2,500
* Disclaimer: This is not a complete picture. If anything the numbers are understated as some states have not reported in certain years.
Source: National Conference of Insurance Guaranty Funds, as of September 17, 2008.
$ MillionsThe 2001 bankruptcy of Reliance Insurance was the largest ever among p/c insurers
Cost of 2008 Financial Services Rescue Package* vs. Other Major Govt. Spending Initiatives
$3,600
$700 $698 $597 $500 $454$256 $237 $217 $115 $98 $8 $1
$0
$500
$1,000
$1,500
$2,000
$2,500
$3,000
$3,500
$4,000
*The federal government could actually realize a return on some of the expenditures, reducing the ultimate cost.
Source: CNBC.com “Milestones in Government Spending,” accessed 11/15/08.
$ Millions(In 2008 Dollars)
The $700B rescue of financial services companies will be one of the most expensive government
initiatives in history*
Why Did Credit Markets Freeze & Why Are They So Hard to Thaw?
1. CRISIS OF CONFIDENCE: Banks are Fearful of Lending to Each Other as Well as Even Highly-Rated Corporate Risks Lehman and bank bankruptcies have deeply damaged faith in the
financial integrity of financial institutions Fear has spread to European banks Concern that US actions are insufficient and Europe’s too uncoordinated CONSEQUENCES: Lending is shriveling and LIBOR is rising
2. DELEVERAGING: Banks & Investors Want to Reduce Debt Issuing new loans, even short term, slows purge of debt from balance
sheets
3. TANGLED WEB OF RISK: Financial Innovations Designed to Spread and Hedge Against Risk Obscure Where Risk is Held an in What AmountsGenesis of the Systemic Risk The packaging, securitization and global sale of collateralized debt
obligations (CDOs) such as mortgage backed securities (MBS) has made every financial institution in the world vulnerable
Explosive and widespread use of derivative hedges such as credit default swaps create large numbers of potentially vulnerable counterpartiesSource: Wall Street Journal, 10/7/08, p. A2; Insurance Information Institute research.
Distribution of $700 Billion in Funds Under Emergency Economic Stabilization Act of 2008*
Unused Funds**, $410 , 58%
9 Large Banks*, $125 , 18%
Regional & Local Banks, $125 , 18%
AIG, $40 , 6%
Shifting Emphasis
•Original EESA allocated all $700B to Troubled Asset Relief Program. Treasury announced 11/13 none will be used for that purpose.
•Money now used to take stakes in banks and insurer(s)
•Only $60B of first $350B authorized by Congress remains
•Treasury hinting it will not seek to access use of second $350B during final weeks of Bush administration.
Source: US Treasury Department; Insurance Information Institute research; *As of 11/17/08. **Unused
$ Billions
Issues & Concerns If US Government Takes
Stakes in Insurers
As With Banks, Could Be Divisive Industry Issue
Potential Issues Arising If Government Takes Equity Stake in Insurers
• Life vs. P/C: Issue Being Pushed by Subset of IndustryLife insurers or those with significant life exposure are
lobbying heavily; Rift with rest of industry has emerged.
• View by Opponents is that P/C Insurers Don’t Need It & Tax Dollars Shouldn’t Used As Source of Cheap CapitalProvides unfair competitive advantageStrays from intent of Capital Purchase Program (CPP) which
should be restricted to distressed companies posing threat of systemic risk (via counterparty failure or major liquidity crisis in credit markets)*
*Source for this section: Evan G. Greenberg, “The Insurance Industry Doesn’t Need Subsidies,” Wall Street Journal, Oct. 31, 2008, p. A15.
Potential Issues Arising If Government Takes Equity Stake in Insurers (cont’d)
• Large vs. Small: Most Insurers are Healthy, Including Smaller Insurers Which Are the Most NumerousSmaller insurers could share concerns of small banks that
bigger firms getting federal dollars will be perceived as stronger by customers
Concern that recipients could use funds to make acquisitions of otherwise healthy competitors
• Stock vs. Mutual: Insurance ImpactsHow would/could the govt. take an equity stake in a mutual?Mutuals tend to sit on relatively more capital, are they put at a
disadvantage if predominantly stock companies get government money?
The Deleveragingof America
Economic Downdraft and Regulatory Questions
Leverage Ratios for InvestmentBanks and Traditional Banks*
33.0
24.3
23.3
21.5
15.4
13.3
12.4
10.8
10.5
44.0
0 10 20 30 40 50
Merrill Lynch
Morgan Stanley
Goldman Sachs
Lehman Brothers
Fannie Mae
Citibank
JP Morgan Chase
Wells Fargo
Wachovia
Bank of America
*Based on data for last quarter reported (May or June 2008).Source: “The Perils of Leverage,” North Coast Investment Research, Sept. 15, 2008
Investment bank leverage ratios were extremely high.
Lehman filed for bankruptcy 9/15
Merrill merged with JP Morgan Chase
Goldman and Morgan converted to bank holding companies
Credit Default Swaps: Notional Value Outstanding, 2002:H2 – 2008:H1*
*End of calendar half (H1 = June 30, H2 = December 31).
Source: International Swaps and Derivatives Association: http://www.isda.org/statistics/recent.html
$1.6 $2.7 $3.8 $5.4$8.4
$12.4$17.1
$26.0
$34.4
$45.5
$62.2
$54.6
$0
$10
$20
$30
$40
$50
$60
$70
02:H2 03:H1 03:H2 04:H1 04:H2 05:H1 05:H2 06:H1 06:H2 07:H1 07:H2 08:H1
$ TrillionsAt year end 2007, the
notional value of CDS’s outstanding was $62.2
trillion or 4.5 times US GDP, up nearly 40 fold from 2002.
The 12% decline in 08:H1 was the first since 2001.
The NY DOI has proposed regulated
CDS’s as insurance as of 1/1/09. Not all states feel they have this authority. NAIC is less interested.
Government Rescue Package of AIG
Motivation &Structural Details
AIG’s Revised “Rescue” Treatment in November 2008
Investor AIG Gets Investor GetsU.S. Treasury investment
•$40 Billion Cash Infusion
•$40 billion of preferred stock (comes from $700 billion TARP “bailout” fund)•Warrants to buy shares of common stock equal to 2% of the outstanding shares on day purchased; could result in ownership of 79.9% of common shares•10% dividend on preferred stock
Federal Reserve Bank (of NY) Loan
•$60 Billion Line of Credit; Term = 6 years
•Interest rate on borrowed money is 3%+3-month LIBOR (rate as of 11/11/2008 = 5.18%)•Rate on unborrowed money is 0.75%
Source: “AIG Gets a Break in U.S. Loan Deal,” NU Online New Service, Nov. 6, 2008.
Revised “Rescue” Treatment of AIG’s Credit Default Swaps
New Entity #1 Source of New Entity’s
Funds
AIG Gets FRB-NY Gets
•Will buy AIG’s Multi-Sector CDOs from owners (e.g., banks) on which AIG has written credit default swap contracts
•Former CDO owners get to keep about $35B in collateral AIG posted and will get about 50 cents on the dollar for $70B in face value of CDOs
•Up to $30 billion senior loan from FRB-NY•$5 billion subordinated loan from AIG (i.e., AIG absorbs first $5B in losses, if any)
• Losses on CDOs limited to decline in market value prior to sale of assets to new entity + $5 billion (subordinated loan)•No new collateral needed even if credit default swaps values decline further •Interest on loan at 3-month LIBOR + 3%•Profits, if any, shared with FRB-NY
•Interest on loan at 3-month LIBOR + 1%; this interest is paid before AIG’s interest•Profits, if any, shared with AIG
Sources: “AIG Gets a Break in U.S. Loan Deal,” NU Online News Service, Nov. 6, 2008; Mary Williams Walsh, “A.I.G. Secures $150 Billion Assistance Package, New York Times, November 11, 2008, p. C1
Revised “Rescue” Treatment of AIG’s Securities Lending Portfolio
New Entity #2 Source of New Entity’s Funds
AIG Gets FRB-NY Gets
Will buy residential mortgage-backed securities to resolve liquidity issue in AIG’s Securities Lending Portfolio (SLP)
•Up to $22.5 billion senior loan from FRB-NY•$1 billion subordinated loan from AIG (i.e., AIG absorbs first $5B in losses, if any)
•Losses on CDOs limited to declines in market value prior to sale of assets to new entity + $1 billion•Profits, if any, shared with FRB-NY
•Interest on loan•Profits, if any, shared with AIG
Sources: “AIG Gets a Break in U.S. Loan Deal,” NU Online News Service, Nov. 6, 2008; Mary Williams Walsh, “A.I.G. Secures $150 Billion Assistance Package, New York Times, November 11, 2008, p. C1
AIG’s Revised “Rescue” Treatment (continued)
AIGAccess U.S. Treasury’s commercial paper program?
•Yes, up to $20.9 billion; as of early November, AIG had issued about $15.3 billion•This is a cheaper source of funds than $60b loan (under 3.9% since program started)
Source: “AIG Gets a Break in U.S. Loan Deal,” NU Online New Service, Nov. 6, 2008.
Rational for Federal Reserve’s Rescue Package of AIG
• “Too Big to Fail” Doctrine Applied to Insurance for First Time
• AIG is the Largest Insurer in the US and One of the Top 5 Globally: Internationally Disruptive Disorderly unwinding of CDS positions (which guarantee large
amounts of debt) would have had large negative consequences on already fragile credit markets
• Fear Was that Generally Healthy Insurance Operations Affecting Millions of People and Businesses Would Have to Be Sold at Fire Sale Prices
• Original Loan and Subsequent Restructurings Allow Time for an Orderly Sale of Assets and a Minimal Disruption on Credit Markets while also Protecting Policyholders
Source: Insurance Information Institute research.
AFTERSHOCK: Regulatory Response
Could Be Harsh
All Financial Segments Including InsurersWill Be Impacted
Incurred Liabilities of the Federal Government Due to Financial Crisis
$700
$200
$29
$150
$0
$100
$200
$300
$400
$500
$600
$700
$800
Bank & FinancialInstitution Stakes
Fannie/FreddieTakeover
AIG Aid Package** Bear Stearns IlliquidAsset Assumption
$ B
illi
ons
*As of October 10, 2008. Amounts reflect maximum losses under terms at time of announcement.**Includes $40B from $700B institution stake allocation.Source: Wall Street Journal, 11/10/08, p. A1; Insurance Information Institute research updates.
The Fed (and hence taxpayer) are now exposed to as much as $1.1 trillion in new debt tied to
the current financial crisis*
$ Billions
$250B for Bank
Stakes
Post-Crunch: Fundamental Issues To Be Examined Globally
Source: Ins. Info. Inst.
• Failure of Risk Management, Control & Supervision at Financial Institutions Worldwide: Global Impact Colossal failure of risk management (and regulation) Implications for Enterprise Risk Management (ERM)? Misalignment of management financial incentives
• Focus Will Be on Risk Controls: Implies More Stringent Capital & Liquidity Requirements; Prevention of Systemic Risks Data reporting requirements also likely to be expanded Non-Depository Financial Institutions in for major regulation Changes likely under US and European regulatory regimes Will new regulations be globally consistent? Can overreactions be avoided?
• Accounting Rules Problems arose under FAS, IAS Asset Valuation, including Mark-to-Market Structured Finance & Complex Derivatives
• Ratings on Financial Instruments New approaches to reflect type of asset, nature of risk
Post-Crunch: Fundamental Regulatory Issues & Insurance
Source: Insurance Information Institute
• Federal Encroachment on Regulation of Insurance in Certain Amid a Regulatory Tsunami $150 billion in aid to AIG makes increased federal involvement in
insurance regulation a certainty States will lose some of their regulatory authority What Feds get/what states lose is unclear
• Removing the “O” from “OFC”? Treasury in March proposed moving solvency and consumer
protection authority to a federal “Office of National Insurance” Moving toward more universal approach for regulation of financial
services, perhaps under Fed/Treasury? Is European (e.g., FSA) approach in store? Treasury proposed assuming solvency and consumer protection roles
while also eliminating rate regulation Expect battle over federal regulatory role to continue to be a divisive
issue within the industry States will fight to maximize influence, arguing that segments of the
financial services industry under their control had the least problems
Major Regulatory Considerations for Insurance Regulation in 2009
• Power Sharing: Will Feds and States Divide Regulatory Authority & How?
Holding company (federal) and operating company/insurer (state)?
• Pre-Emption: Will Congress Pass Legislation Pre-Empting State Authority?
• Regulatory Consolidation: Will Regulatory Authority (now spread over 4+
agencies) be Consolidated Into One Entity? Will it Involve States?
• Life vs. P/C: Will Separate Regulatory Structures Emerge?
• Guarantee Fund System: FDIC has suggested federalization of system
• State Run Insurers: Who Would Regulate State-Run Insurers (Property, WC)?
Many coastal states have large state-run entities
About 25 states operate workers comp state funds or monopolistic insurers
• Regulation of Credit Default Swaps as Insurance: Supported by NY State
• Insurer Divisiveness: Industry is Not United on Many Key Issues
Source: Insurance Information Institute research.
Reasons Why Insurers Are Better Risk
Managers Than Banks
Insurers Will Emerge With Their Risk Management Model Largely Intact
6 Reasons Why P/C Insurers Have Fewer Problems Than Banks
1. Superior Risk Management Model Insurers overall approach to risk focuses on underwriting discipline,
pricing accuracy and management of potential loss exposure Banks eventually sought to maximize volume, disregarded risk
2. Low Leverage Insurers do not rely on borrowed money to underwrite insurance
3. Conservative Investment Philosophy High quality portfolio that is relatively less volatile and more liquid
4. Strong Relationship Between Underwriting and Risk Bearing Insurers always maintain a stake in the business they underwrite Banks and investment banks package up and securitize, severing the link
between risk underwriting and risk bearing, with disastrous consequences
5. Tighter Solvency Regulation Insurers are more stringently regulated than banks or investment banks
6. Greater Transparency Insurers are an open book to regulators and the public
Source: Insurance Information Institute
How Will an Obama Administration &
New Congress Impact the Industry?
Convention Wisdom & Agenda Items
Views on Potential Impact of Obama Administration & New Congress on
Insurance Industry• Regulation: Conventional Wisdom (CW) holds that Democrats are
more inclined to support new and more onerous regulation• More regulation was in store for finl. services no matter who was elected• OFC, Flood & Wind, Nat Cat, Surplus Lines• Federalization of Guarantee Fund System?• Advocacy group representatives may be appointed to run agencies
• Taxation: CWs says that Democrats are more comfortable with higher taxes Income, Capital Gains & Windfall Profit Taxes: Could rise or be implemented
in the future Offshore (Re)Insurers: Obama has criticized offshore tax havens Private Equity: Taxing earnings of PE partners as ordinary income rather
than 15% capital gains rate ; Source of some insurer capital recently• Tort: CW suggests Democrats are more friendly to trial Lawyer
Interests.• Erosion of recent tort reform• Creation of new liability channels/doctrines• Greatest impact on tort sensitive lines; Auto & WC also vulnerable
Presidential Politics & P/C Insurance
How is Profitability Affected by the President’s Political Party?
15.10%10.13%
8.93%8.65%
8.35%7.98%
7.68%6.98%6.97%
5.43%5.03%
4.83%4.43%
3.55%
16.43%
0% 2% 4% 6% 8% 10% 12% 14% 16% 18%
Carter
Reagan II
G.W. Bush II
Nixon
Clinton I
G.H.W. Bush
Clinton II
Reagan I
Nixon/Ford
Truman
Eisenhower I
Eisenhower II
G.W. Bush I
Johnson
Kennedy/Johnson
*ROE for 2008 based on H1 data. Truman administration ROE of 6.97% based on 3 years only, 1950-52.Source: Insurance Information Institute
OVERALL RECORD: 1950-2008*
Democrats 8.05%
Republicans 8.02%
Party of President has marginal bearing on profitability of P/C insurance industry
P/C Insurance Industry ROE byPresidential Administration,1950-2008*
THE ECONOMIC STORM
What a Weakening Economy and The Threat of Inflation Mean for
the Insurance Industry
Exposure & Claim Cost Effects
3.7
%
0.8
% 1.6
% 2.5
% 3.6
%
3.1
%
2.9
%
0.1
%
4.8
%
4.8
%
0.9
%
2.8
%
-0.3
%
-1.5
%
0.2
%
1.5
% 2.1
%
-2.8%
-0.2%
-4%
-3%
-2%
-1%
0%
1%
2%
3%
4%
5%
6%
2
00
0
2
00
1
2
00
2
2
00
3
2
00
4
2
00
5
2
00
6
07
:1Q
07
:2Q
07
:3Q
07
:4Q
08
:1Q
08
:2Q
08
:3Q
08
:4Q
09
:1Q
09
:2Q
09
:3Q
09
:4Q
Real GDP Growth*
*Yellow bars are Estimates/Forecasts from Blue Chip Economic Indicators.Source: US Department of Commerce, Blue Economic Indicators 11/08; Insurance Information Institute.
Recession likely began Q3:08. Economic toll of credit
crunch, housing slump, labor market contraction and high
energy prices is growing
3.0
3.5
4.0
4.5
5.0
5.5
6.0
6.5
7.0
Ja
n-0
0
Ja
n-0
1
Ja
n-0
2
Ja
n-0
3
Ja
n-0
4
Ja
n-0
5
Ja
n-0
6
Ja
n-0
7
Ja
n-0
8
Oct
-08
January 2000 through October 2008
Unemployment will likely exceed 7% during this cycle, impacting payroll sensitive p/c and non-life exposures
Source: US Bureau of Labor Statistics; Insurance Information Institute.
Oct. 2008 unemployment jumped to 6.5%, exceeding the 6.3% peak
during the previous cycle
Unemployment Rate:On the Rise
Average unemployment rate since 2000 is 5.0%
Previous Peak: 6.3% in June 2003
Trough: 4.4% in March 2007
U.S. Unemployment Rate,(2007:Q1 to 2009:Q4F)*
4.7%
4.6% 4.7%
4.5%
4.5%
4.5% 4.6% 4.
8% 4.9%
5.3%
6.0%
6.5%
6.9%
7.3%
7.6% 7.7%
4.0%
4.5%
5.0%
5.5%
6.0%
6.5%
7.0%
7.5%
8.0%
8.5%
06:Q1 06:Q2 06:Q3 06:Q4 07:Q1 07:Q2 07:Q3 07:Q4 08:Q1 08:Q2 08:Q3 08:Q4 09:Q1 09:Q2 09:Q3 09:Q4
* Blue bars are actual; Yellow bars are forecastsSources: US Bureau of Labor Statistics; Blue Chip Economic Indicators (11/08); Insurance Info. Inst.
Rising unemployment will erode payrolls and workers
comp’s exposure base.
Unemployment is expected to peak at nearly 8% in the
second half of 2009.
Monthly Change Employment*(Thousands)
-76 -83 -88-67
-47
-100
-67
-127
-284
-240
-300
-250
-200
-150
-100
-50
0
Jan-08 Feb-08 Mar-08 Apr-08 May-08 Jun-08 Jul-08 Aug-08 Sep-08 Oct-08
Job losses now total 1.179 million (from January through October
2008); 10.1 million people are now defined as unemployed.
Source: US Bureau of Labor Statistics: http://www.bls.gov/ces/home.htm; Insurance Info. Institute
New Private Housing Starts,1990-2019F (Millions of Units)
2.07
1.80
1.36
0.94
0.83
1.17
1.50
1.66
1.66 1.68
1.62
1.48
1.35
1.46
1.29
1.20
1.01
1.19
1.47
1.62 1.64
1.57 1.60
1.71
1.85
1.96
0.80.91.01.11.21.31.41.51.61.71.81.92.02.1
90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07F08F09F10F11F12F13F14F 15-19F
Exposure growth forecast for HO insurers is dim for 2008/09
Impacts also for comml. insurers with construction risk exposure
New home starts plunged 34% from 2005-2007;
Drop through 2009 trough is 60% (est.)—a net annual decline of
1.24 million units
I.I.I. estimates that each incremental 100,000 decline in housing starts costs
home insurers $87.5 million in new exposure (gross premium). The net
exposure loss in 2009 vs. 2005 is estimated at about $1.1 billion.
Source: US Department of Commerce; Blue Chip Economic Indicators (11/08); Insurance Information Inst.
16.2 16.416.916.9
16.617.1
17.517.8
17.4
16.516.1
13.4
12.4
14.7
15.515.8
16.1
12
13
14
15
16
17
18
19
99 00 01 02 03 04 05 06 07F 08F 09F 10F 11F 12F 13F 14F 15-19F
Weakening economy, credit crunch and high gas prices are hurting
auto sales
New auto/light trick sales are expected to experience a net
drop of 3.5 million units annually by 2008 compared
with 2005, a decline of 20.7%
Impacts of falling auto sales will have a less pronounced effect on auto insurance exposure growth
than problems in the housing market will on home insurers
Auto/Light Truck Sales,1999-2019F (Millions of Units)
Source: US Department of Commerce; Blue Chip Economic Indicators (11/08); Insurance Information Inst.
$0
$1,000
$2,000
$3,000
$4,000
$5,000
$6,000
$7,000
89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07*
$0
$5
$10
$15
$20
$25
$30
$35
$40
$45Wage & SalaryDisbursementsWC NPW
*Average of quarterly figures.Source: US Bureau of Economic Analysis; Federal Reserve Bank of St. Louis at http://research.stlouisfed.org/fred2/series/WASCUR; I.I.I. Fact Books
Wage & Salary Disbursements (Payroll Base) vs. Workers Comp
Net Written Premiums
7/90-3/91
Shaded areas indicate recessions
3/01-11/01
Wage & Salary Disbursement (Private Employment) vs. WC NWP$ Billions $ Billions
Weakening wage and salary growth is
expected to cause a deceleration in workers comp
exposure growth
Total Industrial Production,(2007:Q1 to 2009:Q4F)
1.5%
3.2% 3.6%
0.3% 0.4%
-3.1%
-6.0%-5.0%
-3.0%
-0.8%
1.0%2.1%
-8.0%
-6.0%
-4.0%
-2.0%
0.0%
2.0%
4.0%
6.0%
07:Q1 07:Q2 07:Q3 07:Q4 08:Q1 08:Q2 08:Q3 08:Q4 09:Q1 09:Q2 09:Q3 09:Q4Sources: US Bureau of Labor Statistics; Blue Chip Economic Indicators (11/08); Insurance Info. Inst.
Industrial production began to contract sharply
during Q2 2008 and is expected to shrink through
the first half of 2009
Industrial production affects exposure both directly and indirectly
5.2%
-0.9
%-7
.4%
-6.5
%-1
.5%
1.8%
4.3%
18.6
%20
.3%
5.8%
0.3%
-1.6
%-1
.0%
-1.8
%-1
.0%
3.1%
1.1%
0.8%
0.4%
0.6%
-0.4
%-0
.3%
1.6%
5.6%
13.7
%7.
7%1.
2%-2
.9% -0
.5%
-3.4
%-4
.9%
-10%
-5%
0%
5%
10%
15%
20%
25%7
87
98
08
18
28
38
48
58
68
78
88
99
09
19
29
39
49
59
69
79
89
90
00
10
20
30
40
50
60
70
8F
Rea
l N
WP
Gro
wth
-4%
-2%
0%
2%
4%
6%
8%
Rea
l G
DP
Gro
wth
Real NWP Growth Real GDP
Real GDP Growth vs. Real P/C Premium Growth: Modest Association
P/C insurance industry’s growth is influenced modestly by growth
in the overall economy
Sources: A.M. Best, US Bureau of Economic Analysis, Blue Chip Economic Indicators, 8/08; Insurance Information Inst.
The Housing CrashCollapse of Home Price Bubble
Will Influence Auto &Home Purchases and Slow Insurer Exposure Growth
Case-Schiller Home Price Index: 20 City Composite
0
50
100
150
200
250
Jan
-00
Jan
-01
Jan
-02
Jan
-03
Jan
-04
Jan
-05
Jan
-06
Jan
-07
Jan
-08
January 2000 = 100
Peak in July 2006 at 206.52, meaning home prices had
more than doubled between Jan. 2000 and July 2006
August 2008 index value was 164.57, meaning home prices were 20.3% below their July 2006 peak
Home prices are approximately where they were in mid 2004
Source: Standardandpoors.com (SPCS20R Index); Insurance Info. Institute
Au
g-08
Loss of home equity is hurting car sales
Change in Home Values from July 2006 Housing Bubble Peak, by City*
-36.
3%
-35.
8%
-34.
1%
-32.
5%
-30.
9%
-30.
4% -26.
8%
-25.
0%
-22.
0%
-20.
3%
-16.
9% -10.
8%
-10.
5%
-10.
4% -8.5
%
-7.5
%
-5.4
%
-4.3
%
-2.6
%
-2.0
%
3.2%
-40%
-35%
-30%
-25%
-20%
-15%
-10%
-5%
0%
5%
10% Home prices are falling across the country, down 20.3% on average in August 2008
*Calculated as of August 2008 (latest available) by III from monthly Case-Schiller price index data. Date of maximum price varies by city (July 2006 for 20-city composite: SPCS20R Index).Source: Case-Schiller Home Price Index at Standardandpoors.com; Insurance Info. Institute
Home equity is a common source of wealth used to
fund car purchases
Home Price History:Anatomy of a Bubble
-20%
-15%
-10%
-5%
0%
5%
10%
15%
20%
25%
Annual Change on a Monthly Basis: Jan. 1988 – Aug. 2008
Source: Standardandpoors.com (CSXR series); Insurance Info. Institute
Jan. 1988
Early stages of S&L fallout; Credit tightens
post-Oct. 1987 crash
April 1991
Max pace of decline.
S&L bank shakeout; Recession, Gulf War,
Energy price spike
Aug. 1990
Price decline begins.
Gulf War, Energy price spike, Recession
March 1996
House price recovery begins after 6 years of falling or flat prices.
Feb. 2002
Home price increases slow post 9/11 and tech bubble collapse; recession ends late 2001. Stock markets
down; Lowest interest rates in 40 years begin to fuel massive real estate
and credit bubble
Jul. 2004
Peak annual increase reached: 20.5%;
Credit standards deteriorate rapidly; Explosion in subprime loans, MBS, CDS
Jan. 2007
Home prices
begin to fall
Aug. 2008
Home prices plunge
17.7% vs. Aug. 2007
323.1
272.1
318.4345.6
437.5
488.5
635.2 642.2 649.9
739.7765.6
200
300
400
500
600
700
800
Q106 Q206 Q306 Q406 Q107 Q207 Q307 Q407 Q108 Q208 Q308
U.S. Quarterly Foreclosure Filings
Source: RealtyTrac.com
ThousandsThere were more than 2.2 million U.S. foreclosure filings in 2007, a 75%
increase over 2006. In 2008, the level of foreclosure
filings is already close to surpassing 2007’s total.
Inflation Overview
Pressures Claim Costs, Expands Probable & Possible Max Losses
Annual Inflation Rates(CPI-U, %), 1990-2009F
4.9 5.1
3.0 3.2
2.6
1.51.9
3.3 3.4
1.3
2.5 2.3
3.0
3.8
2.8
3.74.2
1.5
2.82.92.4
0
1
2
3
4
5
6
90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08* 08F 09F
*12-month change October 2008 vs. October 2007 Sources: US Bureau of Labor Statistics; Blue Chip Economic Indicators, November 10, 2008. (forecasts)
In October 2008, on a year-over-year basis inflation was 3.7% -- still high but down
from its peak of 5.6% in August
Tort Cost Growth & Medical Cost Inflation vs. Overall Inflation (CPI-U), 1961-2008*
0%
2%
4%
6%
8%
10%
12%
14%
1961-70 1971-80 1981-90 1991-2000 2001-08E
Tort Costs Medical Costs CPI
*Medical cost and CPI-U through April 2008 from BLS. Tort figure is for full-year 2008 from Tillinghast.
Tort System is an Inflation Amplifier
Avg. Ann. Change: 1961-2008*
Torts Costs: +8.4%Med Costs: +6.0%
Overall Inflation: +4.2%
Sources: US Bureau of Labor Statistics, Tillinghast-Towers Perrin, 2007 Update on U.S. Tort Costs; Insurance Info. Inst.
Tort costs move with inflation but at twice the rate
High Energy Costs, Recession
Driving Patterns and Auto Claiming Behavior
Do Changes in Miles Driven AffectAuto Collision Claim Frequency?
7.00
6.81
6.59
6.80 6.78
6.91
6.65
6.32
6.035.93
5.71
5.84 5.82
5.5
6.0
6.5
7.0
96 97 98 99 00 01 02 03 04 05 06 07 08*
Pa
id C
laim
Fre
q
2400
2500
2600
2700
2800
2900
3000
3100
Bil
lio
ns
of
Mil
es D
rive
n
Collision Claim FrequencyBillions of Vehicle Miles
Sources: Federal Highway Administration (http://www.fhwa.dot.gov/ohim/tvtw/08juntvt/08juntvt.pdf; ISO Fast Track Monitoring System, Private Passenger Automobile Fast Track Data: First Half 2008, published October 1, 2008 and earlier reports. 2008 figure is for 4 quarters ending Q2 2008.
Paid Claim Frequency = (No. of paid claims)/(Earned Car Years) x 100
Auto Insurance: Claim Frequency Impacts of Energy Crisis of 1973/4
Source: ISO, US DOT.
Oct. 17, 1973: Arab oil embargo
begins
Frequency Impacts
Collision: -7.7%
PD: -9.5%
BI: -13.3%
March 17, 1974: Arab
oil states announce
end to embargo
Driving Stats
Gas prices rose 35-40%
Miles driven fell 6.7% in
1974
Frequency began to rebound almost
immediately after the embargo
ended
P/C INSURANCE PROFITABILITY
In the Midstof a Cyclical Decline
P/C Net Income After Taxes1991-2009F ($ Millions)*
$14,
178
$5,8
40
$19,
316
$10,
870
$20,
598
$24,
404 $3
6,81
9
$30,
773
$21,
865
$3,0
46
$30,
029
$61,
940
$27,
866
-$6,970
$65,
777
$44,
155
$20,
559
$38,
501
-$10,000
$0
$10,000
$20,000
$30,000
$40,000
$50,000
$60,000
$70,000
91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07
08F
*ROE figures are GAAP; 1Return on avg. surplus. 2008 numbers are annualized based on H1 actual.Sources: A.M. Best, ISO, Insurance Information Inst.
2001 ROE = -1.2%2002 ROE = 2.2%2003 ROE = 8.9%2004 ROE = 9.4%2005 ROE= 9.4%2006 ROE = 12.2%2007 ROAS1 = 12.3%2008 ROAS = 5.4%*
Insurer profits peaked in 2006.
-5%
0%
5%
10%
15%
20%
87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08F09F10F
US P/C Insurers All US Industries
ROE: P/C vs. All Industries 1987–2010F
2008 P/C insurer figure is annualized H1 return on average surplus. Excluding mortgage and financial guarantee insurers = 7.6%. Source: ISO, Fortune; Insurance Information Institute.
Andrew Northridge
Hugo Lowest CAT losses in 15 years
Sept. 11
4 Hurricanes
Katrina, Rita, Wilma
P/C profitability is cyclical and volatile
Mortgage & Financial Guarantee Impact
-5%
0%
5%
10%
15%
20%
25%
75 76 77 78 79 80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07*
08F
09F
10F
1975: 2.4%
1977:19.0% 1987:17.3% 1997:11.6% 2006:12.2%
1984: 1.8% 1992: 4.5% 2001: -1.2%
10 Years10 Years
9 Years
*GAAP ROE for all years except 2007 and 2008 which are ROAS (statutory Return on Average Surplus).2008 ROAS is annualized based on H1 2008. Excluding mortgage and financial guarantee insurers = 7.6%Sources: ISO; Insurance Information Institute.
2008: 5.4%(7.6% excl. M&FG)
P/C Insurance Industry ROEs,1975 – 2010F*
2010: 5.0%
-4%
-2%
0%
2%
4%
6%
8%
10%
12%
14%
16%
18%
91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08*
ROE Cost of Capital
ROE vs. Equity Cost of Capital:US P/C Insurance:1991-2008:H1
*Excludes mortgage and financial guarantee insurers.Source: The Geneva Association, Ins. Information Inst.
The p/c insurance industry achieved its cost of capital in 2005/6 for the first time in many years
-13.
2 p
ts
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
-1.7
pts
+2.
3 p
ts
-9.0
pts
The cost of capital is the rate of return
insurers need to attract and retain
capital to the business
-1.3
pts
P/C PREMIUM GROWTH
Declines in 2007 and 2008, Small Gains Beginning
in 2009?
-2%
0%
2%
4%
6%
8%
10%
12%
14%
16%
18%
20%
22%
24%
1971
1972
1973
1974
1975
1976
1977
1978
1979
1980
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
Sources: A.M. Best, ISO, Insurance Information Institute
Strength of Recent Hard Marketsby NWP Growth
1975-78 1984-87 2000-03
Shaded areas denote “hard
market” periods
In 2007 net written premiums fell 1.0%, the first
decline since 1943
PRICING TRENDS
Under Pressure, but Some Firming
0.8
%
0.8
%
0.5
%
0.4
%
0.3
%
0.3
%
0.5
%
0.6
%
0.5
%
0.1
% 0.5
% 0.9
%
1.1
%
1.3
% 1.7
%
2.6
%
2.6
%
2.7
% 3.0
%
3.1
% 3.4
%
0.2
%
0%
1%
1%
2%
2%
3%
3%
4%
4%
Ja
n-0
7
Fe
b-0
7
Ma
r-0
7
Ap
r-0
7
Ma
y-0
7
Ju
n-0
7
Ju
l-0
7
Au
g-0
7
Se
p-0
7
Oc
t-0
7
No
v-0
7
De
c-0
7
Ja
n-0
8
Fe
b-0
8
Ma
r-0
8
Ap
r-0
8
Ma
y-0
8
Ju
n-0
8
Ju
l-0
8
Au
g-0
8
Se
p-0
8
Oc
t-0
8
Monthly Change in Auto Insurance Prices*
*Percentage change from same month in prior year.Source: US Bureau of Labor Statistics
Auto insurance prices have clearly
begun to rise in recent months
Average Commercial Rate Change,All Lines, (1Q:2004 – 3Q:2008)
-3.2
%
-5.9
%
-7.0
%
-9.4
%
-9.7
% -8.2
%
-4.6
% -2.7
%
-3.0
%
-5.3
%
-9.6
%
-11.
3%
-11.
8%
-13.
3% -12.
0%
-13.
5%
-12.
9% -11.
0%
-16%
-14%
-12%
-10%
-8%
-6%
-4%
-2%
0%
1Q04
2Q04
3Q04
4Q04
1Q05
2Q05
3Q05
4Q05
1Q06
2Q06
3Q06
4Q06
1Q07
2Q07
3Q07
4Q07
1Q08
2Q08
3Q08
Source: Council of Insurance Agents & Brokers; Insurance Information Institute
KRW Effect
-0.1
%
Magnitude of price declines is now shrinking. Reflects
deteriorating underwriting performance, reduced
investments, shrinking capital.
UNDERWRITINGTRENDS
Extremely Strong 2006/07;Relying on Momentum &
Discipline for 2008
90
95
100
105
110
115
120
70
71
72
73
74
75
76
77
78
79
80
81
82
83
84
85
86
87
88
89
90
91
92
93
94
95
96
97
98
99
00
01
02
03
04
05
06
07
08
F
Combined Ratios
1970s: 100.3
1980s: 109.2
1990s: 107.8
2000s: 102.0*
Sources: A.M. Best; ISO, III *A.M. Best year end estimate of 103.2; Actual H1 result was 102.1.
P/C Insurance Combined Ratio, 1970-2008F*
115.8
107.5
100.198.4
100.8
92.6
103.2101.2
95.7
90
100
110
120
2001 2002 2003 2004 2005 2006 2007 2008 2008*
P/C Insurance Industry Combined Ratio, 2001-2008E
*Includes Mortgage & Financial Guarantee insurers. Sources: A.M. Best, ISO; III.
2005 ratio benefited from heavy use of reinsurance which lowered net losses
Best combined ratio since 1949
(87.6)
As recently as 2001, insurers paid out nearly $1.16 for every
$1 in earned premiums
Relatively low CAT
losses, reserve releases
Including Mortgage
& Fin. Guarantee insurers
Cyclical Deterioration
-55-50-45-40-35-30-25-20-15-10-505
101520253035
75
76
77
78
79
80
81
82
83
84
85
86
87
88
89
90
91
92
93
94
95
96
97
98
99
00
01
02
03
04
05
06
07
08
Source: A.M. Best, ISO; Insurance Information Institute * Includes mortgage * finl. guarantee insurers
$ B
illi
ons
Insurers earned a record underwriting profit of $31.7 billion in 2006, the largest ever but only the
second since 1978. Cumulative underwriting deficit from 1975 through 2007 is $422 billion.
Underwriting Gain (Loss)1975-2008:H1*
$5.635 Bill underwriting loss in 08:H1 incl. mort. & FG insurers
REINSURANCE MARKETS
Higher Reinsurance Costs Squeezing Insurers, Pushing Property CAT Prices Upward
110.
5
105.
0
113.
6
119.
2
104.
8
100.
8
100.
5
114.
3
106.
5 125.
8
111.
0
123.
3
258.
9
88.7
77.5
108.
8
115.
8
106.
9
108.
5
106.
7
106.
0
101.
9
105.
9
108.
0
110.
1
115.
8
107.
5
100.
1
98.4
100.
8
92.6
95.7
162.
4
126.
5
0
50
100
150
200
250
300
91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07
Reinsurance All Lines Combined Ratio
Combined Ratio: Reinsurance vs. P/C Industry
Source: A.M. Best; Insurance Information Institute
HurricaneAndrew
Sept. 11
Hurricanes Katrina, Rita, Wilma
Share of Losses Paid by Reinsurers, by Disaster*
30%25%
60%
20%
45%
0%
10%
20%
30%
40%
50%
60%
70%
Hurricane Hugo(1989)
Hurricane Andrew(1992)
Sept. 11 TerrorAttack (2001)
2004 HurricaneLosses
2005 HurricaneLosses
*Excludes losses paid by the Florida Hurricane Catastrophe Fund, a FL-only windstorm reinsurer, which was established in 1994 after Hurricane Andrew. FHCF payments to insurers are estimated at $3.85 billion for 2004 and $4.5 billion for 2005.Sources: Wharton Risk Center, Disaster Insurance Project; Insurance Information Institute.
Reinsurance is playing an increasingly
important role in the financing of mega-CATs; Reins. Costs
are skyrocketing
Reinsurance Trends MovingInto 2009
• Reinsurers are anticipating higher prices in 2009 due to:• Reduced reinsurance capacity
• Increased demand for coverage
• View is that many primary insurers have largely exhausted the capital cushion they built up in 2006 and 2007 and hence are more in need of capital relief than in past• Note this is not the case for some large, still well-capitalized insurers
• Large catastrophe losses in 2008 ($22.1B through 9/30) have taken a toll on capital
• Primary insurer balance sheets adversely impacted strained by financial crisis, reducing their ability to retain loss; Less capacity at reinsurance level for same reason
Sources: Company, analyst comments.
CAPACITY/SURPLUS
Capital/ Surplus is
Shrinking at Accelerating Pace
$0
$50
$100
$150
$200
$250
$300
$350
$400
$450
$500
$550
75 76 77 78 79 80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08
U.S. Policyholder Surplus: 1975-2008:H1*
Source: A.M. Best, ISO, Insurance Information Institute. *As of June 30, 2008
$ B
illi
ons
“Surplus” is a measure of underwriting capacity. It is analogous to “Owners Equity” or “Net Worth” in non-insurance organizations
Capacity as of 6/30/08 was $505.0, down 2.5% from 12/31/07 was $517.9B, but 80% above its 2002 trough.
Recent peak was $521.8 as of 9/30/07
The premium-to-surplus fell to $0.85:$1 at year-end 2007, approaching
its record low of $0.84:$1 in 1998
Policyholder Surplus, 2006:Q4 – 2008:Q4(Est.)
$ Billions
$487.1$496.6
$512.8$521.8
$476.0
$438.0
$505.0$515.6
$517.9
$380
$400
$420
$440
$460
$480
$500
$520
$540
06:Q4 07:Q1 07:Q2 07:Q3 07:Q4 08:Q1 08:Q2 08:Q3 08:Q4
Source: ISO (historical); Towers Perrin (Oct. 21) estimates for Q3 and Q4 2008. Q4 assumes no major Investment market recovery before year-end 2008.
Declines Since 2007:Q3 Peak
Q2: -$16.6B (-3.2%) Q3E: -$46B (-8.8%)
Q4E: -$84B (-16.1%)
Capacity peaked at $521.8 as of 9/30/07
INVESTMENT OVERVIEW
More Pain, Little Gain
Property/Casualty Insurance Industry Investment Gain1
$ Billions
$35.4
$42.8$47.2
$52.3
$44.4
$36.0
$45.3$48.9
$59.4$55.7
$63.6
$24.8
$56.9$51.9
$57.9
$0
$10
$20
$30
$40
$50
$60
94 95 96 97 98 99 00 01 02 03 04 05* 06 07
08H1
1Investment gains consist primarily of interest, stock dividends and realized capital gains and losses. 2006 figure consists of $52.3B net investment income and $3.4B realized investment gain. *2005 figure includes special one-time dividend of $3.2B.Sources: ISO; Insurance Information Institute.
Investment gains are off in 2008 due to lower yields and
poor equity market conditions.
P/C Insurer Net Realized Capital Gains, 1990-2008:H1
$2.88
$4.81
$9.89
$1.66
$6.00
$9.24
$10.81
$13.02
$16.21
$6.63
-$1.21
$6.61
$8.97
-$1.07
$18.02
$3.52
$9.70$9.13
$9.82
-$2
$0
$2
$4
$6
$8
$10
$12
$14
$16
$18
$20
90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07
08:H
1
Sources: A.M. Best, ISO, Insurance Information Institute.
Realized capital gains exceeded $9 billion in
2004/5 but fell sharply in 2006 despite a strong stock market. Nearly $9 billion again in 2007, but $-1.1
billion in 2008:H1.
$ Billions
-45%
-35%
-25%
-15%
-5%
5%
15%
25%
35%
19
70
19
71
19
72
19
73
19
74
19
75
19
76
19
77
19
78
19
79
19
80
19
81
19
82
19
83
19
84
19
85
19
86
19
87
19
88
19
89
19
90
19
91
19
92
19
93
19
94
19
95
19
96
19
97
19
98
19
99
20
00
20
01
20
02
20
03
20
04
20
05
20
06
20
07
20
08
*
Source: Ibbotson Associates, Insurance Information Institute. *Through November 18, 2008.
Total Returns for Large Company Stocks: 1970-2008*
S&P 500 was up 3.53% in 2007, but down 41.5% so far in 2008*
Markets were up in 2007 for the 5th consecutive year
before the crash of 2008
23
.1
18
.4
15
.5
12
.7
13
.9
12
.4 16
.4
22
.4 25
.6
24
.4
23
.3 25
.8
27
.3
22
.0
15
.5
12
.8
12
.8 17
.5
28
.6
26
.0
25
.5
27
.1
21
.6
18
.3 22
.1 24
.3
20
.7
30
.2
61
.2
55
.2
0
10
20
30
40
50
60
70
90
91
92
93
94
95
96
97
98
99
00
01
02
03
04
05
06
07
08
F
Ja
n-0
8
Feb
-08
Ma
r-0
8
Ap
r-0
8
Ma
y-0
8
Ju
n-0
8
Ju
l-0
8
Au
g-0
8
Sep
-08
Oct
-08
No
v-0
8*
Sources: Chicago Board Options Exchange: http://www.cboe.com/micro/vix/historical.aspx
*As of November 8, 2008.
VIX Volatility Index: Stock Market Volatility at Record Highs in 2008*
Stock market volatility is at its highest levels since the 1930s, pushing the VIX Volatility Index (a.k.a.
“Investor Fear Gauge”) to record highs in 2008
VIX is an indicator of market volatility
over the next 30 days
VIX Interpretation
VIX >30: Extreme Volatility
VIX<20: Low Volatility
Average: 1990-2008* = 19.49
$600
$106
$780
$205
$0
$100
$200
$300
$400
$500
$600
$700
$800
Banks Insurers
Losses as of Sept 2008
Total expected losses
Financial Institutions Globally FacingHuge Losses from the Credit Crunch*
*Global losses since the beginning of 2007.Source: IMF Global Financial Stability Report, October 2008, IIF, Bloomberg, cited in a presentation by Thomas Hess (Chief Economist, Swiss Re) October 23, 2008, accessed via Geneva Association web site.
Billions
The IMF estimates total “credit- turmoil-related” losses will
eventually amount to $1.4 trillion
$205B or 14.6% of estimated total losses will be sustained
by insurers worldwide
FINANCIAL STRENGTH &
RATINGS Industry Has Weathered
the Storms Well
P/C Insurer Impairment Frequency vs. Combined Ratio, 1969-2007
90
95
100
105
110
115
120
69
70
71
72
73
74
75
76
77
78
79
80
81
82
83
84
85
86
87
88
89
90
91
92
93
94
95
96
97
98
99
00
01
02
03
04
05
06
07
Co
mb
ined
Ratio
0
0.2
0.4
0.6
0.8
1
1.2
1.4
1.6
1.8
2
Imp
air
men
t R
ate
Combined Ratio after DivP/C Impairment Frequency
Impairment rates are highly correlated
underwriting performance and could reached a
record low in 2007
Source: A.M. Best; Insurance Information Institute
2007 impairment rate was a record low 0.12%, one-seventh the 0.8% average since 1969;
Previous record was 0.24% in 1972
Reasons for US P/C Insurer Impairments, 1969-2005
*Includes overstatement of assets.
Source: A.M. Best: P/C Impairments Hit Near-Term Lows Despite Surging Hurricane Activity, Special Report, Nov. 2005;
Catastrophe Losses8.6%
Alleged Fraud11.4%
Deficient Loss
Reserves/In-adequate Pricing62.8%
Affiliate Problems
8.6%
Rapid Growth
8.6%
2003-2005 1969-2005
Deficient reserves,
CAT losses are more important factors in
recent years
Reinsurance Failure3.5%
Rapid Growth16.5%
Misc.9.2%
Affiliate Problems
5.6%
Sig. Change in Business
4.6%
Deficient Loss
Reserves/In-adequate Pricing38.2%
Investment Problems*
7.3%
Alleged Fraud8.6%
Catastrophe Losses6.5%
CATASTROPHICLOSS
2008 & Beyond
U.S. Insured Catastrophe Losses*$7
.5
$2.7
$4.7
$22.
9
$5.5 $1
6.9
$8.3
$7.4
$2.6 $1
0.1
$8.3
$4.6
$26.
5
$5.9 $1
2.9 $2
7.5
$6.7
$22.
1$1
00.0
$61.
9
$9.2
$0
$20
$40
$60
$80
$100
$120
89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07
08**
20??
*Excludes $4B-$6b offshore energy losses from Hurricanes Katrina & Rita.**Based on preliminary PCS data through June 30. PCS $1.8B loss of for Gustav. $9.8B for Ike of 9/22.Note: 2001 figure includes $20.3B for 9/11 losses reported through 12/31/01. Includes only business and personal property claims, business interruption and auto claims. Non-prop/BI losses = $12.2B.Source: Property Claims Service/ISO; Insurance Information Institute
$ Billions2008 CAT losses already exceed 2006/07 combined. 2005 was by
far the worst year ever for insured catastrophe losses in the US, but the worst has yet to come.
$100 Billion CAT year is coming soon
Inflation-Adjusted U.S. Insured Catastrophe Losses By Cause of Loss,
1987-2006¹
Fire, $6.6 , 2.2%
Tornadoes, $77.3 , 26.0%
All Tropical Cyclones, $137.7 ,
46.3%
Civil Disorders, $1.1 , 0.4%
Utility Disruption, $0.2 , 0.1%
Water Damage, $0.4 , 0.1%Wind/Hail/Flood,
$9.3 , 3.1%
Earthquakes, $19.1 , 6.4%
Winter Storms, $23.1 , 7.8%
Terrorism, $22.3 , 7.5%
Source: Insurance Services Office (ISO)..
1 Catastrophes are all events causing direct insured losses to property of $25 million or more in 2006 dollars. Catastrophe threshold changed from $5 million to $25 million beginning in 1997. Adjusted for inflation by the III.2 Excludes snow. 3 Includes hurricanes and tropical storms. 4 Includes other geologic events such as volcanic eruptions and other earth movement. 5 Does not include flood damage covered by the federally administered National Flood Insurance Program. 6 Includes wildland fires.
Insured disaster losses totaled $297.3 billion from
1987-2006 (in 2006 dollars). Wildfires accounted for
approximately $6.6 billion of these—2.2% of the total.
Total Value of Insured Coastal Exposure (2007, $ Billions)
$2,378.9$895.1
$772.8$635.5
$479.9$224.4
$191.9$158.8$146.9$132.8
$92.5$85.6
$60.6$55.7$51.8$54.1
$14.9
$2,458.6
$0 $500 $1,000 $1,500 $2,000 $2,500 $3,000
FloridaNew York
TexasMassachusetts
New JerseyConnecticut
LouisianaS. Carolina
VirginiaMaine
North CarolinaAlabamaGeorgia
DelawareNew Hampshire
MississippiRhode Island
Maryland
Source: AIR Worldwide
In 2007, Florida still ranked as the #1 most exposed state to hurricane loss, with $2.459 trillion exposure, an increase of $522B or 27% from
$1.937 trillion in 2004.
The insured value of all coastal property was $8.9 trillion in 2007, up 24% from $7.2 trillion in 2004.
$522B increase since 2004, up 27%
Shifting Legal Liability & Tort
Environment
Is the Tort PendulumSwinging Against Insurers?
Tort System Costs and Tort Costs as a Share of GDP, 2000-2009F
$179
$233$246
$265
$253
$260
$261
$277
$247
$205
1.82%2.03%
2.22% 2.23%
1.83%1.84%
2.10%
1.83%1.87%
2.24%
$100
$120
$140
$160
$180
$200
$220
$240
$260
$280
$300
00 01 02 03 04 05 06 07E 08E 09E
Tor
t S
yste
m C
osts
0.0%
0.5%
1.0%
1.5%
2.0%
2.5%
Tor
t C
osts
as
% o
f G
DP
Tort Sytem Costs Tort Costs as % of GDP
After a period of rapid escalation, tort system costs as % of GDP are now falling
Source: Tillinghast-Towers Perrin, 2007 Update on US Tort Cost Trends.
Insurance Information Institute On-Line
THANK YOU FOR YOUR TIME AND
YOUR ATTENTION!