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By MATTHEW BRODSKY, senior editor/Web editor of Risk & Insurance®

Do you want the good news or the bad news first? Bad news, eh? How the insurance industry saw about $85 billion in capital get eroded in 2008 (about 17 percent of its surplus), according to Marc Armstrong, managing principal with Aon Risk Services.

Or how insurers across the United States are looking at an overall combined ratio of 109 percent in 2009, which means that for every dollar of business they bring in, they're losing 9 cents? Or how by year-end the industry's reserve inadequacies could be at 30 percent, according to Philip Glick, senior vice president at West Conshohocken, Pa.-based brokers ECBM? Or how ratings agency Fitch has downgraded 40 percent of global insurers?

"I see the overall fundamentals much more dismal than the current markers may indicate," said Glick.

"There's also a lot of danger signs," agreed Armstrong.

So yes, capacity is abundant across most lines and rates are flat--good things for insurance buyers--and industry surplus is still at $450 billion despite insurers plummeting earnings and still no large catastrophes have hit yet this year--good things for insurance sellers.

But, said Glick, more shoes could drop in the insurance world. As Peter Austen, president and CEO, Willis of Pennsylvania, put it, the capital behind all the capacity is "vulnerable."

Now the good news, however, is that insurance is not banking, where 87 companies have closed just since the start of the year, according to the FDIC.

"If you look at the insurance market, you don't see anything like that," said Armstrong.

What's more, insurers appear to be protecting themselves with some of the cheapest capital available at the moment: reinsurance.

"Insurers are buying more reinsurance," said Austen, observing that the market for insurance for insurers is behaving in a "very orderly way."

Orderly perhaps in that rates look to trending up for the start of 2010. By as much as 10 percent to 12 percent, said Glick.

"Our colleagues in the reinsurance industry see the math," said Glick.

The increase in reinsurance rates should help primary carriers see the math, and pass on the prices to their insurance buyers, right? One can argue that that should happen if the primaries are acting in a "rational" market.

Or one can argue that insurers will buy less reinsurance if prices go up. Christopher D. Roak, managing director at Marsh in Philadelphia, has already seen primary carriers not buying the rate increases.

Either way, perhaps the safest bet is based on the sardonic saying slash axiom about the industry, as expressed by Douglas B. Brown, corporate vice president of Arthur J. Gallagher & Co.: "This is an industry that can't stand prosperity."

In the meantime, insurance buyers should enjoy the cheap rates ... while keeping one "huge dirty secret" in mind. According to Glick, this secret is that, in times of soft rates, carriers get their money in other ways, namely through a much slower, more difficult claims process and coverage restrictions and takebacks. Risk managers might find at renewals that they're paying for less (or more narrowly defined) coverage, especially in third-party lines.

The five brokers quoted here participated in the annual Broker's Forum held in Philadelphia on Tuesday by the Delaware Valley Chapter of the Risk and Insurance Management Society.

September 17, 2009

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