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

The ironic thing about all this could be U.S. insurance buyers paying higher prices because of jacked-up reinsurance rates caused by international catastrophes.

Insurers aren't laughing, though, at fate's sardonic twist. The catastrophes of the past year and a half have been almost end-of-the-world-type stuff. The numbers in economic and insured losses can be numbing when strung together, the records broken redundant after a while. We'll spare you the litany and give you one number: $134 billion in losses over the past 16 months, for both reinsurers and insurers, according to Willis Re.

Can anyone say, trickle down? As in, reinsurers are passing on their costs to insurers, which then pass on costs to their commercial insurance buyers.

"We're certainly seeing a change in the market," said Tony Mammolite, global chief of property for Bermuda-based Ironshore, about property insurance.

With July 1 treaty renewals, reinsurers are going to start to charge more to their primary insurance customers, he said.

"Reinsurers appear to be locking down for July 1 renewals," was how Jonathan Hall, executive vice president at FM Global, the Johnston, R.I.-based property insurance specialist, put it. Before the mayhem of 2011, FM Global had been expecting a rate decrease on its treaty renewal, but reinsurers have changed their tune, Hall said.

Hall foresees a "slow but surely" contraction of capital for property insurance overall.

The key for Mammolite, he said rather honestly would be this nice, steady development of a hard market. Not a spike, which wouldn't be good and not sustainable.

All's clear at the moment. No spike. Nor a "distressed market," per Hall's observation. "Good news is, there is still sufficient capital," he said.

You see, insurers aren't laughing at their situation; they're rubbing their hands together in anticipation of--finally, finally, finally--higher rates.

Yet funny thing is they might have to wait longer. The latest on those July 1 catastrophe treaty renewals is that for U.S. insurers, reinsurance rates were flat to down 5 percent, according to Aon Benfield's client analysis.

CAPITAL IN FLUX

On the primary insurance level, it's a market in "transition"--the noun we heard often from underwriters and brokers--and it's not pretty.

"Erratic" perhaps is a better word for the property insurance market, the one used by Serge Troeber, chief underwriting officer for Swiss Re Corporate Solutions.

Or "definitely in flux," said Ryan A. Barber, managing director at Marsh in New York.

Barber's gotten the message from key markets: They need clients to share in their increased costs of doing business. At the moment, however, the cost-shifting is account-by-account specific.

So as risk managers completed their spring 2011 property renewals, each experience was different.

Similar accounts could see a rate increase one day, a discount the next, Troeber said.

Generally speaking, with accounts that have good loss histories and low to moderate natural catastrophe exposure, Barber said, he's still seeing aggressive competition and rate drops.

Troeber painted a bleaker picture for those accounts with heavy loss histories or U.S. peak exposures: "hefty" corrections.

Barber has also witnessed different experiences for large property placements--with dozens of insurers from around the world participating--versus smaller ones. Risk managers with smaller property programs and/or a moderate risk profile can build sufficient limits with far fewer carriers, allowing them to max out market competition and avoid higher priced markets.

"Most jumbo accounts," said David Finnis, executive vice president, national property practice leader of global placement for Willis, weren't seeing any decreases on their renewals this year.

Unless ... and here is where being a broker must really be fun ? the commercial insurance buyer is attractive to a hungry underwriter who wants to participate on the account.

A lot, too, depends on whether a risk manager is renewing with an incumbent or is new business. Underwriters are pushing for rates as incumbents, all the while competitors are still looking to gain new business.

Such competition for new business can come in the form of FM Global. Any account that FM Global wants to get on, Finnis said, it will get on.

"FM is always a wild card," he said.

Lexington is another carrier that can affect a renewal with its presence. "They have the ability to aggressively pursue new business that they want to get on. On their existing book of business, they are seeking rate increases, but nothing horrendous unless there are bad losses or an unusually high level of catastrophe exposure that models poorly," the Willis broker said.

Then there are ACE and XL, who have never been dominant property players on the primary levels but who are now eyeing the opportunities there. New underwriting heads on the property side at both carriers, Finnis said, are looking to redefine their position in the market. (ACE declined to comment, while XL confirmed this. See our story online about them.)

Take the property program of Scott Clark for an example of the market's complexity. Speaking to us in July, Clark, president of the Risk and Insurance Management Society Inc. (RIMS) and risk and benefits officer for Miami-Dade County Public Schools, explained how, with $8.2 billion in property exposed in hurricane-prone South Florida, he renewed on May 1 with flat rates on his $250 million program. He had anticipated a 10 percent drop, however.

"That savings obviously went out the window when these things all happened at the same time," he said.

He also did not fill one-third of his top $50 million layer of coverage because reasonable rates could not be found. The school board is now a quota-share participant for one-third of this layer, he told us.

DOOMSAYERS, START HERE

Yet anyone still writing property in the United States in the summer and fall is playing with fire, and flood, and wind, after they've already been burned, blown and soaked a bit.

As one London broker told us, insurers are feeling real pain, multiple times, in the soft underbelly of their retention layers

Even mighty FM Global had a 142-percent loss ratio before hurricane season started, as Finnis pointed out. That figure doesn't include the carrier's 100 percent property coverage on the hospital in Joplin, Mo., demolished by the tornado, which was rumored to be reserved at $600 million (and expected to go higher).

"God forbid if there's a lot of wind," he said.

Although the property market hasn't been spiked yet in 2011, the insurers still could get what's coming to them. A few factors, not just hurricane season, could play out that might shock the entire property market--perhaps the entire business insurance marketplace.

First is the true and total fallout from the March 11 Tohoku earthquake, meaning the final bill for all derivative losses such as contingent business interruption, which "caught off guard" commercial insurers, said Mike McCrimmon, senior vice president at Allied World. It could take up to a year to see what losses come out of these policies, he warned.

"These losses are going to take quite a time to manifest themselves," said Duncan Ellis, managing director at Marsh, during a RIMS session in May on the Japan quake.

Tom Larsen, senior vice president and product architect at modeler Eqecat Inc., explained that contingent business interruption wasn't included in his firm's estimate of $15 billion to $25 billion in property insurance losses out of Japan, with $15 billion to $20 billion going out to global reinsurers.

"Contingent business interruption coverage is not transparent, so it really can't be modeled," he said.

So don't expect any hard numbers on the potential loss out of him, but Larsen did note a "spooky" rumor out there that one policy alone had $1 billion in contingent business interruption limits.

The sense is that many insurers wrote contingent business interruption coverage blindly, given the limits of catastrophe models.

Before Japan, Marsh's Barber said, many underwriters simply "bolted" on contingent business interruption coverages as an extension to their client's property policies. As the soft market continued, limits crept up year over year without underwriters necessarily understanding or pricing for the increased exposure.

A new Ernst & Young survey of risk managers done in conjunction with Risk & Insurance® gives an impression that perhaps some underwriting was done. More than half of 216 respondents (54 percent) said that their contingent business interruption coverage included a defined amount sublimit; 36 percent said they had a duration sublimit; 31 percent had specific exclusions; and 33 percent had their policy limited by identified locations. This was before the Tohoku quake.

The respondents came from diverse companies. About 36 percent had 2010 revenue of $1 billion or more, 40 percent had less than $50 million.

So perhaps contingent business interruption won't be a major hit for the overall market.

How about another $25 billion loss? Larsen at modeler Eqecat estimated that could be the final cost of the new U.S. hurricane model from his competitor, Risk Management Solutions Inc.

The RMS 11.0 model is in effect a doubling "of the perception of the risk," he said, meaning that an insurer's hurricane loss potential doubles. It will require $25 billion more, across the property business, to recapitalize and handle the increased exposure. (See the related story above.)

Diligent reinsurers already have brought themselves up to speed with the effects of the model.

On the primary side, you can adjust your underwriting approach to RMS 11.0, without necessarily rolling out the new model right away, Troeber said. Or you can hope that, when you change to RMS 11.0 later this year, you won't be punished that much by it.

While not all carriers have begun to utilize the new model on an account-level basis, the majority have run their portfolios through the new models, Barber said. The effect of the model will be spread over the next year or so, and by the end of 2012, RMS 11.0 will become the underwriting standard.

When all's said and done, multiple sources said, the RMS model will have a greater effect on the property insurance market than Tohoku.

"(The model) should throw it over the top to a degree," Ironshore's Mammolite said.

Still, Finnis stressed, the models will put handcuffs on underwriters, so even though rates might go up they won't be able to perhaps write as much business as they'd like. For buyers, capacity won't go away either, nor will prices go up all that much. Even for jumbo accounts, the Willis broker said, rate increases will be "nowhere close to" the increases seen after Hurricane Katrina.

Tell that to risk managers already feeling the model's effects, like Clark. Under the previous version, his 100-year hurricane loss was estimated at $531 million. Same storm, same return period under RMS 11.0 equals $969 million.

"It's absurd to think that, year to year, the costs of a (hurricane) loss for me is going to go 100 percent up," he said.

That brings us to the biggest factor of them all: the hurricane season of 2011.

The last time we had massive hurricane landfalls, in 2004 and 2005, Troeber said, the casualty side of the market was reasonably priced. Not so now.

"The insurance markets are at a very soft point right now," Troeber said. "There is no room to absorb extra costs or extra events."

"What we're all worried about: testing the frailty of this market," Finnis said. "If a big loss is this year, you'll start to see some large increases."

Instead of picking a number out of the air for what constitutes a big loss, the bigger question at this juncture is the one asked by Swiss Re's Troeber: "Are insurers just reacting to their very own loss experience, or is there a more global context to it that eventually drives markets?"

This gets to the heart of the debate going on in the insurance business right now about whether the 16-month spate of catastrophes amounts to mere earnings events, or qualifies as capital events.

Some individual companies, as Troeber said, are repositioning their portfolios to get their bets straight.

Some markets are already reducing exposure, "sanitizing" their balance sheet, McCrimmon said.

U.S. insurers that weren't impacted as much by earlier international catastrophes and weren't pushing for rates in April like their European counterparts might be doing so now after billions in tornado losses, Barber said.

Meanwhile, though, the industry as a whole is still fat and happy. A litany of numbers will only numb, so we'll give only four: The U.S. property/casualty industry had $21.9 billion in redundant reserves at the end of 2010, according to Aon Benfield. Total worldwide dedicated reinsurance capital stood between $165 billion and $175 billion in June 2011, excess capital at $10 billion, even including the terrible first quarter, according to Guy Carpenter.

Long story short, we will just have to wait to see what happens in hurricane season. And beyond.

The property/casualty market as a whole might not even turn on one big catastrophe. It could take interest rates going up, Troeber warned, where bond portfolios would suffer and a large part of the excess capital that the industry has stashed away would vanish.

Or imagine the damage to the bond market should a eurozone nation or two default. The ultimate trigger might have already happened by the time this issue arrives at your office.

Or, sadly, it could be months before we have a break from the 12-hour insurance news cycle and its dueling headlines proclaiming the start of the hard market or ... oh wait, the continuation of the soft.

September 15, 2011

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