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By DAVE LENCKUS who has covered the insurance industry for more than two decades.

Just as the meaning of some words change over time, the definition or connotation of an insurance market can also evolve.

Similarly, the excess and surplus lines market is perceived and functions differently now than 20 or even 10 years ago.

At that time, it "was the area of the property/casualty business where brokers turned to in order to place distressed risks," said Matthew F. Power, an executive vice president at Boston-based surplus lines insurer Lexington Insurance Co.

But the excess and surplus market no longer is one-dimensional, Power and other insurance, brokerage and rating agency executives agree. While it's still the go-to destination for risks that scare standard lines insurers, the excess and surplus market is a risk-financing option for even insurance buyers the admitted market hasn't turned away.

It's the market to which buyers can turn for additional capacity when admitted insurers have cinched their purse strings tight. It's where new insurance products are incubated. It's where experts of nearly every stripe turn for professional liability coverage.

"I don't think there's any question the market has changed" over the past 20 years, said David Blades, a former commercial insurance underwriter and now a senior financial analyst in the property/casualty ratings division at A.M. Best Co. of Oldwick, N.J.

Some numbers illustrate the market's evolution. From 1990 through 2010, direct written premiums for surplus lines insurers almost quintupled to nearly $31.72 billion from $6.53 billion, Blades said. In comparison, direct-written premiums for the total property/casualty insurance market during the same period more than doubled to $481 billion from $230 billion, he said.

The surplus lines market's most dramatic growth occurred from 2001 through 2003, when the admitted property market constricted following the Sept. 11 terrorist attacks. Nonadmitted insurers' direct-written premiums almost tripled to $32.8 billion from nearly $11.66 billion, according to A.M. Best's figures.

Despite several years of soft admitted market conditions since, insurance buyers count on the excess and surplus market today far more than they did less than a generation ago.

Who those buyers are in terms of size, location and industry and how they compare with buyers years ago varies depending on the experience of the insurer or wholesale executive providing the perspective.

The excess and surplus market does not track that kind of information about buyers, said Letha E. Heaton, outgoing president of the National Association of Professional Surplus Lines Offices Ltd. and vice president of marketing at Admiral Insurance Co. of Cherry Hill, N.J.

Robert Sargent, the incoming NAPSLO president, said the "simple answer" is that the types of excess and surplus insurance buyers that comprise significant buyer groups "tend to be the same" over time. Those are companies that need significant capacity for catastrophe-exposed property, as well as professionals with exposures "that tend to be unique," said Sargent, president of wholesaler Tennant Risk Services of West Hartford, Conn.

While the excess and surplus market continues to write the preponderance of professional liability coverage--including for medical providers--as it historically has, there are so many more types of professionals now than 20 years ago, Heaton said.

Robert Kish, Dallas-based executive vice president of property at wholesaler Crump Insurance Services Inc., said he does not think the size of his clients has changed appreciably over the years. But more of them have natural catastrophe exposures, he said.

At wholesaler AmWINS Group Inc., the client base continues to "run the gamut from Main Street to Fortune accounts," said James Drinkwater, the New York-based president of the brokerage division.

At Lexington, meanwhile, the client portfolio over the past 20 years has expanded to include Fortune 1,000, healthcare, construction, higher education, public entities and other types of clients that seek various types of coverage, including catastrophe property coverage and custom solutions for unique risks, Power said. "It wouldn't be fair to characterize the client base as significantly weighted toward one of these groups."

Many buyers now count on the excess and surplus market for property coverage--catastrophe and non-catastrophe exposures--even when admitted market coverage is available.

The admitted market's constriction after the 2001 terrorist attacks"created a greater need for" the excess and surplus market, said retail broker executive Jackie Bolig, a managing director in the property division at Aon Risk Services of Greater New York.

Before then, only insurance buyers that no admitted insurer considered attractive would approach surplus lines insurers, Bolig said.

But after the attacks, admitted insurers reduced the amount of capacity they would provide a single risk. As a result, many buyers boosted the number of insurers on their programs to ensure they still would have sufficient capacity if some carriers jumped off the risk at the next renewal, she said. To accomplish that, buyers had to begin tapping non-admitted insurers, she said.

A few other developments have made the excess and surplus market increasingly attractive to property insurance buyers.

Bolig said that as many businesses have grown, their property risks have become more complex. Among the complexities is their expansion into catastrophe-prone locations. Now having to find coverage for California earthquake, Florida windstorm and terrorism risks, some clients need 25 to 50 insurers to fill out their property programs, she said. There is "a minimal likelihood" of filling such programs with only admitted insurers, she said.

Exacerbating the property catastrophe capacity problem is the latest modification of hurricane model RMS 11.0, unveiled by Risk Management Solutions Inc. earlier this year, Drinkwater of AmWINS said.

With the model generally exposing greater catastrophe risks than insurers had understood their portfolios contained, catastrophe capacity has been shrinking on a per-risk basis, Drinkwater said. Buyers are turning to excess and surplus markets to fill out their programs, he said.

Lexington's Power elaborates on the capacity issue: "The global property and casualty market suffered $70 billion in CAT losses in the first six months of 2011, and RMS 11.0 has led many companies to re-evaluate their capital requirements. Some experts believe the industry needs $20 billion to $25 billion in additional surplus allocation, based upon the recent model revisions."

Other risk managers with complex but non-catastrophe property exposures also turn to the E&S market routinely, even when their risks are not anathema to admitted insurers, Aon's Bolig said.

These are "sophisticated" risk managers who will not accept off-the-shelf coverage but instead insist on manuscripted policies, she said. Admitted insurers can't quickly obtain regulatory approval to write that coverage, she said.

Bolig anticipates that even more risk managers will seek manuscripted coverage from surplus lines insurers as a result of the surplus lines reforms in the Dodd-Frank Wall Street Reform and Consumer Protection Act. The act, which went into effect in July, allows sophisticated risk managers to purchase non-admitted coverage without first attempting to tap the admitted market.

Meanwhile, prolonged soft casualty market conditions, during which admitted insurers have covered many risks they wouldn't during stable or hard markets, pushed the excess and surplus market to replace that business with new coverages for unique risks. Over the years, cyber liability and employer practices liability coverages, which admitted insurers have since grown comfortable writing, are two classic examples.

Today, "a lot of what the excess and surplus lines industry creates speaks to emergent business risk," Lexington's Power said. "When customers seek out excess and surplus lines solutions, they are often seeking something highly customized and unique."

Lexington, for example, has developed specialized coverage forms for LEED-certified buildings; a suite of coverage forms for the nanotechnology industry; products that cover companies holding evidentiary material in legal proceedings; and coverage that protects construction project owners against delays when archeological relics are unearthed at projects sites.

Providers of renewable, or green, energy resources, such as wind farms, also seek general liability coverage from the excess and surplus market, said NAPSLO's and Admiral's Heaton.

But sometimes the market's creativity will be called upon to assist an insurance buyer with what had seemed to be a well-understood risk that has gone terribly wrong. A notable example is when the standard market a couple years ago excluded from contractors' general liability, products liability and completed operations coverage losses arising from the installation of defective Chinese drywall, Heaton said.

What new opportunities might lie ahead for the excess and surplus market?

Lexington's Power thinks it could be a new class of buyer.

"Chinese investment in the U.S. is primed for exponential growth, and China is increasingly putting its capital to work in the United States. Chinese investment in the U.S. is doubling annually," he said. "In a mergers and acquisitions scenario, the excess and surplus lines market comes into play through the buyout of historical liabilities and the provision of tail coverage. There's a need for tailor-made insurance to facilitate the sale or the transition into new ownership," and the excess and surplus market has the freedom of rate and form to provide that coverage when it's needed.

October 1, 2011

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