The impact of natural catastrophe losses on 2nd quarter earnings was the insurance story of the summer of 2016. Virtually every segment of the insurance industry, from primary carriers and reinsurers to non-traditional market capital such as ILS funds, suffered sharp financial losses as a direct result of unprecedented natural catastrophic events worldwide. Corporate earnings also continued to suffer from a consistently low interest rate environment. The combination of natural catastrophe events and poor investment returns has resulted in an overall deterioration of Combined Ratios of 1 to 2 percent from previous quarters. The question now is whether there will be any meaningful increase in property rates throughout the remainder of 2016, and into 2017.
2nd Q losses driven primarily by global natural catastrophe events represented the biggest losses reported within a three month time period since 2009. In comparison, 2015 was the weakest with the lowest cat losses of any year since then, with $27 billion in total insured losses. The magnitude of uncompromising cat events in 2nd Q is somewhat of an anomaly.
Twenty-five cat events in 2nd Q resulted in estimated insured losses ranging from $15-$20 billion. The Fort McMurray wildfires in Alberta, Canada resulted in insured losses of $2.5 billion; the largest wildfire of its kind. The period saw earthquakes in Ecuador and Kumamoto Japan, as well as significant flooding in Europe. One non-cat disaster loss worth mentioning is the Jubilee Oilfield shutdown in Ghana, where damage to a floating production, storage and off-loading vessel (FPSO) caused an estimated insured loss of $1.2-$1.25 billion within the Marine and Energy sector.
The bulk of insured losses in the U.S. were attributable to Texas flooding and hailstorms with the Texas convective storm of April 2016 alone triggering $3.1 billion in insured losses. To weigh the significance of the numbers, in the six months ending June 2016, global natural catastrophe insured losses topped $30 billion, which was 54% higher than the 2000-2015 median on an insured loss basis, according to Aon Benfield’s Impact Forecasting. At the time of this writing, there is severe flooding in Louisiana, which the Red Cross reports could be the worst natural disaster in the U.S. since Superstorm Sandy.
The losses from the second quarter present some underwriting challenges. Armed with historical data of known cat events, underwriters rely on modeling tools to assess risk, and price coverage for windstorm and earthquake risks. However, a large percentage of this year’s 2nd Q cat losses came from events for which the industry does not have robust pricing and aggregation models.
The current surplus of capital in the insurance sector has been a headwind against any property rate increases. It would take a very large one time cat event (> $50B) to bring about a hard insurance market. Barring that, the industry would have to experience sizeable losses in unexpected geographic areas or coverages (Contingent Business Interruption, Cyber, Pandemic, and Solar Flare) to move the needle. We have not truly seen non-traditional capital tested in a significant widespread industry event. As this capital is being deployed outside of cat areas, it will be interesting to see how the markets react to losses that do not easily translate into these financial models.
Will 2nd Q provide a stimulus to raise rates? Recent loss history has been for a higher frequency of unusual and diverse cat events with less severity on a per event basis. Soft market conditions spanning 5 plus years continue to impact Loss Ratios, but market pricing may not improve until the industry absorbs continued significant loss events or until a major occurrence shakes the markets. Two large broker comments are worth noting: Dan Glaser, President & CEO of Marsh & McLennan, said that he expects that carriers will keep writing business, even below the cost of capital. Powell Brown, President & CEO of Brown & Brown, recently stated, “In a market like this … you can see carriers do some really squirrely things in terms of pricing sometimes - you just see crazy things”.
Will it take a confluence of catastrophic events or one devastating incident to change the current environment? Underpinning the current market situation is the need for disciplined underwriting and prudent use of capital to assure a carrier’s ability to maintain a commitment to continue providing capacity in the global property market.
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