Japan: Risk and Rewards

A Glimpse into Japan’s Property and Casualty Market

The Japanese property and casualty insurance market is ripe for opportunities, but there also are significant risks in the country, according to Keiji Fukasawa of Finrex Japan and Rie Hidaka of Swiss Reinsurance Co.

P/C insurers wrote approximately $97 billion in direct written premium in Japan in 2006, which are the most recent figures available. While that means the P/C market in Japan is about five times smaller than in the United States, Japan is the largest market in Asia, according to Fukasawa and Hidaka, who are members of the Japan chapter of the Chartered Property Casualty Underwriters Society.

Market Potential

Japan has a population of approximately 127 million people contained in an approximately 377,732 square kilometer area. Gross domestic product per capita was $36,182 in 2004, the most recent figures available. There are about 77.4 million automobiles in the country, about three times less than in the United States.

Nevertheless, Hidaka and Fukasawa said more than 50 percent of the P/C market is in automobile coverage — 41.3 percent of direct written premiums were in the voluntary automobile sector, and 13.2 percent were in the compulsory auto sector. Other major business lines that require coverage in Japan are fire (17.1 percent of direct written premium), personal accident (15.2 percent), liability and miscellaneous casualty (9.7 percent), and marine and inland transit (3.6 percent).

The marine business used to represent more than 10 percent of direct written premium in the country, but as manufacturing has been outsourced to other countries that have cheaper labor, this sector of the market has decreased, Hidaka said.

Workers’ compensation insurance doesn’t exist in Japan because the government covers worker injuries, she said.

Distribution Opportunities

Agents have the biggest advantage in selling P/C insurance, with 93 percent written by agencies. Of the other distribution channels, brokers write approximately 0.3 percent, and direct response and direct writers write about 6.7 percent, the country’s statistics indicate. Brokers Aon and Marsh have agency licenses, so their sales are counted in the agency category, Hidaka noted.

The number of agencies in Japan is decreasing, but sales per agency is increasing. Also, banks in Japan can sell insurance, so the number of banks with insurance agents is increasing, Hidaka said.

Meanwhile, the number of insurers offering coverage is consolidating. In fiscal year 1999, the top five insurers in Japan — Tokio, Yasuda, Mitsui, Sumitomo and Nichido — wrote 57 percent of the net written premium. By contrast, the top five companies in fiscal year 2005 — TMNF, Sompo Japan, MSI, Aioi and Nipponkoa — wrote 83 percent of net written premium, Hidaka noted.

Overall, the Japanese P/C market is very healthy, Hidaka said. Deregulation in 1997 has helped to decrease expense ratios. In 2006, the combined ratio for companies averaged 92 percent.

Potential Risks

Despite the opportunities, Fukasawa cautioned that there are risks, because Japan is prone to typhoons and earthquakes.

A typhoon is essentially a tropical cyclone or hurricane in the western Pacific and China seas. A typhoon in Japan is considered one of the six major natural catastrophes in the world, Fukasawa said. (The other five potential areas for a major natural catastrophe are an earthquake in California, earthquake in the Midwest, hurricane in the U.S./Carribean, storm in Europe, and earthquake in Japan, according to Swiss Re’s estimates).

Typhoon Vera in 1959 caused the most devastating losses; more than 4,000 people died, and 833,965 buildings were destroyed. That typhoon stuck an economic center in Japan, but because it was right after the war, many buildings were not insured, Fukasawa said.

Typhoon Mireille in 1991 created the largest number of insured losses, at $4.9 billion, according to Digital Typhoon figures. That event destroyed 170,447 buildings and caused 62 deaths. The damage would have been greater had a typhoon of that magnitude struck earlier, Fukasawa said. But because it occurred after Vera, dikes in the country had been improved.

U.S. hurricane losses are more significant, yet the potential for damage exists, Fukasawa noted.

Earthquakes represent an even larger exposure in Japan than typhoons. The major causes of earthquakes in the area are plate tectonic movements caused by the Pacific Plate, Eurasian plate and Philippine Sea plate, as well as active faults. Plate tectonics move about 3 inches per year, and after about 15 to 100 years, a fracture in the plates can cause an earthquake, he said. Furthermore, there are about 200 active faults under Japan, which has the potential to cause significant damage because the faults are directly under buildings, Fukasawa explained.

According to Tokyo EQ and Swiss Re figures, Tokyo/Yokohama is the worst area in the world for earthquake risks. There is a 70 percent chance that a 30-year earthquake with magnitude 6.7 or greater will strike the Tokyo area. If a quake strikes the Tokyo/Yokohama area and the country’s three major prefectures, more than 35 million people would be affected, Fukasawa said. The losses would be greatest if a quake strikes during the winter around 5 p.m., when people are home cooking and using a lot of gas and electricity, he added.

The Great Hanshin Awaji quake on Jan. 17, 1995, created the most number of claims in Japan. It had a magnitude of 7.2, caused 6,400 deaths and destroyed 100,000 buildings, according to Japan Earthquake Reinsurance Co. That event caused $148 billion economic losses, and 78,347 claims. Commercial/industrial insured losses amounted to $1.1 billion.

Coverage Options

To address the risks, typhoons, wind and flood losses are covered by most standard property policies and endorsements, with some deductible and franchise. Insurers can set aside 4 percent of their fire premiums each year as a tax-free catastrophe reserve. Those reserves are allowed to accumulate up to 30 percent of the insurer’s annual premiums to meet a 70-year return period typhoon, Fukasawa explained.

Additionally, cat excess of loss reinsurance covers are placed in the international reinsurance market for a 100-year cycle typhoon. And there is securitization of windstorm exposure to avoid the occasional hard market of international reinsurance, he said.

To address earthquakes, dwelling home policies are also supported by a government backstop. In Japan, fire policies for dwelling homes include earthquake coverage, but 60 percent of fire policyholders exclude the peril because the premiums are approximately two to three times higher when earthquake coverage is included, Fukasawa said. The government has been trying to encourage earthquake coverage purchases by allowing homeowners’ policies to take an income tax deduction for the coverage.

Fifty percent of the fire insured limit in dwelling earthquake coverage is subject to a maximum of $435,000 for building and $87,000 for contents. If there is a big quake, a government backstop is available for market losses above $600 million up to $43 billion.

Part of earthquake coverage premiums go to Japan Reinsurance Co., which redistributes the money between the Japanese government and private insurers. So if a $43 billion loss occurs, the government would pay 82 percent and private insurers would pay 17 percent of losses.

According to Fukasawa, monies to provide the backstop for an earthquake have been invested since 1966, and only one loss has been paid out since. So, approximately $14.5 billion has accumulated in reserves.

For commercial businesses, there are no cat reserves. Instead, there is a heavy reliance on international reinsurance to cover a 200-year quake, Fukasawa said. Securitization, cat bonds, derivatives and swaps also are used by some insurers, he added.

Risk Reduction

Overall, Hidaka and Fukasawa said the country could take steps to reduce some of its potential risk of loss. For instance, they noted the country needs to reinforce the safety and strength of old buildings. Measures are needed against earthquake fire spread in the Tokyo metropolitan area. More businesses need to develop continuity plans. So far, only 8 percent of firms have them. And finally, the pair said the country needs to relocate some nuclear powering plants, highways and railways that are currently on active faults.

Topics Catastrophe Carriers USA Agencies Profit Loss Reinsurance Market Property Casualty Japan