S&P Reports Insurers to Cut Coverage for Losses

January 10, 2002

Several commercial insurers will cut coverage for losses caused by acts of terror, allowing 2001 policies to go unrenewed for 2002, Standard & Poor’s reported. It added that the withdrawal from the market will spread beyond property and aviation insurance to include other risks, such as employees’ workers’ compensation coverage.

“Though they haven’t yet, Congress may pass legislation that would help to cap losses to the industry caused by terrorism,” said Don Watson, a managing director with S&P’s Insurance Ratings group.

“But many insurers will not want to provide significant coverage for terror losses regardless of government action. By their nature, terror losses are difficult to price, and the potential concentration within an insurer’s portfolio are such that it would be imprudent for insurers to write coverage without effective reinsurance. And right now, most reinsurers are not willing to provide large policy limits, much less uncapped coverage for terror risk. So some are thinking it’s better just to opt out of terrorism coverage altogether.”

For the insurance industry, some relief from terror exposure has been provided in 47 states, which have agreed to allow some exclusions for terror losses; although in three states, New York, California, and Connecticut, insurance commissioners have not publicly followed the National Association of Insurance Commissioners’ recommendation to allow some exclusions on terror covers. The concern for insurers writing property/casualty covers is that these states could mandate insurers operating in their jurisdiction to cover acts of terrorism potentially resulting in unacceptable accumulations of risk for insurers.

But until Congress acts or the states mandate coverage, the gap in coverage shifts risk back to the corporate, industrial, and real estate markets exposed to the risk. With many insurers opting not to renew policies that would cover acts of terror to buildings and properties, the businesses previously holding those policies would now have to cover any costs incurred from acts of terror.

“The ratings implications for corporates are likely to be very limited and selective,” said Sol Samson, a managing director with Standard & Poor’s Corporate Ratings group. “The additional risk may emanate from lack of coverage or much greater expense to obtain coverage. But the impact would be material only in situations where the perceived specific risk of a terrorist incident was high — just as lack of earthquake insurance isn’t a problem in regions that don’t face much risk of such natural events.”

Furthermore, the impact would be diluted to the extent a company is diversified, i.e., operates many plants or facilities. In addition, even in cases that might be considered to carry serious terrorist attack potential, possessing insurance coverage could sometimes be irrelevant. “If cruise ships were perceived as targets, who would take cruises? If a landmark building were viewed as vulnerable to terrorist attacks, what rents could it command? Insurance cover for the boat or building wouldn’t resolve the risk exposure,” Samson added.

“It is not unusual for policies to be signed after their effective date, meaning these gaps could be filled quite swiftly,” Watson said. “Also, market forces will come into play and brokers may create a private sector pool of funds that could provide some limited coverage.”

According to the report, the critical solutions for corporate and real estate markets to return to a more normal trading position lay in a comprehensive legislative cap on terror losses, or in allowing themselves to be incompletely covered as insurers set sublimits for terror that will not cover loss exposures.

Sublimits, however, will not solve the problem experienced by workers’ compensation insurers. One of the lessons learned from Sept. 11 is that many insurers have concentrations of risk that they had not previously factored into their underwriting decisions. Employee groups of 1,000 or more lives are common across Corporate America and even globally. Terror attacks on large corporate sites could easily bankrupt insurers with workers’compensation claims averaging $1 million or more.

Reinsurance capacity for high excess workers’ compensation remains in short supply; although, some of the new start-up reinsurers are looking to fill the gap, for a price that may be hard to support.

Accordingly, many insurers may elect to cut workers’ compensation coverage with large accounts rather than assume terror risks implicitly.

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