The workers’ compensation calendar year combined ratio dropped four points to 105 percent, the best performance for the first time since 1997, according to NCCI Holdings Inc.’s State of the Line preliminary market analysis released on Thursday in Orlando at its Annual Issues Symposium 2005.
The accident year combined ratio continued the downward progression that began in 2000 and stands at 94 percent – the best performance in more than a decade. This reflects a 45-point improvement in just five years.
NCCI’s estimate of the private carrier loss reserve deficiency declined by more than $3 billion to about $12 billion. After allowing for the permissible discounting of lifetime pension cases, the deficiency is $7 billion. The estimated deficiency has been more than halved since year-end 2001, when NCCI estimates peaked. Claim frequency also continued in the current cycle of decline that began in the early1990s.
In addition, comprehensive reforms that were enacted in California appear to be having a positive impact.
However, many other troubling issues that the market has been facing over the last several years remain, leading NCCI to propose an outlook of cautious optimism to the line.
Areas of market concern
Record low interest rates and mediocre stock market performance continue to put downward pressure on the combined ratio needed to make an adequate rate or return.
The low interest rate environment continues to take its toll on the embedded yields in the industry’s investment portfolio. The investment income allocated to workers’ compensation insurance transactions continues to drift lower and is at its lowest level in at least 15 years. NCCI’s internal rate of return models indicate the need for an underwriting profit for the industry to return its cost of capital to investors, even in this “long tailed” line. The needed pretax operating gain, in today’s low interest rate environment, remains in the 7 percent to 9 percent range.
Residual market volumes in many states remain at unacceptably high levels. Residual market volumes remain at uncomfortably high levels. NCCI estimates that the residual market is about 13 percent of the total market in some states with residual market plans. We are beginning to see some depopulation, particularly in the larger policy sizes in the last several months. But we hope to see some significant reductions in premium volumes in the near future. Renewal of TRIA is critical to fostering residual market depopulation.
Double-digit medical inflation
No discussion of workers’ compensation challenges would be complete without touching on medical costs. In NCCI states, medical costs make up 57 percent of total losses. Medical costs continued to increase at double-digit rates in 2004, rising 10.5 percent over 2003 levels. Without a decline in claim frequency, rising medical costs at these levels would put significant additional pressure on workers’ compensation prices and results.
The 2002 Terrorism Risk Insurance Act’s extension continues to be a major uncertainty within the insurance industry and business community in general. Workers’ compensation insurance has several unique characteristics that make TRIA’s renewal particularly critical. All policies effective since January 2005 have some exposure extending after TRIA’s scheduled expiration date on December 31, 2005.
Other results and market data reported by NCCI in the annual State of the Line report include:
Premium volume continues to increase: Net written premium increased for the fifth consecutive year for workers’ compensation. Including the state funds, premiums were up about 9.5 percent, to $46 billion in 2004. The private carriers increased their net written premium almost 11 percent for 2004. This is a leveling of the trend in the last several years, when the state funds grew much more rapidly than the private carriers. The impact of the California market and the California State Fund accounts for most, if not all, of the shift.
Approved rates/loss costs: The countrywide changes in bureau rates and loss costs excluding California have been relatively modest for the last six years. Although several states have experienced significant changes in bureau-filed rates and loss costs over this time period, the net result for all states has been relatively stable because frequency decreases and average wage increases have largely offset claim cost inflation.
Frequency continues to decline: Preliminary analysis indicates that the frequency of lost-time claims in NCCI states continued its decline in 2004, dropping another 3.4 percent. Lost-time claim frequency has been declining quite consistently since the beginning of the 1990s and has dropped a cumulative 42 percent from 1990 to 2003.
“The workers’ compensation line of insurance experienced a year of solid accomplishment in 2004,” Dennis Mealy, NCCI chief actuary said in recapping the report to a jam-packed meeting. “Although 2005 brings its set of challenges, the point from which we are starting the year is certainly better than it was a few short years ago.
“Positive signs include the improved calendar year and accident year combined ratios and the continued claim frequency decline,” Mealy explained. “On the cautionary side, interest rates remain low, requiring continued improvement in underwriting results; the residual market is still too large; medical costs increases remain troublesome; and the expiration of TRIA is a major contingency.
Going forward, Mealy said, “NCCI will continue to work with all industry stakeholders to help ensure that rates and loss costs are adequate and to provide unbiased quantifications of the impacts of legislative reform proposals and benefit changes.
“NCCI has made a number of significant enhancements to its loss costs/rate filings over the past year, including a new method to better handle the impacts of individual losses in our rate and loss cost filings; continuing our efforts to address catastrophic loss potential in the line; and enhancing our econometric trending models to help us detect and react to potential turning points in both frequency and severity.
“We look forward to more improvements and advancements on behalf of the entire industry as we continue to track industry results in 2005 and beyond.”
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