A.M. Best: P/C Insurers Report Strong Gains for First Half of 2005

October 17, 2005

The U.S. property/casualty industry recorded an underwriting profit of $13.2 billion during the first six months of 2005, a substantial gain from the record results posted during the comparable period of 2004, according to A.M. Best Co.

Robust operating results drove the industry’s surplus base to a new high, despite unrealized capital losses, increased shareholder dividends and other losses in surplus as insurers continued to reap the benefits of the hard market.

However, these results were driven largely by rate increases earning through on policies that were written in prior periods. It is the current pricing and policy term environment that will drive tomorrow’s results, and most indicators prior to Hurricane Katrina proved rate decreases and competition on many lines of business had begun to emerge in earnest during the first half of 2005. This trend will be decidedly reversed in the third quarter on many lines of business, after Mother Nature presented a not-so-gentle reminder that there is little room for complacency in this industry, as threats continuously become reality.

After insurers closed the statutory books on the first half of 2005, Hurricane Katrina made landfall in Florida and went on to become a strong Category 4 storm before making a second landfall on the Gulf Coast and unleashing the floodwaters of Lake Ponchartrain on the New Orleans area.

While current estimates of insured losses vary widely, ranging from $25 billion to $60 billion, net income of $32.1 billion for the first half of 2005, combined with profits on noncatastrophe-impacted businesses during the second half, will go a long way toward enabling the U.S. property/casualty industry to absorb the largest insurance loss in history.

The impact of Katrina and, to a lesser extent, Hurricane Rita, will be reflected in third-quarter results and likely will deplete the annual earnings of the industry; especially for carriers with homeowners, automobile, commercial property, marine, energy and property reinsurance exposures concentrated in Louisiana, Mississippi and Alabama.

However, while the effects of these storms likely will add several points to the loss ratios of many carriers, the overall impact of the storms is not expected to create widespread solvency issues. Rather, a few insurers that will not be able to recapitalize their balance sheets to the level that supports their ratings, or whose risk management capabilities have been called into question, will suffer downgrades to their financial strength and credit ratings.

Despite the solid results posted for the first six months of 2005, A.M. Best Co. is concerned with the reduction of year-over-year premium rate increases that persisted for consecutive reporting periods since 2003 and gave way to premium decreases across most lines of business and sizes of accounts in 2005.

Through the first six months of 2005, the property/casualty industry continued to build upon its capital base through strong operating results. These results were driven by both a significant underwriting profit as prior-year rate increases were earned throughout the period, and increased investment income from a larger investment base as a result of favorable operating cash flow. However, while the first half of the year had relatively low catastrophe losses, the full year 2005 will end up being one of the worst catastrophe years for the U.S. property/casualty industry, driven by Hurricane Katrina losses.

In addition, potential loss-reserve charges loom as the industry’s estimated reserve shortfall by A.M. Best on core reserves is $25 billion and $34 billion on A&E reserves. With companies historically reviewing reserve adequacy in the second half of the year, A.M. Best believes loss-reserve charges are imminent and will pressure margins.

Nevertheless, despite the ever-prevalent reserve charges and catastrophe losses, A.M. Best believes that 2005 will be a profitable year for the consolidated property/casualty industry, although a second consecutive year of underwriting profit may be in question.

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