Several factors working simultaneously over the last few years have eroded overall insurance market conditions, limiting the availability of coverage at reasonable and affordable rates and creating one of the hardest markets in reinsurance history.
Some states have experienced a manifestation of these conditions.
We tend to think of earthquake risk in California; however, the increasing population in high wildfire exposure areas and protracted drought conditions have led to extreme wildfire risk, as demonstrated by catastrophic losses in recent years. Recent losses have exceeded premium income, leading to increasing rates for consumers but not fast enough to keep up with the increasing costs.
As admitted insurance carriers have struggled to keep premiums sufficient to cover the rising costs and risks, the Department of Insurance has either denied repeated rate increase requests or failed to approve them in a timely manner. Several major insurers, including Nationwide, State Farm, Allstate, Farmers, and Liberty Mutual, have stopped writing business in key areas such as homeowners and commercial property. This exodus from the property and casualty market has threatened the availability of coverage and is driving many consumers toward the state’s “insurer of last resort,” the California FAIR Plan.
The development of these factors has opened the door to excess and surplus lines (“E&S”) carriers. The E&S coverage is more readily available but at higher rates.
Extreme claim fraud, abusive litigation, and the negative impact of Florida’s largest carrier, state-run “last resort” option, Citizens Property Insurance, had eroded Florida’s reinsurance market, creating a business environment inhospitable to insurers resulting in homeowners losing policies and facing significant rate hikes until recent tort reform provided some optimism. The new limits on prior legal system abuses should make Florida more appealing to reinsurers, help stabilize the troubled state insurance market, and increase reinsurance capacity, although rates have increased significantly. Higher reinsurance costs are ultimately passed on to policyholders. Insurance premiums are much higher for consumers, but at least coverage is becoming more available.
Rapidly increasing insurance premiums resulting from hurricane and storm losses are creating a market crisis in the state where average incomes are among the lowest in the nation. The situation is impacting homeowners, auto, commercial, and flood lines.
Rates are rising rapidly, and availability of coverage is limited. The state’s average property insurance cost is three times the national average. Louisiana is the third most expensive state for property insurance.
More than 8% of the population was displaced by a natural disaster last year. Many people have left the state to escape the pressure. Twelve insurers writing homeowners coverage were declared insolvent over a recent eight-month period. That reduction in availability further stressed the premiums. One-third of the state, sitting south of Interstate 10, has experienced larger and faster rate increases than others, assuming they could even obtain coverage.
Louisiana’s state-backed last-resort insurer, Citizens Property Insurance Corp., has tripled in size while charging 10% above market rates and recently increased premium rates by 65%. Auto and flood lines are experiencing similar problems. Average auto coverage premiums are almost triple the national average.
Insurance carriers obtain their own insurance coverage, “reinsurance,” to spread their risk. Frequency and severity of losses, large catastrophic events, abusive litigation, claims fraud, and legislation have all worked to increase claim costs. Those factors have resulted in a hardening of the reinsurance market. Reinsurers have suffered the severe impact of the market conditions and reacted by either reducing coverage or raising rates, often both.
The crises described in California, Florida, and Louisiana provide examples of factors influencing those states’ current reinsurance markets where demand exceeds supply. Economics 101 taught us that prices rise as demand increases and supply decreases. Inflation has been a key driver. Ultimately, the carrier pays more for less reinsurance coverage while strategically accepting more risk. As reinsurance costs have increased, carriers have sought various cost-control strategies. Increased retention and reducing top-end limits are two primary methods used, but both increase the carrier’s exposure. Other solutions include the use of captive insurers, facultative methods, and reduced ceding commissions.
Reinsurance rates are expected to rise 5-15% for the most desirable risks but could swell beyond 50% in extreme cases. The good news is overall, reinsurance supply is showing signs of increasing but at a higher price.
This turbulent and changing market creates some areas of risk for auditors. Contract revisions or new terms could increase or create new exposures for the carriers. Atypical contractual designs tend to surface during more turbulent reinsurance seasons, potentially challenging statutory risk-transfer requirements. Closer scrutiny of claim reserving patterns and results and enhanced due diligence of supporting reinsurance partner financial ratios become a consideration as carriers take on more risk. Auditors will need to be vigilant when reviewing the current reinsurance arrangements, taking care to perform appropriate audit procedures.