AAM continues to monitor important regulatory changes affecting the insurance industry. Below we summarize some recent developments of interest:
2017 Industry Results
P&C: After several years of profitable underwriting, the P&C industry produced an underwriting loss in 2017 with the re-emergence of catastrophe losses, decline in favorable reserve developments, and increased pricing competition (especially in commercial lines). Investment income declined slightly amidst continued low market rates, though strong stock market returns continue to help support the bottom line as the industry’s exposure to unaffiliated common stock as a % of surplus set a new long-term high at over 37%. Meanwhile total surplus grew at a respectable 2.6%, reversing the small decline in 2015 and maintaining the surplus/assets ratio at the 38% level where it has hovered for several years running. Looking ahead to 2017, significant developments are likely to include: the Fed’s program of increasing interest rates, growing interest in cybersecurity and terrorism-related insurance products, the potential for self-driving car technology to impact the commercial auto insurance market, and the ongoing deployment of personal and commercial drones and related growth opportunities.
Life/Annuity: The life insurance industry enjoyed healthy profitability in 2016, posting a 10.6% return on surplus, slightly below the last couple years but well above the single-digit gains posted following the 2008 financial crisis. A main driver of the generally strong profitability remains the gradual run-off of unprofitable “legacy” blocks of business, though in 2016 this effect led to a modest decline in total life and annuity premiums. The industry’s average bond yield slide from 4.72 to 4.65 during the year, though the prospect of multiple Fed rate hikes in 2017 could suggest that we are nearing the bottom on this front (knock on wood). Unfortunately, even with improved reinvestment rates available it will likely take a number of years to meaningfully increase the industry’s average bond returns, due to the prevalence of long-dated maturities held by life insurers. Looking at other investment trends we continue to see a modestly increased allocation to credit and liquidity risk as a means of boosting returns (including growing exposure to floating-rate CLO securities), though insurers also seem to remain wary of “reaching for yield” with the impairments of 2008/09 still fresh in mind. As ever, the direction of interest rates will be the most important driver of 2017 returns, along with the demographic impacts of an aging population, the challenges of marketing to tech-savvy Millennials as their need for life insurance products grows, and the deployment of improved technologies to increase efficiencies in underwriting, marketing, and distribution.
Florida Assignment of Benefits
In recent years many Florida homeowners’ insurers have seen their underwriting results negatively impacted by the rise of “assignment of benefits” (AOB) lawsuits and claims. This specifically refers to cases where insureds who have experienced non-weather-related water damage assign their legal standing to receive a claims payment to the contractor performing repair/remediation work (or their representatives). Insurers contend that vendors use these cases to inflate the cost of repairing the water damage, frequently neglecting to report the claim until the repairs are already complete. In any case state residual insurer Citizens Property has pointed out that these cases have necessitated >10% premium increases for multiple consecutive years in certain regions, despite minimal storm activity. The issue has also discouraged private insurers from moving into affected regions (primarily Broward, Palm Beach, and Miami-Dade counties), further straining the existing insurance markets there.
Attempts at legislative relief in the 2016 state legislature session hit a dead end, so insurers are now seeking administrative solutions in conjunction with the state’s Office of Insurance Regulation, including premium incentives for insureds who use vetted contractors for repair work. Whether these measures will be approved, or will be effective in curbing AOB losses, remains to be seen. In the mean time 11 Florida insurers have received outside capital contributions to shore up their balance sheets in the face of AOB costs, per a recent report by S&P Global Market Intelligence. Ratings agency Demotech has been discussing this issue with many affected companies during ratings reviews, and has warned that AOB-driven surplus deterioration could lead to downgrades in the absence of clear mitigation strategies. Unfortunately, despite last year’s hopes of a decisive resolution to the AOB problem, it now looks likely to remain a live issue for the foreseeable future.
A tax reform bill will likely be undertaken by Congress in the very near term, though much uncertainty around the details and prospects for passage remain. We won’t recap the recent flurry of rhetoric and speculation on the issue, except to observe that a general reduction in corporate rates, concurrent with the elimination of various deductions, is still seen as one of the most probable outcomes of any eventual bill. Some measure to penalize companies for manufacturing goods abroad and shipping them into the US is also likely to be included. However, the divisions within the House evidenced during the recent attempt to pass health insurance reform legislation may presage a tough road to passage for any major tax reform bill.
NAIC RBC Changes
This topic was discussed in NAIC Investment RBC Working Group conference calls in February and March. Discussion points included proposed modifications to the asset concentration adjustment piece of the RBC formula, the possibility of modifying the proposed bond RBC factors to incorporate the findings of the ACLI’s study from late last year, and the emerging consensus that P&C and Health insurers will also have the granularity of their bond RBC factors increased. In part because of this last point, the working group is now targeting year-end 2018 for financial statement implementation of these changes. We expect further updates on this topic at the Spring NAIC meeting in April.
- The NAIC’s Statutory Accounting Principles Working Group has made proposals to formally include money market funds in cash equivalents (previously they would sometimes get grouped into Short-Term Investments or Common Stocks) effective 12/31/17. They’ve also proposed that MMF’s be carried at fair value/NAV given recent reforms posed by the SEC.
- The previously discussed proposal to include a streamlined Schedule of Owned Holdings (i.e. investments) in the mid-year quarterly statement is expected to move forward, with 6/30/18 as the likely effective date.
- The Blanks Working Group has reduced the number of foreign codes applied to Schedule D bond holdings from 12 to 4. This significantly streamlines the classification process and should make insurers’ lives easier while still providing transparency about the exposure to foreign issuers and foreign currency impacts.
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