Primary Insurer CEO Outlook: Steady As She Goes

CEOs of Canadian primary insurers are calling in 2006 for a steady course on pricing and “responsible” underwriting in response to their two biggest issues of the year – replenishing capital in the aftermath of US hurricanes and Canadian auto rate reforms.

The CEOs were asked to predict and discuss their top trends for 2006 in Canadian Underwriter’s ‘Primary Insurer Strategies 2005 Review.’ Their full responses are presented below.

Extrapolating from their answers, it would appear that Canadian primary insurance companies are not immune to what’s happening in the US insurance market. A majority of CEOs appearing in this issue expect Canadian primary insurers to increase rates, as reinsurers attempt to recoup their losses after three major hurricanes hit the United States late this year – including the biggest hurricane disaster of all-time, Hurricane Katrina, in August 2005.

Managing capital replenishment may be an issue in 2006, as the industry contemplates what to do in the event that future storms become more frequent and severe. One key is to stay the course when it comes to pricing and maintaining underwriting discipline, the CEOs say. This is preferable to generating surplus capital – which would eventually tap out private markets – each and every time a major storm blows through

Also, primary insurers are looking to achieve price stability in Canada’s auto insurance market. Some CEOs note auto reforms throughout the country have delivered lower rates, but these rates are too low, they say. As for caps and thresholds, some are in danger of erosion because of litigation and constitutional challenges. What remains to be seen is whether the P & C insurance industry is on a collision course with regulators in this area.

After discussion about Katrina and auto rates ends, the list of 2006 issues and trends becomes long and diverse. Highlights include how the federal election will influence debate concerning Bank Act changes, the ongoing influence of regulators on broker independence and disclosure issues, as well as consumer confidence in the insurance industry.

At this point, we turn it over to the CEOs, who are listed in alphabetical order by last name.

Jean-Franois Blais

President of AXA Canada Inc.-Group of Companies

A year ago, I thought 2005 would be a good year. Yet, barring a natural disaster in its waning days, 2005 will be AXA Canada’s best year ever. In 2005, we celebrated the 20th anniversary of the AXA brand throughout the world; we did so, as tradition demands, with AXA wines. Also, we officially launched in October our Ambition 2012 plan, which aims to make us the preferred company in our industry.

So, what lies ahead? First, let’s look at market trends.

“Trend” is a word around which there is much debate in the insurance industry. Any rate filing will prove it. It is never easy to understand trend forecasts. At this point, we anticipate having to manage the near future in a low-interest environment. We have probably hit the top of the pricing cycle, which will both make it more difficult to grow revenues and create pressure to improve processes and technology over the next couple of years. We will continue to face regulations, new competition and more catastrophes.

Last but not least, there is bound to be a review of auto products. We all realize that reforms have had an impact on claims frequency. However, embedded in the auto product is future claims inflation, which we know will create problems. While it is not easy to deal with, let’s find the courage to do so.

We must also increase our outreach toward consumers. The short-term priority should be market availability and affordability, making sure we provide a solution to young drivers and the residual market; the long-term goal being consumer education.

Nor should we forget our role and impact in society. Since 1995, AXA has encouraged volunteer work. The next priority will be to support sustainable development for the benefit of generations to come.

AXA employees are motivated and committed to achieving our goal of becoming the preferred company. All of them believe in the quality of our relationship with our brokers, which creates the most powerful tool – trust. You can expect AXA to do more of what we do best, in addition to expanding and diversifying our expertise. I want to thank all our brokers and partners for their support and trust. Happy 2006!

Daniel Courtemanche

President and CEO of ACE INA Insurance

Taking a high-level view of the North American market, 2005 proved once again that a poor memory dominates the industry. After a 10-year average of dismal returns, the events of 9/11 provided the catalyst for a much-needed market correction.

Although industry results improved, unsustainable competition quickly reemerged. The unprecedented losses of 2005 – up to 20% of the industry surplus – have only slightly abated the situation. On a relative basis, the reinsurance and retrocessional markets were hardest hit, and indeed they appear to be attempting to drive some pricing discipline.

The capital markets, however, have reacted in a surprisingly resilient manner. Despite an increasingly clear indication over the past number of years that weather/seismic events can have a devastating and almost foreseeable impact on capital adequacy, the markets have not only essentially absorbed these events in stride, they have once again demonstrated that a high ROE -based model – however speculative – can still attract capital. This is a somewhat optimistic view when we consider that industry-wide ROE has declined steadily in virtually every decade since 1970. Despite this, debt and equity linked offerings have raised over $60 billion dollars since 9/11.

Where are the markets headed in 2006 and beyond? Clearly a few key issues dominate, and will have a profound impact on the ultimate health of the industry.

Of paramount importance is the need to maintain discipline in both risk selection and pricing in order to have a reasonable expectation of risk-adjusted return. This mandates not only the standard loss expectation analysis, but a catastrophe-driven pricing discipline as well.

As previously mentioned, the private sector has supported capital expansion. But we should not forget that this support has come at a time of historically low fixed income yields. A reasonable expectation of return, especially in a rising rate environment, is essential if this situation is to continue.

The ultimate health of the industry depends on solid returns in our core business; not on cycles of risk capital replenishing surplus after long cycles of dismal industry results, punctuated by catastrophe loss events.

Equally pivotal to a healthy future is the obvious need for a more effective risk accumulation model. Somewhat linked to this, we need to recognize that the private sector may not be able to absorb every natural or man-made event. Industry surplus has not kept pace with value concentration; the need for an accurate – or at least significantly improved – modeling capability is essential for prudent limit deployment.

Even so, a joint public-private sector solution is needed to deal with the most severe catastrophic events, whether man-made, or weather/seismic related. As mentioned, surplus has not kept pace with potential event magnitude. The fact that industry results in two of the last five years have been dramatically impacted by single loss events should be a clear reminder of this.

Gregg Hanson

President of The Wawanesa Mutual Insurance Company

When I think about two big issues facing our industry, the first is increasing catastrophe frequency and severity; the second is the crisis in consumer confidence.

We can sum up the issue of catastrophes in this way: bad is never good until worse happens. We’ve witnessed on television broadcasts the devastation and chaos that Hurricane Katrina delivered. This event now holds the rec
ord as the costliest US hurricane in history. Insurance damage estimates are between US$40 billion and US$60 billion. Previously, the highest damage loss, wrought by Hurricane Andrew back in 1992, was about half that amount. Hurricane Katrina will likely surpass the insured losses delivered by the World Trade Centre disaster in 2001. No sooner had Katrina drifted off into the history books than Rita stepped forward and delivered an insured wallop of another US$10 billion. Finally, the third ugly sister, Wilma, gave her best shot and whacked insurers for another US$10 billion. Adding all of this up, these three events will probably total in the neighbourhood of US$60-80 billion. This constitutes 15-20% of the total policyholder surplus of all US insurance companies.

Our company and the Canadian insurance industry in general have certainly seen an increase in frequency and severity in the last three years. Let’s hope this is not a continuous trend.

Now let’s turn to the issue of the crisis in consumer confidence. In the past two years, insurers have played the role of Public Enemy Number 1. We have been caught up in the consumer backlash against rising auto rates and then government reaction in the form of legislated rate freezes, rollbacks and system reform. The industry also had its challenges with commercial clients, culminating in the recent scandal over broker compensation.

Throughout the past year, industry CEOs and broker representatives have touted the industry’s primary mission for 2005 to win back the hearts and minds of the insurance buyers. Certainly there is a need for greater education and transparency around the insurance mechanism. But everyone in the business realizes the key to winning customers is to give them the best product possible and, ultimately, the very best claims service possible.

2006 promises to be the “year of the customer” for insurers, who will certainly be caught up in the inevitable competition that follows a hard market and technology will be important in achieving superior service.

Robert Landry

President and CEO of Zurich Canada

It is too early to tell exactly how this year’s weather-related catastrophes will affect the Canadian commercial insurance market. But there is no question their impact will be felt far north of where Katrina and Rita came ashore, and long after businesses are rebuilt and lives put back together.

Katrina’s impact is raising risk awareness all around. Customers are looking to add more and possibly even different coverages, while insurers and reinsurers are reassessing their exposures and reviewing their models used to predict the financial impact of catastrophes. This is affecting the supply side for various lines of business, not just property, which logically leads to higher prices.

The Canadian insurance market does not operate in a vacuum. With our dependence on an increasingly global reinsurance market, we have felt and will continue to feel the effects of catastrophic events beyond our border, whether these events occur in the United States or internationally.

This is not to say Canadian commercial insurance rates are expected to go through the roof as a result of this year’s weather. Today, there is sufficient capacity in the marketplace, insurers are practicing more responsible underwriting and the industry is more financially sound than it has been in decades. This stability means we can absorb major hits without sending rates in an upward spiral.

While commercial property insurance rates in Canada aren’t expected to increase substantially, the size of these losses will have a definite moderating effect. The days of major rate reductions for Canadian risks are over. Slashing rates for the sake of gaining market share is not a sustainable business strategy. When rates go down and loss costs go up, ROE takes a significant hit in a relatively short period.

So, what does this mean for each of us? As insurers, we can expect rate hikes in our catastrophe treaties as reinsurers seek to recover their losses. For brokers, their role in representing clients in an increasingly complex marketplace becomes more important than ever. For customers, who for the most part must ultimately shoulder the burden of global catastrophic losses, they must prepare for the reality of higher insurance costs while working to reduce their overall cost of insurance through improved risk management solutions.

The impact of recent catastrophes and future large losses will impact us all. But just as we are all in this together, we can all take comfort in the fact that the industry is strong enough to sustain itself despite the chaos Mother Nature can deliver.

Charles Lawrence

President, chief agent and chief operating officer of CNA Canada

When we look back on 2005, our industry is expected to report a successful year. But if we recognize the 2005 performance was based largely on 2003 and 2004 pricing, as well as on underwriting discipline, we could say we failed. Overall, we did not maintain our commitment to pricing stability and therefore we may have eroded future profit margins.

If as an industry we return to underwriting discipline in 2006, perhaps we can look to 2007 and 2008 as a continuing period of underwriting profitability and a period of stability for the industry. If we do not, it will have meant two years of declining rates resulting in failure to cover claim and inflationary-related costs. By 2008, we will once again be facing combined ratios in excess of 100%, accompanied by deteriorating returns.

The industry has made considerable effort and has embarked on a number of effective initiatives to restore consumer confidence and improve public image. But will this success be short-lived if two to three years from now rate increases of 10-20% will be required for a return to profitability?

Many factors contribute to our ability to make rational underwriting decisions. Pricing for assumed loss and exposure requires discipline. To achieve success, the entire P&C market is responsible for maintaining underwriting principles regardless of market conditions.

Disasters around the globe have become more frequent and more severe: many suggest this trend will continue. This reinforces the need for market stability through underwriting discipline. If we did a better job of communicating to our customers claim trends, the impact of catastrophes, the influence of a global marketplace and the fundamentals of our business, perhaps we could achieve stability or, at the very least, cover our increasing costs. We must acknowledge that insurance is a global market and every insurer has a responsibility to contribute to its overall success.

CNA Canada is committed to maintaining underwriting discipline. We recognize the market significantly influences the environment in which we play; however, we are committed to pricing for profit. We will continue to focus on growing our key partnerships and exploring new opportunities that will support our strategy for long-term, profitable growth.

A recent article suggested 2006 would be “another good year,” with the industry producing returns of 7%. What other industry is viewed as being “successful” with declining returns and the delivery of single digit ROE? How do we generate double digit returns without awakening negative political and media attention? How do we balance profit with consumer confidence and public approval?

Igal Mayer

President and CEO of Aviva Canada Inc.

We will continue to see relatively stable market conditions in 2006. This is a very different outlook than we had just a few short years ago, as significant product changes in automobile are behind us now and most insurers are focusing on disciplined underwriting across all lines.

We are carefully watching claims trends. For most of 2005, we experienced historically low claims frequency, supported by many factors including mostly good weather, improved vehicle safety, effects of high gas pri
ces, increased deductibles and consumer fear of making claims. However, as insurers advertise accident forgiveness and the fear factor dissipates – and as Canadians become accustomed to higher gas prices – increased frequency is inevitable.

In fact, we began to see the trend shift in the third quarter. Of course we are monitoring other cost pressures carefully: for example, although tort reforms have reduced the number of eligible claims, thresholds are continually being eroded and we face various constitutional challenges of reforms across the country. And the devastating string of hurricanes in the southeast U.S. has already begun to put pressure on the cost of construction materials and reinsurance.

By the time you read this, a federal election may have been called or one will be looming. This could be the most significant federal election for our industry in decades, as Bank Act reforms may be addressed early in the next government’s mandate. The current Canadian insurance marketplace could face the prospect of having five bank giants as new competitors. And while we arguably already face two such competitors, allowing five to distribute within branches could forever change consumer behavior towards insurance buying. This could also have significant short- and long-term repercussions on the industry, potentially providing the catalyst for another wave of consolidation as existing players bulk up to do battle. At Aviva we would of course participate – and I don’t mean we are for sale!

If banks are permitted to distribute insurance within branches, brokers will need to look carefully and introspectively at their business model. I strongly believe this should not lead to brokers aligning themselves with one insurer. I believe it is about going back to your roots and leveraging your greatest strengths – including your independence, which means you work for and represent your customers, and the meaningful choice that only independent brokers are in the position of being able to offer. As my good friend John Morin, at Morin Elliott Associs Lte, says, “Banks have tellers, we have listeners.”

Brokers and the companies that support them need to communicate more effectively the unique value proposition of independence and choice available to customers. This, combined with your professionalism and a winning attitude such as that displayed by John Morin, will ensure independent brokers thrive regardless of whom their competitors are.

Ellen Moore

President and CEO of Chubb Insurance Company of Canada

Catastrophic events during 2005 have tested the global insurance market. Increased activity from Asian and European storms produced record claims and costs by the end of August, only to be outdone by U.S. hurricane losses in September and October. Summer storms across Canada demonstrated we are not exempt from paying out large dollars for single weather events. Clearly, the 2006 insurance environment will be affected by these developments.

There is an anticipated impact on pricing due to the record catastrophe losses in the last 18 months; exactly how broad the impact will be is still unfolding. First, we expect reinsurance retrocession costs will increase. Also, there are reports that regular reinsurance – both treaty and facultative placements – are seeing upward adjustments, although there are conflicting views about what kind of impact this will have in Canada. If these catastrophe losses have an impact on primary contracts in 2006, we expect to see that impact will vary by geography and line of business. With new companies entering the reinsurance market on a regular basis, we do not see a need to be concerned about market availability.

We have seen evidence that underwriters, brokers and clients have learned lessons during the last few years of the changing market. Rates have been trending downward in the last two years in all areas. For the most part, it appears this movement has been fairly rational. We believe more underwriters are willing to walk away from under-priced business so not to find themselves in the depths of unprofitability of the ’90s. In addition, brokers and clients have learned that pricing stability is important to the financial health of our business. Insurance and financial rating agencies have been carefully watching surplus and reserving, especially with the impact of recent hurricanes. Moody’s, S&P and AM Best have taken a series of actions during 2005 that affect our industry.

In our specialty division, Chubb has been a leading writer of publicly traded Directors and Officers insurance for 25 years; this will not change in 2006. Significant new challenges face the D&O market. The changing Canadian legal environment has created far greater exposure for today’s corporate boards. For example, changes to the Ontario Securities Act in 2006 will allow civil liabilities to be imposed on D&Os of publicly traded companies for misrepresentations and failure to disclose in the secondary markets without requiring plaintiffs to prove reliance. These exposures have produced significant frequency and severity losses for US companies.

Chubb looks forward to a strong 2006 by staying close to what we do best: providing leading market products and service to a client base that values underwriting quality and the financial strength from its insurance partnership.

Rowan Saunders

President and CEO of Royal & SunAlliance Insurance Group

For most of 2005, the industry has been in what I would characterize as the “honeymoon phase” of auto product reforms across the country. As we pass the two-year mark for many of the legislative changes, we are now beginning to see the ramifications of the reforms in Ontario and Atlantic Canada.

The industry is already seeing challenges to the constitutional validity of the minor soft tissue injury cap in New Brunswick, Nova Scotia and Alberta. The two-year limitation period for Ontario’s Bill 198 expired Oct. 31, and we expect to see more litigation activity challenging the Bill 198 threshold over the course of 2006.

I believe that we must defend our position against these challenges. It won’t be inexpensive, but it is critical to containing costs and maintaining stable rates for consumers. Past experience tells us that any time reforms threaten the income of plaintiff’s lawyers, expect a fight. We are prepared to take on that battle, because we believe it is important to ensure that the caps hold, that claims dollars are well spent, and that people get the treatment and benefits to which they are entitled.

At Royal & SunAlliance, we are taking a number of steps to ensure we are adequately prepared. First, we are tracking all claims activity to which the caps apply and ensuring that we are adequately reserved. As well, we are watching any claims that may be challenged. Secondly, we are prepared to defend these challenges. I believe we must: consumers deserve a stable industry and that means containing claims costs. The industry fought hard for fair auto reforms, and now we must ensure their hold.

Over the last few years, the industry’s focus has been on driving the loss ratio down, but I believe that the focus is shifting to customer management. As the financial results balance out, insurers will align their efforts on introducing innovative initiatives to win new customers and retain their current ones. Increased competition from direct writers means that insurers must re-examine their offerings to consumers. We simply can’t compete only on price, and must consider other means to prove our value to consumers without sacrificing our underwriting discipline.

This will mean insurers work closely with brokers – there is no doubt brokers provide a service with which direct writers simply cannot compete. But we must ensure we are providing brokers with the right products and services. I believe we will see insurers targeting specific customer segments and demographics, and developing products to meet those customers’ specific needs. We are also
seeing a shift in marketing. Progressive insurers and brokers together will spend on advertising and direct mail campaigns to pull in customers. I believe the company that gets this right is the company that will prosper in 2006.

Bill Star

Chairman, president and CEO of Kingsway Financial Services Inc.

One year ago, I looked back at the year and realized the results for the insurance industry in 2004 would be the best in many years for Canadian companies. Even though unusual storm activities affected the property business, automobile rates were adequate; I felt at the time that overall results would be positive when the year-end results were published.

Now, toward the end of 2005, I am again looking back at this year and seeing a similar story. Although automobile rates were reduced in both Ontario and Alberta, and again unusual weather activity caused some property losses, the overall results for the year will appear to be satisfactory when the year-end numbers for the industry are produced.

Two issues will face the Canadian industry in 2006. First, there is far too much political interference in the automobile insurance market. Rates are now inadequate in several provinces, and results in 2006 will be break-even at best. Second, storm activity is no longer unusual. Rather, we must expect large weather related losses as a routine now in various parts of Canada.

North America, along with the rest of the world, can expect severe weather-related losses as a routine, not an exception. Reinsurance costs will rise dramatically as reinsurers must spread their losses among all sectors, not just the areas that prone to regular storms. Primary rates must rise to cover the increase in claims activity.

We must take a stronger position in dealing with regulators on automobile rates. FSCO created an act to stabilize automobile insurance rates and then promptly ordered rate cuts. The rates are now at an inadequate level and must be increased. In Alberta, we have a government that created a rating system that favors bad drivers. Giving young and inexperienced drivers low rates will increase accident frequency and the death rate among those drivers. Good drivers will eventually pay for the arrogance of politicians that have their own agenda.

The soft market is still here but will become firm in 2006 and much harder in 2007. New insurers will probably enter the Canadian market on a selective basis choosing only the markets that appear to have rate adequacy. Overall it should be a year with many challenges.

Bob Tisdale

President and chief operating officer of Pembridge Insurance Company

2005 proved to be another successful year not only for the insurance industry, but more importantly for the consumer. Rates continued to fall and many new products and services were introduced into the market.

The auto insurance reforms that have been introduced are having a positive impact on consumers and achieving what they were intended to do. But there is more work to be done.

The ground has shifted significantly under the insurance marketplace in the last half of 2005, and the industry must be prepared to make some tough decisions in 2006. The market has become more competitive and consolidation is compelling companies to re-evaluate their current position in the market to determine where they want to be in the years ahead.

These shifts have put a spotlight on how and through whom companies sell their products. There has been a fracturing of the distinction between the two traditional distribution channels.

It is imperative to preserve the integrity and clarity of the distribution channels that insurers use to sell products and services. The industry should resist blurring the lines between brokers, agents and direct methods of distribution.

The future of the independent broker is at a crossroads and brokers will have a very tough choice to make. Companies and their representatives can and should be finding ways to bring greater clarity to the nature of the insurance buying process and promoting the value of each channel.

Pembridge is standing firmly behind the preservation and growth of the independent broker channel.

It will be a step backwards from the progress that has been made to be more open and transparent to consumers if the distinction between the distribution channels is not preserved.

Another important decision to be made in 2006 is at what point it will be appropriate to approach decision makers about small rate increases on auto insurance. For the first time in nearly two years, frequencies are not dropping; in some cases, frequencies are trending up.

To achieve a measure of market stability that has been desired for so long, the industry should not be afraid to consider small rate increases towards the end 2006 in an effort to stave off potentially larger increases in 2007 and beyond.

It is important to recognize the leading indicators and respond accordingly. Failure to do so will again create the rollercoaster ride of rate instability that triggered consumer outrage and forced governments to respond.

I remain optimistic that consumers and the industry will benefit from greater stability in the marketplace in 2006 and I am confident that greater stability will generate even more growth and prosperity for our employees, brokers and business partners.