COVID-19 has caused the withering of capacity to reach new heights in Canada’s specialty lines business.
The global pandemic has affected individual specialty lines in unique ways. Some lines of business have been hit particularly hard: Directors and officers (D&O), errors and omissions (E&O) and cyber spring to mind. And certainly the economic recession arising from the pandemic has made an already tough situation even tougher.
As the pandemic rages on, brokers have been working that much harder to find commercial specialty lines insurance for their clients. They are fielding more questions from skittish underwriters, and they have been forced to negotiate more innovative and intricate insurance solutions for their cash-starved clients. The big question now is: When will capacity grow again in the commercial specialty lines garden?
Definition and trends
First, a word about definitions.
The phrase “specialty lines” is an abstract concept, like using the term “average.” Carriers all have their own understandings about counts as “standard” commercial insurance and what counts as “specialty.” Brokers cited in this story were all encouraged to define the term in any way they wished; each focused on the areas in which they specialized. For simplicity’s sake, we define specialty lines as all forms of commercial insurance that are not standard commercial auto, standard commercial property or commercial general liability (CGL).
With this in mind, Canadian commercial brokers told us that the COVID-19 pandemic did not start to make commercial specialty lines firm up — not all of them, anyway.
“Prior to March 2020, we were already seeing some significant firming in most specialty lines,” says Eric Osborne, president and CEO of Jones DesLauriers Insurance, a Navacord brokerage. “Preceding COVID, I wouldn’t have said that any [specialty] lines were particularly soft. If anything, we just continued to see the results of a more aggressive hard market as the pandemic continued its course.”
Osborne’s observation reflects the views of most brokers interviewed for this story. That said, COVID-19 has influenced claims trends — and therefore pricing and capacity issues — in various classes of business (please see sidebar), most noticeably in the D&O and E&O lines.
D&O and E&O lines
The pandemic appears to have hit D&O and E&O lines the hardest, for a variety of reasons.
Brokers report having a hard time finding D&O and E&O coverage for their clients in the healthcare field, particularly those operating nursing homes or long-term care facilities. As of July 31, almost 9,000 Canadians have died from COVID-19. As of late May 2020, more than 840 outbreaks had been reported in long-term care (LTC) facilities and retirement homes, “accounting for more than 80% of all COVID-19 deaths in the country,” the Canadian Institute of Health Information reported in June.
The Canadian Armed Forces (CAF) were called in to help various nursing homes and LTC facilities ravaged by the coronavirus. In a damning report, the CAF in May outlined conditions of squalor and neglect that triggered government inquiries and multiple class action lawsuits against Canadian nursing homes.
“With respect to directors and officers coverage, we have one market in particular who is completely getting away from senior care facilities,” says Bill Dalton, senior vice president, commercial at Cal LeGrow Insurance & Financial (part of the Canadian Broker Network) in Newfoundland. “In my opinion, if the pandemic didn’t happen, you wouldn’t see the effect, particularly in the seniors’ care facilities, on the D&O and E&O side.”
The reasons for the impact on the D&O class go beyond just nursing homes and long-term facilities. There is the effect of the economic recession as well.
“There will be new [D&O] exposures as a result of COVID, based on how well executives and business leaders contended with and adapted to contingency plans for running a successful operation through this unpredicted pandemic,” Osborne speculates. “If you are a private or publicly traded company, the economic hardships caused by the pandemic could lead to increased litigation.”
Increased bankruptcies tend to increase the number of claims on the D&O policy, says Richard Doherty, national specialty practice leader for Marsh Canada. He was commenting in general and not on any particular bankruptcy or claims action.
“When you have an economy that has for all intents and purposes been shut down in North America, I think a reasonable person can see a greater number of bankruptcies going forward,” says Doherty. “Therefore, underwriters are being cautious with how they are deploying capital. They really are looking at the financials of an organization before they [deploy capital].”
Uncertainty around COVID is causing underwriters to anticipate other claims exposures on the D&O line as well. “There is the uncertainty of COVID claims and reserves,” says Paul Meinschenk, chief operating officer and executive vice president of Totten Insurance Group. “Call it ‘COVID loss creep.’
“What is that? It includes potential losses arising out of a possible second wave [of COVID infections], social inflation, unforeseen and underestimated losses, extended lockdowns, any retroactive legislation, emerging long-tail claims. Underwriters are on the fence [about writing some specialty risks] because they don’t know how [COVID-19] related losses will pan out.”
Necessity is the mother of invention. With even Lloyd’s of London (Canada’s third-largest insurance entity by premium volume) reportedly pulling back on capacity, Canadian brokers are finding creative ways to insure the specialized risks of their commercial clients.
“We are having to layer up our D&O — and E&O and Cyber, for that matter — to get the limits that our clients once had to maintain their lines,” reports Alex Kelly, team leader of commercial brokering–risk solutions at the Lawrie Insurance Group.
“Say, for example, we have a $5-million D&O policy. We’ve had to layer it using three carriers opposed to the one for the expiring term. We would put one carrier on the primary D&O, then get a $1-million excess followed by a further $2-million excess, just to achieve the $5-million limit. We’re certainly logging a lot more hours as a whole on my team as a result, but ultimately our goal is to make sure our clients are protected.”
Even with this arrangement, the price to buy excess layers of insurance is not cheap.
“Based on the fact that the majority of losses are going to be experienced in the primary layer, we’re finding that the pricing for the excess layers is really, really high compared to what we might expect it to be,” says Kevin Neiles, regional president and chief marketing officer at Arthur J. Gallagher in Canada. “It’s capacity, but it’s driving up the overall premiums that clients are paying even more significantly. In the 30-plus years I’ve been in the business, I’ve only seen a handful of accounts that really needed to be structured in that kind of way, and now we’re seeing quite a few.”
What’s happening in D&O lines is a microcosm of what’s happening in specialty lines generally. Underwriters are asking more questions. They are attempting to write contagion exclusions into their specialty lines policies. And they are inundated with applications and queries from clients desperately seeking coverage in areas in which capacity is shrinking fast.
“Clients, brokers and underwriters all have to be prepared to work hard over the next little while,” Doherty says. “I think they are all going to be asked a lot more questions than they might have been asked in the past.”
Across all specialty lines, “we are definitely seeing increased scrutiny from underwriters,” Osborne observes. “Their requirements to underwrite risks and deploy capacity have become substantially more stringent. This is not isolated to any one particular market. The level of information required for the underwriters to deploy capacity is definitely increasing. It is becoming more difficult for brokers to secure coverage and ultimately more important for brokers to not only understand their clients’ operations, but to also understand the impact that COVID-19 has taken as well.”
Advance preparation is key to avoiding this type of scenario, Doherty says. “From a client’s perspective, if you don’t come prepared with your information, you will often lose your place in the queue. Because the underwriter is saying, ‘I have a thousand things coming on my desk. This one is incomplete, so it goes to the back of the line.’ So, the message I would leave is that clients, underwriters and brokers are all having to work harder in these times. And they all should be prepared prior to going into the renewal with a client, because lack of preparation is going to hurt everyone.”
The next growth phase
So, when does the capacity shortage come to an end?
Not before the pandemic ends, and probably not for some time afterwards either. The premium relief measures insurers offered to support their clients through the pandemic crisis may ultimately wind up extending the hard market after the pandemic is over. By how much is anyone’s guess. Most figure between six months and two years.
“We would expect pricing to continue in an upward trend, driven by underwriting losses in 2019 and a non-reliance on anticipated poor investment returns caused by a global recession for 2020 and beyond,” predicts Meinschenk, echoing the views of others. “The market was in a ‘fix’ mode, so this [pandemic] will just extend it. Claims still need to be paid and funded for, and premium reductions will only cause the hard market to extend.”