$74 billion loss needed to trigger US hard market: Advisen

Hard market conditions would be triggered by a $74-billion loss of excess capacity in the U.S. commercial insurance market, according to Advisen.
In its ‘QuickNote: $74 billion away from a hard market,’ Advisen cites surging supply – explained by rebounding equity markets in 2009, coupled with diminished demand for insurance capacity brought on by the Great Recession – for the overcapitalization of the market.
Advisen examined the relationship between U.S. policyholder surplus (a critical component of capacity) and GDP (a proxy for demand).
“Since in the U.S. most companies are already fully insured, the need to buy more insurance is directly tied to growth, represented by the change in GDP,” Advisen said.
Expressing policyholder surplus as a percentage of U.S. GDP, supply and demand are in balance at 3.2%, the report says. Above that point, the market is in a soft cycle and below the market is firming up.
During the stock market crash of 2008, the ratio plunged to about 3.2%, but increased sharply in 2009 H2, surging above the 3.2 point. Since then, it has remained well above the threshold; at the end of 2010 Q3, it sat at about 3.7%.
“One unprecedented mega-catastrophe, or several very large catastrophes in close succession, could destroy the excess capacity and trigger a turn in the market, Advisen said in its report. “But the more likely scenario is slow, painful haemorrhaging of capital as deeply eroded rate levels take their toll.”
“Insurers will have limited ability to offset rising underwriting losses with reserve releases, and investment income will decline as insurers are forced to invest in low-yield fixed income instruments.”