Excess capital squeezes Canadian P&C industry’s return on investment

Investment income boosted the Canadian property and casualty industry’s financial results in 2010 by more than 11%, but two-thirds of that investment income was generated through the investment of “static” excess capital, said Philip Cook, CEO of Omega General Insurance Holdings.
Cook spoke at the Insurance Institute’s ‘Annual Industry Trends Breakfast’ of 2011.
Based on the industry’s 2010 Q3’s industry results, as well as adjusting according to “what you may hear on the street,” Cook projected a combined ratio of approximately 101.5% for Canada’s property and casualty insurance industry in 2010.
Investment income added 11.4% to company results. “But, more than two-thirds of that investment income was generated by static, or excess capital sitting in the insurance industry,” Cook said.
Cook said high minimum capital test margins and branch asset adequacy test (BAAT) margins demonstrate an abundance of capital to support underwritten business. At the end of 2010 Q3, the industry had an MCT margin of 236% and a BAAT margin of 332%, he said.
“If you were to take the real investment income, and factor it down by the 236% and 332% [capital] margins, you would find that the actual return on capital supporting the underwriting for 2010 is about 3.8%,” he said.
“That’s a significant number, because that’s really the true return on matching investments. It’s not a statistic you see very often. If you take the 101.5% combined operating ratio, and real investment income of 3.8%, you have a return on investment of 2.3%.”
Because so much capital is floating in the market, it’s not likely that external investors, parent companies or shareholders are anxious to repatriate funds, Cook said.
“But that’s something I think we need to watch. Two-point-three per cent is not a spectacular rate of return. If interest rates go up, it may become more attractive to invest capital elsewhere.”