The attacks on the US last week showed no one can predict what dangers lie around the corner. Once more, insurers are learning the hard way that they need to build into their pricing a substantial element for unknown risks, and not rely on outdated statistics and practices.
Today there are a range of liabilities facing insurers and, for some, the costs can only be guessed at. The annual cost of private sector compensation claims in the UK is around £5bn and rising, and the Lord Chancellor's decision to cut the personal injury discount rate from 3% to 2.5% will cost insurers over £300m, plus increased annual costs of around £85m.
A report by analyst Datamonitor predicts that, by 2005, third-party claims will rise by a third, with a million Britons a year trying to obtain personal injury compensation.
This is serious stuff and insurers will have to plan their pricing and claims reserving policies carefully if they are to avoid going the same way as Independent Insurance. However, even bigger threats arise from risks that are already lurking in insurers' accounts.
The legacy of asbestos claims is an example. Many thought they had peaked in the mid-1990s, yet the numbers are still rising. Settlements in the US could reach $200bn (£142bn), according to consulting firm Tillinghast-Towers Perrin. The Health and Safety Executive (HSE) calculates that 50,000 people in the UK have died from asbestos-related diseases since 1968 and that it still causes more than 3,000 deaths each year.
Paying for past mistakes
The cost of asbestos claims forced Chester Street into liquidation, while Equitas, the Lloyd's reinsurer, recently announced that it has strengthened its reserves by £1.7bn to cover its expected liabilities. Whether this is sufficient remains to be seen. Many of these claims arose from policies written over 30 years ago, when underwriters could not have known the full implications.
These are some of the types of claims that insurers could face:
“We don't know enough about the real effects of electromagnetic radiation yet,” says professor Henry Lai of the University of Washington.
“I have a list of about 600 research papers from the past ten years alone, 70% of which show definite effects from exposure to this kind of radiation, but the industry continues to say that there is nothing to worry about.”
Need for risk management
None of this is good news for insurers with substantial employers' liability (EL) accounts, particularly as the next spate of claims is likely to come from the clerical sector, which insurers have traditionally regarded as low-risk.
Some analysts are even wondering whether EL insurance will soon become uninsurable – at least, in its present form. Many insurers are now trying to reduce their liability exposures, but the question remains; when the claims start to escalate, will there be sufficient money in the liability kitty to pay for them?
According to the Association of British Insurers (ABI), general insurance business in the UK incurred an underwriting loss of £2.3bn in 1999. Moody's Investor Service estimates Lloyd's will incur a pure-year loss of £1.1bn for the 1999 year (under its three-year accounting rules), which will represent 11.2% of its capacity. Moody's says around 13% of those syndicates trading in 1999 have since gone into run-off.
Following the dramatic collapse of Cotes-worth, market analysts expect this trend to escalate, as loss-making syndicates struggle to find backing capital. With losses running at these levels, and with the stock market tumbling, some insurers may find it difficult to meet the costs of a further surge in liability claims.
There are encouraging signs that market rates are hardening, but many inside the industry feel only sustained pricing action and risk management will be sufficient to counter the trend of rising liability claims.
The president of the US Insurance Services Office, Frank Coyne, warns: “Astute leaders will recognise the underlying dangers amid signs of market improvement and will not be distracted or deterred from executing the fundamentals of solid underwriting. Risk-based pricing and sound risk assessment are the single most important determinants of success.”