Private times

Private motor insurance is the biggest premium earner in the general insurance market, with a total gross premium of £9bn, according to figures from the Association of British Insurers (ABI).

But, for the past few years, the market has been suffering much-publicised losses as a result of underpricing and soaring claims costs.

Since 1995, there has been a significant bout of price competition, with many insurers pricing their products drastically low. Insurance companies set premium rates in the motor market with a view to gaining market share, as opposed to profit. This culminated in a motor underwriting loss of £1.47bn in 1998 and £1.31bn in 1999.

This year has seen rocketing prices, as insurers attempt to claw back profits, and many major players, including Norwich Union, have pulled out of the market.

According to a report by analysts Datamonitor, both comprehensive and non-comprehensive average policy premiums increased by almost £100 between January 2000 and January 2001, indicating a sudden change in insurance firms' strategies. Many insurers have increased their prices by 10% to 25% over the past year.

There is now evidence that the insurance market is reaching a plateau in terms of prices. The AA recently predicted a price war is imminent.

According to the AA's report, comprehensive motor rates have slowed right down, rising only 0.9%, compared to a quarterly rise of 4.4% in April 2001. Year on year, average comprehensive rates are up 15% from £561.24 this time last year to £645.76 now.

Motor underwriting manager at MMA Insurance, Claire Hazelhust, says: "We are only halfway through the year but, based on rate changes to date, it's very difficult to see how double-digit rate increases will be carried. Market indicators point to a stabilising of rates, which has to be good for motorists."

Return to profit in 2002
Although prices in the motor market are static at present, Datamonitor analyst James Allingham predicts the market will not see prices drop below the rate of inflation until around 2005.

"Insurers will not see a return to profit until 2002," he says. "Then, by 2004, rates should plateau and insurers will start to become more price-competitive after that."

The secretary of Lloyd's Motor Underwriting Association (LMUA), Nigel Withyman, agrees with this view. "Any time the market has a recession, when it starts recovering, people say how awful it was and that it must not happen again," he says. "Unfortunately, what used to be a ten-year cycle is now a four-year cycle."

He adds that composite insurers have a better chance of riding cyclical storms than niche Lloyd's insurers, as they have other products that are making money.

Balance sheets may be looking rosier, but escalating costs per claim are not helping underwriting losses. While the number of claims per vehicle has declined due to falling car crime rates and fewer road accidents, claims are still the largest outgoing of insurance companies.

This year saw the largest ever motor claim in UK history. The Fortis-insured driver involved in the Selby rail disaster, Gary Hart, has been charged with causing the deaths of ten people by dangerous driving. The claim is likely to be in the tens of millions, with reinsurers footing the bulk of the bill.

The recent Court of Appeal judgment in the landmark Callery vs Gray case will impact further on claims costs.

Lord Woolf, the architect of the civil justice reforms, dismissed appeals from Norwich Union and Royal & Sunalliance to restrict the level of success fees solicitors can recover for successful personal injury claimants in motor cases to less than 20%. However, Woolf did agree to put a maximum 20% cap on success fees.

The appeal hearing examined the reasonableness of success fees in two separate motor accident claims, one for 30% and another for 60%, both of which were later reduced to 20% on appeal. Woolf also said it was reasonable for claimants to take out conditional fee agreements (CFAs) and after the event (ATE) legal cover before legal proceedings were initiated.

Premiums to rise
Associate partner at law firm Silverbeck Rymer, Juliet Herzog, says the decision will inevitably result in further increases in car insurance premiums.

She says: "It would seem that Claims Direct type cases are untouched by the judgment, as are any cases displaying more complex issues than low-value road traffic accidents."

Herzog predicts the 20% uplift on a significant proportion of insurers costs looks likely to be passed on to the policyholders. "Unless motor insurers change their strategy to combat unwarranted success fees and ATEs, profitability across the sector will remain a problem," she says.

"A strategic response would require massive expansion of before the event insurers to cancel out the costs involved with ATE and success fees."

The government's decision to lower the discount rate for personal injury compensation from 3% to 2.5% is also predicted to cost insurers a great deal.

Motor actuary firm English Matthews Brockman (EMB) predicts the figure will be about £350m.

EMB partner Mike Brockman says: "Higher personal injury awards may be socially desirable, but the public should understand that the money can only come from higher premiums in the long run."

The internet has been another disappointment this year, failing to make the predicted impact on the insurance market, with internet-only intermediaries such as Screentrade and Rapidinsure bowing out due to lack of investment and poor sales. Just 400,000 policies are sold online each year, with one of the primary reasons being customers' doubts about the security of using their credit card online.

But several well known brand names are optimistic enough to launch their online insurance sites just as other dotcoms are on their way out. Notably, Halifax has launched its internet offering Esure, with the backing of Direct Line founder Peter Wood.

There is certainly the potential to boost online motor insurance sales - 66% of people looking for insurance on the web are looking for motor.

Direct insurers have continued to flourish. Last year, Direct Line posted record profits of £201m, with 12% of the total private motor market and more than 30% of internet sales.

Direct Line's motor insurance spokesman Dominic Burch believes the secret of the company's success is its strong brand image and low-cost base, plus the fact it has a call centre for customers who do not wish to buy online.

"Internet-only insurers are feeling the pinch," he says. "To sell a product, you need a very well known brand and this requires considerable investment."

Direct Line's strategy is to try to flatten out boom/bust cycles by avoiding dropping or hiking prices excessively. Burch says: "It's worse for consumers to have low motor quotes for three or four years and then see them soar again."

What is clear is that any improvement in rates are likely to be short-lived. Given the shrinking market (with just a few specialists such as Equity Redstar and Zenith, plus the larger composites, left standing), it is only a matter of time before new entrants materialise as profits pour in.

The UK tends to follow the trend of the US, so as consumer confidence in the internet increases, this area could well become a threat once more.

Even the largest insurers must keep adapting with the market if they are to survive what looks to be the onset of another boom/bust cycle.

The Irish market
The Irish private motor market has been following a similar trend to the UK market in terms of premium hikes, with rises of between 10% and 20%. However, rates in the Irish market started to harden more quickly than in the UK, due to the dominance of just a few insurers.

Director of brokers Coyle Hamilton, Jim O'Mahoney, says this poses a problem for customers: "There are not as many operators as in the UK, so there is less choice."

He hopes the market will see more new entrants to the market as it gradually returns to profitability.

Business manager for DAS in Ireland, Adrienne O'Sullivan, agrees there is little choice in the Irish motor market. "But it is not any different in the UK in terms of controversy over prices," she says. "Insurers say they are not making any profit but the public finds that difficult to believe."

In fact, the Irish government has recently appointed the Motor Insurers Advisory Board, a committee which is investigating the profitablity of motor insurers and the government is also said to be considering imposing price controls.

Chief executive of the Irish Insurance Federation, Mike Kemp, says the Irish government will realise that price controls will not work in practice, as has recently been seen in Italy.

"Price controls just mean companies have to justify their price increases, which is easy for them to do," he says. "This can lead to prices going up more with control than without it."

In Ireland, claims have been lowered slightly by a series of successful road safety campaigns. However, as in the UK, the cost of claims is soaring due to rising personal injury payouts. There is no evidence of a slowdown and claims inflation is far outstripping general inflation.

The Irish government is currently in the process of implementing a new system for processing claims. This will initially be tested on employers' liability claims and will be rolled out to motor claims if successful. A mediation system will be set up in which a board will review evidence and make a recommendation about the payout which will be made.

If the injured party is unwilling to accept the offer, the case will then go to court.

Kemp says: "The intention is that this will be a quick process, with no oral submissions. As most cases are settled by negotiation anyway, this could have a beneficial effect on the whole system."

Affinity deals

Insurers are increasingly looking at extra revenue streams to fuel profits.

The first affinity schemes were started by clubs and motoring associations. High street banks and building societies were also keen to offer insurance products.

Nowadays, however, retailers, supermarkets and even football clubs have jumped on the bandwagon.

A recent report by Watson Wyatt shows that while affinity schemes have traditionally been the domain of the household, creditor and travel insurance markets, a growing proportion of motor insurance - around 15% to 20% - is delivered through partnerships.

These deals offer numerous advantages - the insurer can access the market at low cost and they can also take advantage of the distributor's brand strength and customer database. The potential for these niche markets is immense.

"With a head start in branding and customer service, the retailers are perfectly positioned to become a driving force in the industry and insurers need to act now to preserve their status," says Datamonitor analyst James Allingham.

Allingham says insurers will increasingly improve websites and more brokers will go online. He adds that insurers must also beware of increasing competition from retailers and supermarkets, who at present are underwritten by major insurers but may in time develop their own underwriting competencies.

Nigel Withyman of Lloyd's Motor Underwriting Association (LMUA) says Lloyd's has tradionally focused on this type of business to the exclusion of bread-and-butter business. "Motor underwriters will continue to seek out whatever lucrative business they can," he says.

Green Flag is one insurer that is concentrating its efforts on developing mutually beneficial partnerships with leading companies and affinity organisations and provides tailored motor insurance to BMW Financial Services, Citroën and Tesco Personal Finance, among others.

Spokesman for Green Flag, David Burch, says: "We are one of the few companies that don't have our own insurance arm. Our product is good for partners, as it helps them to extend their brand offering."