The law appears to solve the key insurance problem facing buyers following the terrorist attacks of Sept. 11, 2001: availability of coverage. Or does it? While the law seemingly mandates that carriers provide terrorism insurance, might insurers be able to pass on nuclear, biological or chemical events if states permit such exclusions, as early indications from the Treasury Department suggest? That would be a huge loophole.

In addition, there is no federal control over pricing, and no mandate for buyers to take the coverage. So it remains to be seen who in fact will buy terrorism insurance, and at what cost.

Officials at ACE Ltd. believe the coverage will be reasonably priced because it is in the best interests of the industry to spread the risk as widely as possible, thereby arguing for affordable premiums. But the truth is no one knows what the price will be, or even what it should be--although there won't be any shortage of modeling firms that will try.

The Bottom Line: Insurers will give it their best shot on pricing, and risk managers with high-profile locations or high concentrations of employees or facilities will have to swallow hard and pay whatever it costs to secure coverage. What CEO is going to risk having to explain after another terrorist attack that the company was offered insurance but refused it due to short-term cost considerations?

No Light At The End

Of The Hard Market Tunnel

In November 2001, the market barometer produced by Dallas-based MarketScout.com showed the average premium increase hitting 19 percent. A year later, the barometer has topped off at a whopping 32 percent, with no letup in sight.

Last year, the market was hardening even before the Sept. 11 attacks, with the barometer coming in at 11 percent for August 2001. The terrorist attacks soaked up tens of billions in industry surplus, hammered the economy, undermined the stock market, and assured premium hikes for as far as the eye can see.

Insurers, hard put to produce returns-on-equity high enough to attract new capital even with premiums soaring, have no choice but to keep hiking rates to improve profitability.

The only solace buyers can take is that after years of falling premiums and expanding coverage, prices are only now beginning to approach levels from the early-to-mid-1990s. But that rationalization will offer little comfort to risk managers who have to explain skyrocketing insurance costs and shrinking coverage to CEOs obsessed with belt-tightening in this poor economy.

The Bottom Line:

Despite severe price hikes two years running, insurers are not rolling in cash. Indeed, boosts to reserves, low interest rates and a poor equity market are forcing carriers to use current income to pay for prior-year losses, and to write insurance for a profit. This is bad news for buyers, who should not expect much if any rate hike relief for all of 2003.

Will Hard Market Spark More Captives?

Corporate insurance buyers faced with skyrocketing premiums, lower limits, and tighter terms and conditions will be tempted to turn to the alternative risk-transfer market for coverage rather than pay the piper or go bare.

However, forming a captive might be easier said than done. It's true that new captive domiciles are popping up and growing fast here in the United States to supplement the mega-markets already established in Vermont and Bermuda. But before risk managers rush in to self-insure, there are many hurdles they will have to clear.

For one, a traditional advantage of forming a captive--gaining direct access to the reinsurance market--is a big question mark now with reinsurance so hard to come by. Fronting carriers are also harder to find and more expensive to secure.

In addition, captive domiciles being overrun with "tire-kickers" are becoming more selective in screening prospects because time and resources are limited.

Meanwhile, a mini-brouhaha erupted this summer over a rating analyst's suggestion that captives could be a "time bomb waiting to explode" if their financing wasn't up to snuff. After a war of words in the pages of National Underwriter over the assertion, the consensus seemed to be that as long as captives are well-financed and managed, they are at least as reliable in paying claims as any insurance company.

But that is a big "if." Risk managers cannot simply dump the premiums they paid in a soft market into a captive and expect to be securely covered. Soft market premiums were subsidized by skyrocketing returns on Wall Street that have disappeared and are not expected to return anytime soon. Companies must have outstanding loss control and a professional service infrastructure in place to brave the captive market.

The Bottom Line:

While some of the more sophisticated risk managers will move into the captive market with relative ease, the vast majority of buyers will ride out the hard market, limiting their self-insurance adventures to taking larger deductibles and higher co-insurance. The luckiest risk managers are those who were savvy enough to establish a captive program years ago, and who stuck by their independent facilities despite the temptations of cheap coverage in the soft market.

Capital Harder To Come By

Last year, one of the top 10 stories was headlined: "Capital Pours Into P-C Market." Indeed, billions of dollars were invested by those betting their chips on a pricing rebound that they expected would make the industry far more profitable in 2002.

However, the reality is that the money that poured in did not necessarily replace all of the tens of billions that rushed out in Sept. 11 claims. In addition, a number of major carriers had to pump hundreds of millions of dollars into reserves to pay for claims from prior years.

Meanwhile, low interest rates and poorly performing equity markets cut into investment income for insurers. Such income fueled the soft insurance market during the boom times of the 1990s. Now, however, Wall Street doldrums are forcing carriers to write insurance for a living again, and that's no picnic even with the double-digit rate hikes.

The industry's return-on-equity is nowhere near where it has to be to attack major growth capital. In addition, rating agencies warn that many carriers are still seriously under-reserved. With Wall Street likely to remain in the dumps indefinitely in a sagging economy, carriers are going to need to write at combined ratios in the low-90s to attract the attention of skeptical investors. They've got a long way to go to reach that target.

The Bottom Line: It's going to take at least another year of substantial price hikes and outstanding underwriting performance to turn heads in the investment community. That means a drought, rather than a flood of capital in 2003. Any further terrorist attacks or major natural catastrophes would exacerbate the industry's cash crunch and extend the hard market into 2004 and beyond.

Lloyd's Looks To

Shake Up The Status Quo

A year ago, skeptics in the insurance industry voiced concern about the viability of the Lloyd's market going forward. Now the tables have been turned.

Lloyd's launched an ambitious modernization program this year designed to screen out potential problem players before they have a chance to do any damage to the market's reputation and financial standing.

The biggest move was the establishment of a Franchise Board, which will review business plans, monitor each franchisee's performance, and ensure that new underwriting and service guidelines are followed. An annual accounting system was introduced to make the market more comparable to the industry's financial reporting standards.

This comes on top of the rapid evolution of the market from one based on investments by individual members with unlimited liability, to one dominated by limited liability corporate capital.

Lloyd's also named a new chairman late this year--Lord Peter Levene--to take the place of the retiring Sax Riley, who oversaw the market's reform campaign.

Meanwhile, money continues to pour into the Lloyd's market to take advantage of soaring rates. Indeed, Lloyd's capacity for 2003 is expected to hit a record of ?14.25 billion ($22.5 billion at current exchange rates), compared to the ?12.3 billion ($19.4 billion) this year, which was substantially higher than 2001.

The new capacity record is "a demonstration of [the market's] powerful commercial and financial strength, in defiance of the predictions of a number of pessimistic observers," declared Lloyd's Chief Executive Officer Nick Prettejohn.

In addition, in a number of public forums Lloyd's has been calling for an end to the cycle mentality. "Collectively, we no longer have the luxury of a solid financial cushion to ignore changes and commit financial suicide," said Julian James, director of worldwide markets at Lloyd's, speaking before the National Association of Independent Insurers.

Mr. James called on the industry to "challenge the very notion of the insurance cycle itself," and declared that every underwriting manager must "make a sustainable underwriting profit year-on-year. If you can't do that, get out of the game. You're not needed."

The Bottom Line: Flush with new capital, and with solid quality controls and a more transparent accounting system in place, Lloyd's should thrive in 2003 and beyond. However, it's a lot easier to manage for profitability in a hard market than in a soft one.

The true test of the new franchise system will come way down the road when the market inevitably turns soft. Will the market's players, or the broader industry, follow the advice of Lloyd's leaders on the evils of the cycle mentality? Will they keep underwriting profitability their overriding objective, come what may? Luckily for sellers, the temptation to cut prices is unlikely to arise for a year or two, at least.

Was The WTC Loss

One Or Two Insured Events?

Was the Sept. 11, 2001, destruction of the Twin Towers of New York's World Trade Center by terrorists one event or two? That's the $3.5 billion question still being argued in court.

The leaseholders argue that there were two planes involved that hit two towers at two different points in time--therefore the claim represents two separate events, each of which carries a $3.5 billion limit. Insurers, however, argue that the terrorists launched a single, coordinated attack against the WTC complex that represent a single event with a $3.5 billion per-occurrence limit.

There is a lot of money and emotion at stake in this case, which recently moved to the 2nd U.S. Circuit Court of Appeals.

The Bottom Line: The leaseholders have little to lose and much to gain by pursuing this claim in the courts. The odds are that the courts will uphold the insurers' position of one occurrence. However, don't be surprised if a comprehensive settlement is reached to avoid the uncertainty of our unpredictable and anything-but-insurer-friendly judicial system.

Republicans Take Over Senate

The fact that Republicans reclaimed a majority in the U.S. Senate, giving them effective control of both The White House and Capitol Hill, is great news for insurers and risk managers. We doubt you'll hear much talk about new ergonomic standards (unless they are voluntary or experimental), substantial new patients rights, or additional health insurance mandates.

Meanwhile, insurers and risk managers might finally get some of the tort reforms they have been begging for--especially when it comes to limiting asbestos claims for those with no apparent injuries. Reforms of class actions and punitive damages could also be forthcoming, much to the industry's delight.

The Bottom Line: It won't be a slam dunk, but look for the new Congress to finally pop what AIG's chairman and CEO Maurice Greenberg called the "liability bubble" that has sent jury awards and insurance premiums soaring. However, the industry could get slapped with new, expensive mandates by Republican champions of the privacy cause.

Agents Go On Attack In SEMCI Battle

Will this be the year that independent agents finally topple the insurance industry's Tower of Babel?

Agent groups talked the talk this year about the need for single-entry, multiple-company interface, but it remains to be seen whether individual agents will be willing or able to walk the walk to force carriers using proprietary systems to change their ways.

ACORD's AUGIE initiative surveyed some 9,000 agents early this year and, not surprisingly, found large segments of the producer population upset about duplicate data entry.

In April, AMS Users' Group President Pam Parry said that carriers "have no excuses anymore" when it comes to cooperating on SEMCI. She said the industry's major user groups are united in their desire for single-entry.

"Just look at the market share that represents," she pointed out, adding that "if I have six companies, and three of them buy into [single-entry], my business is likely to be shifted to the companies that buy in. Money talks."

In September, the Agents Council for Technology called on agents to become front-line troops in the SEMCI battle. "It is critical for agency principals to become directly engaged in the agent-company interface issue?," declared an ACT "Call For Action" paper released during the annual conference of the Independent Insurance Agents & Brokers of America, which assembled the ACT coalition of agents, carriers, user groups, vendors and related associations.

ACT said that "agencies need to reward those companies which respond to agency needs for more efficient interfaces with a growing book of business, so that these company investments yield an appropriate return to the company."

In October, Applied Systems announced the "Light 'Em Up Campaign," aimed at installing real-time interface transactions between all agencies using its systems and participating carriers. The new president of the Applied Systems Client Network, Sallie Knighten, said the user group would be putting on a full-court press to educate agents about the benefits of the SEMCI initiative.

The Bottom Line: While the pressure is certainly on, and producer group leaders are more vocal than ever in their call for agents to take action to make SEMCI a reality, don't expect a popular revolt by rank-and-file agencies as long as the insurance market is this hard. Beggars can't be choosers, and with carriers turning away business, agents are often in no position to make demands when it comes to technology.

Still, the winds are shifting. With sustained leadership from user groups, agent associations and vendors, the cooperation of a growing number of insurers, and new technologies making the transition easier, the Holy SEMCI Grail is a lot closer than it was a year ago.

Agent groups talk the talk, but will individual producers be able to walk the walk to get carriers to give up

their proprietary systems?

Healthcare Costs: A Bitter Pill

For awhile there, it looked like managed care was the silver bullet that might restore some cost sanity to the healthcare system. But the silver bullet turned out to be a blank.

At a time when employers are struggling to make ends meet in a bad economy, health insurance premiums are again soaring, and one of the chief culprits is the incredibly rising cost of prescription drugs.

Group health insurance is becoming far more expensive, and employers are responding by cutting back on coverage or passing more of the premium costs onto individual workers. However, workers' compensation is also being hammered by rising healthcare costs--particularly skyrocketing drug bills.

Malpractice premiums are also exploding--prompted, in large part, insurers say, by out-of-control jury awards. These costs are passed along through the system and inevitably end up forcing health insurance premiums higher.

The Bottom Line: The country seems unable or unwilling to come to grips with a crisis that is leaving more and more individuals uninsured. Expect Congress to focus on a bill to provide prescription drug coverage for Medicare patients, and perhaps some medical malpractice reforms, but the bigger debate over the dysfunctional health insurance system should be delayed until the 2004 campaign for the White House.

Meanwhile, look for a growing number of desperate employers to experiment with defined contribution health plans, rather than be on the hook for defined benefits. This could be an opportunity for independent agents to help individuals make the best use of their health insurance dollars.

Will Uncle Sam Expand

Insurance Oversight Role?

The question of whether the federal government will regulate the insurance industry is now academic, thanks to the passage of the Terrorism Risk Insurance Act. The U.S. Treasury Department is up to its neck in insurance industry oversight now that it must dictate how to implement the law that provides a federal reinsurance backstop on terrorism losses.

The question is whether the federal government will dive further into insurance regulation now that it already has its toe in the water.

The Bottom Line: Congress will certainly be monitoring insurance regulation--particularly when it comes to implementation of the terrorism reinsurance program. However, a Republican Congress is unlikely to pursue a direct regulatory role beyond terrorism. The furthest they are likely to go is setting federal standards of some sort that leave actual oversight authority in the hands of the states, but even that is far from likely. State regulation advocates can probably sleep soundly--for the coming year at least.