Ernst & Young’s analysis of the 2011 motor insurance market results shows that while premium increases significantly improved last year’s profitability and the reported net combined ratio recovered from 122.1 to 105.5, a reduction of almost a fifth, the industry as a whole has still not managed to make a profit and does not look likely to do so for the foreseeable future as the market begins to soften.
“The industry should be pleased with its phenomenal top line growth-we’ve seen the sharpest year on year improvement in reported net combined ratio since 1991. We had been hopeful that this was the year that the industry would turn a profit but rate increases in the second half of the year didn’t materialise. Given low investment returns and the fact that premium rates have stabilised, it doesn’t look set to turn a profit in 2012 or 2013 either, meaning it will have been loss making for almost two decades” said Catherine Barton, partner in Ernst & Young’s financial services actuarial team.
Premium growth has flat lined and a two-tier market could now develop. Premiums had been growing steadily since the beginning of 2010 but started to decrease at the start of 2012 due to increased competition in the market.
“Premium inflation has been suppressed by new entrants and by the fact that some, but not all, insurers were able to use this period of premium growth and the hard market to get back into profit. We are now at risk of seeing a two-tier market develop where those insurers whose motor businesses have returned to profitability will start to compete more aggressively on price, meaning that those who have not returned to profit face a choice between increasing their premiums and returning to profitability but losing market share, or holding out and operating at a loss for a few more years in order to defend their volumes,” added Barton.
Claims inflation for 2012 will be 5.6%. Company accounts for 2011 paint a mixed picture of claims inflation, with bodily injury claims increasing for some and falling for others. Overall, the accounts outline a trend of attritional or small bodily injury claims stabilising but large claims remaining a problem, and in the short term claims costs will go up.
“The factors which point to claims costs increasing far outnumber those that may reduce claims costs in the near future. “New and expensive vehicle technology, a possible downward movement of the Ogden discount rate, the rate to calculate future losses, the changes to the Judicial Studies Board guidelines and the results of the recent court case between RSA and Allianz and Provident all point to claims costs increasing, whereas the ban on referral fees won’t come in until April 2013,” continued Barton.
Assuming a 4% reserve release in 2012 and 2013, the reported net combined ratio is set to remain steady around the 105 mark for the next two years at 104.8 and 106.1 respectively.
“While this is a marked improvement on 2010, the industry has yet to make an underwriting profit in eighteen years and it does beg the question of whether something fundamental needs to change” said Barton.
Regulatory and legislative change is already underway, which could tackle elements of rising claims costs, but the shape of the market is also set to change.
“As firms prepare for Solvency II, the relatively low capital requirements for UK motor could prove attractive as a part of a diversified portfolio and non-profitability of the sector could be accepted in a trade-off for the better capital ratios. However, in the next three years it looks like we could see up to 50% of the UK motor market changing hands and, if this level of transactional activity plays out, we expect private equity players might be keen to get into the market while profits are low and they think they can strike a good deal. This would definitely shake up the current model as private equity will need a much higher return on capital than the current levels and would create a very interesting dynamic in the market,” said Barton.
Gibraltar based companies continue to outperform Lloyd’s and FSA regulated companies, although not as considerably as last year.
Barton comments “The disparity between the Gibraltar returns and the Lloyd’s and FSA results has narrowed considerably. Gibraltar-based insurers currently require less capital to back their policies than insurers based in the UK, but when Solvency II goes live, that capital advantage will disappear. Most Gibraltar insurers are mono-line and therefore will not benefit from the diversification advantages their FSA and Lloyds competitors already have.”
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