Are Loss Reserves Reasonable in Light of Potential Underwriting Cycle
Biases?
December 2, 2011
PwC
Actuarial and Insurance Management Solutions (AIMS)

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Slide 2

Slide 3

What is the underwriting cycle?
Soft market
• Excessive capital
• Highly competitive
• Inadequate premiums
• Easing of terms & conditions
Hard market
• Less capital available
• Less competition
• Better price adequacy
• Stricter terms & conditions
Slide 4

How does the underwriting cycle impact reserves?
Pricing
Bias
Potential
Reserving
Bias
Slide 5

How does reserve adequacy impact pricing?
Potential
Pricing
Bias
Reserving
Bias
Slide 6

Inherent link?
Pricing
Bias
Reserving
Bias
Slide 7

Slide 8

Pricing trends poll
According to MarketScout’s “Market Barometer
Report”, what is the average monthly composite P&C rate change for 2011?
a) +5% or more – happy days are here again b) 0% to +5% – rates are moderately up c) 0% to -5% – rates are moderately down d) -5% or less – where is the bottom?
Slide 9

Industry average rate changes
Source: www.MarketScout.com
Slide 10

Industry average earned rate index
Source: www.MarketScout.com
Slide 11

Industry average earned rate index
Source: www.MarketScout.com
Slide 12

Slide 13

Reserve accuracy poll
At year-end 2010, what percentage of US P&C insurance companies’ hindsight reserves from year-end 2004 were within -10% to +10% of their originally recorded value?
a) 73% – isn’t it called actuarial “science”?
b) 52% – but on the other hand, there’s loads of judgment c) 37% – loads and loads of judgment d) 12% – but at least it can’t be negative
Slide 14

Percentage of companies with 2010 hindsight reserves within X% of initial recorded reserves
Companies with initial recorded reserves in excess of $1 million
Source: SNL, 2010
Calendar Within
Year End +/- 5%
2001
2002
2003
2004
2005
2006
2007
2008
2009
14%
14%
19%
20%
17%
15%
15%
26%
39%
Within
+/-10%
26%
30%
34%
37%
35%
33%
37%
49%
64%
Within
+/- 25%
58%
64%
68%
67%
66%
67%
71%
79%
87%
Slide 15

Percentage of companies with 2010 hindsight reserves within X% of initial recorded reserves
Companies with initial recorded reserves in excess of $500 million
Source: SNL, 2010
Calendar Within
Year End +/- 5%
2001
2002
2003
2004
2005
2006
2007
2008
2009
13%
11%
24%
29%
24%
22%
21%
35%
60%
Within
+/-10%
23%
32%
39%
49%
55%
48%
52%
71%
82%
Within
+/- 25%
51%
64%
77%
80%
88%
87%
92%
98%
98%
Slide 16

Percentage of companies with 2010 hindsight reserves within X% of initial recorded reserves
Companies with initial recorded reserves in excess of $1 million, ex 2000 & prior
Source: SNL, 2010
Calendar Within
Year End +/- 5%
2001
2002
2003
2004
2005
2006
2007
2008
2009
20%
20%
20%
14%
13%
14%
14%
24%
37%
Within
+/-10%
38%
38%
38%
32%
28%
26%
29%
46%
63%
Within
+/- 25%
70%
70%
69%
66%
65%
65%
71%
79%
87%
Slide 17

Percentage of companies with 2010 hindsight reserves within X% of initial recorded reserves
Companies with initial recorded reserves in excess of $500 million, ex 2000 & prior
Source: SNL, 2010
Calendar Within
Year End +/- 5%
2001
2002
2003
2004
2005
2006
2007
2008
2009
26%
30%
26%
16%
25%
22%
18%
30%
56%
Within
+/-10%
46%
47%
53%
41%
44%
34%
39%
59%
83%
Within
+/- 25%
72%
79%
84%
87%
85%
86%
90%
97%
98%
Slide 18

Percentage of companies with 2010 hindsight reserves within 10% of initial recorded reserves
Companies with initial recorded reserves in excess of $1 million – by line of business
Calendar
Year End
2001
2002
2003
2004
2005
2006
2007
2008
2009
Source: SNL, 2010
All
26%
30%
34%
37%
35%
33%
37%
49%
64%
Other Liab
Within +/-10%
CMP
14%
14%
21%
25%
28%
20%
28%
37%
59%
26%
30%
26%
29%
30%
30%
31%
47%
60%
WC
20%
21%
30%
43%
41%
39%
44%
59%
77%
PP AL
48%
50%
47%
41%
34%
40%
47%
53%
74%
Slide 19

Calendar year-end hindsight (redundancy)/deficiency
Emerged (redundancy)/deficiency as a % of initial booked reserves
Calendar
Year End
2001
2002
2003
2004
2005
2006
2007
2008
2009
Source: SNL, 2010
All
29%
22%
13%
4%
-2%
-4%
-4%
-5%
-2%
Other Liab
64%
57%
39%
18%
4%
-1%
-3%
0%
0%
CMP
26%
18%
7%
-2%
-4%
-9%
-10%
-6%
-4%
WC
28%
25%
18%
10%
3%
0%
1%
2%
1%
PP AL
3%
1%
-2%
-5%
-7%
-5%
-4%
-4%
-3%
Slide
20

Accident year hindsight (redundancy)/deficiency
Emerged (redundancy)/deficiency as a % of initial booked reserves
Accident
Year All Other Liab CMP WC PP AL
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
Source: SNL, 2010
11%
18%
21%
9%
1%
-12%
-18%
-14%
-13%
-7%
-4%
-2%
26%
47%
44%
27%
23%
-8%
-26%
-22%
-16%
-7%
-2%
0%
15%
17%
23%
4%
-5%
-13%
-16%
-12%
-15%
-10%
-6%
-2%
23%
32%
34%
21%
8%
-8%
-19%
-20%
-13%
-4%
2%
1%
-4%
0%
2%
-1%
-3%
-9%
-10%
-9%
-6%
-3%
-3%
-2%
Slide 21

Accident year and calendar year hindsight emergence
Emerged (redundancy)/deficiency as a % of initial booked reserves
Source: SNL, 2010
Slide 22

Slide 23

The current market
• Lengthy soft market
• Potentially inadequate rates on recent accident years
• Possible optimistic pricing & reserving
• 5 consecutive years of reserve take-downs
• Calendar year operating results propped up by prior year releases
• Releases mask accident year profitability issues
• Erosion of reserve redundancies
• Weak macro-economic environment
• Low investment income
Slide 24

What drives the move from a soft to hard market?
According to the III, need the confluence of 4 criteria
1. Sustained period of large underwriting losses
2. Material decline in surplus/capacity
3. Tight reinsurance market
4. Renewed underwriting & pricing discipline
Slide 25

Prospective implications of underwriting cycle
• Is trouble ahead?
• Several consecutive years of inadequate rates
• Reserve redundancies used up?
• Low investment returns
• Market reactions before turn?
• M&A
• Coverage modifications
Slide 26

PwC Actuarial & Insurance Management Solutions
Scott Cederburg, FCAS, MAAA r.scott.cederburg@us.pwc.com
(678) 419-1539
Slide 27

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