Not So Fast on Any Hard Market

Conditions seem ripe for rates to rise, but overcapacity in excess & surplus and elsewhere hinders hardening.
By: | February 20, 2018 • 6 min read

Underwriting cycles were traditionally characterized by big swings up and down. A few years of declining rates, influx of capacity and limited profitability would reliably give way to a hard market following a big loss event.


“Historically, we would drive rates into the ground, and then a major event would occur. We would get huge rate increases for 18 to 24 months, but eventually the rates move back down and you give it all back over a few years while you wait for the next big thing to happen,” said Joe Tocco, chief executive, North America, Insurance, XL Catlin.

“I’ve been doing this for 30 years, and that’s always been the way the market moves … But I don’t see those cycles playing out going forward.”

By traditional standards, the havoc wrought by three major hurricanes, an earthquake and ongoing wildfires in the second half of 2017 should be the “big event” that shakes up the market and firms up persistent soft conditions.

But this is not a traditional market. Whereas significant losses in the past may have knocked out some excess & surplus carriers or driven others to pull out of the most-affected lines of business, capacity doesn’t appear to be going anywhere this time around.

Joe Tocco, chief executive, North America, Insurance, XL Catlin

That’s largely due to the presence of so much alternative capital.

According to a Deloitte report detailing the insurance industry outlook for 2018, surplus capital was at an all-time high of $704 billion as of June 30, 2017.  This capital will bear the brunt of the loss as it is tested for the first time.

The market’s claims response will reveal any inadequacies in risk selection and reserving, and the weakest players in excess & surplus could potentially leave the insurance space if they take too heavy a loss.

But the primary market won’t see much disruption.

Lukewarm Rate Rise

“I am not predicting a hard market in the traditional way of rising prices and a lack of capacity in any way, shape or form,” said Duncan Ellis, U.S. property practice leader, Marsh. “We are seeing a push from the market for prices go up but not binding those rates to the degree that the underwriting community had hoped for. A governor on the desired price rise is that capacity continues to be plentiful.”

Ellis reported mid- to high-single digit percentage rate increases across the broker’s book of business. He anticipates those numbers to lift even more but not by a significant amount.

“The industry was at a place where rates were not sustainable. It couldn’t afford much more rate decline. The second half of 2017 merely put a point on that.” — Jeff Beauman, vice president, All-Risk Underwriting, FM Global

That holds true for the excess & surplus market, which has not seen notable post-catastrophe price increases or diminishing capacity, domestically or globally. Global markets in general are not recognizing new rates following last year’s large-scale losses.

“We have not seen the anticipated rate hardening of business emanating from European and international programs,” said Dawn Miller, CEO, AXA Insurance Company. “However, rates have risen on a case-by-case basis in our U.S. portfolio. It appears that this trend could diminish somewhat throughout the year.”

However, Liberty Mutual Global Risk Solutions vice chairman Kevin Kelley reported 15 to 20 percent increases in U.S. property rates, and 5 to 10 percent increases in casualty. Even in lines where rates aren’t jumping, he sees a stabilization in rate decreases.


“We’ve hit a floor across the board and are seeing a clear change in market sentiment,” he said. “The wind is no longer blowing in our face. I can’t tell you whether it will be a gentle breeze or a strong gale, but it is at our backs now.”

The most affected classes of business will be wood construction multi-family real estate and auto, Ellis said. According to the Insurance Council of Texas, Hurricane Harvey damaged an estimated 250,000 private and commercial vehicles resulting in insured losses as high as $4.75 billion. Other estimates placed the number of damaged vehicles as high as 1 million.

Deloitte’s outlook report also surmised that most premium gains in the year ahead will come from the auto market, which was already experiencing some hardening as loss frequency and severity worsened.

“A lot of markets are just starting to realize the overall impact on their portfolios,” XL Catlin’s Tocco said.

A Transitioning Market

Many of the market adjustments underway began before the 2017 catastrophes. After year-over-year rate declines for more than a decade, something had to give.

“The industry was at a place where rates were not sustainable. It couldn’t afford much more rate decline,” said Jeff Beauman, vice president, All-Risk Underwriting, FM Global. “The second half of 2017 merely put a point on that.”

“In E&S as well as the traditional property markets, you were starting to see pricing trending more favorably prior to the hurricane activity,” Tocco said. “It was the beginning of a transition, and the storms accelerated that transition.

Jeff Beauman, vice president, All-Risk Underwriting, FM Global

Kelley emphasized that insurance leaders have to take the reins in maintaining that acceleration and keeping the market on track.

“Education will be very important,” he said. “It’s incumbent upon leaders like myself to educate our frontline on our performance so they can understand and participate in what has to be done in terms of rate change and other underwriting considerations.

“I think today there are many executives who feel one way about how the market should move, and that needs to be communicated clearly to the front line of underwriters so as not to lag behind.”

Risk and Relationships

Many industry leaders say that 2017’s significant losses will spur a reinvigoration of underwriting discipline.

“When you have long periods without major events — as we had prior to 2017 — underwriters tend to underestimate how much money they need for a certain risk,” Beauman said. He recalled the effects of the 2004-05 hurricane seasons:

“That was the last time there was any significant movement in property rates. We saw such sharp upticks in price, because many carriers didn’t fully understand the risks in their books, and they were surprised by how large the losses were.”


Heavy losses from 2017 and subsequent rate increases will make underwriters more aware of the risks in their portfolios and more fastidious in maintaining appropriate pricing going forward. That means evaluating each risk for its own merit on an individual basis.

“Pricing risk should really be a function of what a client is doing to protect themselves, more so than what the market is doing,” Beauman said.

The dynamic of the client-insurer relationship will also be subject to some change as market conditions shift.

“It’s been a buyer’s market for many years with pricing going down along with a broadening of terms and conditions,” Marsh’s Ellis said. “As underwriters seek higher rates and we transition away from such a buyer’s market, strong carrier partnerships will matter in arguing for reasonable increases.

Risk managers should meet face-to-face with underwriters early and often to get a good understanding of what changes to expect, so they can message that appropriately within their own firms as well as risk differentiate themselves.

“Over-communicate,” he said. “Nobody likes a surprise.” &

Katie Dwyer is an associate editor at Risk & Insurance®. She can be reached at [email protected]

More from Risk & Insurance

More from Risk & Insurance

Risk Focus: Cyber

Expanding Cyber BI

Cyber business interruption insurance is a thriving market, but growth carries the threat of a mega-loss. 
By: | March 5, 2018 • 7 min read

Lingering hopes that large-scale cyber attack might be a once-in-a-lifetime event were dashed last year. The four-day WannaCry ransomware strike in May across 150 countries targeted more than 300,000 computers running Microsoft Windows. A month later, NotPetya hit multinationals ranging from Danish shipping firm Maersk to pharmaceutical giant Merck.


Maersk’s chairman, Jim Hagemann Snabe, revealed at this year’s Davos summit that NotPetya shut down most of the group’s network. While it was replacing 45,000 PCs and 4,000 servers, freight transactions had to be completed manually. The combined cost of business interruption and rebuilding the system was up to $300 million.

Merck’s CFO Robert Davis told investors that its NotPetya bill included $135 million in lost sales plus $175 million in additional costs. Fellow victims FedEx and French construction group Saint Gobain reported similar financial hits from lost business and clean-up costs.

The fast-expanding world of cryptocurrencies is also increasingly targeted. Echoes of the 2014 hack that triggered the collapse of Bitcoin exchange Mt. Gox emerged this January when Japanese cryptocurrency exchange Coincheck pledged to repay customers $500 million stolen by hackers in a cyber heist.

The size and scope of last summer’s attacks accelerated discussions on both sides of the Atlantic, between risk managers and brokers seeking more comprehensive cyber business interruption insurance products.

It also recently persuaded Pool Re, the UK’s terrorism reinsurance pool set up 25 years ago after bomb attacks in London’s financial quarter, to announce that from April its cover will extend to include material damage and direct BI resulting from acts of terrorism using a cyber trigger.

“The threat from a cyber attack is evident, and businesses have become increasingly concerned about the extensive repercussions these types of attacks could have on them,” said Pool Re’s chief, Julian Enoizi. “This was a clear gap in our coverage which left businesses potentially exposed.”

Shifting Focus

Development of cyber BI insurance to date reveals something of a transatlantic divide, said Hans Allnutt, head of cyber and data risk at international law firm DAC Beachcroft. The first U.S. mainstream cyber insurance products were a response to California’s data security and breach notification legislation in 2003.

Jimaan Sané, technology underwriter, Beazley

Of more recent vintage, Europe’s first cyber policies’ wordings initially reflected U.S. wordings, with the focus on data breaches. “So underwriters had to innovate and push hard on other areas of cyber cover, particularly BI and cyber crimes such as ransomware demands and distributed denial of service attacks,” said Allnut.

“Europe now has regulation coming up this May in the form of the General Data Protection Regulation across the EU, so the focus has essentially come full circle.”

Cyber insurance policies also provide a degree of cover for BI resulting from one of three main triggers, said Jimaan Sané, technology underwriter for specialist insurer Beazley. “First is the malicious-type trigger, where the system goes down or an outage results directly from a hack.

“Second is any incident involving negligence — the so-called ‘fat finger’ — where human or operational error causes a loss or there has been failure to upgrade or maintain the system. Third is any broader unplanned outage that hits either the company or anyone on which it relies, such as a service provider.”

The importance of cyber BI covering negligent acts in addition to phishing and social engineering attacks was underlined by last May’s IT meltdown suffered by airline BA.

This was triggered by a technician who switched off and then reconnected the power supply to BA’s data center, physically damaging servers and distribution panels.

Compensating delayed passengers cost the company around $80 million, although the bill fell short of the $461 million operational error loss suffered by Knight Capital in 2012, which pushed it close to bankruptcy and decimated its share price.

Mistaken Assumption

Awareness of potentially huge BI losses resulting from cyber attack was heightened by well-publicized hacks suffered by retailers such as Target and Home Depot in late 2013 and 2014, said Matt Kletzli, SVP and head of management liability at Victor O. Schinnerer & Company.


However, the incidents didn’t initially alarm smaller, less high-profile businesses, which assumed they wouldn’t be similarly targeted.

“But perpetrators employing bots and ransomware set out to expose any firms with weaknesses in their system,” he added.

“Suddenly, smaller firms found that even when they weren’t themselves targeted, many of those around them had fallen victim to attacks. Awareness started to lift, as the focus moved from large, headline-grabbing attacks to more everyday incidents.”

Publications such as the Director’s Handbook of Cyber-Risk Oversight, issued by the National Association of Corporate Directors and the Internet Security Alliance fixed the issue firmly on boardroom agendas.

“What’s possibly of greater concern is the sheer number of different businesses that can be affected by a single cyber attack and the cost of getting them up and running again quickly.” — Jimaan Sané, technology underwriter, Beazley

Reformed ex-hackers were recruited to offer board members their insights into the most vulnerable points across the company’s systems — in much the same way as forger-turned-security-expert Frank Abagnale Jr., subject of the Spielberg biopic “Catch Me If You Can.”

There also has been an increasing focus on systemic risk related to cyber attacks. Allnutt cites “Business Blackout,” a July 2015 study by Lloyd’s of London and the Cambridge University’s Centre for Risk Studies.

This detailed analysis of what could result from a major cyber attack on America’s power grid predicted a cost to the U.S. economy of hundreds of billions and claims to the insurance industry totalling upwards of $21.4 billion.

Lloyd’s described the scenario as both “technologically possible” and “improbable.” Three years on, however, it appears less fanciful.

In January, the head of the UK’s National Cyber Security Centre, Ciaran Martin, said the UK had been fortunate in so far averting a ‘category one’ attack. A C1 would shut down the financial services sector on which the country relies heavily and other vital infrastructure. It was a case of “when, not if” such an assault would be launched, he warned.

AI: Friend or Foe?

Despite daunting potential financial losses, pioneers of cyber BI insurance such as Beazley, Zurich, AIG and Chubb now see new competitors in the market. Capacity is growing steadily, said Allnutt.

“Not only is cyber insurance a new product, it also offers a new source of premium revenue so there is considerable appetite for taking it on,” he added. “However, whilst most insurers are comfortable with the liability aspects of cyber risk; not all insurers are covering loss of income.”

Matt Kletzli, SVP and head of management liability, Victor O. Schinnerer & Company

Kletzli added that available products include several well-written, broad cyber coverages that take into account all types of potential cyber attack and don’t attempt to limit cover by applying a narrow definition of BI loss.

“It’s a rapidly-evolving coverage — and needs to be — in order to keep up with changing circumstances,” he said.

The good news, according to a Fitch report, is that the cyber loss ratio has been reduced to 45 percent as more companies buy cover and the market continues to expand, bringing down the size of the average loss.

“The bad news is that at cyber events, talk is regularly turning to ‘what will be the Hurricane Katrina-type event’ for the cyber market?” said Kletzli.

“What’s worse is that with hurricane losses, underwriters know which regions are most at risk, whereas cyber is a global risk and insurers potentially face huge aggregation.”


Nor is the advent of robotics and artificial intelligence (AI) necessarily cause for optimism. As Allnutt noted, while AI can potentially be used to decode malware, by the same token sophisticated criminals can employ it to develop new malware and escalate the ‘computer versus computer’ battle.

“The trend towards greater automation of business means that we can expect more incidents involving loss of income,” said Sané. “What’s possibly of greater concern is the sheer number of different businesses that can be affected by a single cyber attack and the cost of getting them up and running again quickly.

“We’re likely to see a growing number of attacks where the aim is to cause disruption, rather than demand a ransom.

“The paradox of cyber BI is that the more sophisticated your organization and the more it embraces automation, the bigger the potential impact when an outage does occur. Those old-fashioned businesses still reliant on traditional processes generally aren’t affected as much and incur smaller losses.” &

Graham Buck is editor of gtnews.com. He can be reached at riskletters.com.