Motor Insurance: The road to profit

Road to success

Could recent legislation provide the turning point motor insurers need to drive them into long-awaited profitability, or are tough times set to continue?

Motor insurers must be suckers for punishment. Despite the consistently poor returns from the market, a large majority of unflinching underwriters remain unmoved, sticking with the loss-making line.

Year after year, personal lines insurers, despite isolated pockets of individual success, dabble in a market that has failed to make an operating profit as a whole since 1994. According to a recent Deloitte report, the combined operating ratio of the sector improved to a still-unprofitable 105% for 2012, its second fall in two years.

Deloitte insurance partner James Rakow said 2012 might mark the peak of the underwriting cycle, with 2013 representing a market turn. “In the past, once the market starts lowering premiums it has been difficult to reverse the trend,” he said. “But many in the market believe this turn is a false dawn due to preemptive strikes by insurers to lower rates in the wake of the recent implementation of the Legal Aid, Sentencing and Punishment of Offenders Act. It also sets a dangerous precedent that may make it difficult for insurers to bring the overall market COR below 100%.”

Axa head of personal motor underwriting Jon Byford says one of the reasons behind the current drop in rates is insurers predicting – rather than waiting for – the impact of the Laspo reforms. “We are definitely seeing people in the market taking stock of the reforms before they really know the effects. They only came into force in April, so there is no data yet to say with certainty what any of this means – it will take a few months.”

Covéa Insurance personal lines director Colin Batabyal agrees: “With the Laspo changes, there is clearly an anticipation of benefits. Nobody has seen any serious changes, yet rate reductions have been made. It is clear there is a wide range of expectations. Our analysis says that around 6% is a reasonable estimate for a reduction in claims costs – but I have heard figures as high as 15%.”

In addition, it is unclear what impact Laspo will have on the number of claims received. Byford adds: “People are making quite big assumptions about a drop in claims frequency. That will impact rate cuts. There are different numbers in terms of the price cuts you can afford to pay.”

The Gender Directive – implemented in December 2012, barring insurers from using gender as a rating factor – could also have had an effect on rates. Equity Red Star class underwriter Rob Clark says the market saw a significant drop in rates in December and January, immediately after the directive’s enforcement. He adds: “The big thing is the correction down as a result of gender. That is huge, and we haven’t seen it go through entirely yet. Given everything we have read in the Deloitte report, you can’t think that the market meant to drop eight points from the average rate when the COR is sitting at 105%. It defies common sense.”

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Leave rates alone
While the COR remains at unprofitable levels despite recent improvements, many insurers believe rates should remain static – at least for the time being. Clark explains: “It is very difficult to get a large price correction through the market when insurers are all quoting for the same risk. There is very limited time to react to the market before a competitor starts to worry about volume and correct it the other way. In the mass marketplace, large price corrections are very difficult to achieve.”

Batabyal adds: “It is fair to say there is competition, but no more so than a couple of years ago. The last down cycle in 2008 and 2009 happened to coincide with the huge uplift in personal injury claims. We have just started to come out of that, and although 2012 was an acceptable year for the market it was still loss‑leading. It doesn’t seem like a good time to be dropping rates.”

Meanwhile, with rates in the market showing signs of softening, appetite in the sector has improved. Byford explains: “In terms of competition, I am not seeing more entrants in the market. It seems those that were already in the market have an increased appetite to write business because of the benefit, or perceived benefit, of these changes. Prices will continue to soften through the rest of this year.”

According to Martyn Holman, chief executive of broker Brightside, the fact firms “believe they can make a profit” is also playing a part. “I don’t think there is anything more fundamental than that,” he adds. “When rates reach a certain level, underwriters believe they can make gains so they decide they want to write more business.”

Dangerous territory
However, the current softening of the market comes with many perils. Clark says the motor rate reductions do not fit with current global macroeconomics and may soon force insurers into a difficult position. He explains: “It is not just rates that drive profitability. The interesting thing about the insurance market at the moment isn’t really the sector itself but the state of the wider economy. There are limited investment opportunities, so insurers need to drive their underwriting ratios and operating results back into the sub-hundred territory to return the value their investors want.”

Even at a micro level, falling rates in a loss‑leading line of business are unlikely to shift insurer profits into an upward trend. Allianz technical director Tom Moss says: “At overall market level, it is still not profitable, even though it has been improving over the past few years. If rates fall any further, profitability will go backwards again. There will be winners and losers, but there are bound to be a lot more losers as rates drop.”

According to some commentators, the changing market could have an impact across the entire personal lines space. “It will also potentially put pressure on other classes of business if insurers see motor prices being chased down aggressively,” Byford says. “However, some may see more opportunity for profit in other markets, such as home, and could create competition in those markets too.”

Profit through add-ons
Over the past five years, hoping to thrive in a difficult environment, insurers have increasingly turned to add-ons to drive profits up while retaining little on-book risk. “Add-ons have traditionally been very important, and strong income from add-ons can protect a company against the underlying unprofitability of motor insurance,” says Moss. “The key point going forward with add-ons is the regulatory interest from the Financial Conduct Authority.”

Holman says add-ons are important for both brokers and direct insurers but agrees the market must be wary of any changes made by the FCA. Flexing its regulatory muscles, the FCA has already targeted product add-ons as a concern and has published a review into motor legal expenses.” Direct insurers will always look to sell add-ons because it is effectively income without underwriting risk. That will remain an important part of direct insurers’ armoury.”

As insurers continue to struggle to profit, questions may be asked as to why the market remains so popular. Moss says insurers are optimistic they can stand away from the crowd and make gains: “It is the largest class of business in the UK, and a lot of the market is unprofitable at a wider level, but there is still a thought that one firm can do it better than all the others. Every company believes it can be that company.”

Byford adds: “Insurance is such a big market. Just the personal lines side of the market is worth around £10bn. It is an absolutely phenomenal sector, and if you can crack it and you can make some potentially big profits. We see that consistently with some players – Admiral stands out as an example.”

While the future of the market is unclear, commentators are certain that without sustained underwriting discipline across the board the market will remain a loss-leading line. Batabyal concludes: “We see this every time. We just start to get back into a sensible place and then somebody will make a dash for growth and then lots of other companies follow. I just hope companies will settle down this time and think: ‘You know what? It’s time for a bit more rating discipline.’ Let’s hope we get it.”

Tales from the archive: 2010
The motor insurance sector may be showing signs of softening but, according to research published in October 2010, the sector is unlikely to make money until at least 2015.

The UK personal motor market is to remain unprofitable until at least 2015, according to a survey of UK insurers by Towers Watson.

The firm said the next five years of forecasted poor performance is being driven by a 30% annual increase in the cost of fraudulent claims and an over-reliance on  pricing in an increasingly competitive sector.

Ryan Warren, who leads Towers Watson’s pricing and product management practice across Europe, the Middle East and Africa, said: “Ten years ago, the best insurers differentiated themselves from the worst on the strength of sophisticated pricing systems and underwriting to spot profitable niches. Fraudulent crash-for-cash claims continue to spiral out of control, highlighting the critical role claims management has to play in today’s marketplace.”

Third-party bodily injury claims have almost doubled in 10 years as a result of an increasing number of claimants per claim and a more aggressive claims management industry, despite a dramatic fall in the number of accidents over the same period.  Towers Watson said that Financial Services Authority returns show an industry loss ratio of 100% and a combined ratio in excess of 120% for 2009, driven by an estimated 30 000 fraudulent accident claims for the same year.

Undetected general insurance claims fraud total £1.9bn per annum, and AA figures show the average car insurance premium jumped this year to above £1000 for the first time, representing a 19% increase on the year before.

According to Towers Watson, which advises 70% of insurers in the UK motor market, this adds approximately five points to the industry’s all-lines combined ratio.

George Maher, senior consultant at Towers Watson, said: “Our research indicates that just over £80 per policy now goes towards paying for fraudulent claims – both hard and soft fraud. As a result, in many cases most of the premium increase – and in some cases all – pays for fraudulent claims. An added societal consequence is the increasing number of people becoming uninsurable – notably younger drivers, who are hit hardest.”

However, Towers Watson added that not all insurers are in trouble. Companies that proactively manage their claims process are actually seeing a decrease in the number of third-party bodily injury claims, a steady ratio of claimants-to-claim and severity increasing in line with long-term inflation trends.

Maher said: “The UK personal motor market should be profitable, but as long as insurers continue to let fraudulent claims through their defences any chance of profitability quickly dissolves. For some insurers, the claims department has become undervalued and the company is paying for it.”

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