Decline in Surplus Tarnishes P/C Industry's Return to Profitability in 2002

DECLINE IN SURPLUS TARNISHES P/C INDUSTRY'S RETURN TO PROFITABILITY IN 2002

JERSEY CITY, N.J., April 16, 2003 — The property/casualty insurance industry's statutory surplus dropped $4.4 billion to $285.2 billion at year-end 2002 from $289.6 billion at year-end 2001. Surplus declined despite improvement in the industry's net income after taxes to positive $2.9 billion last year from negative $7 billion in 2001, Insurance Services Office, Inc. (ISO) and the National Association of Independent Insurers (NAII) reported today.

Capital losses on investments drove the decline in surplus last year. Insurers suffered $1.1 billion in realized capital losses and $20.6 billion in unrealized capital losses in 2002, as the S&P 500 declined 23.4 percent. Combining realized and unrealized losses, insurers experienced $21.7 billion in overall capital losses last year, with overall capital losses ballooning by 90.6 percent from $11.4 billion in 2001.

"The decline in surplus last year followed declines of $27.8 billion in 2001 and $17 billion in 2000. As a result of those declines, surplus at year-end 2002 was $49.1 billion, or 14.7 percent, less than surplus at year-end 1999," said John Kollar, ISO's vice president for consulting and research.

The favorable swing in the industry's net income to positive $2.9 billion reflected substantial improvement in underwriting results. Net losses on underwriting receded to $30.5 billion in 2002, down 42 percent from a record $52.6 billion in 2001. The combined ratio — a key measure of losses and underwriting expenses per dollar of premium — improved to 107.2 percent last year from 115.9 percent in 2001.

"While a decline in catastrophe losses certainly contributed to improvement in the industry's combined ratio, acceleration in premium growth played a bigger part," said Don Griffin, NAII assistant vice president for business and personal lines. "Even if catastrophe losses had remained at 2001 levels inflated by the attack on September 11, the combined ratio would have improved by 5.2 percentage points."

"Of course, one major question at this juncture is just how long premium growth will remain strong," said Kollar. "ISO MarketWatchTM data indicate the commercial lines pricing cycle turned positive in mid-1999, with commercial lines premiums spiking after September 11, 2001. But MarketWatch data also show that increases in commercial premiums peaked last July and have been losing momentum since."

The recovery in net income would have been stronger if not for a 2.8 percent decline in investment income (primarily dividends earned on stocks and interest on bonds) to $36.7 billion in 2002 from $37.7 billion in 2001. Other factors detracting from the improvement in net income included a $7.7 billion adverse swing to $1.1 billion in realized capital losses on investments last year from $6.6 billion in realized capital gains in 2001. In addition, insurers posted a $0.9 billion pre-tax loss on miscellaneous non-insurance operations last year, in contrast to a $1.1 billion pre-tax profit on such operations in 2001. And insurers' income taxes rose to positive $1.2 billion in 2002 from negative $0.2 billion a year earlier.

"The decline in investment income in 2002 was the net result of a 2.3-percent increase in average holdings of cash and invested assets and a 5 percent decline in the yield on those assets," said Griffin. "With the economy being weak and interest rates languishing near 40-year lows, depressed yields may hamper investment income growth going forward."

The ISO and NAII industry figures are consolidated estimates, based on the reports of insurers that account for 96 percent of the U.S. property/casualty insurance business.

The net loss on underwriting in 2002 amounted to 8.8 percent of the $348.2 billion in earned premiums during the year, down from 16.9 percent of the $311.5 billion in earned premiums during 2001. The improvement in underwriting results reflected the excess of growth in premiums over growth in losses and other underwriting expenses, with firming in insurance markets contributing to acceleration in premium growth as a decline in catastrophe losses restrained increases in losses.

Written premiums rose 14.1 percent to $369 billion last year from $323.5 billion in 2001, with written premium growth accelerating from 8 percent in 2001 and a record-low 1.8 percent in 1998. The acceleration in written premium growth spurred acceleration in earned premium growth, with growth in earned premiums increasing to 11.8 percent last year from 6 percent in 2001 and a record-low 1.8 percent in 1999.

Overall loss and loss-adjustment expenses rose just 2.6 percent to $282.5 billion in 2002 from $275.4 billion a year earlier. Other underwriting expenses rose 9.2 percent to $94.3 billion last year from $86.4 billion the year before. Premiums returned to policyholders as dividends declined 17.4 percent to $1.9 billion in 2002 from $2.4 billion in 2001.

According to ISO's Property Claim Services (PCS) unit, catastrophe losses fell to $5.9 billion last year. Insurers' statutory financial results for 2001 included $16.8 billion in catastrophe losses, with $9 billion of that amount being losses from the terrorist attack on September 11. PCS estimates that property and business-interruption losses from the attack will ultimately total $20.3 billion for all insurers worldwide.

Non-catastrophe loss and loss-adjustment expenses rose 7 percent to $276.6 billion in 2002 from $258.6 billion in 2001.

The industry's operating income — the sum of gains or losses on underwriting, net investment income and miscellaneous other income — rose to positive $5.3 billion in 2002 from negative $13.8 billion the year before.

The industry's pre-tax net investment gain — the sum of net investment income and realized capital gains — fell $8.8 billion, or 19.8 percent, to $35.6 billion last year from $44.4 billion in 2001.

The $4.4 billion decline in surplus in 2002 reflects the excess of $27.3 billion in deductions from surplus over $22.9 billion in additions to surplus. Deductions from surplus last year included unrealized capital losses and $6.7 billion in dividends to shareholders. Additions to surplus included the industry's net income after taxes plus a record $17.3 billion in new capital raised by insurers seeking to build capacity in the wake of the September 11 terrorist attack and capital losses on investments. Additions to surplus also included $2.7 billion in miscellaneous surplus changes.

The insurance industry's unrealized capital losses on investments rose 14.4 percent in 2002 from $18 billion in 2001. Dividends to shareholders fell 43.4 percent last year from $11.8 billion the year before.

The industry's net income after taxes in 2002 was a $9.9 billion improvement from its net loss in 2001. The new capital raised last year exceeded the $12.9 billion in new capital raised in 2001 by 34.6 percent. The miscellaneous additions to surplus last year contrast with $3.8 billion in miscellaneous charges against surplus in 2001.

"With investors committing record amounts of new funds to the insurance industry for two consecutive years, it remains to be seen whether investors will realize the returns they are hoping for," said Kollar. "The industry's 1 percent rate of return on average surplus in 2002 is a marked improvement from its negative 2.3 percent rate of return in 2001. But with investment results like those the industry experienced last year, the combined ratio would have to improve to 92.2 percent for the industry to achieve a 15 percent rate of return."

"Whether we will continue experiencing investment results like those we had in 2002 is an open question," said Griffin. "What we do know is that the industry suffered three successive years of capital losses on investments as the S&P 500 declined 23.4 percent in 2002, 13 percent in 2001 and 10.1 percent in 2000. And we know that the S&P 500 declined 3.6 percent in first-quarter 2003, which suggests we'll see further capital losses when ISO and the NAII tally results for the quarter."

Fourth-Quarter Results
The industry suffered a $2.1 billion net loss after taxes in fourth-quarter 2002. While better than the $4.4 billion net loss in fourth-quarter 2001, the net loss in the fourth quarter of last year compares with a profit of $0.5 billion in third-quarter 2002.

The net loss for fourth-quarter 2002 was the result of $3 billion in pre-tax operating losses, $0.1 billion in realized capital gains and $0.8 billion in income tax recoveries.

The industry's $3 billion pre-tax operating loss in fourth-quarter 2002 was 34 percent less than its $4.6 billion pre-tax operating loss in fourth-quarter 2001. The operating loss in fourth-quarter 2002 resulted from a $12.5 billion net loss on underwriting and $0.8 billion in losses from other miscellaneous operations, which were partially offset by $10.2 billion in net investment income.

The $12.5 billion net loss on underwriting in fourth-quarter 2002 was a 19.3-percent improvement from the $15.5 billion loss on underwriting in fourth-quarter 2001. Underwriting results improved despite an increase in catastrophe losses, which rose to $1.7 billion in fourth-quarter 2002 from $0.5 billion in fourth-quarter 2001, according to ISO's PCS unit.

The fourth-quarter 2002 underwriting loss represents 13.9 percent of $89.8 billion in earned premiums during the period, down from 19.6 percent of $79.3 billion in earned premiums during fourth-quarter 2001. The underwriting loss in fourth-quarter 2002 included $1 billion in premiums returned to policyholders as dividends, down 18.3 percent from $1.3 billion in fourth-quarter 2001.

The $10.2 billion in net investment income in fourth-quarter 2002 was up 4.7 percent from $9.8 billion in fourth-quarter 2001. Realized capital gains of $0.1 billion in fourth-quarter 2002 compare with realized capital losses of $0.1 billion in fourth-quarter 2001.

The industry's pre-tax net investment gain was $10.3 billion in fourth-quarter 2002, up 5.9 percent from $9.7 billion in fourth-quarter 2001.

Written premiums rose 15.6 percent to $89.2 billion in fourth-quarter 2002 from $77.2 billion in fourth-quarter 2001. Compared to year-ago levels, premiums increased 6 percent in fourth-quarter 2001 and 6.3 percent in fourth-quarter 2000.

OPERATING RESULTS FOR 2002 AND 2001 ($ Millions)
TWELVE MONTHS
2002
2001
NET WRITTEN PREMIUM
369,013
323,510
NET EARNED PREMIUM
348,183
311,529
INCURRED LOSS & LOSS-ADJUSTMENT EXPENSE
282,461
275,400
STATUTORY UNDERWRITING GAIN (LOSS)
(28,587)
(50,244)
POLICYHOLDERS' DIVIDENDS
1,947
2,358
NET UNDERWRITING GAIN (LOSS)
(30,534)
(52,602)
PRE-TAX OPERATING INCOME
5,261
(13,800)
NET INVESTMENT INCOME EARNED
36,677
37,739
NET REALIZED CAPITAL GAIN (LOSS)
(1,108)
6,631
NET INVESTMENT GAIN
35,569
44,370
NET INCOME AFTER TAXES
2,903
(6,970)
SURPLUS (CONSOLIDATED)
285,235
289,606
LOSS AND LOSS-ADJUSTMENT EXPENSE RESERVES
394,557
371,766
COMBINED RATIO, POST-DIVIDENDS, PERCENT
107.2
115.9
FOURTH QUARTER
2002
2001
NET WRITTEN PREMIUM
89,217
77,157
NET EARNED PREMIUM
89,787
79,266
INCURRED LOSS & LOSS-ADJUSTMENT EXPENSE
77,085
70,985
STATUTORY UNDERWRITING GAIN (LOSS)
(11,476)
(14,239)
POLICYHOLDERS' DIVIDENDS
1,030
1,260
NET UNDERWRITING GAIN (LOSS)
(12,505)
(15,499)
PRE-TAX OPERATING INCOME
(3,043)
(4,607)
NET INVESTMENT INCOME EARNED
10,242
9,784
NET REALIZED CAPITAL GAIN (LOSS)
66
(54)
NET INVESTMENT GAIN
10,308
9,731
NET INCOME AFTER TAXES
(2,128)
(4,410)
SURPLUS (CONSOLIDATED)
285,235
289,606
LOSS AND LOSS-ADJUSTMENT EXPENSE RESERVES
394,557
371,766
COMBINED RATIO, POST-DIVIDENDS, PERCENT
114.1
120.3

Release: Immediate

Contacts:
Michael R. Murray (ISO)
201-469-2339
mmurray@iso.com

Sue McKenna (NAII)
847-297-7800

Loretta Worters (III)
212-346-5500