Sharp Increase in P/C Industry's Net Income Propels Surplus Upward in 2003

JERSEY CITY, N.J., April 14, 2004 — The property/casualty insurance industry's net income after taxes rose to $29.9 billion in 2003 — nearly ten times the industry's $3 billion in net income in 2002. Benefiting from both the $29.9 billion in net income and $25.2 billion in unrealized capital gains on insurers' investments, the industry's statutory surplus increased 21.6 percent to $347 billion at year-end 2003 from $285.4 billion at year-end 2002, Insurance Services Office, Inc. (ISO) and the Property Casualty Insurers Association of America (PCI, formerly the National Association of Independent Insurers) reported today.

A steep decline in net losses on underwriting drove much of the improvement in insurers' net income after taxes, with net losses on underwriting declining 85 percent to $4.6 billion in 2003 from $30.8 billion in 2002. In addition, insurers' investment income (primarily dividends earned on stocks and interest on bonds) rose 3.9 percent to $38.7 billion last year from $37.2 billion in 2002, and realized capital gains on investments jumped to $6.9 billion — an $8.1 billion positive swing from insurers' $1.2 billion in realized capital losses on investments in 2002. Also contributing to the increase in insurers' net income, miscellaneous other income improved to negative $0.3 billion last year from negative $0.8 billion in 2002. Partially offsetting these positive developments, insurers' federal income taxes rose $9.4 billion to $10.8 billion in 2003 from $1.3 billion the year before.

The ISO and PCI industry figures are consolidated estimates for all private property/casualty insurers based on the reports of insurers that account for 96 percent of all business written by private U.S. property/casualty insurers.

"The $61.6 billion increase in surplus in 2003 follows declines in each of the previous three years. The declines in surplus from 2000 to 2002 totaled $49 billion," said Roger Kenney, the PCI's assistant vice president for research. "The increase in surplus last year more than erased those declines, with surplus at year-end 2003 being 3.8 percent above the $334.3 billion in surplus at year-end 1999," added Kenney.

The $25.2 billion in unrealized capital gains on investments last year contrast sharply with the $20.8 billion in unrealized capital losses in 2002.

The net loss on underwriting in 2003 amounted to just 1.2 percent of the $388.1 billion in premiums earned during the year, down from 8.8 percent of the $348.5 billion in premiums earned during 2002. The combined ratio — a key measure of losses and underwriting expenses per dollar of premium — improved to 100.1 percent last year from 107.3 percent in 2002.

"Looking more closely at the numbers, we see fundamental underwriting results improved to an even greater degree," said John Kollar, ISO's vice president for consulting and research. "The combined ratio improved to 100.1 percent last year even though catastrophe losses more than doubled. Had catastrophe losses remained the same as they were in 2002, the combined ratio would have improved all the way to 98.2 percent," added Kollar.

According to ISO's Property Claim Services (PCS) unit, catastrophe losses rose to $12.9 billion in 2003 from $5.9 billion in 2002.

The improvement in underwriting results last year reflects the excess of growth in premiums over growth in loss and loss-adjustment expenses, other underwriting expenses and dividends to policyholders.

Net written premiums increased $36.2 billion, or 9.8 percent, to $405.9 billion in 2003 from $369.7 billon in 2002. Growth in net written premiums slowed from 14.3 percent in 2002. Net earned premiums rose $39.6 billion, or 11.4 percent, to $388.1 billion last year from $348.5 billion the year before.

Overall loss and loss-adjustment expenses grew just 2.2 percent to $289.8 billion in 2003 from $283.6 billion a year earlier. Non-catastrophe loss and loss-adjustment expenses actually dipped 0.3 percent to $276.9 billion last year from $277.8 billion in 2002.

Other underwriting expenses (primarily acquisition expenses, other expenses associated with underwriting, pricing and servicing insurance policies, and premium taxes) increased 7.8 percent to $101.1 billion in 2003 from $93.8 billion the year before.

Premiums returned to policyholders as dividends declined 3.7 percent in 2003 to $1.9 billion.

"Though premium growth is slowing, it is still strong. Of course, one key question at this point is just how long premium growth will remain strong," said Kollar. "ISO MarketWatch® data indicate the commercial lines pricing cycle turned positive in mid-1999. But ISO MarketWatch data also show that increases in commercial premiums peaked in July 2002 and have been losing momentum ever since. At some point, growth in surplus and improvement in profitability will reinvigorate competition for market share, putting pressure on the price of insurance and undermining premium growth," added Kollar.

The industry's operating income — the sum of gains or losses on underwriting, net investment income and miscellaneous other income — rose to $33.7 billion in 2003 from $5.6 billion the year before.

The industry's pre-tax net investment gain — the sum of net investment income and realized capital gains — increased 26.6 percent to $45.6 billion last year from $36 billion a year earlier.

Combining realized and unrealized gains, insurers experienced $32.1 billion in overall capital gains last year, up sharply from the $22 billion in overall capital losses the year before.

"Clearly, insurers benefited from the recovery in stock markets last year as the S&P 500 rose 26.4 percent," said Kenney. "But insurers' $32.1 billion in overall capital gains last year weren't enough to offset the damage done by three consecutive years of double-digit declines in the S&P 500. Insurers suffered capital losses totaling $35.7 billion during the three years ending 2002 as the S&P 500 declined 40.1 percent," added Kenney.

The $61.6 billion increase in surplus in 2003 reflects the excess of additions to surplus over deductions from surplus. The $70.7 billion in additions to surplus last year included $29.9 billion in net income after taxes, $25.2 billion in unrealized capital gains, $11.5 billion in new capital raised by insurers and $4.1 billion in miscellaneous surplus changes. These additions were partially offset by a $9.1 billion deduction from surplus for dividends to shareholders.

The $11.5 billion in new capital raised last year is down 38.7 percent from the record $18.8 billion raised in 2002 as insurers sought to replenish surplus in the wake of the terrorist attack on September 11, 2001.

The $4.1 billion addition to surplus from miscellaneous surplus changes in 2003 was more than twice the $1.8 billion addition to surplus from miscellaneous surplus changes in 2002.

The $9.1 billion in dividends to shareholders in 2003 is up 28.8 percent from $7.1 billion the year before.

"Prior to 2001, the record for new capital paid into the insurance industry was the $7.7 billion raised in 1985. With investors committing more than that in fresh capital to the industry in each of the past three years, it remains to be seen whether investors will realize the returns they are hoping for," said Kollar. "The industry's 9.4 percent rate of return on average surplus for 2003 is a marked improvement from its 1.1 percent rate of return for 2002 and its negative 2.3 percent rate of return in 2001. But for insurers to achieve a 15 percent rate of return with investment results, tax rates and financial leverage like those actually experienced last year, the combined ratio would have to improve to 94.3," added Kollar.

"Whether insurers continue posting investment results like those in 2003 is an open question," said Kenney. "What we do know is that the increase in investment income last year was the net result of a 9.9 percent increase in insurers' average holdings of cash and invested assets and a 5.4 percent decline in the yield on those assets. With interest rates still languishing near 40-year lows and the Federal Reserve Board subject to election-year pressures to keep rates low, it seems that near-term growth in investment income will have to be fueled by acquisition of additional income-producing assets. This means growth in investment income will depend largely on positive cash flows from underwriting and reinvestment of investment income as it is received," added Kenney.

"And insurers certainly can't count on capital gains in 2004 being anywhere near as large as their capital gains in 2003," observed Kollar. "Stock markets have lost their momentum, with the S&P 500 rising only 1.3 percent in first-quarter 2004. Unless investor sentiment changes dramatically, it seems the increase in the S&P 500 this year won't be anything like its 26.4 percent increase in 2003," said Kollar.

Fourth-Quarter Results
The industry earned $8.8 billion in net income after taxes in fourth-quarter 2003, a significant improvement from the $2 billion net loss after taxes in fourth-quarter 2002 and the $6.6 billion in net income in third-quarter 2003.

The industry's net income in fourth-quarter 2003 included $11.6 billion in pre-tax operating income and $1 billion in realized capital gains, which were partially offset by $3.9 billion in income taxes.

The $11.6 billion pre-tax operating gain in fourth-quarter 2003 contrasts with $2.9 billion pre-tax operating loss in fourth-quarter 2002. The operating gain in fourth-quarter 2003 resulted from $1.1 billion in net gains on underwriting, $11 billion in net investment income and $0.4 billion in losses from other miscellaneous operations.

The $1.1 billion net gain on underwriting in fourth-quarter 2003 was a sharp positive swing from the industry's $12.6 billion underwriting loss in fourth-quarter 2002. Underwriting results improved despite an increase in catastrophe losses, which rose to $2.6 billion in fourth-quarter 2003 from $1.7 billion in fourth-quarter 2002, according to ISO's PCS unit.

The fourth-quarter 2003 underwriting gain represents 1.1 percent of the $99.4 billion in earned premiums for the period. This contrasts with underwriting losses amounting to 14 percent of the $89.9 billion in earned premiums for fourth-quarter 2002. The underwriting gain in fourth-quarter 2003 is net of $1 billion in premiums returned to policyholders as dividends, with dividends to policyholders declining by $7 million, or 0.7 percent, from their fourth-quarter 2002 level.

"The net gain on underwriting in fourth-quarter 2003 is a sign of just how far the industry has come in terms of recovering from years of underpricing during the 1990s and adjusting to low investment yields," noted Kenney. "It was the industry's first net gain on underwriting for any quarter since at least early 1986, when our quarterly records begin," added Kenney.

The $11 billion in net investment income in fourth-quarter 2003 was up 5.9 percent from $10.4 billion in fourth-quarter 2002. The $1 billion in realized capital gains in fourth-quarter 2003 compare with $72 million in realized capital gains in fourth-quarter 2002.

The industry's pre-tax net investment gain was $12 billion in fourth-quarter 2003, up 15.1 percent from $10.4 billion in fourth-quarter 2002.

Written premiums rose 8.9 percent to $97.3 billion in fourth-quarter 2003 from $89.4 billion in fourth-quarter 2002. Compared with year-ago levels, premiums increased 15.8 percent in fourth-quarter 2002 and 6 percent in fourth-quarter 2001.

"The progressive slowing in premium growth is a reflection of changing conditions in insurance markets and, more specifically, slowing increases in the price of insurance," observed Kollar. "With insurers having posted an underwriting profit and an annualized overall rate of return of 10.5 percent for fourth-quarter 2003, one has to wonder how soon price increases will become price decreases."

OPERATING RESULTS FOR 2003 AND 2002 ($ Millions)
TWELVE MONTHS 2003 2002
NET WRITTEN PREMIUM 405,855 369,673
NET EARNED PREMIUM 388,142 348,507
INCURRED LOSS & LOSS ADJUSTMENT EXPENSE 289,800 283,640
STATUTORY UNDERWRITING GAIN (LOSS) (2,760) (28,893)
POLICYHOLDERS' DIVIDENDS 1,875 1,947
NET UNDERWRITING GAIN (LOSS) (4,635) (30,840)
PRE-TAX OPERATING INCOME 33,727 5,581
NET INVESTMENT INCOME EARNED 38,686 37,225
NET REALIZED CAPITAL GAIN (LOSS) 6,917 (1,214)
NET INVESTMENT GAIN 45,604 36,010
NET INCOME AFTER TAXES 29,877 3,046
SURPLUS (CONSOLIDATED) 346,987 285,386
LOSS AND LOSS ADJUSTMENT EXPENSE RESERVES 424,910 394,599
COMBINED RATIO, POST-DIVIDENDS, PERCENT 100.1 107.3
FOURTH QUARTER 2003 2002
NET WRITTEN PREMIUM 97,301 89,376
NET EARNED PREMIUM 99,439 89,871
INCURRED LOSS & LOSS ADJUSTMENT EXPENSE 72,145 77,406
STATUTORY UNDERWRITING GAIN (LOSS) 2,086 (11,573)
POLICYHOLDERS' DIVIDENDS 1,023 1,030
NET UNDERWRITING GAIN (LOSS) 1,063 (12,602)
PRE-TAX OPERATING INCOME 11,615 (2,941)
NET INVESTMENT INCOME EARNED 10,982 10,372
NET REALIZED CAPITAL GAIN (LOSS) 1,043 72
NET INVESTMENT GAIN 12,025 10,444
NET INCOME AFTER TAXES 8,770 (1,972)
SURPLUS (CONSOLIDATED) 346,987 285,386
LOSS AND LOSS ADJUSTMENT EXPENSE RESERVES 424,910 394,599
COMBINED RATIO, POST-DIVIDENDS, PERCENT 99.5 114.2

Release: Immediate

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

Sue Mckenna (PCI)
(847) 553-3615

Loretta Worters (III)
212-346-5500

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