Property & Casualty—U.S.

L O C K T O N C O M P A N I E S

Market Update August 2013

P&C InsUrer ProfItAbIlIty

reboUnds Q1 2013

first Quarter 2013

The U.S. property and casualty insurance industry experienced a sharp uptick in profitability for the first quarter of 2013. According to Dr. Robert Hartwig of the Insurance Information Institute, four key drivers influenced the quarter’s performance.

1. Catastrophe losses fell from $3.6 billion in the first quarter of 2012 to $2.6 billion in the first quarter of 2013, helping the carriers’ bottom lines. The effect of the Moore, Oklahoma, tornado and Colorado wildfires in Q2 are yet to be seen.

2. Reserve releases increased to $5.6 billion in the first quarter, up from $3.9 billion the year before.

3. Overall, underwriting improved, with the combined ratio falling to 94.8 from 97.5.

4. Underwriting performance was bolstered by top-line premium growth, which rose 4.1 percent in the first quarter of 2013.

These positive factors are somewhat offset by continued depressed investment yields.

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Market Update, Property & Casualty—U.S. Lockton

2

For pricing, Lockton experts note that workers’ compensation continues to be the critical area for insurance buyers. With the release of first-quarter numbers, Lockton experts weigh in on current trends as well as specific pockets of the marketplace that are fluctuating.

PrICInG

large Property Market

The large property market as a whole is in transition. The marketplace worldwide continues to see excess availability of capacity. Lockton feels there is an abundance of opportunity for its large property clients because of excess capacity and pressure on the marketplace to reduce pricing, according to Jim Rubel, Executive Vice President, Director of Property/Energy, Lockton New York. However clients are affected by a couple of driving forces:

1. To maximize the downward trend in pricing, savings are often accomplished by reassessing program structures and taking advantage of new capacity.

2. Large property accounts with bad losses or heavy CAT exposures are still subject to pricing scrutiny by the marketplace.

Middle Property Market

The middle property market is getting pushed for wind and hail deductibles from several carriers, especially if there are a lot of roofs involved, according to Jim Collins, Senior Vice President, Lockton Kansas City. Collins notes that some carriers who already have good property form have a renewed interest in making a push for a middle market package to attract new business.

Collins adds that though single-digit rate increases for property are fairly consistent (with the exclusion of worker’s compensation) all the rules change if there is a loss issue.

Construction

The firming market is also evident in construction. Mike Campo, Senior Vice President, Lockton Kansas City, says that pricing overall is becoming more consistent among the carriers and rate increases are moving up to high single or low double digits. There has been a noticeable shift in just the last few months and marketing is not offsetting the increases, Campo notes.

In construction, most of the property pricing is driven by inland marine and is mainly builder’s risk. This market still has a lot of capacity, and there is little rate increase due to the number of competitors in the space.

Coverage issues exist for contractors constructing apartments, with many carriers attaching condo conversion exclusionary language.

In construction, at least, I don’t think the

rule of thumb is that one man’s renewal

is another man’s new business. Pricing

overall is becoming more consistent among

the carriers.

Mike Campo

Market Update, Property & Casualty—U.S. Lockton

3

Casualty

Eric Silverstein, Senior Vice President, Lockton Atlanta, notes that in the casualty market competition among insurers has led to low single-digit rate increases for companies with better risk profiles, particularly in umbrella and excess liability where new entrants have made their mark. Global excess capacity remains in excess of $1 billion with some restriction in the energy and pharmaceutical sectors. Signs of a strengthening economy have no doubt played a role as insurers seek to capitalize on opportunities to increase market share while pricing remains relatively stable.

Industry surplus of $607.7 billion is at record levels and has led to a flow of investment in more profitable lines of coverage. However, profitability in lines such as workers’ compensation, remains a concern for the insurance community and is reflected in harder market conditions than that of the general marketplace.

Workers’ Compensation

Workers’ compensation continues to be a trouble spot for rising prices, depending on the program structure, losses and nature of the account. With guaranteed cost programs, Vince Gaffigan, Executive Vice President, Lockton St. Louis, sees continued pressure to have clients either take some sort of retention or deal with aggressive carriers pushing rate increases up front. However, there are instances, particularly with excess workers’ compensation, where there has been some pullback from the markets, and the remaining markets are being inundated by submissions. “This means a quality submission and a proactive marketing strategy is key in this marketplace,” says Gaffigan.

Silverstein agrees and adds that four states in particular are challenging—California, Illinois, New York and Florida. He observes that toward the second half of the year he is seeing more aggressive competition among carriers for accounts with a better-than-average loss profile.

executive risk

In the executive lines arena, the directors and officers market is beginning to firm, according to Chris DiLullo, Senior Vice President, Washington, D.C. He is seeing rate increases on a primary basis fluctuate from 3 percent to 9 percent. Excess carriers are also seeking some rate firming as well, but there is still an oversupply to meet the market demand. It is possible to secure flat program pricing by using competing excess layers, especially with large towers of insurance, to generate some savings. With smaller programs, $30–$50 million, flat program pricing realizes much less in savings.

Merger objection claims continue to cause problems for insurance companies, particularly in the primary arena. We have a number of clients involved in merger and

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AVerAGe CoMMerCIAl rAte ChAnGe 2008-2013

source: the Council of Insurance Agents & brokers

Market Update, Property & Casualty—U.S. Lockton

4

acquisition transactions, and if it is a public company, it is most likely going to result in a merger objection claim. Carriers are seeking additional premium to cover this risk but, more importantly, are trying to address this through changes in deductibles and retentions.

In the private company D&O area, DiLullo is seeing double-digit increases from leading carriers. Insurance companies are handling increases through both rate and attachment or deductible increases.

According to DiLullo, fiduciary and crime insurance marketplaces are somewhat static. Crime is a highly profitable line of coverage, and a variety of carriers are starting to look a little bit more closely at the risk-specific issues of given companies.

CAPACItyOverall, industry capacity is at record levels, with a policy surplus of $607.7 billion, up from $586.9 billion. Lockton experts agreed that the market is not going to tighten in the immediate future. Carriers that have been sitting back are getting more aggressive and looking to do new deals.

Property

The large property market is seeing new entrants to the marketplace. These new participants not only have attracted fresh capital but also seasoned underwriting expertise.

Construction

According to Mike Campo, in construction, the market has been chasing very little economic construction activity for the last three years. Now, the industry is seeing a bit of a rebound led by residential. There is more business out there, but it is not something that the carriers are really interested in entertaining. Even though there is a lot of capacity, there are more opportunities to put it to use, which is propping up prices. At the same time, while there have not been new entrants in the construction space, the established entrants have a refocus and re-energy on construction coming into the marketplace. This is having a positive impact on increased capacity, states Campo.

special note: energy and Mining

Gaffigan says this is not the case in energy and mining. Though the overall market has a lot of capacity, this sector remains pretty constricted. Mining continues to struggle with the same handful of players with not many new entrants or people who want to write that type of business.

In the private companies space, it is really

about employment practices, liability

insurance, and there is substantial rate

firming going on.

Chris dilullo

Market Update, Property & Casualty—U.S. Lockton

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d&o

From a D&O perspective, capacity is increasing. There has been increased movement of senior executives in the carrier management liability world, which may increase capacity. Additionally, there are excess insurers who have been writing this business for five to seven years who are looking to get lower in the program and potentially write primary. In DiLullo’s view, there will continue to be a substantial amount of capacity to meet a limited demand.

other dynamics

We asked our experts if there were other challenges facing our clients. The following points were mentioned:

� Excess liability attachment points continue to be an issue for tougher classes of business.

� Buffer layers are back in a big way, especially for auto with any sizeable fleets.

� Clients are seeking more analytics to help them make informed decisions and drive improvements in their cost structure.

Conclusion

Profitability for the U.S. P&C insurance market rose sharply in the first quarter of 2013. Modest catastrophe losses, increased prior-year claims reserves, risk improvement, and good underwriting performance all contributed to increased profits. Though commercial pricing is showing single-digit rate growth overall, Lockton experts observe that workers’ compensation remains a key area of concern. This is consistent with the survey results from the Council of Insurance Agents and Brokers for the quarter. With capacity at record levels, carriers are aggressively seeking new deals. This dynamic should keep rates modest, especially for insureds with good loss experience.

Market Update, Property & Casualty—U.S. Lockton

6

the industry produced an

underwriting profit in the first

quarter of 2013. the increase in

net gains on underwriting in the

first quarter of 2013 is the result of

premium growth, increased reserve

releases, and fewer catastrophe

losses. net gains on underwriting

increased by $4.8 billion since the

first quarter of 2012.

U.s. ProPerty & CAsUAlty IndUstry At A GlAnCe

net written premiums increased to

$117.1 billion in the first quarter of

2013, up 4.1 percent since the first

quarter of 2012, consistent with 2012’s

premium increase. this is a sign of

rising prices and increased exposures.

All charts include mortgage and financial guaranty insurers. Excluding these insurers, the net written premium growth for Q1 2013 was 4.1 percent.

Current DynamicsWritten Premium Growth Slowed

Premiums written are still increasing modestly.

More growth occurring in

Net Written Premium Growth Year-to-Year Change in NWP 2001 to 2013 Q1

15.3%

More growth occurring in commercial lines than in personal.

Commercial lines rates are rising by single digits for most lines

10.0%

single digits for most lines (assuming a favorable loss history).

Some lines are experiencing more pressure, particularly workers’

3.9%

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3.3%4.3% 4.1%

p , p ycompensation.

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2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 Q1Source: Insurance Information Institute

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net WrItten PreMIUM GroWth: Modest yeAr-to-yeAr ChAnGe In nWP—2002–2013 Q1

Current DynamicsUnderwriting Losses Dropped in 2012 Insurer losses stabilized in 2012.

CAT losses hammered carriers in 2011. In 2012, losses and loss adjustment expenses dropped, despite Superstorm Sandy.

103.2% combined ratio in 2012, down from 108.1% a year earlier. Superstorm Sandy’s impact on results was not as bad as initially feared.

Underwriting PerformanceImproving Net Underwriting Gains (Losses) U.S. 2001–2013 Q1

Combined RatioU.S. 2007–2013 Q1

40 108.1%110%

0

10

20

30 105.1%

101.0%102.4% 103.2%

100%

105%

-40

-30

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-1095.1% 94.8%

90%

95%

5

Sources: Insurance Information Institute *Includes mortgage guarantee insurers

2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 Q1

85%2007 2008 2009 2010 2011 2012 Q1

2013

u:\ips master template\market update\2013\05_May 2013\PC Market Insight May 2013.potx

UnderWrItInG PerforMAnCe: IMProVInG net UnderWrItInG GAIns (losses)—2002–2013 Q1

$ bi

llion

s

Market Update, Property & Casualty—U.S. Lockton

© 2013 Lockton, Inc. All rights reserved.Images © 2013 Thinkstock. All rights reserved.

7

All charts include mortgage and financial guaranty insurers. Excluding these insurers, the combined ratio for Q1 2013 was 94.8.

the industry combined ratio, a measure of

underwriting profit, improved to 94.8 percent

in the first quarter of 2013, down from 99

percent a year earlier.

low interest rates continue to challenge

insurers, although total investment

gains rose 3.4 percent to

$12.77 billion in Q1 2013 as

compared to Q1 2012.

Current DynamicsUnderwriting Losses Dropped in 2012 Insurer losses stabilized in 2012.

CAT losses hammered carriers in 2011. In 2012, losses and loss adjustment expenses dropped, despite Superstorm Sandy.

103.2% combined ratio in 2012, down from 108.1% a year earlier. Superstorm Sandy’s impact on results was not as bad as initially feared.

Underwriting PerformanceImproving Net Underwriting Gains (Losses) U.S. 2001–2013 Q1

Combined RatioU.S. 2007–2013 Q1

40 108.1%110%

0

10

20

30 105.1%

101.0%102.4% 103.2%

100%

105%

-40

-30

-20

-1095.1% 94.8%

90%

95%

5

Sources: Insurance Information Institute *Includes mortgage guarantee insurers

2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 Q1

85%2007 2008 2009 2010 2011 2012 Q1

2013

u:\ips master template\market update\2013\05_May 2013\PC Market Insight May 2013.potx

source: Insurance Information Institute

CoMbIned rAtIo: IMProVInG U.s. 2007–2013 Q1

Current DynamicsInvestment Gains Dropping

Investment income key to carriers’ financial health.

Low interest rates have had anInvestment PerformanceU.S. Property Casualty Investment Gains

Low interest rates have had an effect on gains.

2012 saw a drop of 4.1% in investment gains compared to

2002–2013 Q1

$59.4 $55 7

$63.6

$56.2 $60

$70

investment gains compared to 2011.

Decline in investment results offset insurer profitability.

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2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 Q1

8

Investment gains consist primarily of interest, stock dividends, and realized capital gains and losses. Sources: ISO; Insurance Information Institute.

u:\ips master template\market update\2013\05_May 2013\PC Market Insight May 2013.potx

InVestMent GAIns: lAGGInG 2003–2013 Q1

U.s. ProPerty & CAsUAlty IndUstry At A GlAnCe