What Really Keeps Insurance CEOs Awake at Night?

An Update & Outlook for the US Property/Casualty Insurance Industry

Rocky Mountain Insurance AssociationRadisson Hotel Denver

Denver, COMarch 14, 2001

Robert P. Hartwig, Ph.D. Vice President & Chief EconomistInsurance Information Institute 110 William Street New York, NY 10038

Tel: (212) 669-9214 Fax: (212) 732-1916 bobh@iii.org www.iii.org

Highlights: First 9-Mos. 2000($ Millions; *Year-end 1999)

2000 1999 Change

Net Written Prem. 228,036 217,957 +4.6%

Loss & LAE 176,108 164,186 +7.3%

Net UW Gain (Loss) (19,447) (13,374) +45.4%

Net Inv. Income 29,189 28,552 +2.2%

Net Income (a.t.) 16,502 17,368 -5.0%

Surplus 327,268 334,348* -2.1%

Combined Ratio 108.9 107.7* +1.2 pts.

Presentation Outline

Insomnia: Major Problem Among

Insurance CEOs

• Top 10 Reasons for Losing Sleep

• CATs: Asleep at the Switch?

• Q&A

#1PROFITS

P/C Net Income After Taxes1993-2000* ($ Millions)

$19,316

$10,870

$20,598

$24,404

$36,819

$30,773

$22,170 $22,000

$0

$5,000

$10,000

$15,000

$20,000

$25,000

$30,000

$35,000

$40,000

1993 1994 1995 1996 1997 1998 1999 2000**Estimate based on First Nine Months 2000 data.Sources: A.M. Best, ISO, Insurance Information Institute.

0%

2%

4%

6%

8%

10%

12%

14%

16%

18%

20%

Non-Life US All US Industries

Return on Equity1975 – 2000*

*

*EstimateSource: Insurance Information Institute

0%

5%

10%

15%

20%

25%

US P/C Insurers All US Industries LifeDiversified Finl. Comm. Banks

ROE: Financial Services Industry Segments, 1987–2000*

* 2000 figures are estimates.Source: Insurance Information Institute

1999 Return on Equity (Profitability)DO CO

1.0%

2.8%

3.1%

5.5%

6.5%

7.4%

15.4%

0% 5% 10% 15% 20%

Fortune 500

PP Auto

US All P/C Lines

Workers Comp

Homeowners

Comm Multi Peril

Comm Auto

Source: NAIC, Insurance Information Institute

1999

Return on Equity (Profitability)UP

-18.4%

5.8%

5.7%

1.1%

9.0%

12.9%

-20% -15% -10% -5% 0% 5% 10% 15%

Fortune 500

US All P/C Lines

CO Workers Comp

CO PP Auto

CO All P/C Lines

CO Homeowners

*Insurers: 1989-1998; and Fortune 500: 1990-1999.Source: Quicken.com

10-Year Average*

Return on Net Worth,Selected Lines in ColoradoUP

Source: NAIC, Insurance Information Institute

-150%-140%-130%-120%-110%-100%

-90%-80%-70%-60%-50%-40%-30%-20%-10%

0%10%20%

Auto Homeowners Workers' Comp

10-Year Averages

Auto +5.7%

Home -18.4%

WC +1.1

Return on Net Worth,Selected Lines in ColoradoUP

Source: NAIC, Insurance Information Institute

-50%

-40%

-30%

-20%

-10%

0%

10%

20%

Auto Homeowners Workers' Comp

10-Year Averages

Auto +5.7%

Home -18.4%

WC +1.1

Sagging Profits are the Symptom, not the Cause

•Capital/Capacity•Pricing•Fundamentals•Investments•Competition•Consolidation•Distribution•Class Action•Wall Street

#2CAPITAL/CAPACITY

$0

$50

$100

$150

$200

$250

$300

$350

1975

1977

1979

1981

1983

1985

1987

1989

1991

1993

1995

1997

1999

Policyholder Surplus: 1975-2000* (Capital, Total P/C)

Source: A.M. Best, Insurance Information Institute

Bil

lion

s

(US

$)

•1999 Surplus = $336.3 Billion Is it a Peak?

•Increase of 0.9% over 1998, smallest gain since 1984

•Surplus decreased 2.1% in First 9 Months 2000 to $327.3 Billion

* First Nine Months 2000

0.5

1.3

2.0

2.8

US

Net Premiums Written to Policyholder Surplus

Source: A.M. Best, ISO, Insurance Information Institute

1998: 0.84

1999: 0.85

2000 (Forecast): 0.94

Berkshire Hathaway

12.3%

Other67.2%

USAA1.8%

Farmers1.3%

Nationwide3.1%

State Farm12.2%

Liberty2.1%

Distribution of Industry Surplus

Source: PaineWebber

Excess Capital: What to Do?

• CEOs: Buy It, Build It--They Will Come

• Policyholders: Lower my rates! Pay my dividend!

• Shareholders: Show me the money!

• Regulators: Keep your hands off of it!

• Rating Agencies: Keep your hands off of it and give it

back!

#3PRICING

Average Price Change of Commercial Insurance Renewals

8.9%

6.1%

9.5%

8.8%

8.3%

7.9%

9.0%

-1.6%

-1.2%

-0.4%

-7.0%

-6.0%

-11.0%

-6.0%

-10.0%

-7.0%

-3.0%

1.4%

0.8%

3.5%

3.2%

3.2%

2.8%

4.1%

-2.1%

-2.8%

-1.8%

0.2%

-5.0%

-4.4%

-3.5%

-4.3%

-6.6%

-4.1%

-2.0%

-13%

-11%

-9% -7% -5% -3% -1% 1% 3% 5% 7% 9%

E&S

Umbrella

Workers' Comp

Commercial Property

CMP

General Liability

Commercial Auto

Fall 2000 Spring 2000 Fall 99 Spring 99 Fall 98Source: Conning

Average Price Change of Personal Lines Renewals

3%

4%

1%

5%

4%

1%-1%

2%

0%

2%

-2% -1% 0% 1% 2% 3% 4% 5%

Homeowners

Personal Auto

Fall 2000 Spring 2000 Fall 99 Spring 99 Fall 98Source: Conning

100110

120130

140150

160170

180190

200210

220230

240250

260

89 90 91 92 93 94 95 96 97 98 99 00* 01*

Rate On Line Index(1989=100)

Source: Guy Carpenter, Insurance Information Institute * Estimate

Average Expenditures on Auto Insurance: US vs. CO

596 61

8 637 65

1 668 69

1 707

704

697

702

76377

4

751

722

721

698

653

612

$375

$425

$475

$525

$575

$625

$675

$725

$775

$825

1991

1992

1993

1994

1995

1996

1997

1998

1999

*

2000

*

* III estimates; Sources: NAIC, Insurance Information Institute

Countrywide rates fell by 2.8% in 1998, 3.2% in

1999 (est.)

States With Highest AutoInsurance Expenditures vs. CO

$1,138

$960$901

$734 $704

$600

$800

$1,000

$1,200

Expenditures/Rank

New Jersey New York Connecticut Colorado U.S.

Source: Insurance Information Institute from NAIC Data, 1998.

1 2 315

States With Highest AutoInsurance Expenditures vs. CO

$855

$666 $655$611

$504

$455

$0

$200

$400

$600

$800

$1,000

Expenditures/Rank

Texas Louisiana Hawaii Florida Colorado US

Source: Insurance Information Institute from NAIC Data, 1998.

1 2 3 144

-6.0%

-8.8%

-14.0%

-20.6%

-24.8%-26.6%

-24.1%

-30%

-20%

-10%

0%

Cumulative Workers Comp Rate/Loss Cost Changes*

Source: NCCI*Advisory Loss Costs

0.0

4.3

7.9*

4.9

3.1

7.0

4.4

2.5

3.7*

10.3

1.11.2

4.5*

18.4

-2.2-2.4

-0.5

-22.8

-2.0

-4.5

-2.6 -2.5-2.7

-3.8

-7.8

-1.7

-4.4-2.4

-8.9

-0.4-3.4

Filings Approved With Effective Dates in 2000

•Cumulative change from multiple filings

Source: NCCI

IncreaseNo ChangeDecreaseNo Filing Approved

Countrywide Change = +3.3%

#4FUNDAMENTALS

95

100

105

110

115

120

Combined Ratio

P/C Industry Combined Ratio

1999 = 107.9

2000 (Est)* = 109.9

2001 Forecast* = 109.1

Combined Ratios

1970s: 100.3

1980s: 109.2

1990s: 107.7

* Based on III Groundhog Forecast

2001*

Direct Loss Ratio Trends, Selected Lines,

ColoradoUPDATE

Source: NAIC, Insurance Information Institute

40%

60%

80%

100%

120%

140%

160%

180%

200%

Auto Homeowners Workers' Comp

($40)

($30)

($20)

($10)

$0

$10

Underwriting Gain (Loss)1975-2000*

*I.I.I. estimate based on First 9 Monthsf 2000 data.Source: A.M. Best, Insurance Information Institute

Bil

lion

s

(US

$)

In 2000, P-C insurers will paid out nearly $26 billion more in claims & expenses than

they collected in premiums

U.S. InsuredCatastrophe Losses

$7.5

$2.7$4.7

$22.9

$5.5

$16.9

$8.3 $7.3

$2.6

$10.1$8.3

$4.3

0

5

10

15

20

25

89 90 91 92 93 94 95 96 97 98 99 00

Source: Property Claims Service, Insurance Information Institute

CATs in 1990s caused

$90B in insured losses

$ Billions CATs cost insurers $750 million per month during the 1990s

Didn’t lose much sleep over CATs in 2000

3% 3%

-4%-3%

-2%

0%

-6% -6%

-4%

-1%

-10%

-5%

0%

5%

Lost-Time Claim Frequency Per Worker: On the Rise?

Source: NCCI

15.0%14.9%

10.6%

10.3%10.2%

4.3%4.1%

3.3%3.0%

2.2%

0.6%0.2%

-7.4%

-8.9%

-12.2%

-17.2%

32.1%

-20%

-10%

0%

10%

20%

30%

NY FLDE UT

CO HIM

IKS M

N TX PA KY ND DCM

A NJSC

Growth in Total PIPClaims Costs*

*Change in “pure premium”Source: Insurance Information Institute from ISO Fast Track Data

PIP Claims Costs

PIP Costs in Colorado are growing faster than in most other no-fault states

.

Four Quarters Ending 2000:3rd

States With Highest PIP Average Loss (4 Qtrs. ending 2000:3rd)

$7,950 $7,796

$6,282

$5,081 $4,984

-$500

$500

$1,500

$2,500

$3,500

$4,500

$5,500

$6,500

$7,500

$8,500

Expenditures/Rank

New York New Jersey Colorado Florida Delaware

Source: Insurance Information Institute from ISO Fast Track Data

1 2 3 4 5

#5INVESTMENTS

$0

$9

$18

$27

$36

$45

Net Investment Income

Facts

1997 Peak = $41.5B

1998 = $39.9B

1999 = $38.6B

2000 (Forecast)* = $38.9B

Source: A.M. Best, Insurance Information Institute

Bil

lion

s

(US

$)

Pricing & underwriting problems were exacerbated by declining investment income

* Estimate based on First 9 Months 2000 results.

Stock Markets:Going Nowhere in 2001

-5.11%

-2.41%

-9.13%

-10% -8% -6% -4% -2% 0%

Nasdaq

S&P 500

DJIA

Source: Insurance Information Institute

YTD Total Return through 2/22/01

4.0%

4.5%

5.0%

5.5%

6.0%

6.5%

7.0%

7.5%

8.0%

8.5%

9.0%

Mar-01 Dec-00 Dec-99 Jun-90

Source: A.M. Best, ISO, Insurance Information Institute

Treasury Yield Curves

Are interest rates too low for a recession?

#6COMPETITION

Competition—Still on the Rise: Number of Insurers: 1970-1998

1095 1059

15751702

2406 2430 2485 2480

1802 17461958

2261 2195

17151563

0

500

1,000

1,500

2,000

2,500

3,000

1970 1975 1980 1985 1990 1995 1998 1999

Property/Casualty

Life/Health

Sources: P/C: A.M. Best; L/H: NAIC.

Market Share of Top 5 P/C Insurers

30.2%

29.7%

29.3%

28.5%

1995 1997 1998 1999

Source: Insurance Information Institute Fact Book (annual issues)

Market Share of Top 5 Life/Health Insurers

14.0%

17.0%18.0%

1997 1998 1999

Source: Insurance Information Institute Fact Book (annual issues)

0%

5%

10%

15%

20%

25%

U.S.

Source: A.M. Best, Insurance Information Institute

Growth in Net Premiums Written (All P/C Lines)

2000 est.; 2001 forecast from III Groundhog Survey

1999: 1.9%

2000 Est: 5.2%

2001 Forecast: 7.4%

The underwriting cycle went AWOL in the 1990s.

Is it Back?

2001*

#7CONSOLIDATION

Insurance Mergers and Acquisitions

7.1 6.9 8.6 5 8.5 12.527

40.856.2

41.6

11.3

243 246

171 188149

221

349382

433

161

472

$0

$20

$40

$60

$80

$100

$120

$140

$160

$180

89 90 91 92 93 94 95 96 97 98 99 00*

Val

ue

of M

& A

s ($

bill

ion

s)

0

100

200

300

400

500

600

Nu

mb

er o

f M

& A

s

Value of Deals Number of Deals

*First Half 2000Source: Compiled from Conning & Company reports.

1998: 565 deals valued at $165.4 B

Number of Deals: First Half 2000 vs. First Half 1999

3034

18 2016

2824

57

73

105

P/C Life Health/MC Service Distribution

Source: Conning

19992000

Total = 161 Total = 244

Value of Deals: First Half 2000 vs. First Half 1999

4.2

12.9

6.5

11.8

0.70.6

3.5

1.6

3.9

P/C Life Health/MC Service Distribution

Source: Conning

19992000

Total = $11.3B Total = $30.9B

N/A

#8DISTRIBUTION

Shifting Distribution Channels: Property/Casualty Insurers

Source: Datamonitor

20031998

Direct Response

10.0%Banks8.1%

Internet7.3%

Other2.5%

Independent Agents23.3%

Captive Agents48.8%

Direct Response

9.8%Banks2.8%

Internet0.9%

Other3.0%

Independent Agents27.0%

Captive Agents56.5%

Web Presence of the Nation's 250 Largest P/C Companies

Source: John P. Franzis, PricewaterhouseCoopers Management

No Web Site Whatsoever

27.5%

Transaction Sites: Real Time Quotes

but No Sales7.2%

Rudimentary E-Mail Quote

Forms4.0%

Processor Sites: Quotes, Sales, and

Claims Online0.4%

Billboard Sites: No Quotes or

Transactions60.9%

Projected Online Sales of Auto, Home & Term Life Insurance

0

500

1000

1500

2000

2500

3000

3500

Auto Home Term Life

1998

1999

2000

2001

2002

2003

Source: Forrester Research

$ Millions

Life = $1.3B27%

Home = $0.3B6%

Auto = $3.2B67%

Internet Insurance Sales Forecast, 2003

Source: Conning & Co. (Life), Forrester Group (Auto & Home)

(Online-closed sales=Total $4.8 Billion)

Small Insurance Firms Lag in Web Access and Exposure

Source: The Industry Standard, Summer 2000

Percentage of Small Firms with Internet Access

82%

70%

56%

0%10%20%30%40%50%60%70%80%90%

Real EstateAgencies

Law Firms InsuranceFirms andAgencies

Percentage of Small Firms with Their Own Web Site

30%

41%

23%

0%5%

10%15%20%25%30%35%40%45%

Real EstateAgencies

Law Firms InsuranceFirms andAgencies

Distribution Channels Continue to Proliferate

Customer InsurerAgent Broker

Mail Telephone

Bank

Internet Dealerships Payroll Plans

Stock Exchanges

Online Auctions (e.g. Priceline.com)

????

Insurers: Tangled in the Web?

#9CLASS ACTION

ABUSE

TORT-ure

• Asbestos• Aftermarket Parts• Medical Claims Review• Totaled Cars (CCC/ADP)• Guns• Genetically Modified Foods (Corn)• Y2K Sue & Labor• HMOs• Nursing Homes/Med Mal• Tobacco• Redlining• Toxic Mold

Average Jury Awards1993 vs.1999

520759

175 324 249

1,9531,444

1,004

1,727

316 457

2,9593,495

7,361

$0

$1,000

$2,000

$3,000

$4,000

$5,000

$6,000

$7,000

Overall BusinessNegligence

VehicularLiability*

PremisesLiability

PersonalNegligence

MedicalMalpractice

ProductsLiability

($00

0)

1993 1999

*Comparison is between 1994 and 1999.Source: Jury Verdict Research; Insurance Information Institute.

Median Jury Award for Product Liability Cases

500,300 434,247 497,000

702,500550,000

1,257,000

1,806,000

$200,000

$500,000

$800,000

$1,100,000

$1,400,000

$1,700,000

$2,000,000

93 94 95 96 97 98 99

Source: Jury Verdict Research

Median Jury Award for Vehicular Liability Cases

175,127183,711

287,569

230,619

199,676

315,653

$150,000

$200,000

$250,000

$300,000

$350,000

94 95 96 97 98 99

Source: Jury Verdict Research

Trends in Million Dollar Verdicts*

4%

8% 7%

17%

26%

35%

37%

4%

7%

11%

22%

23%

36% 43

%

12%

12%

14%

28%

20%

45%

63%

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

VehicularLiability

PremisesLiability

PersonalNegligence

BusinessNegligence

GovernmentNegligence

MedicalMalpractice

ProductsLiability

93-95 96-97 98-99

*Verdicts of $1 million or more.Source: Jury Verdict Research; Insurance Information Institute.

Florida Average Severity per GL/PL Claim

217

262278

314

370

455

170

203223

248

279

$150

$200

$250

$300

$350

$400

$450

$500

1995 1996 1997 1998 1999 2000

($00

0)

2001 Aon Study 2000 Aon Study

Source: Aon Risk Consultants.

Long-Term Care Facilities

Florida Loss Cost per Occupied Bed

2,800

4,000

5,400

7,900

10,000

12,700

2,0962,806

3,865

5,082

6,283

$0$1,000$2,000

$3,000$4,000$5,000$6,000

$7,000$8,000$9,000

$10,000

$11,000$12,000$13,000

1995 1996 1997 1998 1999 2000

($00

0)

2001 Aon Study 2000 Aon Study

Source: Aon Risk Consultants.

Long-Term Care Facilities

Asbestos Cumulative Paid Lossesand Reserves

12.914.0

15.016.0

17.6

8.49.5 9.2

9.810.4

$0

$5

$10

$15

$20

1995 1996 1997 1998 1999

($ B

illi

ons)

Cumulative Paid Losses Net Asbestos Reserves

Source: A.M. Best.

Paid vs. IncurredAsbestos Losses

3.4

2.2

0.9

1.6

2.2

1.31.1 1.0 1.0

1.6

$0

$1

$2

$3

$4

$5

1995 1996 1997 1998 1999

($ B

illi

ons)

Incurred Losses Paid Losses

Source: A.M. Best.

#10WALL STREET

Performance on Wall Street Highly Erratic

86.0%

-9.6%

-6.5%

-25.7%

39.8%

-3.1%

21.0%

43.4%

34.5%

18.1%

-9.1%

-39.3%

-60% -40% -20% 0% 20% 40% 60% 80% 100%

Nasdaq

S&P 500

Banks

Life/Health

All Insurers

Property/Casualty

Percentage Change

20001999

Source: SNL Securities; Insurance Information Institute

P/C insurers were up 43.4% in 2000;

Down 25.7% in 1999;

YTD 2001= -7.5%

Insurance Stock Performance:After the Tech Crash

-10.6%

47.8%

72.6%

76.6%

77.5%

78.0%

32.6%

-51.1%

-50% -40% -30% -20% -10% 0% 10% 20% 30% 40% 50% 60% 70% 80%

Nasdaq

S&P 500

Banks

P/C

Life/Health

All Insurers

Multiline

Brokers

* NASDAQ peaked on March 10, 2000 at 5048.62Source: Insurance Information Institute, SNL Securities

Total Return: March 10 through Year End 2000*

Insurance Stock Performance:Off to a Slow StartUP

-4.95%

-9.57%

-8.40%

-8.53%

-10.39%

5.16%

2.71%

-1.18%

12.60%

-15% -10% -5% 0% 5% 10% 15%

Nasdaq

DJIA

S&P 500

Banks

Multiline

All Insurers

P/C

Brokers

Life/Health

Source: SNL Securities, Insurance Information Institute

YTD Total Return through March 8, 2001

CREDIT SENSITIVITY

Mortgage Guarantee: -15.22%

Financial Guarantee: -7.34

BONUSWORRYThe Economy

Impact of Recession on P/C Premiums and Profitability (1970-1999)

8.1%

5.4%

-2.7%

0.2%

3.9% 3.8%2.7%

4.1%

8.8%

4.7%

7.0%

8.9%9.4%

11.3%

-4%

-2%

0%

2%

4%

6%

8%

10%

12%

Inflation (CPI) NWP Growth(unadj.)

Real NWPGrowth

ROE--P/CInsurers*

ROE--AllIndustries*

ROE--Banks* ROE--DiversifiedFinancial*

Recession Years (1970; 74-75; 80-82; 90-91)

Non-Recession Years (all other years, 1970-1999)

*GAAP return on equity, adjusted for inflation; Bank data 1952-99; Div. Fin. 1987-99Source: Insurance Information Institute

-2

0

2

4

6

8

10

12

14

Per

cen

t

CPI - All Items (1982-84=100)

Change in Consumer Price Index

Source: Bureau of Labor Statistics

Motor Vehicle Retail Sales (Millions of Units)

15.515.5

16.0

17.4

18.0

16.9

15.0

15.5

16.0

16.5

17.0

17.5

18.0

18.5

19.0

96 97 98 99 00* Nov. '00

Source: US Department of Commerce; Insurance Information Institute*Seasonally Adjusted Annual Rate (Jan-Nov 2000).

New Motor Vehicle Sales

Sales in late 2000 fell sharply. There will be an impact on

exposure growth in the personal auto line in 2001

Net loss of 2 to 3 million vehicles likely by mid-2001

New Private Housing Starts(Millions of Units)

1.193

1.014

1.200

1.288

1.4571.345

1.477 1.474

1.617 1.667

1.527

1.0

1.1

1.2

1.3

1.4

1.5

1.6

1.7

1.8

1.9

2.0

90 91 92 93 94 95 96 97 98 99 00*

Source: US Department of Commerce; Insurance Information Institute*Annualized 3rd Quarter 2000 data.

New Private Housing Starts Annualized starts in late 2000 were

down by 140,000 units compared with 1999, representing an estimated $70 million decrease in new exposure.

Recession & Credit Risk:Impact on Earnings & Surplus

-2.1%

-0.5%

-5.2%-4.1%

-1.2%

-12.1%

Decline 2001E Earnings

Decline in Surplus

Source: Goldman Sachs; 10K/10Q Reports.

4.08% Default RateAll Corporates

10% Default BelowInvestment Grade

100% Default BelowInvestment Grade

Some Companies with Credit Woes

Xerox

Sunbeam

TWA

PG&E

Edison Intl.Credit Default Swaps

Debt Guarantees

Anything Else—You Bet?

•Worries 1-10•The Economy•Banks in Insurance•Privacy•Federal vs. State Regulation•Attracting/Retaining Talent

Insurance Information Institute On-Line

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