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Workers comp insurers building up reserve funds on underwriting gains

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Private workers compensation insurers increased reserve funds last year as their aggregate combined ratio fell below 100% for the first time in nearly a decade, but observers remain concerned about the industry's overall loss reserve position.

With a calendar-year combined ratio of 98% — improved from 102% in 2013 and 109% in 2012 — 2014 marked the first workers comp underwriting gain since 2006, according to a report released this month by the National Council on Compensation Insurance Inc.

Meanwhile, insurers have also been able to boost workers comp reserve funds, sources said.

NCCI estimates a $10 billion reserve deficiency for private comp insurers in 2014, down from an estimated $11 billion deficiency in 2013 and $13 billion in 2012.

“There is not an absolute correlation between underwriting profitability and adequacy of carried reserves,” Daniel McGarvey, chief operating officer of The MEMIC Group in Portland, Maine, said in an email. However, with underwriting profits on an accident-year basis, “insurers have the potential to increase loss reserves related to prior years and still record an underwriting profit on a calendar-year basis.”

According to NCCI, the accident-year combined ratio in 2014 fell four percentage points to 95%,

The Boca Raton, Florida-based workers compensation ratings and research organization's findings are similar to those included in a report by A.M. Best Co. Inc. last month.

Also reporting a decline in workers comp reserve deficiency, A.M. Best estimates a $26.2 billion deficiency at yearend 2014, down from $28.6 billion in 2013.

“Despite the improvement in operating performance,” the Oldwick, New Jersey-based rating agency said it's concerned about the adequacy of the industry's overall loss reserve position.

However, the increase in net written premiums reported by both rating agencies could mean insurers will have “the ability to build reserve funds,” Mr. McGarvey said.

Mr. McGarvey added that MEMIC maintains “a conservative reserve position which is borne out by semi-annual independent actuarial reviews. In general, we find ourselves above where our actuaries come in, meaning we maintain stronger reserves.”

“Growth in premiums resulting from an increase in the rates should allow companies to build reserve funds, assuming the rates charged are adequate to begin with,” Gordon McLean, senior financial analyst at A.M. Best, said in an email. “As premiums rise, the associated reserve will increase in accordance with the growth in premiums.”

Companies tend to reserve better during times of pricing increases, said Jasper Cooper, assistant vice president and analyst at Moody's Investors Service Inc. in New York. “Over the last few years they've built up a moderate reserve cushion … However, if there were to be an increase in loss cost trends, that could reduce the cushion.”

Moving forward, “the level and adequacy of pricing risks” and how the industry reacts to a potential increase in interest rates, among other things, will affect “the level and adequacy of reserves established,” including whether insurers decide to release reserves, Mr. McGarvey said.

Mr. McLean said A.M. Best anticipates “that both underwriting and operating results will improve further in 2015, despite an uncertain ability to maintain rate adequacy.”

Insurers should also consider leaning on predictive modeling, sources said.

“We are seeing (insurers) utilize predictive modeling on both the pricing and claims side of the business,” Mr. McLean said. “Companies are using predictive modeling in the account selection process and also as an aid in determining how much to charge, as better pricing ultimately will lead to better reserving.”