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Prior-year reserves continue to help property/casualty insurers boost profits


Property/casualty insurers have tapped prior-year reserves for several years and, despite analysts' expectations, look to continue doing so to boost the current-year bottom line.

While property insurers' reserves generally are thought to be adequate to withstand virtually any modeled loss, some analysts say there may be early warning signs that favorable reserve developments will de-crease for some insurers moving forward.

Concerns were sparked by a recent report by Charlottesville, Va.-based SNL Financial L.C. that concluded that the commercial U.S. property/casualty industry's favorable prior accident year releases reached a four-year high of $14.74 billion in 2013, up from $12.17 billion in 2012.

“It's been a pretty large period of reserve releases” in the past several years, said Terry Leone, SNL's manager of insurance. “If you exclude the financial and mortgage guarantee companies and go back to 2006, we've had pretty substantial favorable reserve changes in every single year.”

Among insurers with large loss reserve decreases in 2013, SNL identified Financial Guaranty Insurance Co. as leading the pack with a negative reserve change of $2.94 billion; followed by Berkshire Hathaway Inc., down $2.29 billion; and State Farm Mutual Automobile Insurance Co., down $2.19 billion. The Travelers Cos. Inc. and Chubb Corp. rounded out the top five negative reserve changes.

“We were surprised ... in terms of the overall releases for the industry since we've been saying for a number of years now that the reserve cushion has been diminishing,” said Tracy Dolin-Benguigui, New York-based director of financial services ratings for North American insurance at Standard & Poor's Corp. Ms. Dolin added that most of the releases came from shorter tail lines, mitigating S&P's concerns.


At the other end of the spectrum, Meyer Shields, managing director and analyst at Keefe, Bruyette & Woods Inc. in Baltimore, said the ongoing reserve releases could point to trouble in the future.

“Instead of it being a clean reserve release in line with the prior quarter, you started to see actual examples of individual lines of business or product lines or accident years or some combination thereof where there was much less than the automatic reserve releases that we'd seen” until the latest report, Mr. Shields said.

Those types of releases have been “a leading indicator of more widespread problems” in the past, he said. “In other words, things look OK and then individual issues look bad, and then those individual problems spread more broadly.”

There also are questions about how long reserve releases can last.

“A lot of the big public companies have benefitted from reserve releases in their earnings for the last several years — so much so that you expect at some point it has to stop or slow down” said Cliff Gallant, an analyst at Nomura Securities International Inc. in San Francisco.

“But it hasn't. It's continuing,” he said. “It has continued to surprise us, and I think one of the drivers has been that we've had loss-cost inflation, which has been abnormally low,” possibly due to the economy or better cost control by insurers. “But for whatever reason, we've seen very little inflation in loss-costs, and that has led to redundant reserve positions.”

Doug Pawlowski, managing director at Fitch Ratings Inc. in Chicago, had similar views.


“What we've been expecting for a number of years now is there still to be favorable reserve development, but for the magnitude of that favorable reserve development to diminish,” he said. “So the fact that it has remained at a similar level is better than expected.”

The ongoing reserve releases are not necessarily indicative of any red flags, at least “none that I'm willing to raise,” he said.

“Within the context of standard commercial lines reserves, these numbers are fairly small and they have been declining over the last few years,” said Alan Murray, analyst with Moody's Investors Service Inc. in New York.

“Our view as of year-end 2012 was that reserves were, for the standard commercial lines, break-even to slightly redundant overall, with redundancies for accident years 2003 to 2008, deficiencies for accident years 2010 and 2011, and break-even years for 2009 and 2012,” said Jasper Cooper, a New York-based analyst at Moody's.

Some say softer property/casualty pricing has affected insurers.

“The present condition of the property and casualty industry and the life industry is very strong and very well-capitalized,” said Howard Mills, director and chief adviser of the insurance industry group at Deloitte L.L.P. and a former New York state insurance commissioner. They are “able to withstand any projected catastrophe claims that anyone could model or predict on the horizon right now.”


“Where they have had a problem is in pricing,” with the softer rates today not comparing favorably with rates that supported past cycles of robust favorable reserve development, Mr. Mills said.

“When I think of the previous years when you had great reserve releases, like in the late 1980s, it's because you had huge rate increases before,” Mr. Gallant said. “Prices were up substantially, and so the reserve releases just reflected the huge change in profitability. Whereas this time, it's not that prices went up a lot; it's been more that loss costs have been surprisingly favorable.”