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Facing easy YOY comparison, US P&C industry results to improve in 2018

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Facing easy YOY comparison, US P&C industry results to improve in 2018

A record year for catastrophes and ongoing auto insurance profitability woes likely drove the key measure of U.S. property and casualty industry underwriting profitability to its worst level in six years during 2017, but the stage is set for significant improvements in 2018.

S&P Global Market Intelligence's newly revised projections for P&C industry statutory results call for combined ratios of 104.3% in 2017 and 100.1% in 2018, as compared with 100.5% in 2016. The industry had previously enjoyed three consecutive years of underwriting profitability, as measured by combined ratios below 100%, after it produced five straight years of combined ratios exceeding 100%. The projected 2017 result would mark the third time in the past 14 years that the industry produced a combined ratio in excess of 104%, joining 2008 and 2011.

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The revised 2018 combined ratio remains largely in line with S&P Global Market Intelligence's original projection, which assumed that incremental deterioration in commercial lines underwriting profitability would offset improvements in the private auto business. Several developments in recent months may impact 2018 results, particularly from a top-line perspective.

Lower taxes, rising catastrophes

The interplay between recently enacted federal tax reform and P&C industry premium growth will be key to the industry's results in 2018 and, potentially, beyond.

Chubb Ltd. opined that lower corporate tax rates would stimulate economic growth, leading to increases in exposure units at a time when pricing in a number of commercial lines of business has been stabilizing, if not rising. It is also possible, however, that growth in exposures could lead some market participants to become more competitive in seeking to win and retain accounts. In certain lines that continue to face pricing pressure, such as workers' compensation, exposure growth may only serve to offset declines in rates.

S&P Global Market Intelligence had originally called for a 2017 combined ratio of 100.7%, with continued strong results in various non-auto lines to help offset the auto-related weakness. Though the auto lines have largely performed as poorly as originally expected, record catastrophe losses driven by hurricane activity and California wildfires drove losses for property lines well above initial expectations. Certain other lines such as medical professional liability and financial guaranty also delivered worse-than-expected underwriting results, with the latter business likely to experience its worst year since the financial crisis on losses associated with insured Puerto Rico bonds.

The revised projections call for the commercial lines combined ratio to rise to 102.4% in 2017 from 97.7% in 2016. It will mark an end of four consecutive years of underwriting profitability as demonstrated by combined ratios of below 100%. But S&P Global Market Intelligence continues to anticipate a profitable 2018 based upon a commercial lines combined ratio projection that has essentially remained unchanged at 97.2%. Based on the expected industry response to rates for loss-affected business and upbeat market commentary from the likes of Chubb and Travelers Cos. Inc., the 2018 projection incorporates an expectation for growth in commercial lines direct premiums written of nearly 2.9%, an increase of approximately 0.6 of a percentage point from the originally projected rate.

For the personal lines, the revised 2017 projection of 105.5% marks an increase from 102.5% in 2016. Based on expected private auto profitability improvements in 2018, the updated personal lines combined ratio projection is 101.8%, down from the original projection of 102.5%.

Auto losses peak

Private and commercial auto liability business remain key to overall profitability given that direct premiums written in those lines accounted for 25.5% of the industry's business volume in 2016. And the state of business conditions in the private and commercial auto markets provides context as to how the projected industry combined ratio for 2017 compares to prior years that were characterized by heavy catastrophe loads.

In 2005, when hurricanes Katrina, Rita and Wilma triggered large losses for the property and casualty industry in the second half of the year, strong results in the private and commercial auto liability business helped offset the hit taken by various property lines of business. The industry's combined ratio totaled 100.8% on a total-filed basis, but it would have been 102.1% in the absence of the boost provided by private and commercial auto liability. In 2011, a year characterized by record levels of tornado and hail losses, the total-filed combined ratio would have been approximately 1.6 percentage points higher when backing out results for the private and commercial auto liability lines.

But in 2017, S&P Global Market Intelligence estimates that the lines continued to serve as a drag on industry profitability even after considering the impact of catastrophes, continuing a trend for a sixth consecutive year. After backing out private and commercial auto liability, the projected industry combined ratio would be approximately 1.8 percentage points lower at 102.5%.

The revised 2018 projection contemplates that in a more normalized catastrophe loss setting, the combination of private and commercial auto liability results will add less than 3 percentage points to the industry's combined ratio, down from 3.6 points in 2016, as both lines are expected to show improvement in their underwriting results.

A continued push for premium rate increases by key players in the private and commercial auto business bodes well for future improvements in profitability. The prevalence of six-month policy terms in the private auto business makes it likely that those improvements will materialize more rapidly than in commercial auto given the time it will take for higher rates on 12-month policies to earn their way into carriers' books.

S&P Global Market Intelligence projects that the combined ratios for the private and commercial auto liability businesses will decline in 2018 to their lowest levels since 2014, though they still will remain well in excess of breakeven.

Methodology

In compiling the projections, S&P Global Market Intelligence relied upon factors such as P&C industry statutory results for the first three quarters of 2017, third-party reports of fourth-quarter 2017 catastrophe losses, and recent management commentary about market conditions and business trends. We also took into account a recent statement by American International Group Inc. CFO Siddhartha Sankaran that the company remains "confident in the comments we made regarding reserve adequacy" during its third-quarter 2017 call, given the extent to which fourth-quarter reserve charges by AIG in the previous two calendar years had negatively impacted results for certain commercial casualty business lines.

Historical and projected results exclude business attributable to entities under coverage as state funds and/or residual markets. That serves as a particularly important footnote when reviewing the 2017 projections in that they do not take into consideration results for two entities that suffered significant catastrophe losses from third-quarter hurricane activity: Texas Windstorm Insurance Association and Florida's Citizens Property Insurance Corp.