The U.S. property and casualty sector’s profits got a boost in the first half of 2012, largely as a result of underwriting improvements resulting from a quiet catastrophe year to date. According to ISO, a Verisk Analytics company, and the Property Casualty Insurers Association of America (PCI), private U.S. property/casualty insurers’ net income after taxes jumped to $16.4 billion in first-half 2012 from $4.8 billion in first-half 2011. Measuring insurers’ overall profitability as an annualized rate of return, policyholders’ surplus on average climbed to 5.9 from 1.7 percent.

The organizations report that insurers’ pretax operating income — the sum of net gains or losses on underwriting, net investment income, and miscellaneous other income — rose to $18.4 billion in first-half 2012 from $1.3 billion in first-half 2011.

Improvement in underwriting results drove the increases in insurers’ pretax operating income, net income after taxes, and overall rate of return, with net losses on underwriting dropping to $7 billion in first-half 2012 from $24.1 billion in first-half 2011. The combined ratio — a key measure of losses and other underwriting expenses per dollar of premium — improved to 102.2 percent for first-half 2012 from 110.5 percent for first-half 2011, according to ISO and PCI, which released the sector report today.

The organizations attribute the improvement in underwriting results to a drop in net losses and loss adjustment expenses (LLAE) from catastrophes. ISO estimates that insurers’ net LLAE from catastrophes in first-half 2012 totaled $12.6 billion, down from $25.7 billion in first-half 2011. These amounts exclude LLAE that emerged after insurers closed their books for each period but do include late-emerging LLAE from events in prior periods, the report said.

Other items contributing to the increase in insurers’ net income after taxes include a $1.1 billion increase in miscellaneous other income to $1.7 billion in first-half 2012 from $0.6 billion in first-half 2011, notes the press release.

The improvement in underwriting results and increase in miscellaneous other income were partially offset by a drop in net investment gains and higher taxes. Net investment gains — the sum of net investment income and realized capital gains (or losses) on investments — fell $3 billion to $25.4 billion in first-half 2012 from $28.4 billion in first-half 2011, as insurers’ federal and foreign income taxes rose $3.5 billion to $3.6 billion from $0.1 billion.

Policyholders’ surplus — insurers’ net worth measured according to Statutory Accounting Principles — grew $17.5 billion to $567.8 billion at June 30, 2012, from $550.3 billion at year-end 2011, largely as a result of insurers’ $16.4 billion in net income after taxes, said the report.

The figures are consolidated estimates for all private property/casualty insurers based on reports accounting for at least 96 percent of all business written by private U.S. property/casualty insurers.

“The $17.5 billion increase in policyholders’ surplus to a near-record-high $567.8 billion at June 30, 2012, is a testament to the strength and safety of insurers’ commitment to policyholders,” said Robert Gordon, PCI’s senior vice president for policy development and research. “Despite challenging economic conditions, insurers are strong, well-capitalized, and well-prepared to pay future claims. Policyholders and regulators can rely on the insurance industry to fulfill its obligations when catastrophes strike.”

Michael R. Murray, ISO’s assistant vice president for financial analysis, noted that while insurers’ overall results for first-half 2012 are certainly much better than their results for first-half 2011, insurers’ overall rate of return remains subpar compared with long-term historical norms, and insurers’ now need much better underwriting results just to be as profitable as they were in the past.

“Insurers’ 5.9 percent annualized rate of return on average surplus for first-half 2012 fell short of insurers’ 9 percent average overall rate of return for the 53 years from the start of ISO’s annual data in 1959 to 2011, even though the 102.2 percent combined ratio for first-half 2012 was 1.8 percentage points better than the 104 percent average combined ratio for the past 53 years,” said Murray. “With investment yields, financial leverage, and tax rates like those in first-half 2012, ISO estimates that the combined ratio would have to improve almost 5 percentage points to 97.4 percent in order for insurers to earn their long-term average rate of return.”

The property/casualty industry’s 5.9 percent annualized rate of return for first-half 2012 was the net result of negative rates of return for mortgage and financial guaranty insurers and single-digit rates of return for other insurers, note the organizations. According to ISO mortgage and financial guaranty insurers’ annualized rate of return on average surplus improved to negative 7.6 percent for first-half 2012 from negative 26.1 percent for first-half 2011. Excluding mortgage and financial guaranty insurers, the industry’s annualized rate of return rose to 6.2 percent in first-half 2012 from 2.3 percent in first-half 2011.

Underwriting gains (or losses) equal earned premiums minus LLAE, other underwriting expenses, and dividends to policyholders, the report said.

The organizations reported that net losses on underwriting fell $17.1 billion to $7 billion in first-half 2012 from $24.1 billion in first-half 2011, as premiums rose and LLAE declined. Net written premiums rose $7.9 billion, or 3.6 percent, to $226.7 billion for first-half 2012 from $218.8 billion for first-half 2011. Net earned premiums rose $6.5 billion, or 3 percent, to $218.9 billion from $212.5 billion.

Net LLAE (after reinsurance recoveries) dropped $13.3 billion, or 7.6 percent, to $160.9 billion in first-half of 2012 from $174.2 billion in first-half 2011.

Contributing and partially negating the effects of the growth in premiums and decline in LLAE, other underwriting expenses — primarily acquisition expenses; expenses associated with underwriting, pricing, and servicing insurance policies; and premium taxes — increased $2.7 billion, or 4.3 percent, to $64.3 billion in first-half 2012 from $61.6 billion in first-half 2011, the report noted.

Dividends to policyholders totaled $0.8 billion in first-half 2012, essentially unchanged from dividends to policyholders in first-half 2011.

The decrease in overall LLAE was driven by the decline in catastrophe losses, and ISO included estimations that private insurers’ net LLAE from catastrophes fell $13.1 billion to $12.6 billion in first-half 2012 from $25.7 billion in first-half 2011. Other net LLAE fell $0.2 billion, or 0.1 percent, to $148.2 billion through six-months 2012 from $148.4 billion through six-months 2011, noted ISO.

According to ISO’s Property Claim Services (PCS) unit, catastrophes striking the United States in first-half 2012 caused $13.8 billion in direct insured losses (before reinsurance recoveries) for all insurers (including residual market insurers and foreign insurers and reinsurers), down $10.6 billion compared with the $24.4 billion in direct insured losses caused by catastrophes striking the United States in first-half 2011 but one and a half times the $8.9 billion average for first-half direct catastrophe losses during the past ten years.

Combined ratio (reflecting the growth in premiums and the decline in LLAE) improved by 8.3 percentage points to 102.2 percent in first-half 2012 from 110.5 percent in first-half 2011.

“The drop in net LLAE from catastrophes is the main reason for the improvement in underwriting results in first-half 2012,” said Gordon. “If net LLAE from catastrophes remained at the same level experienced in first-half 2011, the combined ratio would have improved by only 2.3 percentage points to 108.2 percent instead of improving by 8.3 percentage points.”

Underwriting results for first-half 2012 also benefited from $7.2 billion in favorable development of LLAE reserves based on new information and updated estimates for the ultimate cost of old claims from prior accident years, said the authors. The $7.2 billion in favorable reserve development in first-half 2012 follows $7.3 billion of favorable development in first-half 2011. Excluding development of LLAE reserves, net LLAE fell $13.3 billion, or 7.4 percent, to $168.1 billion in first-half 2012 from $181.5 billion in first-half 2011, and the combined ratio improved by 8.4 percentage points to 105.5 percent from 114 percent.

The $7 billion in net losses on underwriting in first-half 2012 amounted to 3.2 percent of the $218.9 billion in net premiums earned during the period, said the report, whereas the $24.1 billion in net losses on underwriting in first-half 2011 amounted to 11.3 percent of the $212.5 billion in net premiums earned during that period.

Mortgage and financial guaranty insurers continued to suffer disproportionate losses on underwriting, noted Murray. “Though mortgage and financial guaranty insurers’ combined ratio dropped 2.3 percentage points to 184 percent for first-half 2012 from 186.3 percent for first-half 2011, their combined ratio for first-half 2012 was 82.9 percentage points worse than the 101.1 percent combined ratio for the industry excluding mortgage and financial guaranty insurers,” he said.

Excluding mortgage and financial guaranty insurers, industry net written premiums rose 3.8 percent in first-half 2012 to $224.4 billion, net earned premiums increased 3.2 percent to $216.1 billion, LLAE fell 7.6 percent to $156.4 billion, other underwriting expenses increased 4.8 percent to $63.8 billion, and dividends to policyholders were essentially unchanged from their level in first-half 2011 at $0.8 billion. As a result, the combined ratio for the industry excluding mortgage and financial guaranty insurers improved to 101.1 percent for first-half 2012 from 109.4 percent for first-half 2011, noted the report.

“Excluding mortgage and financial guaranty insurers, net written premium growth for insurers writing predominantly commercial lines accelerated the most, rising to 5.6 percent in first-half 2012 from 2.8 percent in first-half 2011. Net written premium growth for insurers writing mostly personal lines rose to 2.9 percent in first-half 2012 from 2.7 percent in first-half 2011, as premium growth for insurers writing more balanced books of business increased to 3 percent from 2.3 percent,” Murray said.

“Reflecting the effects of premium growth and the drop in catastrophe losses, underwriting profitability improved for all three major sectors of the industry,” said Gordon. “Excluding mortgage and financial guaranty insurers, commercial lines insurers’ combined ratio dropped 8.5 percentage points to 98.8 percent, as balanced insurers’ combined ratio improved by 8.7 percentage points to 103.4 percent and personal lines insurers’ combined ratio fell 7.8 percentage points to 101.5 percent.”

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