The Financial Crisis & Its Impacts on the Insurance Industry Challenges Amid the Economic and Regulatory Storm Robert P. Hartwig, Ph.D., CPCU, President.

The Financial Crisis & Its Impacts on the Insurance

Industry Challenges Amid the Economic and

Regulatory Storm

Robert P. Hartwig, Ph.D., CPCU, PresidentInsurance Information Institute 110 William Street New York, NY 10038

Tel: (212) 346-5520 [email protected] www.iii.org

Mississippi State University Insurance DayStarkville, MS

April 23, 2009

Presentation Outline

• Financial Crisis & The Weakening Economy: Insurance Impacts for the P/C Insurance Industry

• Recession, Growth & Insurance

• Economic Stimulus Package• Impacts & Implications for P/C Insurers

• Financial Strength & Ratings• P/C Insurance Industry Overview & Outlook

• Profitability• Premium Growth• Underwriting Performance• Financial Market Impacts

• Capital & Capacity• Regulatory Response to Crisis

• Emerging Blueprint of Regulatory Overhaul

Q & A

THE ECONOMIC STORM

What the Financial Crisis and Deep Recession Mean for the

P/C Insurance Industry

Exposure & Claim Cost Effects

3.7

%

0.8

% 1.6

% 2.5

% 3.6

%

3.1

%

2.9

%

0.1

%

4.8

%

4.8

%

0.9

%

2.8

%

-0.5

%

-2.1

%

0.4

% 1.6

% 2.3

%

2.7

%

2.9

%

3.1

%

-5.1%

-6.3%

-0.2%

-8%

-6%

-4%

-2%

0%

2%

4%

6%

   2

00

0   

   2

00

1   

   2

00

2   

   2

00

3   

   2

00

4   

   2

00

5   

   2

00

6   

07

:1Q

07

:2Q

07

:3Q

07

:4Q

08

:1Q

08

:2Q

08

:3Q

08

:4Q

09

:1Q

09

:2Q

09

:3Q

09

:4Q

10

:1Q

10

:2Q

10

:3Q

10

:4Q

Real GDP Growth*

*Yellow bars are Estimates/Forecasts from Blue Chip Economic Indicators.Source: US Department of Commerce, Blue Economic Indicators 4/09; Insurance Information Institute.

Recession began in December 2007. Economic toll of credit crunch, housing

slump, labor market contraction is growing

The Q4:2008 decline was the steepest since the

Q1:1982 drop of 6.4%

-4.0

-2.0

0.0

2.0

4.0

6.0

8.0

10.0

70 72 74 76 78 80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10

Advanced economies Emerging and developing economies World

1970-2010F

Source: International Monetary Fund, World Economic Outlook Update, Jan. 28, 2009; Ins. Info. Institute.

Emerging economies (led by China) are

expected to grow by 3.3% in 2009

GDP Growth: Advanced & Emerging Economies vs. World

Advanced economies will shrink by 1.9% in 2009

The world economy is forecast to grow by 0.5% in 2009, but could shrink for the first time since WW II —by 1% to

2% according to the World Bank.

5.2%

-0.9

%-7

.4%

-6.5

%-1

.5%

1.8%

4.3%

18.6

%20

.3%

5.8%

0.3%

-1.6

%-1

.0%

-1.8

%-1

.0%

3.1%

1.1%

0.8%

0.4%

0.6%

-0.4

%-0

.3%

1.6%

5.6%

13.7

%7.

7%1.

2%-2

.9% -0

.5%

-3.8

%-4

.4%

0.2%

-10%

-5%

0%

5%

10%

15%

20%

25%7

87

98

08

18

28

38

48

58

68

78

88

99

09

19

29

39

49

59

69

79

89

90

00

10

20

30

40

50

60

70

8E

09

F

Rea

l N

WP

Gro

wth

-4%

-2%

0%

2%

4%

6%

8%

Rea

l G

DP

Gro

wth

Real NWP Growth Real GDP

Real GDP Growth vs. Real P/C Premium Growth: Modest Association

P/C insurance industry’s growth is influenced modestly by growth

in the overall economy

Sources: A.M. Best, US Bureau of Economic Analysis, Blue Chip Economic Indicators, 4/09; Insurance Information Inst.

Length of US Recessions,1929-Present*

43

13

811 10

810 11

16

6

16

8 8

18

0

5

10

15

20

25

30

35

40

45

50

Aug.1929

May1937

Feb.1945

Nov.1948

July1953

Aug.1957

Apr.1960

Dec.1969

Nov.1973

Jan.1980

Jul.1981

Jul.1990

Mar.2001

Dec.2007

* As of May 2009, inclusive

Sources: National Bureau of Economic Research; Insurance Information Institute.

Current recession began in Dec. 2007 and is already the longest since 1981. It is now

also the longest recession since the Great Depression.

Months in Duration

“We will rebuild. We will recover.”

--President Barack Obama addressing a joint session

of Congress

February 24, 2009

Length of U.S. Business Cycles, 1929-Present*

43

138 11 10 8 10 11

166

168 8

18

50

80

3745

39

24

106

36

58

12

92

120

73

0

10

20

30

40

50

60

70

80

90

100

110

120

Aug.1929

May1937

Feb.1945

Nov.1948

July1953

Aug.1957

Apr.1960

Dec.1969

Nov.1973

Jan.1980

Jul.1981

Jul.1990

Mar.2001

Dec.2007

Contraction Expansion Following

* As of May 2009, inclusive; **Post-WW II period through end of most recent expansion.

Sources: National Bureau of Economic Research; Insurance Information Institute.

Duration (Months)

Month Recession Started

Average Duration** Recession = 10.4 MonthsExpansion = 60.5 Months

Annual Inflation Rates(CPI-U, %), 1990-2010F

4.9 5.1

3.0 3.2

2.6

1.51.9

3.3 3.4

1.3

2.5 2.3

3.0

3.8

2.8

3.8

(0.7)

1.6

2.82.92.4

(1.0)

0.0

1.0

2.0

3.0

4.0

5.0

6.0

90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09F10F

Sources: US Bureau of Labor Statistics; Blue Chip Economic Indicators, April 10, 2009 (forecasts).

Inflation peaked at 5.6% in August 2008 on high energy and commodity crisis. The

recession and the collapse of the commodity bubble have produced temporary deflation.

Total Industrial Production,(2007:Q1 to 2010:Q4F)

1.5%3.2%3.6%

0.3%0.4%

-3.4%

-8.8%

-12.1%

-15.9%

-5.5%

2.7%3.3%3.7%4.0%

-0.6%

1.7%

-20.0%

-15.0%

-10.0%

-5.0%

0.0%

5.0%

07:Q

1

07:Q

2

07:Q

3

07:Q

4

08:Q

1

08:Q

2

08:Q

3

08:Q

4

09:Q

1

09:Q

2

09:Q

3

09:Q

4

10:Q

1

10:Q

2

10:Q

3

10:Q

4

Sources: US Bureau of Labor Statistics; Blue Chip Economic Indicators (4/09); Insurance Info. Inst.

Industrial production began

to contract sharply during H2 2008 and

is expected to shrink through

most of 2009

Obama stimulus program is

expected benefit impact industrial production and

therefore insurance exposure both directly and

indirectly

Figures for 2010 revised upwards to reflect expected impact of

Obama stimulus program

Labor Market Trends

Fast & Furious: Massive Job Losses Sap the Economy and Workers Comp

Exposure

3.0

4.0

5.0

6.0

7.0

8.0

9.0

Jan

-00

Jan

-01

Jan

-02

Jan

-03

Jan

-04

Jan

-05

Jan

-06

Jan

-07

Jan

-08

January 2000 through March 2009

Unemployment will likely peak between 9% and 10 % during this cycle, impacting payroll sensitive p/c and non-life exposures

Source: US Bureau of Labor Statistics; Insurance Information Institute.

March 2009 unemployment jumped to 8.5%, exceeding the 6.3% peak during the previous cycle, and is now at it highest

level since Jan. 1984

Unemployment Rate:On the Rise

Average unemployment rate 2000-07 was 5.0%

Previous Peak: 6.3% in June 2003

Trough: 4.4% in March 2007

Mar

-09

U.S. Unemployment Rate,(2007:Q1 to 2010:Q4F)*

4.5%

4.5% 4.6% 4.

8% 4.9%

5.4%

6.1%

6.9%

8.1%

8.8%

9.3% 9.

5%

9.6%

9.5%

9.4%

9.3%

4.0%

4.5%

5.0%

5.5%

6.0%

6.5%

7.0%

7.5%

8.0%

8.5%

9.0%

9.5%

10.0%

07:Q1 07:Q2 07:Q3 07:Q4 08:Q1 08:Q2 08:Q3 08:Q4 09:Q1 09:Q2 09:Q3 09:Q4 10:Q1 10:Q2 10:Q3 10:Q4

* Blue bars are actual; Yellow bars are forecastsSources: US Bureau of Labor Statistics; Blue Chip Economic Indicators (4/09); Insurance Info. Inst.

Rising unemployment will erode payrolls

and workers comp’s exposure base.

Unemployment is expected to peak near

10% in early 2010.

Monthly Change Employment*(Thousands)

-72-144 -122

-160 -137 -161-128

-175

-321-380

-597

-681-741

-651 -663-800

-700

-600

-500

-400

-300

-200

-100

0

Jan-08 Feb-08 Mar-08 Apr-08 May-08

Jun-08 Jul-08 Aug-08 Sep-08 Oct-08 Nov-08 Dec-08 Jan-09 Feb-09 Mar-09

Job losses since the recession began in Dec. 2007

total 5.133 million; 13.2 million people are now defined as unemployed.

Source: US Bureau of Labor Statistics: http://www.bls.gov/ces/home.htm; Insurance Info. Institute

Monthly losses in Dec. – Mar. were the largest in the post-WW II period

January 2008 through March 2009

17

SD

NDMT

ID

NV

CA

OR

WA

UT

WY

NE

CO

OK

TXLA

FL

MN

IA

IL

ME

AZNM

KS

WI

OH

MINY

VT

IN

MO

AR

KY

TN

NH

PA

RI

MS AL

SC

NC

GA

VAWV

MA

CT

AK

HI

NJ

DE

MD

DC

State Construction Employment, Dec. 2007 – Dec. 2008

0% to 4%

-0.1% to -8.5%

-8.8% to -22%

AK

17

Construction employment declined in

47 of 50 states in

2008

Sources: Associated General Contractors of America from Bureau of Labor Statistics; Insurance Information Institute.

Crisis-Driven Exposure

ImplicationsHome, Auto Exposure

Growth Slows asSales Nosedive

New Private Housing Starts,1990-2010F (Millions of Units)

2.07

1.80

1.36

0.90

0.56

0.78

1.48

1.351.

46

1.29

1.20

1.01

1.19

1.47

1.62 1.64

1.57 1.60 1.

71

1.85 1.

960.50.60.70.80.91.01.11.21.31.41.51.61.71.81.92.02.1

90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09F 10F

Exposure growth forecast for HO insurers is dim for 2009 with some

improvement in 2010.

Impacts also for comml. insurers with construction risk exposure

New home starts plunged 34%

from 2005-2007; Drop through 2009 is 73% (est.)—a net

annual decline of 1.51 million

units, lowest since record

began in 1959

I.I.I. estimates that each incremental 100,000 decline in housing starts costs

home insurers $87.5 million in new exposure (gross premium). The net

exposure loss in 2009 vs. 2005 is estimated at about $1.3 billion.

Source: US Department of Commerce; Blue Chip Economic Indicators (4/09); Insurance Information Inst.

16.916.916.6

17.117.5

17.817.4

16.516.1

13.1

10.2

12.0

10

11

12

13

14

15

16

17

18

19

99 00 01 02 03 04 05 06 07 08 09F 10F

Weakening economy, credit crunch are hurting auto sales; Gas prices less of a factor now.

New auto/light truck sales are expected to experience a net drop of 6.7 million units annually by 2009 compared

with 2005, a decline of 39.6% and the lowest level

since the late 1960s

Impacts of falling auto sales will have a less pronounced effect on auto insurance exposure growth

than problems in the housing market will on home insurers

Auto/Light Truck Sales,1999-2010F (Millions of Units)

Source: US Department of Commerce; Blue Chip Economic Indicators (4/09); Insurance Information Inst.

Crisis Implications

Top Crisis-Driven Claim Issues for Personal Lines

Insurers

Summary of Short-Run Impacts of Stimulus Package on P/C Insurance

• CLAIMING BEHAVIOR• Claim frequency falls with miles driven. History: Drop is temporary.• Claim severity continues to rise: med costs, collisions repair costs up• Likely maintenance on homes, cars deferredclaim. freq/sev. impact?

• PURCHASING BEHAVIOR: Efforts to Economize• More shopping around• Increased deductibles• Dropping optional coverages (collision, comprehensive)• Lower limits• Insuring fewer vehicles (3 or 4th vehicle sold)• Insuring older vehicles (old cars retained, new car purchases deferred)

• UNINSURED/UNDERINSURED MOTORIST % RISES• Expected to rise from 13.8% in 2007 to 16.1% in 2010

• FRAUD & ABUSE: • Evidence emerging of increased frequency of “give-ups” where car owners underwater

on payments commit fraud to obtain insurance money (e.g., car arson, fabricated theft, etc.)

• Anecdotal evidence of owner-caused home arson

Percentage Motorists Driving Without Insurance, 2003-2010F

14.9%

13.8%

16.1%

12.5%

13.0%

13.5%

14.0%

14.5%

15.0%

15.5%

16.0%

16.5%

2003 2007 2010F

Source: Uninsured Motorists, 2008 Edition, Insurance Research Council; Insurance Information Institute

In 2007, 1-in-7.2 motorists was

uninsured; That figure is expected to

rise to 1-in-6.2 by 2010

A record 16.1% of motorists are expected to be driving

without insurance by 2010 as rising unemployment prompts some people to drop coverage

THE $787 BILLION ECONOMIC STIMULUS

Sectoral Impacts & Implications for P/C

Insurance

Summary of Short-Run Impacts of Stimulus Package on P/C Insurance

• No Stimulus Provisions Specifically Address P/C Insurance• Spending, Aid and Tax Reductions benefit other industries, state and local

governments, as well as individual and some corporate taxpayers • Stimulus Package is Unlikely to Increase Net Premiums Written by

More Than 1% or Approx. $4.5 Bill. by Year-End 2010 • “Direct” Impact to P/C Insurers Results Primarily from Increased

Demand for Commercial Insurance• Primarily the result of increased infrastructure spending and the resulting need to insure

workers, property and protect against liability risks• Because the primary objective of the stimulus is employment related, workers

compensation will be the p/c line that benefits the most• Assuming the target of 3.5 million jobs created or preserved is achieved, private workers

comp NPW (new and preserved) could amount to as much as $1.1 billion• Other commercial lines to benefit: surety, commercial auto, inland marine

• Other “Direct” P/C Demand Benefits Will Be Minimal• Tax provisions providing incentives to buy cars and homes and accelerate the

depreciation of equipment will have little net impact on exposure• Some additional premium may be generated as older cars and equipment are replaced

with new and more valuable (and therefore more expensive to insure)

Economic Stimulus Package: Where the $787B Goes

Tax Relief, $288 , 38%

State & Local Fiscal Relief, $144 , 18%

Infrastructure & Science, $111 , 14%

Protecting the Vulnerable, $81 , 10%

Health Care, $59 , 7% Education & Training, $53 , 7%

Energy, $43 , 5%

Other, 8, 1%

Tax relief and aid to state and local

government account for 56% of stimulus. Actual

spending accounts for only about 25%

Source: http://www.recovery.gov/ accessed 2/18/09; Insurance Information Institute.

$ BillionsObjective is to create or preserve 3.5 million jobs

Infrastructure Stimulus Spending By State: Bottom 25 States ($ Millions)

$278

.9$2

70.0

$267

.6$2

46.6

$240

.5$2

38.0

$219

.5$2

13.5

$200

.3$1

99.9

$192

.9$1

86.1

$181

.7$1

74.3

$158

.7$1

50.7

$413

.8

$447

.6

$290

.5$2

92.2

$299

.6$405

.5

$415

.3$521

.2$4

87.5

$453

.8$535

.4

$0

$100

$200

$300

$400

$500

$600

OK KY

CT

OR IA MS

KS

AR

NM UT

WV NE

NV

DC

MT

AK

U.S

. Ter

r. ID SD

ND HI

RI

WY

NH

ME

DE

VT

Stim

ulus

Dol

lars

($ M

ill)

Sources: USA Today 2/19/09; House Transportation and Infrastructure Committee; the Associated Press.

Infrastructure spending is in the stimulus package total

$38.1B, allocated largely by population size

2220

17 16 16 1512 12 11 11 10 9 8 8 8

33

37

2330

3232

34

44

41 40

48

0

10

20

30

40

50

KY OR CT OK IA NV KS AR UT MS NE NM WV ID HI NH ME DC RI DE MT SD ND AK VT WY

No.

of J

obs

Cre

ated

/Sav

ed b

y S

timul

usEstimated Job Effect of Stimulus

Spending By State: Bottom 25 States

(Thousands)

Sources: http://www.recovery.gov/; Council of Economic Advisers Insurance Information Institute.

The economic stimulus plan calls for the creation or

preservation of 3.5 million jobs, allocated roughly in

proportion to the size of the state’s labor force

FINANCIAL STRENGTH &

RATINGS Industry Has Weathered

the Storms Well

P/C Insurer Impairments,1969-2008

815

12

711

934

913

12

19

916

14

13

36

49

31 3

450

48

55

60

58

41

29

16

12

31

18 19

49 50

47

35

18

14 15

75

0

10

20

30

40

50

60

70

69

70

71

72

73

74

75

76

77

78

79

80

81

82

83

84

85

86

87

88

89

90

91

92

93

94

95

96

97

98

99

00

01

02

03

04

05

06

07

08

The number of impairments varies significantly over the p/c insurance cycle,

with peaks occurring well into hard markets

Source: A.M. Best; Insurance Information Institute

P/C Insurer Impairment Frequency vs. Combined Ratio, 1969-2008

90

95

100

105

110

115

120

69 70 71 72 73 74 75 76 77 78 79 80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07

Co

mb

ined

Rat

io

0.0

0.2

0.4

0.6

0.8

1.0

1.2

1.4

1.6

1.8

2.0

Imp

airm

ent R

ate

Combined Ratio after DivP/C Impairment Frequency

Impairment rates are highly

correlated with underwriting

performance and reached record lows in 2007/08

Source: A.M. Best; Insurance Information Institute

2008 impairment rate was a record low 0.23%, second only to the 0.17% record low in 2007 and barely one-fourth the 0.82% average since 1969

Number of Impairments by State, 1969-2008

22 22 21 20 17 15 15 15 15 14 14 13 11 10 9 9 8 8 6 6 6 6 6 5 5 5 5 5 5 5 4 4 4 3 3 3 2 2 2 2 1 1 0

4166

22242533

63

9691

73

140

0

20

40

60

80

100

120

140

160

TX FL CA IL NY

PA LA MO

OK

OH AZ IN NJ

GA NE

WI

DE

MA

MD

SC

CO TN PR RI

HI

KY MI

NC

WV AL

DC UT

VA

WA IA KS

MN

MS

MT

NM OR

SD VI

WY

AR CT

VT

AK

ME

NH

NV

GU ID ND

No.

of I

mpa

irmen

ts

TX, FL and CA have the largest number of impairments.

Catastrophe risk plays a big role. Other factors influencing

impairments include the political environment and business mix

Source: A.M. Best; Insurance Information Institute

Summary of A.M. Best’s P/C Insurer Ratings Actions in 2008*

Under Review, 63 , 4.3%

Upgraded, 59 , 4.0%

Initial, 41 , 2.8%

Other, 59 , 4.0%

Affirm, 1,183 , 81.0%

Downgraded, 55 , 3.8%

*Through December 19.Source: A.M. Best.

52

Despite financial market turmoil, high cat losses and a soft market in 2008, 81% of ratings actions by A.M. Best

were affirmations; just 3.8% were downgrades

and 4.0% upgrades

P/C insurance is by design a resilient in business. The dual threat of financial

disasters and catastrophic losses are

anticipated in the industry’s risk

management strategy.

Historical Ratings Distribution,US P/C Insurers, 2008 vs. 2005 and 2000

Source: A.M. Best: Rating Downgrades Slowed but Outpaced Upgrades for Fourth Consecutive Year, Special Report, November 8, 2004 for 2000; 2006 and 2009 Review & Preview. *Ratings ‘B’ and lower.

A/A-48.4%

D0.2%C++/C+

1.9%

E/F2.3% A++/A+

11.5%

C/C-0.6%

B++/B+28.3%

B/B-6.9%

2008 2005

P/C insurer financial strength has improved since 2005 despite financial crisis

A/A-52.3%

A++/A+9.2%

B++/B+26.4%

Vulnerable*12.1%

A/A-60.0%

A++/A+10.8%

B++/B+21.3%

Vulnerable*7.9%

2000A++/A+ and A/A- gains

Reasons for US P/C Insurer Impairments, 1969-2008

Source: A.M. Best: 1969-2008 Impairment Review, Special Report, Apr. 6, 2008

Deficient loss reserves and inadequate

pricing are the leading cause of

insurer impairments,

underscoring the importance of

discipline. Investment

catastrophe losses play a much smaller role.

Reinsurance Failure3.7%

Rapid Growth14.3%

Misc.9.1%

Affiliate Impairment

7.9%

Sig. Change in Business

4.2%

Deficient Loss

Reserves/In-adequate Pricing38.1%

Investment Problems

7.0%

Alleged Fraud8.1%

Catastrophe Losses7.6%

Critical Differences Between P/C

Insurers and BanksSuperior Risk Management Model

& Low Leverage Makea Big Difference

How Insurance Industry Stability Has Benefitted Consumers

BOTTOM LINE:• Insurance Markets—Unlike Banking—Are Operating

Normally• The Basic Function of Insurance—the Orderly Transfer

of Risk from Client to Insurer—Continues Uninterrupted• This Means that Insurers Continue to:

Pay claims (whereas 50 banks have gone under as of 4/17) The Promise is Being Fulfilled

Renew existing policies (banks are reducing and eliminating lines of credit)

Write new policies (banks are turning away people who want or need to borrow)

Develop new products (banks are scaling back the products they offer)

Source: Insurance Information Institute56

• Emphasis on Underwriting Matching of risk to price (via experience and modeling) Limiting of potential loss exposure Some banks sought to maximize volume and fees and disregarded risk

• Strong Relationship Between Underwriting and Risk Bearing Insurers always maintain a stake in the business they underwrite, keeping “skin in the game”

at all times Banks and investment banks package up and securitize, severing the link between risk

underwriting and risk bearing, with (predictably) disastrous consequences—straightforward moral hazard problem from Econ 101

• Low Leverage Insurers do not rely on borrowed money to underwrite insurance or pay claimsThere is no

credit or liquidity crisis in the insurance industry• Conservative Investment Philosophy

High quality portfolio that is relatively less volatile and more liquid• Comprehensive Regulation of Insurance Operations

The business of insurance remained comprehensively regulated whereas a separate banking system had evolved largely outside the auspices and understanding of regulators (e.g., hedge funds, private equity, complex securitized instruments, credit derivatives—CDS’s)

• Greater Transparency Insurance companies are an open book to regulators and the public

Source: Insurance Information Institute57

Reasons Why P/C Insurers Have Fewer Problems Than Banks:

A Superior Risk Management Model

P/C INSURANCE FINANCIAL

PERFORMANCE

A Resilient Industry in Challenging Times

Profitability

Historically Volatile

P/C Net Income After Taxes1991-2008F ($ Millions)*

$14,

178

$5,8

40

$19,

316

$10,

870

$20,

598

$24,

404 $3

6,81

9

$30,

773

$21,

865

$3,0

46

$30,

029

$62,

496

$2,4

96

-$6,970

$65,

777

$44,

155

$20,

559

$38,

501

-$10,000

$0

$10,000

$20,000

$30,000

$40,000

$50,000

$60,000

$70,000

91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07

08F

*ROE figures are GAAP; 1Return on avg. Surplus. Excluding Mortgage & Financial Guarantee insurers yields an 4.2% ROAS for 2008.Sources: A.M. Best, ISO, Insurance Information Inst.

2001 ROE = -1.2%2002 ROE = 2.1%2003 ROE = 8.8%2004 ROE = 9.4%2005 ROE= 9.6%2006 ROE = 12.7%2007 ROAS1 = 10.7%2008 ROAS = 0.5%*

Insurer profits peaked in 2006 and 2007, but fell 96.2% during the economic

crisis in 2008

66

-5%

0%

5%

10%

15%

20%

25%

75 76 77 78 79 80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 0809

F

1975: 2.4%

1977:19.0% 1987:17.3% 1997:11.6% 2006:12.7%

1984: 1.8% 1992: 4.5% 2001: -1.2%

10 Years10 Years

9 Years

Note: 2008 result excluding Mortgage & Financial Guarantee insurers is 4.2%.Sources: ISO; A.M. Best (2009F); Insurance Information Institute.

2008: 0.5%

P/C Insurance Industry ROEs,1975 – 2009F*

2009F: 7.4%

67

97.5

100.6 100.1 100.7

92.6

101.0

8.9%

4.2%

12.7%

14.3% 15.9%

9.6%

80

85

90

95

100

105

110

1978 1979 2003 2005 2006 2008*

Co

mb

ine

d R

ati

o

4%

6%

8%

10%

12%

14%

16%

18%

Re

tru

n o

n E

qu

ity

*

Combined Ratio ROE*

* 2008 figure is return on average statutory surplus. Excludes mortgage and financial guarantee insurers.Source: Insurance Information Institute from A.M. Best and ISO data.

A 100 Combined Ratio Isn’t What it Used to Be: 95 is Where It’s At

Combined ratios must me must lower in today’s depressed

investment environment to generate risk

appropriate ROEs

P/C Premium Growth

Primarily Driven by the Industry’s Underwriting Cycle, Not the Economy

-2%

0%

2%

4%

6%

8%

10%

12%

14%

16%

18%

20%

22%

24%

1971

1972

1973

1974

1975

1976

1977

1978

1979

1980

1981

1982

1983

1984

1985

1986

1987

1988

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

F

Sources: A.M. Best (historical and forecast), ISO, Insurance Information Institute

Strength of Recent Hard Marketsby NWP Growth

1975-78 1984-87 2000-03Shaded areas denote “hard

market” periods

Net written premiums fell 1.0%

in 2007 (first decline since 1943)

and by 1.4% in 2008, the first back-

to-back decline since 1930-33

74

Capital/Policyholder

Surplus

Shrinkage, but Capital is Within Historic Norms

$0

$50

$100

$150

$200

$250

$300

$350

$400

$450

$500

$550

75 76 77 78 79 80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08

U.S. Policyholder Surplus: 1975-2008*

Source: A.M. Best, ISO, Insurance Information Institute. *As of 12/31/08

$ B

illi

ons

“Surplus” is a measure of underwriting capacity. It is analogous to “Owners Equity” or “Net Worth” in non-insurance organizations

Actual capacity as of 12/31/08 was $455.6, down 12.0% from 12/31/07 at $517.9B, but still 60% above its 2002 trough. Recent peak was $521.8 as of 9/30/07. Surplus

as of 12/31/08 is 12.7% below 2007 peak.

The premium-to-surplus ratio stood at $0.95:$1 at year end 2008, up from

near record low of $0.85:$1 at year-end 2007

78

Policyholder Surplus, 2006:Q4 – 2008:Q4

$ Billions

$487.1$496.6

$512.8$521.8

$478.5

$455.6

$505.0$515.6

$517.9

$420

$440

$460

$480

$500

$520

$540

06:Q4 07:Q1 07:Q2 07:Q3 07:Q4 08:Q1 08:Q2 08:Q3 08:Q4

Source: ISO.

Declines Since 2007:Q3 Peak

Q2: -$16.6B (-3.2%) Q3: -$43.3B (-8.3%)

Q4: -$66.2 (-12.0%)

Capacity peaked at $521.8 as of 9/30/07

79

Premium-to-Surplus Ratios Before Major Capital Events*

$1.65

$1.42 $1.40

$1.03$0.95$0.88

$1.05$1.15

$0.5

$0.7

$0.9

$1.1

$1.3

$1.5

$1.7

$1.9

6/3

0/1

989

Hu

rric

an

eH

ug

o

6/3

0/1

992

Hu

rric

an

eA

nd

rew

12/3

1/9

3N

ort

hri

dg

eE

art

hq

uake

6/3

0/0

1S

ep

t. 1

1A

ttacks

6/3

0/0

4F

lori

da

Hu

rric

an

es

6/3

0/0

5H

urr

ican

eK

atr

ina

6/3

0/0

7F

inan

cia

lC

risis

As o

f12/3

1/0

8**

*Ratio is for end of quarter immediately prior to event. Date shown is end of quarter prior to event. **Latest availableSource: PCS; Insurance Information Institute.

P/C insurance industry was better capitalized going into the

financial crisis than before any “capital event” in recent history

-15%

-10%

-5%

0%

5%

10%

15%

20%

25%

30%

1978

1979

1980

1981

1982

1983

1984

1985

1986

1987

1988

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

NWP % changeSurplus % change

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

Historically, Hard Markets Follow When Surplus “Growth” is Negative

Sharp decline in capacity is a necessary but not sufficient

condition for a true hard market

Investment Performance

Investments are the Principle Source of Declining

Profitability

Distribution of P/C Insurance Industry’s Investment Portfolio

Cash & Short-Term Investments

7.2%

Common Stock17.9%

Bonds66.7%

Preferred Stock1.5%

Real Estate0.8%

Other5.9%

Portfolio Facts

•Invested assets totaled $1.3 trillion as of 12/31/07

•Insurers are generally conservatively invested, with 2/3 of assets invested in bonds as of 12/31/07

•Only about 18% of assets were invested in common stock as of 12/31/07

•Even the most conservative of portfolios was hit hard in 2008

Source: NAIC; Insurance Information Institute research;.

As of December 31, 2007

86

Property/Casualty Insurance Industry Investment Gain:1994- 20081

$ Billions

$35.4

$42.8$47.2

$52.3

$44.4

$36.0

$45.3$48.9

$59.4$55.7

$64.0

$31.4

$56.9$51.9

$57.9

$0

$10

$20

$30

$40

$50

$60

1Investment gains consist primarily of interest, stock dividends and realized capital gains and losses. 2006 figure consists of $52.3B net investment income and $3.4B realized investment gain. *2005 figure includes special one-time dividend of $3.2B.Sources: ISO; Insurance Information Institute.

Investment gains fell by 51% in 2008 due to lower yields, poor

equity market conditions

87

P/C Insurer Net Realized Capital Gains, 1990-2008

$2.88$4.81

$9.89

$1.66

$6.00

$9.24$10.81

$13.02

$16.21

$6.63

-$1.21

$6.61$8.92

-$19.80

$18.02

$3.52

$9.70$9.13$9.82

-$20-$18-$16-$14-$12-$10-$8-$6-$4-$2$0$2$4$6$8

$10$12$14$16$18$20

90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08

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

Realized capital losses hit a record $19.8 billion in 2008 due to financial market turmoil, a $27.7 billion swing

from 2007. This is the primary cause of 2008’s large drop in profits and ROE.

$ Billions

88

92

0.22% 0.30% 0.46% 0.62%0.98%

1.37%

1.87%2.30%

2.87%

3.83%3.59%

4.82% 4.96% 5.04% 4.96% 4.82% 4.82% 4.88% 4.93% 5.00% 5.19% 5.11%

0%

1%

2%

3%

4%

5%

6%

1M 3M 6M 1Y 2Y 3Y 5Y 10Y 20Y 30Y

Current Yield Curve*Pre-Crisis (July 2007)

Treasury Yield Curves: Pre-Crisis vs. Current*

*February 2009.Sources: Federal Reserve; Insurance Information Institute.

Stock dividend cuts will further pressure investment income

Treasury Yield Curve is at its most depressed level in at least 45 years. Investment income will fall

significantly as a result.

Underwriting Trends

Financial Crisis Does Not Directly Impact Underwriting

Performance: Cycle, Catastrophes Were 2008’s Drivers

115.8

107.5

100.198.4

100.8

92.6

101

105.1

101.0

95.7

90

100

110

120

2001 2002 2003 2004 2005 2006 2007 2008 2008* 2009F

P/C Insurance Industry Combined Ratio, 2001-2009E

*Includes Mortgage & Financial Guarantee insurers. Sources: A.M. Best.

Best combined ratio since 1949

(87.6)

As recently as 2001, insurers paid out nearly $1.16 for every

$1 in earned premiums

Relatively low CAT

losses, reserve releases

Including Mortgage

& Fin. Guarantee insurers

Cyclical Deterioration

97

2005 ratio benefited from heavy use of reinsurance which lowered net losses

-55-50-45-40-35-30-25-20-15-10-505

101520253035

75

76

77

78

79

80

81

82

83

84

85

86

87

88

89

90

91

92

93

94

95

96

97

98

99

00

01

02

03

04

05

06

07

08

Source: A.M. Best, ISO; Insurance Information Institute * Includes mortgage & finl. guarantee insurers

$ B

illi

ons

Insurers earned a record underwriting profit of $31.7B in 2006 and $19.3B in 2007, the largest ever but only the 2nd and 3rd since 1978. Cumulative underwriting deficit from

1975 through 2008 is $442B.

Underwriting Gain (Loss)1975-2008*

$19.799 Bill underwriting loss in 2008

incl. mort. & FG insurers

98

Number of Years With Underwriting Profits by Decade, 1920s –2000s

67

10

8

45

0 0

3

0

2

4

6

8

10

1920s 1930s 1940s 1950s 1960s 1970s 1980s 1990s 2000s*

Note: Data for 1920 – 1934 based on stock companies only.Sources: Insurance Information Institute research from A.M. Best Data. *2000 through 2008.

Number of Years with Underwriting ProfitsUnderwriting profits were common before the 1980s (40 of the 60 years

before 1980 had combined ratios below 100)—but then they vanished. Not a single underwriting profit was recorded in the 25 years from 1979

through 2003.

99

Catastrophe Losses

Impacting Underwriting Results and the Bottom Line

U.S. Insured Catastrophe Losses*$7

.5

$2.7

$4.7

$22.

9

$5.5 $1

6.9

$8.3

$7.4

$2.6 $1

0.1

$8.3

$4.6

$26.

5

$5.9 $1

2.9 $2

7.5

$6.7

$26.

0$1

00.0

$61.

9

$9.2

$0

$20

$40

$60

$80

$100

$120

89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07

08**

20??

*Excludes $4B-$6b offshore energy losses from Hurricanes Katrina & Rita.**Based on PCS data through Dec. 31. PCS $2.1B loss of for Gustav. $10.655B for Ike of 12/05/08.Note: 2001 figure includes $20.3B for 9/11 losses reported through 12/31/01. Includes only business and personal property claims, business interruption and auto claims. Non-prop/BI losses = $12.2B.Source: Property Claims Service/ISO; Insurance Information Institute

$ Billions2008 CAT losses exceeded

2006/07 combined. 2005 was by far the worst year ever for

insured catastrophe losses in the US, but the worst has yet to come.

$100 Billion CAT year is coming soon

109

Top 12 Most Costly Disasters in US History, (Insured Losses, $2007)

$4.0 $5.0 $6.0 $7.0 $7.8 $8.2$10.7 $10.9 $10.9

$22.0 $22.9

$43.6

$0

$5

$10

$15

$20

$25

$30

$35

$40

$45

$50

Jeanne(2004)

Frances(2004)

Rita (2005)

Hugo(1989)

Ivan (2004)

Charley(2004)

Ike(2008)*

Wilma(2005)

Northridge(2004)

9/11Attacks(2001)

Andrew(1992)

Katrina(2005)

$ B

illi

ons

*PCS estimate as of 12/15/08.Sources: ISO/PCS; AIR Worldwide, RMS, Eqecat; Insurance Information Institute inflation adjustments.

9 of the 12 most expensive disasters in US history

have occurred since 2004

In 2008, Ike became the 6th most expensive insurance event and 4th most

expensive hurricane in US history

111

Total Value of Insured Coastal Exposure (2007, $ Billions)

$2,378.9$895.1

$772.8$635.5

$479.9$224.4

$191.9$158.8$146.9$132.8

$92.5$85.6

$60.6$55.7$51.8$54.1

$14.9

$2,458.6

$0 $500 $1,000 $1,500 $2,000 $2,500 $3,000

FloridaNew York

TexasMassachusetts

New JerseyConnecticut

LouisianaS. Carolina

VirginiaMaine

North CarolinaAlabamaGeorgia

DelawareNew Hampshire

MississippiRhode Island

Maryland

Source: AIR Worldwide

In 2007, Mississippi had $51.8B in insured coastal

exposure, up $7.1B or 15.9% from 2004 despite the

destruction from Katrina in 2005.

The insured value of all coastal property was $8.9

trillion in 2007, up 24% from $7.2 trillion in 2004.

$7.1B increase since 2004, up

15.9%

115

Key Issues & Threats Facing P/C

Insurers Amid Financial Crisis

Manageable Challenges

Important Issues & Threats Facing P/C Insurers in 2009

Source: Insurance Information Inst.

1. Reloading Capital After “Capital Event” Continued asset price erosion coupled with major “capital event”

could lead to shortage of capital among some companies P/C insurers have come to assume that large amounts of capital can be

raised quickly and cheaply after major events (post-9/11, Katrina). This assumption may be incorrect in the current environment.

Cost of capital is much higher today, reflecting both scarcity & risk Implications: P/C insurers need to protect capital today and develop

detailed contingency plans to raise fresh capital & generate internally2. Long-Term Loss of Investment Return

Low interest rates, risk aversion toward equities and many categories of fixed income securities lock in a multi-year trajectory toward ever lower investment gains

Many insurers have not adjusted to this new investment paradigm Regulators will not readily accept it; Many will reject it Implication 1: Industry must be prepared to operate in environment

with investment earnings accounting for a smaller fraction of profits Implication 2: Implies underwriting discipline of a magnitude not

witnessed in this industry in more than 30 years Lessons from the period 1920-1975

Source: Insurance Information Inst.

3. Regulatory Overreach P/C insurers get swept into vast federal regulatory

overhaul and subjected to inappropriate , duplicative and costly regulation

4. Tort Threat No tort reform (or protection of recent reforms) is

forthcoming from the current Congress or Administration Erosion of recent reforms is a certainty (already

happening) Innumerable legislative initiatives will create opportunities

to undermine existing reforms and develop new theories and channels of liability

Historically extremely costly to p/c insurance industry

Important Issues & Threats Facing P/C Insurers in 2009 (cont’d)

AFTERSHOCK: Regulatory Response

Could Be Harsh

All Financial Segments Including InsurersWill Be Impacted

Emerging Blueprint for Financial Services Regulatory Overhaul

*http://financialservices.house.gov/press110/press0320082.shtml

Source: Wall Street Journal, “Frank Backs Regulator for Systemic Risk,” 2/4/09, p. C3; I.I.I. research.

Phase I: Systemic Risk Regulation/Regulator Identification of systemic risk points in the financial system Design of appropriate regulation to prevent future collapses Will require international consultation (US can’t manage systemic risk

alone) • Oversight Responsibility: Likely With Federal Reserve

Fed would have capacity and power to assess risk across financial markets regardless of corporate form and to intervene when appropriate *

Fed could oversee (according to House FS Committee Chairman Barney Frank: Hedge funds (need to ensure “complete transparency”) Credit ratings agencies Executive compensation (to curb “perverse risk incentives”)

TIMELINE: Frank wants “general outline” by April 2 meeting of G20 industrialized and developing nations

Possible Regulatory Scenarios for P/C Insurers as of Year-End 2009

Source: Insurance Information Inst.

• Status Quo: P/C Insurers Remain Entirely Under Regulatory Supervision of the States Unlikely, but some segments of the industry might welcome this

outcome above all others• Federal Regulation: Everything is Regulated by Feds

Unlikely that states will be left totally in the cold• Optional Federal Charter (OFC): Insurers Could Choose

Between Federal and State Regulation Unlikely to be implemented as envisioned for past several years by

OFC supporters• Dual Regulation: Federal Regulation Layer Above State

Feds assume solvency regulation, states retain rate/form regulation• Hybrid Regulation: Feds Assume Regulation of Large

Insurers at the Holding Company Level• Systemic Risk Regulator: Feds Focus on Regulation of

Systemic Risk Points in Financial Services Sector What are these points for insurers? P/C vs. Life?

Insurance Information Institute On-Line

THANK YOU FOR YOUR TIME AND

YOUR ATTENTION!

122

P/C Insurance in the Post-Catastrophe World

Source: Insurance Information Inst.

• Investment Earnings Will Shrink Dramatically for an Extended Period of Time: Federal Reserve Policy, Shrinking Dividends, Aversion to Stocks Trajectory toward lower investment earnings is being locked in

• Insurers Will Return to Their Underwriting Roots: Extended Period of Low Investment Exert Pressure to Generate Underwriting Profits Since 1960s Chastened and “derisked” but facing the same (or higher) expected

losses, insurers must work harder to match risk to price• P/C Insurers: Profitable Before, During & After Crisis:

Resiliency Once Again Proven Directly the result of industry’s risk management practices