Curtains Close on 2011 — What's in store for 2012?

By Gavin Magor | December 29, 2011

As the curtains close on another volatile year, we expect January 1 to usher in more of the same. It is clear that politics in Europe and in the US will provide the backdrop for many of the year’s events. And politics will be front and center in a big way for many issues that will affect US insurance companies.

We at Weiss are anticipating at least three major issues that will become significant:

Health Insurance – The U.S. Supreme Court has agreed to examine the constitutionality of the Affordable Care Act. The Supreme Court is scheduled to hear legal arguments over the week commencing March 26. According to the Associated Press (AP), the time set aside is the longest for any case in modern times. This is an indication of how significant the case is both politically and for the future of healthcare in the nation. It will test the powers of the state, individual rights and the reach of federal government.

The Supreme Court’s decision will be felt by individuals and insurance companies alike. And, it will also assert a level of political judgment on the effectiveness of the Obama presidency — in a presidential election year. Defeat on this issue will have a more profound effect for the current administration than victory.

Health insurers have been developing business models and preparing for full implementation of the Affordable Care Act in 2014. A decision from the Supreme Court against the legislation, especially with regards to the constitutionality of a health care mandate, will complicate those plans. Health insurer stocks have not yet recovered from the financial crisis; a decision to allow the legislation to stand will most likely act as a boost by removing uncertainty. A decision against could lead to a severe decline in healthcare stocks as the investment and preparations will have been for naught; additionally the potential increase in jobs will be lost.

Mortgage Guaranty Insurers – This insurance segment will be looking for Congress to provide appropriate support for housing that will enable insurers to stem their losses and create a healthy environment for housing sales. To bolster lending, the housing market continues to need affordable and stable mortgage loan coverage. The insurers themselves need to write appropriately priced and profitable business. To restore insurer and housing market stability, some measure of pricing balance between lenders, consumers and insurers will be necessary.

There are an estimated one million homeowners that will welcome the recently announced extension of the Home Affordable Refinance Program (HARP). Homeowners that have a Fannie Mae (OTCBB: FNMA) or Freddie Mac (OTCBB: FMCC) backed loan and owe more than 125% of the value of their home should be looking to see if they qualify for a restructuring. Beyond these homeowners, there does not appear to be any broad-based plan to help move the housing market.

This does not bode well for the mortgage insurers that lost money through September 2011. The year’s losses could potentially equal the large losses of 2010. In the face of a shrinking market, the withdrawal of PMI and Old Republic from the mortgage insurance market will help the remaining companies at least limit any potential reductions in their book of business. Genworth Mortgage Insurance Corporation (Genworth), a subsidiary of Genworth Financial Inc, is hoping for a political solution, but there is no evidence that this will happen. Since new business is profitable and current politics have a strong anti-government intervention theme, the administration may simply leave the market to deal with the residual housing crisis fallout.

Property and Casualty Insurers – Most property and casualty insurers will be glad to see the end of 2011. With a soft market and a number of formidable natural disasters coupled with reduced investment income, many property and casualty companies are struggling. The question remains whether consumers will pay the price for 2011 events or whether insurers will be forced to accept the cost.

This year’s weather related events including devastating drought, failing crops, Hurricane Irene, Texas wildfires, hundreds of tornadoes throughout the Midwest, Tropical Storm Lee and record-breaking rainfall exceeded most insurers’ expected losses. The claims associated with these natural disasters are expected to remove the small margins made on property and casualty premiums, no matter how the fourth quarter turns out. Normally insurers have relied on investment income to offset marginal underwriting business and produce profits. But 2011 has been different because the margins available on investments have been insufficient to cover the gap.

According to most forecasts 2012 will bring more of the same low bond returns. This means that the insurance market must harden sufficiently for insurers to be able to increase premium rates and return to profitability. Yet, this is not likely, in part due to consumer inability to absorb increases. This suggests that a move towards more risky investments with the possibility of higher returns will be tempting for insurers. Of course, insurers that choose investments with greater risk may not be rewarded with better returns. In fact, they could face greater downside. We will be keeping an eye on rate developments along with insurer investment strategies. We may see a hardening market for property and casualty insurers. However, a continued soft market may result in market consolidation through mergers and acquisitions, and could leave us the unsavory task of monitoring insurer failures.

All in all, 2011 was a tough year for many insurers, and we do not see a dramatic turnaround in store for 2012. We, at Weiss, will continue to monitor the insurance and financial markets to keep you up to date.

Gavin Magor, senior financial analyst at Weiss Ratings, has more than 25 years of international experience in credit-risk management, insurance, commercial lending and analysis. He leads the firm’s insurance ratings division and developed the methodology for Weiss’ Sovereign Debt Ratings.