Even before the unprecedented impacts of the coronavirus pandemic, businesses were seeing the effects of a hardening insurance market, which has been generating higher business insurance rates.
The unpredictable nature of the pandemic has only led to greater uncertainty in the market, adding upward pressure to rates. In the third quarter, commercial insurance rates rose an average of 6.25 percent, according to Business Insurance. That far exceeded the average rate increase of 4.8 percent in the second quarter and the 4.5 percent average bump in the first quarter. The transportation industry has been impacted the most, experiencing an average increase of 10.5 percent in the third quarter, per MarketScout.
Directors and officers insurance had the largest increase with 11.5 percent in the third quarter, continuing an upward trend of the past several quarters. Umbrella and excess liability saw the next largest increase with an average of 8.5 percent, per MarketScout.
Social inflation and litigation
Several factors are driving higher claims payouts, thus creating the need for carriers to increase rates. One of the primary reasons is the impact of “social inflation.” Insurance carriers are facing increased litigation, broader definitions of liability, more plaintiff-friendly legal decisions and larger compensatory jury awards. We also have seen an unprecedented increase in the number of nuclear jury awards — those in excess of $10 million. General anti-corporate sentiment and a sense that “someone needs to pay” damages regardless of negligence are among the contributing factors.
Also at play is the phenomenon of “litigation funding” strategies whereby private equity or third-party investors agree to cover a plaintiff’s legal fees in exchange for a portion of any awarded damages. Such funding can inspire claimants to pursue litigation rather than settle and it encourages plaintiff attorneys to inflate the amount of damages sought. The tactic has reached a tipping point, reports AboveTheLaw.com, that “no lesser a source than the New York City Bar Association Litigation Funding Working Group has spoken, declaring that ‘the New York Rules of Professional Conduct should be modified to accommodate the reality of litigation funding.’”
There also have been several securities suits related to COVID-19 that added to the trend of increasingly costly, event-driven securities and derivative litigation.
Severe weather impacts
We are also seeing more extreme weather events such as hurricanes, wildfires, droughts and tornadoes all of which have grown in scope and size in recent years. According to the National Oceanic and Atmospheric Administration, this is the sixth consecutive year in which the U.S. has experienced at least 10 separate billion-dollar-plus disasters.
Historical loss data and current rates do not reflect the severity or frequency of current weather patterns, which makes it more challenging for insurers to predict potential loss costs. This, in turn, creates a need to increase surplus in the marketplace globally. Catastrophe bond (CAT) losses in the Southeast and Gulf Coast, along with wind and hail losses, have contributed to increased pricing from the reinsurance market resulting in habitational risk being hit with some of the largest rate increases.
Economic factors
Loss ratios of several of the largest insurers continue to deteriorate, causing a decline in investment income. With insurers failing to produce a double digit return on equity, they are underwriting risks thoroughly.
One bright spot is workers’ compensation, which has not seen losses like the other lines of coverage, resulting in continued short term favorable rates. However, workers’ comp insurers are concerned that inflation-driven rising medical costs, coupled with an extended period of low interest rates, may negatively affect loss ratios (profitability and sustainability). The ultimate result could be margin erosion, driving rates upward. Additionally, new presumption laws that require workers’ compensation benefits to apply to employees who contract coronavirus will likely contribute to higher compensable claims, medical treatment costs, and other costs.
Cyber and data risks
Data security and privacy continues to be one of the top risks for many organizations. The average ransom payment increased 60 percent from the first quarter of 2020 to the second quarter. As claims increase, cyber insurance rates are starting to increase anywhere from 5 percent to 15 percent.
It also is taking more carriers to build out a tower of limits for organizations with significant exposure. The rise in claims are brought about by continued increases in ransomware and social engineering attacks. According to the 2020 Ponemon Study conducted by the Ponemon Institute, the U.S. is the most expensive place in the world to experience a data breach at an average cost of $8.64 million — more than double the global average.
How to navigate the hard market
Like other challenges facing business owners, it is unclear when the hard market may abate. Considering that uncertainty and our litigious environment, here are several ways business owners can plan for next year as they navigate the hard insurance market:
• Determine absolute minimums: In the event that a business is facing an extreme rate hike or cut in capacity for liability coverage, business owners should establish their company’s acceptable minimum liability limits. Start with a review of the insurance provisions of key customer contracts.
• Don’t rely on past performance: In a hard market, businesses can’t necessarily count on past performance. Owners should create a strategic plan when approaching the insurance market, along with a compelling submission. It is critical to remember that due to the uncertainties and other factors at play in a hard market, rate hikes are likely, along with possible coverage cuts, higher premiums and deductibles.
• Consider alternatives: With rising rates, it can be beneficial for businesses to remain open to alternative solutions to financing risk such as new insurance program structures, self-insurance options or joining a captive.
• Document, document, document: With increasing risk of litigation, the better processes, procedures, and documentation businesses have in place can help with defense.
• Address cyber risk: Businesses should identify their risk through continued penetration testing, cybersecurity gap assessments, and have in place a current cyber incident response plan.
Jody Sarchett is executive vice president of sales with Lovitt & Touché, A Marsh & McLennan Agency LLC Company, where she leads business development efforts. Learn more at lovitt-touche.com.
