Last week, CIC Services we attended the 2014 Captive Insurance Companies Association (CICA) conference in Scottsdale, Arizona. CICA touts itself as the only domicile-neutral captive insurance association. We are members of CICA and attend the conference to stay abreast of legislative and regulatory changes that impact the captive insurance industry. The CICA conference also addresses new alternative risk concepts, emerging trends and best practices in the industry.
This certainly didn’t come as a surprise, but the opening session of the conference suggested that demand and interest in alternative risk transfer solutions, like captive insurance companies (CICs) and risk retention groups (RRGs) would remain strong in the immediate future. Predicted demand for CICs and RRGs can be tied to forecasts for GDP growth, low interest rates and the continued flow of capital into alternative risk transfer vehicles. The opening session of CICA included a presentation by economist, Anne Gron, PhD from NERA Economic Consulting titled Economic & Insurance Market Outlook for 2014 and Beyond.
Anne noted that economic forecasters project global GDP growth for 2014 with growth in the U.S. of 2.5% to 3%. This forecast is clouded by uncertainty of world events, and Anne pointed to instability in the Middle East and Eastern Europe, continued debt crises and government shutdowns in the U.S. Concurrent with projected GDP growth of 2.8%, forecasters also project 2014 real insurance premium growth of 2.4% (Swiss Re is projecting 3.1% growth in real non-life insurance premiums). Premium growth is expected to tie to directly to economic growth (EG more cover being written) as pricing is expected to remain stable.
The Federal Reserve Board (FED) has indicated it will pull back from buying assets. As such, interest rates will almost certainly increase. However, Dr. Gron made it clear that she still expects interest rates to remain historically low. She indicated that she expects the FED to move cautiously to increase rates because the U.S. unemployment picture is still disturbing with an unemployment rate of 7% with little likelihood for improvement in 2014.
Third party commercial insurers face two challenges in 2014 and in the next few years. First, alternative capital continues to enter the market putting downward pressure on pricing. Dr. Gron noted that, “More risks are being covered by alternative capital vehicles and alternative capital entities compete directly with traditional insurance and reinsurance in some areas, reducing profitability.” Captive Insurance Company arrangements and Risk Retention Groups are forms of alternative capital. Alternative capital has also been attracted into the reinsurance market.
The second challenge facing insurers is an on-going low interest rate environment. Unfortunately, for most businesses relying exclusively on third party commercial insurance, the entry of alternative capital will not lower pricing on their insurance policies. In fact, pricing may increase for some lines of coverage. This will likely occur because the downward pressure created by alternative capital entering the market on pricing will be offset by upward pressure on pricing caused by low investment yields of insurance reserves. The low (and expected to remain low) interest rate environment is producing low investment yields for insurers and hampering their ability to grow reserves to meet future projected claims.
Dr. Gron provided the following simple illustration. An insurer with expected claims of $100 in two years would need to reserve (or set aside) $89 from premiums collected if its investment rate of return is 6%. However, if the investment rate of return is only 2.5%, the insurer must reserve $95 from premiums collected to pay the same expected claims of $100 in two years.
In our estimation, the current economic climate and insurance market will reward companies that take a long-term view rather than a short term view of risk management and insurance. A comprehensive risk management approach that blends third party commercial coverage with an alternative risk transfer vehicle like a captive insurance company can improve risk management, help lower commercial insurance cost and preserve capital.
CIC Services, LLC has been helping business owners own their own insurance company since 2005. Our alternative risk transfer vehicle of choice is a captive insurance company. Please contact us to discuss the role a CIC could play in your business or businesses.
CIC Services, LLC is a full service captive insurance management company. We help business owners and professionals own their own insurance companies. A captive is a unique insurance company. It includes its own corporation, insurance license, reserves, policies, policyholders, and claims. It is a formal way for business owners to self-insure risk, and captives are generally formed to insure primarily though not exclusively the risks of one or more businesses owned by the same or related parties. Premiums are paid from the parent company to the captive with pre-tax dollars. The captive can invest its assets mostly as its owners choose (some domiciles have restrictions).