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Time to Bet on Insurers?

By Catherine Seifert Most insurance costs related to the 2001 terrorist attacks were assumed by the property-casualty and reinsurance sectors. September 11 stands as the industry's largest single loss event, with net loss estimates ranging between $30 billion and $70 billion for all insurers, although it will take years to determine the ultimate payout.

Standard & Poor's has a fairly positive investment outlook on the property-casualty insurance industry. Our favorable outlook for the group is due in part to positive forces -- namely, stronger pricing and improved claim trends -- in the personal-lines area such as auto and homeowners insurance. (Personal lines make up about two-thirds of the property-casualty insurance business, while commercial lines make up the rest.) Also, for investment purposes, personal-lines property-casualty stocks are considered fairly defensive.

Despite some profit-taking in the wake of the September 11 attacks, the S&P Property & Casualty Insurance Index slightly outperformed the broader market in 2001. Year-to-date through Aug. 30, the group declined 5.5%, while the S&P 1,500 Super Composite index fell 19.5%.

GOVERNMENT HELP? After strengthening considerably in anticipation of increasing premiums rates in late 2001, shares of many property-casualty insurers dropped together with the broader market. Given this short-term weakness, at S&P we're somewhat more bullish on the group, particularly since underlying pricing fundamentals remain strong. Plus, given that demand for most types of property-casualty insurance isn't particularly economically sensitive, the fortunes of many companies in the sector don't depend heavily on an equity-market recovery.

These positive factors are balanced by continued uncertainty regarding the issue of coverage for future terrorist attacks, as well as potential U.S. government involvement with private insurance markets in these activities. To reduce risk exposure, many insurers are stripping out terrorism coverage from policies as they come up for renewal.

This has prompted calls for the government to take on coverage for extreme terrorist events as a public service. In Britain and many European countries, government-backed mutual-insurance companies to cover potential terrorist attacks already exist.

LEVERAGED CAPITAL. Costs associated with settlement of asbestos-related claims could also restrict profitability, as could claims from directors' and officers' liability coverage in the wake of widespread corporate-governance scandals. We're also somewhat concerned that financial difficulties of certain overseas reinsurers may restrict their ability to pay claims.

Net written premiums in 2001 increased 8.1%, to $324 billion, from 2000. As a result of continued price increases, we anticipate that net written premiums will rise 15.7% in 2002, to about $375 billion. As of Dec. 31, 2001, the industry had $289.6 billion in policyholder surplus (or capital) supporting about $324 billion in written premiums. The industry was leveraging its capital at about a 1:1 ratio of net written premiums to policy surplus. Assuming a 2:1 leverage benchmark ratio, the industry had about $128 billion in excess capital.

We anticipate that ongoing claims related to September 11, coupled with the impact of investment losses in insurers' bond portfolios, will further erode the industry's capital base and increase leverage. This increased leverage will continue to drive up premium rates.

S&P has a 5-STARS (buy) ranking on Allstate (ALL). Stocks with 4-STARS (accumulate) rankings include Chubb (CB), Transatlantic Holdings (TRH), and American International Group (AIG). Analyst Seifert follows insurance stocks for Standard & Poor's

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