03 July 2023
Invoking Change Whilst Preserving Our Greatest Assets
Technology in today's world is forever advancing, none more so than in the Artificial Intelligence arena. How we adapt to this as insurers and whether this will afford us a better working practice is yet to be seen.
What is clearly important is how the market perceives the longevity in a competitive arena and whether today's actions will be sufficient to preserve quality capacity for our clients over the years to come.
A Short Poem To Start...
And Read On
Step into the realm of aviation insurance's future,
Where risks and challenges intertwine, a path to nurture.
Technological marvels grace the sky with might,
Leaving insurers pondering, can they navigate this flight?
Cyberattacks target aircraft systems, a digital twist,
Insurers grapple with policies, an evolving list.
Will they shield against hackers' malicious spree?
Or will insurance's response be an ongoing mystery?
Regulations and compliance, a labyrinth of red tape,
Insurers navigate, ensuring they don't scrape.
Liability frameworks shifting like the wind's gust,
Leaving insurers thoughtful, building trust.
Environmental concerns take centre stage,
Aviation's impact, an issue to gauge.
Green coverage plans, a noble pursuit,
Insurers ponder the balance to compute.
Risk management and safety, a daunting task,
Insurers unite, wearing their safety mask.
Accidents prevented, claims held at bay,
Through the risk-laden journey, they find their way.
Oh, the future of aviation insurance, a path to tread,
Where risks and challenges lie ahead.
In this realm of possibilities, they face with determination,
Seeking solutions for the aviation industry's preservation.
This piece was drafted in less than five seconds using this command, ‘Satirical view of Aviation market future in poem format’. It’s from an AI application that we are experimenting with but highlights that the world of the future will be quite different with regard to how some companies and industries view the value of AI and what it can produce. This could have a profound impact on how these same companies view the value of people.
When expanding the perspective of what AI can do and the ability for machines to work more intelligently than our current experience, then where people fit into the value chain becomes potentially a more complex equation, particularly if people end up repeating mistakes or bad practices of the past. Our IT history has been set up around computer programs that allow an element of predictive analysis largely based upon historic data, however, the future looks more towards computers thinking through outcomes and rationalizing data outside of what has been programmed into them to provide solutions to issues, much in the way the human mind should.
People should be any companies’ greatest asset and it would be controversial to think anything else, however, there are times when you need to stand back and think through this basic principle and really question the theory, particularly when you see how quickly and accurately AI functions can be performed.
Why question the value of people vs. AI? Well, in the context of the Aviation Insurance market the answer could be in a famous and well used, but often ignored, quote from Albert Einstein; "Insanity is doing the same thing over and over again and expecting different results."
So here we go again. Since the Russian invasion of Ukraine in February 2022 coupled with the developing backdrop of increasing liability awards related to high profile losses, the market has seen some interesting and at times confusing changes resulting in an environment that needs careful and thoughtful management in order to not repeat history and send the market back into a struggle for sustainability.
Early in 2020, COVID-19 struck the global economy which consequently changed the dynamics of everything we did and whilst premium levels dropped to reflect the change in exposure so did the claims frequency and severity, as such underwriters actually made more money than anticipated. As we exited the ‘COVID-19 era’ many underwriters seemed to have forgotten what went on before and resorted to expanding their business presumably based upon results from the two, very unusual, years of COVID-19.
At the same time as COVID-19 was unfolding a potential time bomb was developing…escalating liability awards. High profile, high value claims created a huge impact on both the direct and reinsurance market this was then followed by the potential for claims coming from leasing contracts following the Russian invasion of Ukraine. The impact of this chain of events is now unravelling in front of us with reductions in reinsurance capacity and restrictions in cover from the same reinsurers now beginning to impact direct insurers.
Whilst any changes imposed by reinsurers take time to filter through into how direct insurers act, initial indications are that despite the unique backdrop of the past two to three years and distorted numbers that have emerged, direct underwriters are now on a course to repeat history again and drive the market to reducing premium levels. Quite simply and yet again we have ‘too many underwriters chasing too few risks for too little money’.
Just five years ago, most sectors of the Aviation market saw capacity shrinking off the back of some very poor results. This prompted rising rates that were actually being applied at sensible levels year on year with the intent on bringing some credibility back to underwriting.
So Where Are We Today?
2022 global airline premiums were approximately USD1.85bn net. This is against a yearly average rolling claims figures of approx. USD1.35 - USD1.40bn (figures from Starr database and from information on approximately 95% of the world’s airlines). This produces a pure underwriting loss ratio of 78%. In order to establish a combined ratio underwriters will need to add operating costs, reinsurance costs plus any unreported claims activity. Bearing in mind the current airline market is now verticalised with many underwriters writing business below leader’s price, these high level numbers will look worse. It is also worth noting that manufacturing (Product) losses emanating from airlines are not included in the above claim numbers.
Clearly these numbers highlight that there is a very fine margin at the moment in the airline sector so why is capacity being deployed so aggressively at the moment and as we head into the busy renewal season in Q3 and Q4? Essentially, is history now repeating itself?
Fundamentally, business plans have been drafted for 2023 and beyond on the basis that rates and/or premium will continue to increase. In addition, the increase in excess of loss reinsurance costs along with the restrictions in cover means that direct underwriters are now under pressure to achieve income levels which although may be just about sustainable will soon become unsustainable when these rate and premium increases do not materialise.
So here are the harsh facts, rates are not increasing by enough to offset the growth in exposure. As such, logically loss ratios will start to increase and if underwriters’ income levels are not achieved by writing under-priced business then expense ratios will also increase. For some underwriters the reaction to this will be to increase the vertical terms in order to achieve the desired line size and/or level of premium, this will in turn put further pressure across other underwriters who are not prepared to increase the vertical terms in order to gain market share. The ongoing result of this is that pricing will continue to soften and the business will become more unsustainable. Underwriters in this category (and there are a lot), will find themselves in a position from which they cannot recover. The only hope they have is that claims do not materialise. Who would accept a business plan based upon that notion?
We are now at the early stages of this downward spiral that we have been in as a market all too often in the past. Underwriters cannot blame brokers as their fundamental position is to achieve the best price they can for their clients whilst preserving quality of security and breadth of cover. This cycle if it continues will end up the same as previously, a very unhappy ending for some.
Essentially Albert Einstein’s quote is now firmly in focus.
So go back to the beginning of this piece. If the underwriting community does not change how it behaves when faced with these market conditions then maybe it is actually the people who are at fault.
We put the following scenario into the same AI platform and asked for a strategy
• There are 20 underwriters in the market
• Each underwriter has a line of 10% (200% market capacity)
• We added premium and claims data as shown in the above paragraph.
• We added some basic expense data points
• The question was ‘how do we maximise profit and achieve a sustainable market’.
The solution came out as no surprise.
Underwriters in the market should halve their individual capacity, increase rates to achieve USD2.3bn net premium income and only adjust to match deteriorating claims activity.
The lesson should be clear. In order to create a market that is sustainable and has longevity capacity has to be controlled to enable sensible pricing that provides underwriters with enough to cover current claims, the expense for running a business and a margin that allows for continued investment into the business.
What does this mean in our real world? Underwriters need to stop chasing income and set realistic budgets that allow them to hit their respective objectives without needing to be sucked into making bad and poorly thought through decisions. That means having the strength to refuse to write under-priced business. Deployment of capacity will be a key driver to any change in behaviour that will be required in order to not see our market descend into another soft cycle.
Reinsurers will also have a big part to play in this process and early indications are that they will support underwriters that show a disciplined approach to the business whilst either removing support or charging more for those that do not. Fundamentally, we are a collective market that need to be more cohesive but also that needs to do things differently from the past.
The ability to change the future is still in underwriters hands, lets invoke change and prove that people are a company’s greatest asset, as should be the case.
The Walbrook Building 25 Walbrook London, EC4N 8AW
Author
Andy Trundle
Global Head of Aviation & Chief Underwriting Officer
Starr Companies
Arthur J. Gallagher (UK) Limited is authorised and regulated by the Financial Conduct Authority. Registered Office: The Walbrook Building, 25 Walbrook, London EC4N 8AW. Registered in England and Wales. Company Number: 119013.