Aon Finds Increased Volatility In Insurance Risk

Insurers are experiencing increased volatility in insurance risks along with greater demands for detailed assessment of risk tolerance and capital adequacy, according to a study by broker Aon Benfield.

Insurance volatility was far greater than volatility in equity markets, as the financial crisis unfolded over the past year. The level of correlation between global equity markets added a significant level of risk to international insurers' equity portfolios, according to the risk study involving 26 countries that represent 85% of global premiums.

Managing volatility is an issue for insurers, said Andrew Appel, chief executive officer of Aon Benfield, at this year's Monte Carlo Rendev Vous. "Those insurers that successfully manage volatility can help to increase their relative market valuation, which is especially important in today's low valuation ranges."

Fidelity and surety were the most volatile business lines in almost every country, with over 93% volatility in Europe and 136% in the Americas, the study found. Overall, risk in the Americas was higher than in Europe or Japan for comparable lines.

Five of the eight major business lines in the United States showed increases in measured risk and none showed a decrease. In Europe, motor and liability risk increased in the United Kingdom, but remained constant or decreased in Germany and France.

"Over the past two years, the global financial crisis has caused considerable volatility in equity price. However, over the past three decades, insurance lines have generally experienced far greater volatility than the stock market," said Stephen Mildenhall, executive vice president and chief actuary of Aon Benfield Analytics.

"For instance, by the end of July this year, stock volatility was at approximately the same level as commercial motor volatility, which is historically one of the less volatile business lines for insurers worldwide," said Mildenhall.

The study showed changes in surplus were more correlated with stock returns, price volatility and credit spread than they were with underwriting combined ratios or the number of insurance company insolvencies.

The catastrophe bond market sector outperformed most asset-backed securities and provided positive returns for investors in the past year, according to Aon Benfield.

"There has been a resurgence in insurance-linked securities as investors and sponsors have come to the market with renewed confidence following a benign issuance period at the end of 2008," said Appel. The market has provided US$25 billion of capital since its inception.

Insurance-linked securities provided a total investment return of 3.89% for the year ended June 2009, down from 10.12% a year earlier, with European bonds posting the strongest performance. These results were primarily attributable to mark-to-market losses across all perils. Mark-to-market principal losses were more than offset by interest income, said the report.