A Cluster Of Natural Catastrophe Claims Could Put Underwriting Profitability In German Property-Casualty Insurance On Pause

Primary Credit Analysts: Christian Badorff, Frankfurt (49) 69-33-999-199; christian.badorff@standardandpoors.com Johannes Bender, Frankfurt (49) 69-33-999-196; johannes.bender@standardandpoors.com Secondary Contact: Ralf Bender, CFA, Frankfurt (49) 69-33-999-194; ralf.bender@standardandpoors.com

Table Of Contents
Underwriting Profitability Varies Across Business Lines Floods, Torrential Downpours, And Hailstorms Dampen Underwriting Results In 2013 Recent Losses Are A "Bump In The Road"--And May Spawn Further Rate Increases And New Business Related Criteria And Research

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A Cluster Of Natural Catastrophe Claims Could Put Underwriting Profitability In German Property-Casualty Insurance On Pause
The moderate recovery in reported underwriting profitability underway in the German property-casualty (P/C) insurance sector should continue in the years to come. But a string of natural catastrophes in the past couple of months could put the recovery on hold this year, in Standard & Poor's Ratings Services' opinion. German P/C insurers' rate increases over the past three years--some overdue--and improved claims management have fuelled the steady resumption of underwriting profitability, with help from the mild natural catastrophe conditions in 2012. Rate hikes in loss-making business lines, such as motor, commercial property, and homeowners' insurance have been main contributors. We believe the industry's increased focus on underwriting profitability is largely a consequence of the current low yield environment, which makes it more difficult for insurers to offset weaker underwriting performances through investment returns. Overview German property-casualty (P/C) insurers have strengthened their underwriting profitability through better claims management and rate increases in recent years, helped by a generally benign natural catastrophe environment, especially in 2012. The slew of recent natural catastrophes in Germany will, in our opinion, temporarily put the brakes on the ensuing positive underwriting profitability trend, and potentially lead to underwriting losses in the sector in 2013. We are maintaining our stable outlook for the German P/C sector and our view that domestic insurers face low industry and country risk, based on our opinion that the P/C insurers we rate will generally maintain at least strong capital adequacy and that the recovery of underwriting profitability should resume in 2014-2015.

The sector reported an average gross combined (loss and expense) ratio of 97.0% for 2012 after 97.9% in 2011 and 98.2% in 2010, according to the German insurance industry association, GDV. The improvement in underlying underwriting profitability was even more pronounced, based on the decrease in the average annual accident loss ratio to 75.6% in 2012 from 77.4% in 2011. In addition, we think that companies opted to strengthen claims reserve buffers, which would have curbed improvements in reported combined ratios.

Underwriting Profitability Varies Across Business Lines

P/C lines display disparate underwriting profitability, including underwriting losses in commercial property, homeowners' insurance, and motor insurance in 2012, contrasting with the mainly profitable remaining lines where combined ratios averaged less than 100%. Insurers implemented the largest rate hikes in loss-making areas in 2012, leading to improved combined ratios in motor and homeowners' insurance (see chart).

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A Cluster Of Natural Catastrophe Claims Could Put Underwriting Profitability In German Property-Casualty Insurance On Pause

Floods, Torrential Downpours, And Hailstorms Dampen Underwriting Results In 2013

While claims events this year should prompt further rate increases that will bolster the P/C sector's underwriting profitability in 2014-2015, the combined toll of three significant natural catastrophe events since June will likely halt the sector's underwriting profitability in 2013 (see table). Recent Natural Catastrophes In Germany
Date Early June June 20 July 27 Event Severe floods following heavy rainfall in Germany and Central and Eastern Europe Affected regions Baden-Wrttemberg, Bayern, Brandenburg, Niedersachsen, Sachsen, Sachsen-Anhalt, Schleswig-Holstein, and Thringen Estimated industry insured loss 2 billion

Heavy storms, hailstorms, and torrential Large parts of Germany rains Severe hailstorms Baden-Wrttemberg, Niedersachsen, Sachsen-Anhalt, Nordrhein-Westfalen

N.A. 660 million

N.A.--Not available. Sources: Standard & Poor's, GDV.

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A Cluster Of Natural Catastrophe Claims Could Put Underwriting Profitability In German Property-Casualty Insurance On Pause

The June flood and late July hailstorms are among the highest insured losses ever experienced for these types of natural catastrophes in Germany. Together, their impact could push up the P/C sector's gross combined ratio in 2013 by about 4 to 5 percentage points. The business lines likely to be hit hardest are those that are already the least profitable, namely motor (especially comprehensive cover), property, and homeowners' insurance. We also expect significant variations in individual companies' losses, reflecting their regional focus and portfolio characteristics. Although improved early warning systems, and preventive measures in some cases, have limited flood claims for damaged cars and buildings, regions generally less prone to flooding experienced damages. We think claims from these events will exceed the annual budgets for natural catastrophes for many German P/C insurers. With the gross combined ratio moving toward 100% or even higher in the sector, underwriting profitability in 2013 could now be out of reach for many insurers. Existing reinsurance coverage could result in net combined ratios slightly better than gross ratios, however. Since insurers generally buy reinsurance coverage per event, the current accumulation of several events may also induce insurers to focus on future reinsurance protection programs. Still, we believe that the scale of claims so far is unlikely to impair capital adequacy in the sector, as we continue to expect P/C insurers to achieve positive net income, partly owing to the availability of smoothing instruments such as equalization reserves. Much will depend on the claims environment in the remainder of the year, given that every additional weather event, such as windstorms that are common in autumn or any severe winter weather, would exacerbate pressure on underwriting results.

Recent Losses Are A "Bump In The Road"--And May Spawn Further Rate Increases And New Business
Covering natural catastrophe risks for policyholders is an essential part of P/C insurers' business models, in our opinion. Consequently, we believe these insurers generally maintain adequate capital resources or reinsurance protection for such events. Our assessment of an insurer's capital and earnings focuses on normalized assumptions for natural catastrophes. Higher-than-normal claims experience, therefore, would lead to negative rating actions only if losses resulted either in a substantial deterioration in capital adequacy or led us to conclude that weakened earnings are not temporary and could adversely affect insurers' future capital adequacy. German P/C insurers that Standard & Poor's rates are generally strongly capitalized and able to absorb the losses from the recent natural catastrophe events, in our view. In addition, the losses associated with these recent claims may also prompt further rate increases, potentially supporting insurers' prospective capital and earnings. We also anticipate that 2013's natural catastrophes will increase policyholder sensitivity and awareness, which could create new business. For instance, only one-third of homeowners' insurance contracts include coverage for natural catastrophe claims. The possibility of compulsory natural catastrophe coverage for homeowners is also under discussion.

Related Criteria And Research

Insurers: Rating Methodology, May 7, 2013 Low Interest Rates Are Testing The Financial Strength Of German Insurers, Oct. 10, 2012

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A Cluster Of Natural Catastrophe Claims Could Put Underwriting Profitability In German Property-Casualty Insurance On Pause Refined Methodology And Assumptions For Analyzing Insurer Capital Adequacy Using The Risk-Based Insurance Capital Model, June 7, 2010
Additional Contact: Insurance Ratings Europe; InsuranceInteractive_Europe@standardandpoors.com

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