A.M. Best Special Report: Domestic Captives--Overall Industry Results Have Stabilized; Leverage Remains A Concern.

OLDWICK, N.J. -- Trends in premium volume, loss reserves and admitted assets show that the captive insurance industry has reached a level of stability as it absorbs the benefits of the recent hard market while coping with legacy issues still affecting some within the industry, according to a special report released by A.M. Best Co.

Over the five years through 2004, net premiums written grew by 56%, but only by 3.6% in the past year. Loss reserves and admitted assets grew by 39.6% and 28.7%, respectively, over the past five years. The industry maintained the pattern in 2004 with growth rates of 6.0% and 5.9%, respectively. These may be signs of more business remaining in the commercial market or more relaxed pricing by the captives even while loss reserves are growing.

Of concern, however, is that while the aggregate growth in surplus kept pace in the past year with an 8.3% increase, the five-year cumulative growth was a mere 0.7%. As a result, while the underwriting risk covered by captives has grown, it has come at the cost of increasing leverage over the five-year period. Nonetheless, it can be argued owners are using their captives more efficiently and that they still are operated in a more conservative manner than the insurance market in general.

Further dynamics in the generation of surplus include the large amount of contributed capital placed into captives during 2000, which then tapered off significantly in the following years. Stockholder dividends, though varying considerably during the period, generally exceeded the contributed capital amounts. In addition, unrealized capital losses severely affected surplus in the years 2000 through 2002, while unrealized gains provided sizable boosts to surplus in 2003 and 2004.

Though price firming in some segments already had occurred previously, the events of September 11, 2001, further hardened the commercial market, triggering pricing dislocations and coverage availability issues. This had the immediate effect of increasing fronting and reinsurance costs for captives, but it provided pricing and growth opportunities as well.

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