A.M. Best Special Report: P/C Impairments Hit Near-Term Lows Despite Surging Hurricane Activity.

OLDWICK, N.J. -- Despite extraordinary, back-to-back hurricane seasons, U.S. property/casualty impairments in 2005 are on track to hit the lowest level seen in a decade, according to a special report issued by A.M. Best Co.

In terms of 2005 dollars, each of the seven major hurricanes in 2004 and 2005 ranks among the 20 costliest U.S. catastrophes ever faced by insurers. Hurricane Katrina displaced the San Francisco earthquake and fire as the costliest U.S. insurance event in history.

Typically, major catastrophes trigger surges in P/C impairments, pushing already vulnerable companies into financial failure. Such was seen with both hurricanes Hugo and Andrew, which hit three years apart. Allowing for the possible exception of a couple of smaller insurers that still may show up among the financially impaired, history does not seem to be repeating this time, thanks to particular financial and underwriting strength seen recently in the industry.

Coinciding with improving operating results, P/C insurers' financial impairments have shown a sharp downtrend in 2003-2005, with the failure rate in 2004 falling to the lowest level since 1996, and known 2005 impairments annualizing to an impairment rate even lower than in 2004, one that would tie 1996 for the lowest impairment rate since 1980. The final number for 2005, however, may well be higher or lower, but it is not likely to be significantly worse than the 2004 results.

The combined ratio--a core barometer of profitability, which historically has a high correlation with impairments--improved by 2.1 points to 98.1 in 2004, giving the industry its first underwriting profit since 1978. With the industry absorbing roughly $60 billion of new catastrophe losses in 2005, the year still may show an underwriting profit. Despite severe hurricane seasons, the past couple of years were less stressful for most insurers.

For 57 insurers (34 in 2003, 17 in 2004, six in the first half of 2005), however, the improved operating environment could not amend for past sins. These companies were too far under water, primarily from past inadequate pricing practices and reserve deficiencies, to ride the wave of recovery. Still, the 2004 impairment frequency rate, at 0.49% or 1-in-204 companies, was roughly 60% of the average impairment rate for the entire 37-year history of A.M. Best's proprietary P/C impairment database. If 2005's impairment rate annualizes normally, the prospective 0.35% impairment rate, or 1-in-286 companies, would be at slightly more than 40% of the historical norm.

The characteristics of an impaired company in 2003-2005 remained consistent with prior studies: Small and young companies were typical among the impairments, as were stock companies and those writing commercial lines business. Deficient loss reserves/inadequate pricing also remained the primary cause of impairment.

While 2005 is likely to be profitable again for P/C insurers, a number of issues remain that contribute to a potentially volatile operating environment. These include a $59 billion industry loss reserve deficiency, courtesy of the prior soft market; signs of increasing price competition; and rising claims severity, particularly from asbestos and environmental liabilities, factors that have the potential of putting upside pressure on impairments.

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A.M. Best Co., established in 1899, is the world's oldest and most authoritative insurance rating and information source. For more information, visit A.M. Best's Web site at www.ambest.com.