Gulf Oil Spill, Earthquakes & Hurricane Season Likely to Result in Skyrocketing Insurance Rates

Published: Tue 18 May 2010

Lucas Eichmann

Yesterday, Lloyd's of London insurance market's chief cautioned that one more massive disaster could catapult the insurance industry into the red for 2010.

Richard Ward told a group of insurance chiefs that the insurance industry is looking at the hardest year he can recall.

"It isn't overstating the situation to say that the insurance industry is facing a potential perfect storm this year," Ward said in his keynote address at the Insurance Day London Summit.

Delivering his remarks as the insurance industry braces for hurricane season in the United States, Ward said: "That is a significant challenge for the industry worldwide but it is a storm we can see coming and we can prepare for. Insurers who keep their discipline and don't chase risky short-term profit will stand the best chance of long-term survival."

Ramifications of Gulf Oil Spill

The insurance industry is expected to lose $3.5 billion from the worsening oil spill in the Gulf of Mexico. That will be the largest loss for the energy market since the Piper Alpha rig exploded in the North Sea in 1988, which caused a spate of reinsurance losses and cost Lloyd's of London $11.8 billion from 1988 to 1992.

Swiss Re has estimated total losses from the gulf oil spill at $1.5-$3.5 billion and its own losses at $200 million. Lloyd's will report its own prediction later in the month.

Last year, Lloyd's earned record profits of almost four billion pounds, with 1.4 billion pounds of underwriting profit. However, Ward cautioned: "Just one serious catastrophe could potentially wipe out the entire underwriting profit from last year."

Hurricanes Gustav and Ike, which devastated the Caribbean and the southern United States in 2008, cost the insurance industry $24 billion. With 137 natural disasters and 174 man-made disasters, 2008 was one of the insurance industry's worst years. By contrast, the entire cost of Hurricane Katrina is approximated at $100-$225 billion.

Already in 2010, disasters like the Gulf of Mexico oil spill and the Chilean earthquake, along with worsening rates and low investment returns, will have a "very significant" effect on the insurance industry.

Higher Insurance Premiums in Store

Multiple insurance companies, including Amlin, the largest carrier in Lloyd's, have cautioned that the oil spill will increase premiums. Many of the losses will ultimately be paid by reinsurers, which pay for the losses of direct insurance companies, prompting reinsurance premium hikes that will be transferred to the direct insurers, who will probably pass them on to policyholders.

Ward asks insurers to adhere to a "strict diet of underwriting discipline" to make sure they survive the disaster with their balance sheets steady. He admonishes them not to be drawn into underwriting risky ventures for short-term profits; to concentrate on where they will end up in five years instead of one; and to underwrite for profits rather than volume.

"During the financial crisis the insurance industry has performed very well, without the need to fall back on either government or taxpayer support. We've helped protect the economy during the crisis. Now it's time to protect ourselves."