Pandemics have been with humanity over many centuries. Excluding ancient times, recorded major pandemics occurred in 430 B.C – The Plague of Athens, with other epidemics following:
430 BC Plague of Athens; 165 A.D. Antonine Plague; 250 A.D. Plague of Cyprian;
540 Plague of Justinian; 1350 Black Death (Bubonic Plague); 1665 Great Plague of London;
1817 First Cholera Pandemic; 1855 Third Plague Pandemic; 1875 Fiji Measles Pandemic;
1889 Russian Flu; 1918 Spanish Flu; 1957: Asian Flu; 1968 Hong Kong Flu;
1981 AIDS; 2003 SARS; 2009 Swine Flu – H1N1; 2020 COVID-19 Flu.
This list doesn’t include MERS, Zika, or Ebola breakouts in more recent years nor the Polio epidemic in the early 1900s. It also doesn’t include a major outbreak of yellow fever in the late 1690s and again in late summer of 1793.
Malaria, another ancient disease is referenced in Chinese documents from about 2700 BC, clay tablets from Mesopotamia from 2000 BC, Egyptian papyri from 1570 BC and Hindu texts as far back as the sixth century BC. The first recognized dengue epidemics occurred almost simultaneously in Asia, Africa, and North America in the 1780s, shortly after the identification and naming of the disease in 1779.
In other words, pandemics have regularly occurred since ancient times.
Somehow humanity has come through those episodes, but only after many deaths. Also, many changes resulted following those episodes – new methodologies of treatments, vaccines, business models, regulations, etc. This time will be no different.
P&C insurers have strong balance sheets with capital and surplus totaling an estimated $860 billion at year-end 2019 and with loss reserves totaling about $556 billion. It is estimated that COVID-19 claims could wipe out this industry surplus, leaving few funds left to pay other claims.
Business interruption losses for U.S. small businesses due to the coronavirus lockdown and closures are estimated at between $220-$383 billion per month - or a quarter to half of the total industry surplus available to pay all P/C claims.
According to the CEO of the American Property Casualty Insurance Association (APCIA), there could be as many as 39 million business interruption claims per month. (See Will the P/C Insurance Industry Be Forced To Pay More Than Expected For The Coronavirus Pandemic?) or (P/C Insurers Put a Price Tag on Uncovered Coronavirus Business Interruption Losses).
Indeed, according to the Insurance Information Institute (III), any legislation designed to mandate retroactive business interruption insurance coverage for small and medium-sized enterprises could cost the industry $150-$400 billion, thus reducing industry capital and surplus to perhaps as low as $207 billion, a level below required risk-based capital levels.
While the bundle of funds held in capital and reserves may look appealing to legislators and customers who often have bought coverage over many years without incurring any claims, the reality is that those funds are meant to support the industry for payment of catastrophe losses. Although this pandemic might be categorized as a catastrophe, it is not what such policies were designed to do.
This year’s hurricane season, which runs from June 1 through November 30, predicts at least 2-4 named severe storms - perhaps on the scale of Harvey, Irma, Maria, etc. That would be bad news for many areas hit by events that include floods, hurricane force winds, tornadoes, wild fires, quakes. That is use of funds for pandemic purposes will eliminate the industry’s ability to meet more weather-related claims later this year.
Of course, that won’t stop legislators from looking to use the funds for such purposes. And, it might be possible to use those funds if the government is willing to backstop all such claims, much as was done with terrorism risks post 9/11. Only time will tell if this is possible.
The big issue for insurers regards policy language. Business interruption insurance, also known as business income insurance, is commercial property insurance designed to cover loss of income incurred by an organization due to a slowdown or suspension of operations. Few firms write BI coverage independently as it is usually included within other policies. However, demand for such insurance is increasing. More common is event cancellation coverage typically used by sporting or entertainment events - Wimbledon, Tokyo Olympics, etc.
Few firms actually carry business interruption insurance (BI) that specifies coverage for pandemics. While policies may refer to phrases that refer to pandemics or flu, many policies don’t specifically define exclusionary clauses that limit claims from such an event. Policy language may thus be open to interpretation, much as pollution or asbestos claims were used to expand coverage in years past, despite supposed policy exclusions.
Post the SARS epidemic many insurers made clear that pandemic-related losses – communicable disease, virus-related losses – were excluded. Also, some policies expressly provide coverage for communicable diseases, but those generally include sub-limits of between $25,000 and $50,000. Application of exclusions will vary greatly by state, so jurisdiction of any claim filing could be meaningful.
To help clients through these tough economic times, attorneys will certainly be looking for ways to apply BI coverage to areas not expected (i.e., areas that are under-priced). Lawyers are going to be studying possible precedents with applications of pollution exclusions, as most policies currently require direct physical damage or loss as a requirement to trigger claims payment. Attorneys will argue that coronavirus contamination and government-ordered closures constitute physical damage.
As cyber risk is also becoming more important with a greater number of people working from home, lawyers will be examining such exposures reviewing precedents from prior case exclusions. The big issue will be to see if retrospective BI coverage is mandated by the states to cover COVID-19 losses.
What is clear for the future is that insurers will tighten policy language for pandemic exclusions, will challenge any state-mandated legislation, and will try to re-price policies where claims are likely.
However, it will become more difficult for companies to achieve higher rates given the slowing economy. A slowdown in premium payments, lower payrolls hurting workers’ comp, and fewer cars on the road with less driving reducing auto premiums is likely. Already, several insurers – State Farm, Allstate (ALL), Chubb (CB), Travelers (TRV), etc. - have offered their customers the ability to delay premium payments, to refund premiums, or to reduce premiums to better match miles driven.
According to an estimate released on April 11 by the Insurance Information Institute (Triple-I), U.S. auto insurers will return more than $10 billion to their customers nationwide. Still, the biggest exposure of insurers to the virus will be to workers’ compensation lines, especially for carriers providing coverage to: Hospitals, Medical Services, EMT, Pharma, Law Enforcement, Fire Departments, First Responders, Transportation and Retail. Travel and Entertainment will also be at risk.
On the life/health side, there will also be changes occurring. Mortality claims are likely to rise, lower premiums will follow reduced payrolls, and more regulations will ensue. Traditional life insurance policies will likely cover deaths from COVID-19. However, once again exclusions and policy interpretations will apply.
S&P Global Ratings estimates that a severe coronavirus pandemic in the U.S. could cost the nation’s health insurers as much as $90 billion in medical claims, based on hospitalization expenses that could force some insurers to tap into capital and reserves.
As with P&C insurers, social distancing and remote working will raise cyber risk exposure, and increase the need for more testing and monitoring of individuals. Mental health will become a greater issue than in the past. There will be more calls for safety procedures that will add to overall costs. Sales will slow despite any coverage mandates, and expenses will rise with higher hospitalization rates. Persistency may change.
All this is certain to alter earnings and revenue forecasts and incentivize regulators to issue more guidelines. Agents, brokers, and financial advisors will also likely face many risk management and logistical challenges
But, the backdrop of lower interest rates will also make it more difficult for insurers and pension funds to generate the sufficient returns on capital that are needed to meet obligations. US life industry totaled $11 trillion in assets as of year- end 2019, perhaps half in bonds that have seen falling yields. As a result, new products are likely to result, and long-standing business relationships will likely change as well.
Insurance has been undergoing transition into a more disruptive stage, even before this virus appeared. COVID-19 will accelerate the changes already underway.
There will clearly be greater use of technology – for testing/monitoring/screening of infected people. There will also be increased use of telemedicine and development of new more efficient and diversified products and services.
Underwriting and reinsurance platforms will also change. As demand changes, so will the need for pricing adjustments that meet changing claim trends. Data will be the key to better discipline and profitability.
Much will depend on reserving standards and capital allocations. For example, many companies will likely eliminate repurchase programs. Some may be forced by liquidity considerations into reduction or elimination of dividends, and all will be implementing changes to mix by business line.
Valuations will also change as volatility will increase, and growth rates will be altered. With greater volatility and profit uncertainty, stock multiples will likely contract and M&A will become more challenging.
Much will depend on when and how fast the economy recuperates? How will consumer behavior change in the future? What will happen to demand if policies fail to cover exposures now? What about consumer confidence? In short, what will be the “new normal”?
The largest writers of commercial property, workers' compensation, general liability, or D&O coverage are the companies most likely exposed to BI claims. These names include: Travelers, Chubb, American International Group (AIG), and Hartford (HIG). These firms have strong balance sheets now but will become possible targets.
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