Industry investment outlook brighter for 2003

After a dismal year of investment performance from both the bond and equity markets, North American insurers should benefit in 2003 from a modest recovery in returns as the U.S. economy regains its health, says Robert Hartwig, chief economist at the Insurance Information Institute (III). Based on the early robust trading in stock markets in January, he believes equities may produce a modest recovery this year while the performance of the bond market should improve markedly around mid-year when current U.S. economic stimulus actions are expected to provide a kick-start to the economy. “It’s possible we will see an increase in investment return in 2003 in that interest rates have bottomed out, and may even show an uptick this year…and going by January [stock market activity], there may be a modest recovery in equities this year.”

Whether 2003 will provide the desperately needed break to the investment market doldrums depends to a large extent on U.S. government policy, Hartwig observes. Should the “Bush economic recovery plan” be implemented, which rests largely on eliminating dividend tax, this could stimulate investor interest and encourage stock companies to increase dividend payments. In turn, a broad recovery in stock markets could spur economic growth. The danger of the Bush economic plan, Hartwig points out, is that it may ultimately result in higher government budget deficits which in turn could negatively impact the capital value of bonds (insurers hold about 80% of investments in bonds, with a high exposure to government issued debt). Assuming that there is a recovery of sort in the equity and bond markets this year, insurers will have the additional benefit of investing from improved cashflows as the effect of higher premium rates begin to take hold, he adds.

The U.S. property and casualty insurance industry’s net investment gain, including investment income and realized gains, dropped by 15% year-on-year for the first three quarters of 2002 to US$29.5 billion. The slump in investment performance for the first nine months mainly resulted from a 54% decline in realized gains. Investment income fell by 5.4% to US$26.4 billion for the same period (although the reduction in investment income was, percentage-wise, far more modest than the dramatic drop in realized gains, the reduction in interest-based income had a much greater impact due to the industry’s significant investment in bonds). As such, Hartwig notes that the meltdown of stock markets has had less of a negative impact on insurers than other financial services sectors. “There is a popular misconception that the industry’s [investment] problem has been due to the collapse of the stock markets.” Furthermore, the significant decline in insurers’ realized gains for the first three quarters of last year provides a distorted perspective of the industry’s true investment position. Many insurers held back last year on making realized gains in order to achieve better future value on their equity holdings, he adds.