Indian property insurance market - key trends

Historical Perspective:?

Property insurance in India has a long history of close to a century ranging from the pre independence era.?

The passage of the Insurance Act in 1938 is the first key legislation that gave a legal and regulatory structure to the insurance market in India, particularly the property insurance market.?

Some of the key aspects of the Insurance Act of 1938 and the attendant Insurance Rules 1939 framed thereunder, include the cash before cover (or the Sec 64 VB) that gave comfort to the insurance companies, the assurance of receipt of premium before assumption of risk, which continues to this day. This is kind of a luxury not available in many markets across the world where insurers have a huge issue of collections and enforcement of premium payment warranties.?

Aside from Sec 64 VB, the other key provisions included solvency margin, capping on expenses of management, maintenance of premium and claims registers and prohibition of rebates, to name a few.?

The Insurance Act enactment in 1972 set a base on which property insurance developed in India until the nationalisation of insurance companies.?

In a socialistic market outlook which was the defining economic theme in the 1970’s and 1980’s, the property market developed primarily around tariffs, which set the rules and regulations for conduct of business.?

The tariffs were developed and owned by the Tariff Advisory Committee (TAC), a statutory body set up under the Insurance Act. The rules were amended from time to time based on feedback from the market.?

The system was not nimble to changes that were required to meet market needs, but that is the nature of such price administration systems, which prioritise stability over dynamism.?

The next stage in the property insurance market development, comes with the economic liberalisation in the 1990’s followed by reforms in the financial sector, establishment of Insurance Regulatory and Development Authority (IRDA), leading upto opening of the insurance industry to private competition in 2000.?

However, the property insurance market continued to remain tariffed until 2007 after which pricing freedom was given to the insurance companies, with terms, conditions and wordings remaining regulated by IRDA instead of TAC, which was converted into the Insurance Information Bureau (IIB) tasked with being statistics repository for the market.?

Experience of Detariffing:?

As was widely expected, the free pricing regime led to dramatic fall in rates across the board. Even though insurance companies were required to file their rating logic with the regulator, get prior approval and apply the same in the market, that did not pan out as expected.?

The abundance of reinsurance capacity with the expectation of double digit growth of premiums, despite sum insured exposures going up, led to overheating of the competitive forces in the market. The file and use system did not work to arrest the steep decline in the pricing that followed.?

With deteriorating loss ratios from 2010 onwards and the Thailand floods that followed, the reinsurance market hardened.?

Market corrections:

Demands for better sanity in pricing, particularly on increased Natural Catastrophe losses, led to the introduction of minimum rates for flood and earthquake perils in 2011. Prior to this, the market also adopted a minimum deductible regime applicable to property and engineering lines of business in 2010.?

The minimum rates for Natcat perils, led to further erosion in non-Natcat fire premiums, leading to negligible or often no premium being charged for these perils. Essentially, the market started operating just on Natcat rates for all the fire policy perils put together.?

Average rates had been dropping despite underlying risk exposure and claims inflation going up year on year.?

The General Insurance Council was quite actively nudging the insurers to adopt a burning cost approach to pricing. Based on the efforts of the Council and the IIB, the first attempt at publishing burning cost for the industry was made and rates for a limited number of occupancies as per erstwhile tariff were published.?

The IRDA, concerned by the unsustainability of rates in the property market, instructed the insurers to adopt the industry burning rates or develop their own system of internal burning costs to be adopted. However these instructions also did not help to address the situation.

Market Hardening:

A key reason for the burning cost regime not holding in the market has been the abundance of proportional reinsurance capacity for the players.?

Though the national reinsurer, GIC Re had introduced measures such as loss participation clause, which requires the cedant to partake of losses, if the treaty loss ratio exceeds a certain threshold, that did not result in pricing correction.?

Usually such restrictions do not yield a price correction but only suppression of capacity which is compensated by over supply of cheap, non technical capacity in abundance in the market.?

It was realised by the reinsurers that pricing cannot improve unless the reinsurance capacity was not linked to pricing. Hence the reinsurers amended the market treaties to the effect that the capacity is contingent on minimum rates as published by IIB being charged with loading for Natcat perils.?

Present situation:?

The linkage of IIB burning rates to reinsurance capacity had the salutary effect of improving prices that were highly anaemic. However this came at some cost and negative impact on the market.?

The IIB rates do not reflect the exposure on any given risk as it only considers the claims outgo on an occupancy. Absence or insufficiency of claims over time in a particular occupancy does not necessarily mean the exposure is lower. There need not be correlation between claims incidence and exposure.?

The IIB rates were expected to be minimum rates for an average occupancy based on market claims experience and were to be loaded suitably for exposure. However, the competitive forces in the market ensured that the minimum rates were also the maximum, resulting in a de-facto tariff being imposed on the market.?

The charging of same rates without risk discrimination based on qualitative aspects goes against the grain of sound underwriting. This results in lack of incentivisation of risk management practices being followed by insured and resultant loss reduction that benefits the underwriter.?

In this context, the rates being charged for Natcat perils and the deductibles being applied need to be looked into. With increased severity of Natcat losses to be expected in future arising from climate change, environmental pressures and other factors, the sufficiency of current rates and deductibles is a big question mark.?

Way forward:?

The challenge with the Indian property insurance market has been to balance the need for growth in the written portfolio with maintaining risk adequate premium rates.?

The reliance on IIB burning cost gives a false sense of comfort that the rates charged are adequate for the exposure disregarding other considerations. There is always a lag between the generation of burning rates via a vis actual loss development.?

Indian market needs to find a way to move towards risk based pricing based on underwriting fundamentals rather than a fixed benchmark pricing based on IIB. One can hope that with maturation of the market this aspiration would be fulfilled in future.?

This article appeared in the August 2022 issue of Corporate Connect Newsletter of SBI General Insurance.