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The Underwriting Profits of a Property and Casualty Insurer

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P&C insurers

A property and casualty (or P&C) insurer covers the policyholders from risks such as damages to property due to fire or weather, or from liabilities, as in the case of automobile insurance or workers’ compensation insurance. Key players in the United States include AIG (AIG), ACE (ACE), Allstate (ALL), Travelers (TRV), and Chubb (CB). P&C insurers are also held by ETFs like the Financial Select Sector SPDR ETF (XLF). For more information on P&C insurers, please read our series: An investor’s guide to the insurance business.

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Underwriting cycles

The property and casualty insurance business is cyclical in nature, primarily due to the commodity nature of P&C products. The business cycle, also known as the underwriting cycle, alternates between two phases: the hard market and the soft market. A hard market implies a period of higher premium rates and higher profitability, while a soft market is characterized by higher competition among players resulting in pressure on pricing and consequent lower profitability. We’ll discuss this in detail in the next article.

Combined ratio

The combined ratio is a measure of underwriting profitability of the business, calculated as the ratio of underwriting expenses to the premiums received. A combined ratio above 100% implies an underwriting loss, while a ratio below 100% means an underwriting profit.

As an example, we show the evolution of the combined ratio in the personal automobile insurance industry in the above chart. As we can see, the industry has consistently made underwriting profit since 1Q13, while the period prior to that saw the industry making underwriting losses. The evolution of the combined ratio of the P&C insurance industry outlines the cyclical nature of the business.

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