SPECIALTY LINES MARKETS

As the market turns

Property/casualty industry keeps a close watch on D&O for financial firms

By Phil Zinkewicz

Fans of the comedy team of Abbott & Costello will remember a routine they did called “Slowly, I Turned.” The idea was that a mentally deranged person would go berserk each time a certain word was used—usually the name of a city—then would menacingly approach Costello and say, “Slowly, I turned. Step by step. Inch by inch,” and then begin beating up on Costello. The joke was that Costello would get caught up in mentioning the name of the city over and over and thus continue to get beaten up.

Well, it’s no joke for property and casualty insurers that, while the market remains soft, there are signs of a turnaround, but that turn is coming slowly—state by state and line by line. For example, workers compensation in California has become a hard market. And, directors and officers liability for financial institutions has become a challenge for brokers who are trying to place the coverage for clients.

A recent pricing index released by Aon Corp.’s Financial Services Group said that D&O liability insurance costs for the S&P Financials Sector increased 50% in the fourth quarter of 2008 compared to that of 2007. Aon experts believe that a number of unprecedented events contributed to the significant price increases, including:

• The U.S. Department of Labor reported that 1.3 million jobs were lost from October 2008 to December 2008.

• Bernard Madoff was arrested and charged with securities fraud after it was revealed that his securities business was a scheme resulting in investment losses estimated at $50 billion and affecting as many as 3 million investors. Madoff has been incarcerated for life for perpetrating the fraud.

• The Dow Jones Industrial Average, S&P 500 Index, S&P Financials Sector Index and the NASDAQ Composite Index all closed down significantly for the year.

• Stanford Law School’s Securities Class Action Clearinghouse announced that 225 federal securities class-action lawsuits were filed in 2008.

The Aon index showed that the average price for $1 million in coverage limits increased 3.15% from fourth quarter 2008 compared to fourth quarter 2007. Aon said this was the first time in 21 consecutive quarters that prices have increased year over year and the first time since 2003 that price increases in the financial sector have been significant enough to move the entire index. This is true while D&O rates for non-financial sectors actually declined by 6.3% in the first quarter of 2008 compared to the same period a year earlier.

“In the short term, we expect to see D&O pricing for the financial sector continue to rise,” says Mike Rice, managing director of Aon’s Financial Services Group and author of the Quarterly Price Index. “It is possible, however, that a tough underwriting environment could emerge for all public companies as the economy continues to negatively impact both financial results and stock prices.”

A report by the American Banker also suggests that D&O premiums, depending on the coverage type, increased between 15% and 40% since last year.

Rough Notes spoke with Peter Dean, principal and owner of the insurance brokerage firm AH&T. As one of the largest insurance brokerages in the country, AH&T is employee-owned, with offices in Leesburg, Virginia, and Seattle, Washington. Dean confirmed that D&O insurance for banks and other financial institutions is a challenging proposition for insurance brokers at the present time.

Prior to joining AH&T, Dean was an account manager and underwriter for a national carrier. His responsibilities there included the role of portfolio manager for the Fidelity and the Employment Practices Liability book of business in the Mid-Atlantic. Those books accounted for more than $50 million in premium. He currently sits on the board for Sonabank, a NASDAQ-traded bank based in Virginia.

“Underwriters are really looking at what they have on their books, account by account,” he says. “Carriers are pulling back on capacity and trying to obtain serious rate hikes for D&O in the financial community. A good deal rests on each account’s performance. For the last three years, an account might have been paying $150,000 for a $5 million limit. But if that account has not performed well, that rate might shoot up to $500,000 for the same limit.”

But, Dean points out, each financial institution—a bank, broker dealer, hedge fund, investment bank, etc.—is being looked at differently by underwriters. “Some D&O under­writers don’t want to write new business and some are non-renewing old business. Fifteen months ago, things were very advantageous for financial institution buyers of D&O insurance. Now, things are very difficult. The market has turned on a dime.”

The AH&T executive says there’s no way of pinpointing which areas of the financial community are being hit the hardest in terms of D&O rate hikes. “Again, much depends on past performance. Publicly held financial institutions are bigger D&O lawsuit targets because of shareholder lawsuits. Securities claims are particularly hitting the banking industry.

“Broker dealers have always been the most difficult to place—especially those that might be tied to hedge funds—and those that are publicly held are even more so today,” Dean continues. “But we have to go on a case-by-case basis. Some carriers are getting out of D&O for financial institutions. Other niche players, who understand the different areas, are staying in, but there will still be severe rate hikes. We recently had one client whose past performance was pretty good and we still had to approach nine carriers for coverage.”

Dean says that when a broker’s clients are looking at 50% to 100% increases, that broker has to work pretty hard to demonstrate to that client that he or she is being treated according to market conditions. “It is essential for buyers of D&O insurance in today’s market to seek out professional brokers. Small financial firms that get their coverage out of Uncle Jimmy’s store front could be in serious trouble. We’re seeing a lot of bad work out there. We’ve had to clean up a lot of messes. Having a generalist is not good because the generalist doesn’t really understand what the client’s risks are.

“I know what the differences are between a functional board and a dysfunctional board of directors,” continues Dean. “By understanding the client, we bring a pragmatic approach to placement.”

Finally, Dean says that his firm is seeing a large number of D&O suits for wrongful termination. “People are out of work and they can’t find new employment. They get angry. Wrongful termination lawsuits are more closely related to the economy, and that’s the reality.”

But whatever the reasons, the D&O insurance market for financial firms is no longer soft—probably won’t be for some time—and will likely get harder.