Shifting sands in commercial property insurance: Underwriting, capacity, and market trends

Hello everyone, welcome to Insurance Business TV and the Q3 edition of our Property Insurance Power Panel. In this roundtable we'll be looking at rates, deductibles, capacity and exposures and our experts for that journey are Fred Zutel, President of Florida P&C at Lockton Companies, Michael Korn, National Property Practice Leader at Epic Insurance and James English, Managing Director and Property Practice Leader at Galaga, Great Lakes and Midwest Region. So welcome everyone and let's set the scene for our viewers with our opening question. With US commercial property rates declining around 4% in Q4 2024, modest single digit increases in Q1 2025, how are carriers altering underwriting criteria for those older or higher lost properties? Michael, what are you seeing? Yeah, generally speaking, in the softer market impacts all locations, you know, all to some degree, all boats rise and sink together. So the tougher locations and tougher perils remain tougher on a relative basis, but even though they might see higher prices, they're certainly not as high as they were two years ago before we started to see the softening trend. And I would say that terms and conditions remain firm, underwriters are showing a lot of discipline around terms and conditions like deductibles and sublimates and policy wording. And so far this soft market really seems to be one of pricing more than it does softening of terms and conditions. I like that idea of a price-focused softening. Fred, is that being applied in the cat exposed areas as well? I think so, but I think to a much greater degree than what you're seeing nationally, meaning that the 4% or so that we saw on a national basis in terms of decrease probably is somewhere closer to 20 or 30% in areas like Florida or highly cat exposed area. And as it pertains to older or higher risk properties, just like some of those properties were the first to be impacted in a hardening market, some of those assets are the ones where you see the greatest decreases in price and increases in capacity that carriers are willing to offer. So James, overall insurers willing to put up more capital here? Absolutely. Building on the comments you've already made, we're seeing a combination of two things. Prices are coming down and we're seeing individual insurers offer more capital, more capacity to programs in an effort to maintain some level of market share. So to the comments made, terms and conditions relatively similar, but we're seeing a movement both in pricing and amount of capacity or capital insurers will put on an individual program. Let's zoom in on deductibles as well, if we can. Fred, have you seen a rise in percentage-based deductibles replacing those fixed dollar deductibles, particularly for catastrophe exposed properties? And indeed, if so, how are clients reacting? I think that over the very long term, 10 years plus, we've seen a rise in percentage-based deductibles. I think that in catastrophe exposed areas, those percentage-based deductibles have become the industry standard. And during the hardening market, we actually saw a lot of those percentages go up. I think that what's starting to happen now is that you're seeing these applied to other areas as well. And of course, clients are not delighted by hearing that news, but the impact of that is mitigated or the blow of that is softened because we're still seeing pricing decreases, which at least brings some level of a glimmer of hope and relief to those clients that so desperately are looking for reductions. I suppose when we're talking about cat exposed areas as well, James, it's becoming increasingly important to actually define what those are. Absolutely. So a couple of things here in the Midwest where I'm based, we're seeing the underwriting community attempt to define more of the upper Midwest for severe convective storm. And by nature, they're defining severe convective storm to include both hail as well as the tornado. And those two events have very differing damage patterns. So the percent deductible application really needs to be well thought out. We use a tool in the industry, and I'm sure Fred and Michael are very familiar with it, per unit of insurance application of percent deductibles is an important step in that arrangement. Another one is making sure it's clear whether those percent deductibles apply and the dollar amounts apply per location or per occurrence, because that can make a huge difference. As you're talking there, James, I can see Michael nodding along. You're very much in agreement? Very much in agreement with what both these guys said. There is certainly an increase due to global warming in what we used to refer to as secondary cap perils, hail, tornadoes, derechos, and those are sort of grouped together in the severe convective storm label, becoming much more frequent. And deductibles are the tool that underwriters use to normalize frequency. And that's what we're seeing with the implementation of percent deductibles on these perils. I think I read that the first half cap losses in the U.S. is coming in around $85 to $100 billion. And when you compare that to the 25-year average of $41 billion, you can see that there is a definite increase. And you take out the L.A. fires from that, and really the majority of what's left have been the severe convective storm losses. So that's really where we're seeing a focus from underwriters on increasing deductibles. But we're also seeing on traditional named windstorm deductibles, those percentages going further inland. So maybe beyond tier one or tier two are now starting to see some percentage deductibles. Obviously, as well, seeing something of a capacity influx at the moment, whether that's via more reinsurance, cap bonds, shared layered programs. James, from your perspective, what are clients doing differently to leverage the expanded options effectively? So if you think about capacity and capital, there's really two ways it comes into play. One is expanded appetite of an individual insurer by perhaps having more reinsurance available to them. And the other is to have two or more insurers step in and bring new capital to the marketplace. While we've seen some new capital come into the marketplace, the vast majority of increased appetite is from current insurers looking to maintain market share. So three to five years ago, it might take four or five insurers to place a program. Today, you may get a single insurer or two that step in and offer to write the entire program. So you have an ability as the buyer and as a broker, you have the ability to perhaps reduce the number of insurers that are required to provide the coverage you need. You have the ability, in some cases, to buy more coverage limits if you feel you need those, or you have the ability to use those metrics as leverage to reduce the cost you're paying, the rates that you're seeing on your program, which is what we were talking about earlier. Okay. And Michael, from your perspective, how do we take advantage of this softening market? Well, to take advantage of it, you got to go to market, right? You have to be out there. As James said, you have to get things right from a presentation standpoint, and then you take that data out to the underwriting market. It's definitely a competitive situation. And when you think about the market, you need to expand beyond traditional risk transfer. You have to think about some of these alternative risk techniques, especially parametric solutions, which were sexy and everybody wanted to check them out the last five, 10 years, and not many people bought them. Well, they've become commercially viable now. So we're seeing them used on many more programs than in the past, and they really should be included on the risk where they might offer an advantage. And just remember that incumbents, incumbent carriers don't want to lose a piece of business that they control. So oftentimes just the threat of competition will help them sharpen their renewal pencils. Yeah. I love that description there from Michael Fred about the increased competition that we're seeing. Do you think that's really forcing the carrier's hands? 100%. I think we're in a very dynamic market, and I think that you can really push insurers to start to do things that were out of their comfort zone or completely off limits two or three years ago. So we talked about more capacity being offered by the same carriers, but other things that they're doing is looking at, for example, placing longer term policies. We've also seen a lot of cancel rewrites where a set of carriers or an existing carrier that's on an asset is willing to waive minimum premium and rewrite a policy at a lower rate midterm. So I think it's really incumbent upon the brokers to make sure that they're exploring all possible avenues and thinking outside the box because the insurance companies, as noted before, do not want to lose the account. They all have growth targets, and just because the overall price of insurance is going down doesn't mean that they don't have those competitive pressures impacting their financials. Let's switch base a little bit if we can, and let's talk about clients' insurance-to-value assessments and the coinsurance exposures as well. Michael, how are these being affected by rising reconstruction and material costs, although they do appear to be stabilising somewhat? Yeah, I'd say inflation certainly has stabilised compared to what it was two or three years ago when we were seeing massive increases in values. I don't think that the tariff situation has played out fully yet. We haven't really seen it come through in a major way. I think that's a delayed reaction. In other words, I think it could get worse if a lot of the proposed tariffs are actually implemented. So one thing or two things that the clients really need to think about in relation to that are margin clauses that they may have on their policies and OLLIs, which are occurrence limit of liability endorsements. The margin clauses will state you've got a 10% or 15% margin clause. And what that means is that that's 10% or 15% above what you reported on your schedule of values. So if you reported a million-dollar building, well, a million-one is what you're going to get if you've got a 10% margin clause. The occurrence limit of liability endorsement is more restrictive than that. It says that the most you're going to get indemnified for is what you have reported. So even if you did a great job of reporting values on your schedule of locations, if nine months later these tariffs have kicked in and now it costs 20%, 30%, whatever, percent more to replace that building, you're going to have a problem on your policy and the industry needs to figure that out. Okay, lots for the industry to think about then. Fred, and I imagine for you, a lot of your clients are developers. Many of them are. And I think that, look, there's been a lot of headlines around tariffs and the potential of increasing construction costs, but I think that most of the organizations that we've spoken to think that if the worst were to come to pass, the impact of those tariffs on construction costs is somewhere between 7% and 10%. And so I think that if you think about insurance to value, I feel that a lot of that got right-sized maybe three years ago when that was a very big industry headline issue. And so the impact of that, I don't believe would be as great as whatever it is that occurred two or three years ago. And so I feel that while important from a pricing perspective, it is a secondary point. Okay. James, from your perspective, tariffs are a big variable here? They certainly are a big part of the equation. Another one, though, that is not getting as much press is labor costs. And labor costs building into the overall replacement costs can be a factor in two ways. One, increased cost of the labor itself, and two, reduced availability of labor. And that may be driven by just sheer demand or it may be driven by governmental policy, but we're seeing a situation where labor costs will factor into what it's going to cost and how long it takes to build or rebuild a location. Building on what you had heard a minute ago from Michael, keep in mind when we talk about margin clauses, we talk about the cost to replace something. We had a brand new building that was completed yesterday and had a total loss tomorrow. The cost of that replacement would be greater than 100% of the value being reported because you're going to trigger coverage extensions for which we don't report a value nor are we obligated to do so, but those get triggered in a total loss. So you think about things like debris removal, increased costs of construction, et cetera. These are things that will add 10, 20, even 25% to the replacement cost. So looking at what was said already, these are drivers. It's an important time to buy appropriate limits and the cost of those increased limits are negligible to the overall equation. I strongly recommend if you've got valuation limitation, margin clauses, recurrence of liability, or even coinsurance, this is the time to correct those. This is a period where you can get your values corrected and pay in fraction of what it would cost you to do that even two or three years ago. I want to answer a great message to send to the markets. And just one final question to throw at each of you. I'd love to know which commercial risk classes, so maybe we're talking about vacant offices, senior affordable housing, wood frame buildings, which of those continue to provoke restrictive underwriting or placement in the E&S market in particular? Fred, any thoughts on this? I would say all of the risk classes and asset classes that you mentioned are typically the domain of E&S markets in catastrophe exposed areas. And so I think that just like when the market was hardening, you saw a big pullback or incapacity or increase in price with those asset classes. I think we're seeing some of that this often. That's not to say that it's not more restrictive on a relative basis and everything else. Look, at the end of the day, insurance companies start with broad brushstrokes. Their underwriting is typically done at a very high level. It's our job, the broker's job, to provide an accurate picture of whatever that asset is and really get granular with the data so that we can differentiate that asset and get the most accurate and best pricing. And those fundamentals of insurance broking in a softening market are more important than ever. And James, it looks like you agree with those comments. I certainly do. It's an information-driven marketplace. Better data is going to get better reward. You're reducing uncertainty to the underwriters. That's what they're looking for. Absent really good information, an underwriter is going to fall back to what they know. They're going to fall back to the most recent risk of a similar occupancy that they wrote. And in some cases, a not so flattering comparison to maybe a bad experience. So it's important to distinguish your risk and risk profile to that of your peers or more concerningly, that of which the underwriter most recently worked on. Okay. So overall, Michael, would you say that those tougher classes are not getting any easier? I agree. I think regardless of the market conditions, be it soft or hard, a tough risk remains a tough risk, right? And you asked about the E&S market in your question. I think that the E&S market by its very nature is the natural home for some of these tougher risks. And it remains so even as the market softens. Direct writers may increase the percentage of a portfolio that they would allow for these tougher things. If somebody said, well, I can't have more than 10% of my portfolio being frame ham. Well, maybe in a softer market, that's 15%. But these tougher risks never really become the target for the direct underwriters. That's really what the E&S market is for. Made some wholesalers happy there. A great way to wrap things up. And indeed, huge thanks to all of you for your time. Remember our property insurance power panel will return in Q4. But until then, keep it right here on Insurance Business TV.