The up-tick in equity markets may leave lawyers in the lurch. We all waited for litigation to surge following the financial crisis, with plaintiff attorneys chasing professional liability policies on behalf of shareholders feeling wronged. The spike suspected by the insurance industry never materialized, though, according to Aon Corp (AON). As a result, insurance and reinsurance pricing for this sector is likely to stay under control.In the first nine months of this year, securities-related class action lawsuits fell in the U.S. -- substantially. Only 130 were filed, a decline of 20% from the same period in 2008. Only 49 of the claims this year were related to the financial crisis.
Because of this development, prices for professional liability insurance are likely to fall next year -- or at least grow at slower rates (depending on a company's specific situation). Directors and officers (D&O) insurance pricing fell 2.7% in the third quarter of 2009 compared to the same period in 2008, according to Aon's Q3 Quarterly D&O Pricing Index. Companies active in this space include American International Group (AIG), Chubb (CB) and XL Capital (XL).
The index puts financial services industry D&O pricing up 3.2%, which follows double-digit price hikes for D&O insurance in the four previous quarters for companies in the S&P financial institutions sector, which consists of banks, insurance, real estate and diversified financial companies. Without the financial companies, D&O pricing was actually down 4.9% year-over-year.
Chubb's Chief Operating Officer John Degnan revealed that D&O claims were down 5% in the third quarter. On a conference call in July, he observed, "The predicted wave of directors and officers litigation does not seem to be materializing yet."
Michael McGavick, CEO of XL, adds that investors won't have an easy time pursuing damages from financial institutions that misread the subprime mortgage market because, "Being collectively stupid is not a basis for a lawsuit."
The result is that insurance coverage to protect against shareholder litigation may be coming down. "The decreasing number of claims may signal an end to the litigation explosion for financial services firms," said Mike Rice, national practice leader of Aon's Financial Services Group and author of the Quarterly D&O Pricing Index. "In 2010, we expect the market for D&O coverage to continue to soften for financial institutions as well as most of the other industry sectors."
Lower prices, market stability and fewer claims are likely to reach up the risk management supply chain to the reinsurance market. The Jan. 1, 2010 renewal is coming quickly, a major event for the industry. Last year, capital for financial institutions' professional liability risks was tight, pushing prices substantially higher, and the trajectory seemed to point toward severity at the reinsurance industry's annual conference in Monte Carlo back in September.
At the time, financial institutions' professional liability lines of business seemed to be poised to spike. Richard Booth, vice chairman of reinsurance broker Guy Carpenter, a division of Marsh & McLennan (MMC), said at the event, "A multibillion dollar claims pipeline has formed for D&O and E&O [errors and omissions], which could take years to run its course." He noted that in early 2009, "FI lines and homebuilder D&O and rating agency D&O have seen rate increases in some cases of 500% or more."
The D&O market looks a lot different from a year ago. The drop in lawsuits will keep claims from skyrocketing, protecting insurer and reinsurer balance sheets for yet another year. Yet, this is likely to put pressure on revenues for these business units in the year to come.