Why Do Commercial Real Estate Risks Continue to See Substantial Rate Increases?
The rates continue to climb due to a number of reasons. In 2018 Hurricane Michael caused insured losses of about 13.8 billion which started the tightening of the reinsurance market and carriers looking for strategies to reduce the losses they were experiencing. The following few years as we all know had many unforeseen large weather events, covid shutdown, wildfires, civil unrest, supply chain disruptions, and rapid inflation to name a few. In 2022 Hurricane Ian resulted in a current estimate of 113 billion insured losses.
Reinsurance
All of these items reduced the profitability of the property market for insures and many carriers exited certain segments of the market. The carriers that stayed in the market reduced the amount of limits (capacity) they wanted to provide to individual insureds based on the characteristics and location of the property being insured. Insurance companies started to purchase reinsurance on all their property risks. Reinsurance is insurance for insurance companies. It’s a way of transferring some of the financial risk insurance companies assume in insuring property to another insurance company, the reinsurer. For example, an insurance company might insure commercial property risks with policy limits up to $10 million, and then buy per-risk reinsurance of $5 million in excess of $5 million. In this case, a loss of $6 million on that policy will result in the recovery of $1 million from the reinsurer.
Over the past few years reinsurance costs have drastically increased and reinsurers also lowered their capacity. A risk in a soft market could have one insurance company provide their entire limit versus the hard market we are in today which requires insureds to have multiple insurance providers for that same limit. These additional reinsurance costs are usually passed through to the insureds.
Replacement Value
In addition to reduced capacity, the insurance market was forced to address the replacement value of properties that has been an issue for many years. Most insurance contracts require the insurance company to replace a damaged building based on
the actual replacement costs at the time of the loss. Inflation, supply chain issues, and higher construction costs (labor, material, lead time) are some of the factors that caused replacement costs to soar over the past three years. Most insurance policies had values that had not been increased for many years. Losses started to mount that far exceeded the insured value of many buildings. Insurance companies now are adamant that insured property values be increased up to current costs. Increased primary insurance costs, reinsurance costs, and increase in property values all caused by the previously mentioned factors are what drove the drastic increases in the property market over the past few years.
Market Factors
About 12 months ago many market analysts expected that adverse market factors (Inflation, natural disasters, property valuations, capacity issues, etc.) would decrease and the upward pressure on reinsurance rates would moderate. If some of these factors improved it was expected that we would see low single digits premium increase in 2023. These adverse price drivers did not moderate as expected. January 1st is a big renewal date for some insurance carriers reinsurance contracts. The reinsurance rates did not moderate do to the factors mentioned previously not improving. This is resulting in property rates continual increase for another renewal cycle. Insureds feel that if they are not in a coastal, wildfire, flood, wind or earthquake region, etc.—that they should see premium decreases. All insureds are effected in a hard market when reinsurance rates rise and capacity decreases. Premium increases are much higher in the regions with catastrophe exposures but all insureds are feeling the price pain in the current market.
It is best to start your analysis early so there is plenty of time to review your risk management practices and tolerance of risk. The structure of the limits, use of deductibles, and negotiated terms and conditions will assure that you are provided the most comprehensive and competitive property insurance program in this volatile market.
To learn more about the intricacies of reinsurance and other property cost drivers, contact Henderson Brothers Today.
Please note that the information contained in this posting is designed to provide general awareness in regard to the subject matter covered. It is not provided as legal, medical, or tax advice, nor is it intended to address all concerns in your workplace or for public health. No representation is made as to the sufficiency for your specific company’s needs. This post should be reviewed by your legal counsel or tax consultant before use.
