Ogden discount rate change will trigger hikes to reinsurance pricing

Insurers exposed to UK liability business face big hikes in their reinsurance pricing and continued uncertainty as a result of recent changes made to the personal injury discount rate in the UK despite many having already reported sizable one-off reserve charges in recent result, according to AM Best.

The report, called Ogden Update: Insurers Unveil Impact Of UK Discount Rate Change, but Uncertainty to Continue, notes that because a large proportion of motor reinsurance business does not renew until the beginning of 2018, and the UK government’s consultation programme to consider the discount rate setting process is unlikely to reach an immediate conclusion, insurers face uncertainties with respect to the ultimate level of claims payable going forward.

In February, the UK’s Ministry of Justice unveiled a dramatic cut to the discount rate used to calculate lump-sum personal injury compensation from 2.5 percent to minus 0.75 percent, following a review of the Ogden tables. The change took effect from March 20, 2017.

AM Best has analysed 2016 and first-quarter 2017 results published by insurers exposed to UK liability business, and as expected, UK motor insurers have been most severely hit, with many domestic insurers announcing reserve increases in their 2016 results.

As yields on UK gilts had fallen sharply since 2001 – when the rate was previously set – most insurers had anticipated a reduction in the discount rate to between 0.0 percent and 1.5 percent.

AM Best notes that the extent of the change was far more severe than expected. Most insurers had reserved on the assumption that the rate would fall, but not into negative territory.

Catherine Thomas, senior director, said: "Companies have been affected to different degrees by the change to the discount rate. However, for AM Best-rated entities, no actions have been taken on insurers or reinsurers as a direct result. Most rated companies are not purely UK personal lines insurers but are relatively well diversified, and are able to absorb the reserve strengthening within large and varied portfolios."

The ability of earnings to absorb the immediate impact of the discount rate change depends on the level of reinsurance purchased, which varies considerably across the market, and the level of diversification in portfolios.

At the April 1 renewal period, there was anecdotal evidence of sizable rate increases, although the impact of rate changes is expected to be staggered over the coming months. Reinsurers underwriting excess of loss policies are expected to push through significant rate increases, and as a large proportion of UK motor reinsurance contracts do not renew until Jan. 1, 2018, the full impact of reinsurance rate increases remains to be seen.

AM Best expects most insurers to have adequately strengthened their reserves, and the most pressing issue now will be how the discount rate will be set in the future.

Yvette Essen, director, research and communications, and author of the briefing, also noted: “It was initially expected that a governmental review would be conducted relatively quickly; however, the decision to hold a general election on June 8, 2017, has increased uncertainty regarding timing. Prospective movements in the discount rate and their impact on claims costs are important considerations when reserving and pricing future business. Should the review be prolonged, it will create uncertainty.”

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