The challenges of being a small regional insurer

In a recent article, Traci Boland, chair of the Insurance Brokers Association of Ontario, commented that ‘the sophistication of technology for rating overland flood could conceivably lead to smaller insurers ending up with a disproportionate share of flood risks’. As noted by Ms. Boland, a challenge facing smaller insurers is that large insurers using sophisticated modelling techniques can do a better job of sorting the good risks from the bad when it comes to the hazards of sewer back-up and overland flooding. As a result, smaller companies without access to these same modelling techniques could end up writing a large portion of business in higher-risk areas.

The challenges facing small personal lines insurers certainly include the problem of adverse selection of water damage exposures. But the challenges don’t stop there.

MSA Research Inc. has published a report comparing the results of the top three insurers (Intact, Aviva and Desjardins) to the results of all other insurers. Since 2011, these three companies have almost doubled their premium volume. During the same period, the premium volume for all other insurers has remained the same. The three behemoths, as MSA Research calls them, now represent more than one third of the direct written premiums in Canada. These three insurers have also outperformed the rest of the industry in terms of direct loss ratios, net loss ratios, expense ratios and returns on equity.

The strategic question for smaller companies, especially small regional personal lines insurers, is how to compete with the ‘behemoths’ so as not to get left behind. A small insurer that relies too much on its own in-house resources could find itself shut out of the advantages enjoyed by the larger players that have the resources to invest in advanced analytics and fintech.

Beside the advantage of better selection of water damage risks, what are the trends in the marketplace that are giving an advantage to the bigger insurers with deep pockets?

• Direct channel: Especially in personal lines, some consumers are turning away from brokers in favour of dealing directly with the insurer. Some of the large insurers are either exclusively direct or have created a direct channel in addition to their traditional broker channel. For a small insurer, the creation and maintenance of a direct distribution channel can represent a large financial challenge.
• Digital presence: Certainly for companies that deal directly with the public, but even now for companies that deal through agents and brokers, it is becoming critical to have a robust digital presence in the marketplace.
• Individualised pricing: With size comes that ability to hire the teams of actuaries needed to develop sophisticated rating algorithms that base a consumer’s insurance premium on a wide range of factors. This allows a large insurer to develop highly competitive rates to attract the very best risks. Their competitors can then end up writing a disproportion share of the residual market.
• Telematics: A large insurer has the ability to make the necessary investment in telematics technology, aiding the insurer in identifying the best of the best drivers, and pricing accordingly. Telematics also allow insurers to consider usage-based pricing.
• Blockchain: Although the application of this emerging technology is still in its early days within the financial industry, a large insurer has the resources to invest in this technology as a way of combatting fraud and as a means of improving its processing through the use of smart contracts.
• Climate change: A large insurer will end up being affected by virtually every storm that comes along. The difference is that the large insurer has the geographic spread of risk that protects it from being wiped out by a major weather event in a relatively small geographic region. A small regional insurer, on the other hand, is vulnerable to being severely impacted by a local weather-related catastrophe.

We live in a time of great change. Size seems to matter when it comes to adapting to these changes. Large players have the financial resources to invest heavily in analytics and in emerging technologies. Unless smaller insurers are able to overcome this disparity, as time goes on, the greater resources of the large players will likely work more and more to the disadvantage of smaller players.