Excerpted from National Real Estate Investor 2020 Outlook issue.
We are presently in the most challenging insurance market for commercial real estate in recent history. Insurance rates are expected to continue increasing into the first half of 2020 as market conditions did not begin to truly harden until the second half of 2019.
This market shift was inevitable, but the resulting change has come more quickly and severely than anticipated with the market still changing on an almost weekly basis. This hardening market is impacting the multifamily sector and portfolios with significant losses and low insurable values the most.
This correction traces back to the beginning of 2017 when the industry was in a soft market with rates at a 15-year low. During this time, property carriers were already struggling to underwrite accounts profitably due to an increasing volume of attritional losses from fire, water damage, hail and wildfire claims. The frequency and severity of these attritional losses were consistently higher than expected however carriers were able offset these losses with the Hurricane premiums they were charging on their catastrophe exposed (CAT) book.
The situation grew more dire for carriers at the end of 2017 and 2018, which went on to become two of the top three worst years for the industry with over $150 billion of insured losses. Having incurred billions in losses, carriers either stopped writing real estate accounts, reduced their capacity, or increased their rates.
When capacity is in short supply and demand is high, carriers are in a position where they can dictate pricing and terms, resulting in higher premiums, higher deductibles and lower coverage.
The graph below provides a good depiction of why a change in the property market was inevitable, as it compares historical property rates (green line) to insured losses (orange bars).
The liability market is arguably more challenging than the property market, which is having its greatest impact on the multifamily sector. Liability claims continue to rise in both frequency and severity with many large verdicts in certain jurisdictions causing carriers to leave the market altogether. Carriers are seeking to exclude coverage for Assault and Battery claims or exclude coverage for negligent maintenance and management operations with what’s called a “Habitability Exclusion.” Verdicts continued to rise, and we anticipate this to continue in 2020. This “frequency of severity” impairs underwriting performance in both primary and excess casualty (aka umbrella).
HOW TO OBTAIN THE BEST RESULTS
Carriers are seeking to write the “Best-in-Class” risks, which means a greater emphasis on data. In this market, submission quality is of paramount importance to obtain the most favorable result.
The better and more detailed exposure data on the locations, the better your broker can negotiate terms. (i.e. Year of updates for roofs, electric, plumbing, HVAC). Carriers are also underwriting based on the operations and investment philosophy of the insured more than ever before. Providing detailed information on ownership experience, risk management, preventative maintenance, investment philosophy, CapEx budgets, replacement reserves, inspection processes, etc., are also extremely important.
Integrity of loss data is also very important, and most carriers are now requiring five years of hard copy loss runs for all locations regardless of ownership in order to underwrite based on a true five-year loss picture. Owners should be obtaining seller loss history during their due diligence period on all acquisitions.
Although compiling this level of detail takes time, it will be worthwhile as it will differentiate your portfolio in the marketplace and help you obtain the most favorable result possible.
As Managing Director, Matt Harrell brings a wealth of industry experience to Franklin Street Insurance Services. He can be reached at Matthew.Harrell@FranklinSt.com.
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