Calling the surplus lines insurance market’s annual report card “stellar,” WSIA Executive Director Brady Kelley explained that the excess and surplus market segment experienced 17.5 percent growth in premium during 2020 over 2019. The surplus lines market is “double the size it was when it saw its last retraction in 2011,” he said.

The surplus lines market reached a record level of premium, $66.1 billion, in 2020 and had passed the $50 billion mark just a year earlier, also setting a record, Kelley pointed out. It was the surplus lines segment’s ninth year of growth.

More importantly, according to Kelley, “the growth is supported by strong capital and incredible performance.”

Kelley made his observations during a webinar presented by AM Best, titled State of the Surplus Lines Market. The webinar, held Sept. 20, was sponsored by Lexington Insurance Company and the WSIA Education Foundation. The webinar focused on the recently released report on the annual review of the surplus lines segment by AM Best Company, prepared annually since 1994 through a grant by the WSIA Education Foundation.

Joining Kelley on the panel were Brenda Austenfeld, president, National Property Practice and managing director, RT Specialty, and treasurer of WSIA; Davis Moore, vice chairman brokerage, Amwins, and president of WSIA; Lou Levinson, president and CEO, Lexington Insurance Co.; James Drinkwater, president, Amwins Group and Amwins Brokerage, and David Blades, associate director, AM Best.

John Weber from AM Best served as moderator. Weber told the virtual audience that the opinions expressed by panelists are theirs.

Kelley commented that the 15 states which have stamping offices reported growth of 22 percent in the first six months of 2021 relative to 2020. That is important, he said, because those states represent about 62 percent of the market’s $66.1 billion in premium. The stamping office states’ results are a strong indicator of what the full market will do, he said.

In commenting on the report’s key takeaways, Blades, who worked on the report, said the surplus lines market’s resilience “really came through in 2020 and in the first half of this year.”

During the pandemic, Blades said, surplus lines companies came to the market with solutions. He specifically mentioned flood insurance and the cannabis business as areas that were stressed, and the surplus lines market offered solutions.

According to Blades, 36 states have approved the use of cannabis either medicinally or recreationally or both. “Still it is a Schedule 1 substance. If that changes, the market could really open up,” he said.

He pointed out that the surplus lines market is 85 percent commercial lines and that the growth in the surplus lines business is outpacing the growth in the overall property/casualty commercial lines. Blades anticipates that premium growth in 2021 may show similar results. “There is a lot of momentum driven by price,” he said.

The top 25 groups produce 55 percent of the total surplus lines premium. The top 25 groups plus Lloyd’s is 75 percent of overall market premium. Eight of the top 10 companies had double digit growth, and 14 of the top 20 had double digit growth, according to Blades.

He said that new markets are having an overall impact on the marketplace.

He remarked that direct premium earned was significantly impacted by catastrophes in some lines of the property/casualty business; nonetheless, the surplus lines segment’s results were superior to the overall market.

What is different this year, Blades noted, is that new market entrants have hit their marks in terms of production and profitability.

There are some potential head winds for the market, Blades cautioned. Among those head winds are the potential for social inflation to create issues for some lines and some professional liability risks.

“Overall, we feel very strongly about the stability of the surplus lines market,” Blades concluded.

Ability to sustain momentum

Levinson is positive about the surplus lines industry’s ability to sustain its momentum, saying that the surplus lines segment continues to provide a vital function as the world becomes more complex.

Levinson pointed out that the overall property/casualty industry premium volume increased two percent, while the surplus lines market increased 17.5 percent in 2020. “That is the largest year-over-year increase since the earth cooled,” he said.

In addition, the surplus lines market’s percent of commercial lines went from seven percent a decade ago to 19 percent today, according to Levinson.

Submissions continued to flow into the E&S space at an unprecedented rate, he said, fueled by unknowns around Covid, cyber, frequency and severity, convective storms and wildfire. “I think we even had locusts in the east coast this year.”

Levinson emphasized that these are not typical cycle issues that the admitted segment can just come in and solve. “These solutions are where the surplus lines business really shines, where we provide innovative solutions for very complex problems.”

He opined that terms and conditions need to stay risk appropriate and tight. “Rates are better today than they were just a year or two ago and are reflective of the risks we assume and the claims environment that we face. We are facing more unknowns. There is a shift in public perception around businesses. There is claims inflation. There is ordinary inflation. There is a well-funded plaintiff’s bar coming at us. There is third-party funding. Nuclear verdicts used to happen every once in a while. Now, they are just verdicts. They happen all the time. In August the industry had a $1 billion single fatality auto loss come out of Florida,” he said

Levinson believes the surplus lines industry’s best hedge against potential problems is risk selection, attachment, terms, limits and price. “And then execute flawlessly on those strategies throughout the market cycle.”

Capacity remains constrained, he said. Even with new entrants, capacity is still half of what it was just a couple of years ago.

This is not a typical market cycle, he said. Instead, it is a market correction driven by companies demonstrating discipline around capacity and capital management. And he cannot see that changing anytime soon.

Escalated flow of premium

Everybody looks to the E&S space for creative solutions, Austenfeld said. “That is what we have brought to the table for so many years and is part of the reason the flow continues to grow.”

Over the past several years, capital has continued to migrate into the E&S channel, seizing important opportunities, Austenfeld said. The number of new MGUs, MGAs and binding authority facilities continues to increase in a significant way.

The surplus lines segment was very small just 10 years ago and continues to rapidly expand successfully in all of the E&S space. Capital deployed to those who are truly specialized and talented in a chosen industry type or coverage class is the key to their success, she said.

Capacity and terms

“The capacity previously being offered to our markets was just not sustainable,” Moore said, “especially when you consider the loss development trends that we are seeing across most lines. We continue to see some capacity management from our markets this year, although to a lesser extent because they pretty much took care of cleaning the house in the prior year.”

What has changed recently, Moore said, is the new capacity finding its way into our market. “That capacity has proven to be helpful when we have holes in programs created by a reduction in capacity in the market. As far as pricing is concerned, we continue to see growth in premium because of rate, improving economy and business coming from the standard market.

“Lines that we continue to see increases in are excess liability, certain lines of property, private D&O, some professional liability lines, and last but not least, cyber liability, where rates are firming at a pace significantly higher than most other lines,” he said.

Biggest impact on market dynamics

Drinkwater finds it encouraging that there are known leaders who understand the E&S business leading the new capacity businesses. “We need the capacity as it is a little constrained,” he said.

As Drinkwater sees it, there is a lot driving this marketplace. The market dynamic is unlike anything he has seen. It is not tied to one single event, which makes it a very different market. It is a perfect confluence of events: market turmoil, natural disasters, social inflation, litigation funding, years of loss, very significant cyber, excess and cat losses, all of which makes this a challenging market. On top of that, add a global pandemic and limited investment income, which puts carriers in a difficult position. Underwriting communities had to have underwriting discipline to drive profitability.

Today, there is capacity, Drinkwater said, but there are certain lines of business that have been significantly impacted and have the biggest uptick in rate-over-rate on an annual basis. These distressed lines of business are areas where the E&S business has provided a solution for their retail clients and insureds.

He believes the market will be broadly firm throughout 2022, but what goes up will come down, and he believes over time the market will correct itself downward.

Retailers’ expectations

The movement by retail brokers to consolidate their use of wholesale brokers several years ago was a key trigger to elevate and strengthen the E&S channel, Austenfeld explained. The flight to quality execution has occurred with retail brokers of all sizes. Every one of those brokers demands specialization from their wholesale broker partners, and specialization is exactly what the E&S segment was built upon.

Very specialized talent with depth and breadth from the E&S sector not only helps strengthen offerings to our retail broker partners but is a key to successful options delivered to insureds, according to Austenfeld. The most important factor that has not changed with the expanded flow nor the pandemic is speed. Retail brokers demand speed, she said. “The key differentiator is lightning fast speed from all sides of our sector at any time, day or night. Our retail brokers now demand top talent, and our job as leaders is to match the specialization with the opportunity.”

Blades concurred with Austenfeld, saying, “What we have seen from all of us working from home” is that expectations have increased. Customers are “expecting you to be available quicker and to produce quicker.”

Clients’ expectations

Moore believes that expectations continue to rise, as they should. “Our clients are looking for value and more strategic relationships with their wholesalers. Our customers are becoming much more sophisticated. Historically, our clients wanted us to help them at the transaction level.” That remains very important today, he said, but they also want speed and results.

Specialization takes on a meaning today that is different than it was three to five years ago, he explained. Working on complex risks requires expertise and innovation. “It is critical to have a broad and deep knowledge of specific industries and the coverages needed to support those industries. Our customers are looking to us for ease of doing business through technology,” Moore said.

Customers expect additional services, he said, citing examples including property catastrophe modeling, claims advocacy and dedicated resources.

“What is particularly important in a market like we are operating in today is providing market intelligence to our clients, whether on a quarterly or on an account specific basis, well in advance of the transaction” to assist in keeping clients updated on the market.

How big are the tail winds?

The E&S market has doubled in size over the last 10 years and will continue to grow and continue to attract talent and capital, according to Drinkwater.

The standard market will not look to write the borderline accounts, he said, especially until they solve claims issues.

There are a number of industries that will continue to be challenged for a period of time, he said. Those include certain contracting classes, cyber and ransom, excess and transportation, which are challenged because they have had outsize losses, and these outsize losses will continue especially when the courts reopen and some of the claims are litigated. The EPL market will be challenged as a result of Covid. There possibly will be worsened claims activity with vaccine mandates, he noted.

“There is a lot going on in this market which could be pushing the bubble forward so the business will continue in the E&S space,” he said.

The future of the wholesaler

Drinkwater is bullish about the market. “If we don’t find solutions for our clients, people will find other avenues to take care of risk,” he said.

“We have a number of initiatives that I think are going to be table stakes for the industry.” He cited attracting talent to this industry. “We have to make sure we find the next generation of talent,” Drinkwater said. He noted the number of risk management students joining his firm who are “incredibly talented.”

Drinkwater commented on data and analytics. “We receive about one million submissions a year, so we have an immense amount of data that we are trying to analyze” and also “provide our clients with benchmarking.”

The other area the E&S segment needs to continue to focus on is digital, according to Drinkwater. “We are spending a great deal of time, energy and money in this area. We must make business more efficient and provide more tools more easily to our clients.”

In Drinkwater’s opinion, the knowledge base in the E&S industry has gotten much better over the past few years. “We try to be a specialty distribution platform using techniques and platforms to help our clients.”

He expects clients to expect more, and “it is up to us to deliver more to our clients every single day.”

Emerging risks

Emerging risks are not often covered or even eligible in the standard market, Moore said, which makes them opportunities for the surplus lines market. “Our market serves as an innovator for new and emerging risks. The fact is the world is changing and becoming riskier. Increased frequency and severity of weather events, such as the winter storm in Texas, social inflation and nuclear verdicts are all risks that the industry faces today. Examples of emerging risks he cited include senior care, cannabis, crypto, medical malpractice, correctional facilities, wildfire exposures, the Florida condominium market, significant increase in cyber and ransomware threats. “The increase in the number and size of the claims is staggering on a year-over-year comparison,” Moore said.

He believes the wholesale specialty market is very well positioned going forward to provide solutions for these risks.

Where are the opportunities?

Levinson said his company is deploying twice the capital today on the casualty side, compared to a few years ago, and a tenth on the property side, during the same time frame. “I don’t see that changing any time soon. What I do see is, on the company side, more discipline in deploying capital in a much more thoughtful way than we did just a few years ago.”

Drinkwater took a broad view and said, “We have to be careful that we don’t represent the entire market as being hard, because there are certain classes of business where we are seeing some rate decreases, and there are some classes where there is repatriation to the standard market, but overall the E&S market remains very hard. Those classes of business will remain hard for a very long time.”

“At Lexington we are running our own race,” Levinson said. He talked about bringing data and analytics to a greater level of use and targeting risks by geography, size, and class of business, “so we can be more efficient in the way we are attacking business and adding value, so all of us write new, new business.

“That is how the channel grows, by writing new, new business, not cannibalizing each other’s portfolios,” he said.

Lexington’s brokers are on the front end and do a tremendous job identifying emerging risk and working with the company to create solutions for those emerging risks. The last quarter, Lexington wrote more new business than in the last 16 quarters, Levinson said.

Growth is not all about rate, Austenfeld said. It is about the flow. There are so many moving parts that drive the rates, she said.

What Blades predicts in terms of companies differentiating themselves going forward is those that really hone their risk appetite (that have done their homework and understand the risks, and that are aligned with the right wholesalers) can effectively price and deal with risks as technology drives everything forward. “Companies that differentiate themselves will execute their game plan better than the others,” Blades said.

Levinson said he believes it is a misconception that wholesale brokers just pass business through. “That is not what happens today. What we get out of wholesale brokers is a level of expertise that adds tremendous value to the process,” he said.

Available talent to handle the flow

The E&S industry understands the need to develop top talent, Austenfeld said.

Brokers “bring a huge amount of value added to the equation,” she said, so it is all about finding opportunities and the talent to capture those opportunities.

“More than ever before, the price of top talent has really changed. … There is so much capital coming in with new entities being formed, so the talent price war continues.”

She believes the entire industry should focus on recruiting.

Key takeaways

Emerging risks is where the surplus lines sector can show its mettle, Blades said. He expects the surplus lines segment to continue stepping up to the marketplace and MGUs and MGAs to continue bringing value to enhance the marketplace.

Blades described the market as resilient and, therefore, thriving.