Let’s say you’re buying a car for the first time this month and are preparing to move outside of a major US city*.
Your used car isn’t as cheap as it was six months ago, but it’s fine. You make an uncomfortably high down payment because interest rates are high. Before you set off, all you have to do is take care of the insurance.
Usually this is an afterthought. But not this year.
In fact, your car may have to sit in the lot for a day or two while you look for a policy that isn’t overly expensive. They’re not necessarily uninsurable, but U.S. auto insurers have lost money writing policies, and prices are rising fast.
Stocks of companies with large auto insurance businesses — at least those trading without the protection of Warren Buffett’s imprimatur — reflect these problems. Take Allstate and Progressive:
It’s not total market chaos, but it’s not exactly Kopatian either. Auto insurance claims were one of the reasons Fitch Ratings downgraded Allstate’s credit rating from A- to BBB this week, as auto insurance underwriting is the insurer’s largest business in terms of premiums earned. Allstate also sold $600 million worth of preferred stock earlier in the month at a yield of 7.375 percent, a relatively large spread to government bonds. This suggests that management is “comfortable”. [a] lower rating,” BMO analysts wrote after the sale.
According to analysts at CreditSights, Progressive is holding up better. But they still do badly to the entire industry. “Having enjoyed outsized profitability with a significant drop in mileage early in the pandemic, inflationary pressures have been particularly acute,” they wrote.
Pressure on auto insurance profitability was primarily caused by unexpected “severity” rather than “frequency”. This means that the insurers do not pay out more often, but higher amounts.
Simply put, it’s not because more car accidents are happening, but because the average cost of car accidents (both paid and expected) to insurers is higher.
That’s what Tricia Griffith, CEO of Progressive, told investors and analysts on the company’s first-quarter earnings call. With our focus:
We saw higher than expected severity trends in previously closed personal vehicle claims, particularly in auto insurance repairs. While I will not speculate as to why these trends have changed, I can tell you that we have acted quickly and decisively to adjust our reserves for these short-term covers. I have faith in the people and processes we put in place to ensure we are sufficiently constrained. . .
Well, there’s a lot that has to do with the severity of car repairs. And a few things like that. We really – and I think as an industry – have had issues with store capacity. So our ability to get cars in and the throughput to get them out, which of course affects duration, rent, etc. Parts prices and wages are up a little less than 3%. So think about the unemployment rate and that hiring problems are everywhere. The same applies to mechanics in the body shops. But those repair rates have increased between 4.5% and 5%. So that’s some posts.
In fact, rising car prices and high demand have played a large part in the long-term trend towards higher car insurance costs.
The Manheim Used-Vehicle Index shows that used car prices in 2022 were up an average of 8 percent year-on-year, although prices have more or less stabilized since December. Not only is it more expensive to replace total wrecked vehicles, repairs are also more expensive as the cost of auto parts and services has also increased over the past year, according to BLS data.
However, there may be more to it than supply chain issues and labor costs.
According to 10-Q, Progressive saw the largest increases in severity in the “personal injury” and “property damage” categories during the first quarter. Both categories appear to apply to accidents where the insured driver is found to be at fault:
Allstate’s Mario Rizzo said in the company’s first-quarter earnings statement that the stabilization in auto prices was more than offset by a higher proportion of totaled cars. He said severity was estimated to be 9 to 11 percent higher in the first quarter than in all of 2022:
Actually, used car prices or total used car values in our numbers were down a bit in the first quarter, but we had a higher percentage of the total claims incidence, which impacted the mix, so those are really the drivers. And as for personal injury, it’s the same things we talked about: medical inflation, medical consumption, legal representation.
So I think the drivers of heaviness remain. In terms of further development, nobody can really guess, but I think our perspective is, and we are quite consistent on this point, that we will continue to increase prices. We’ve actually been doing this since the fourth quarter of 2021 last year.
The insurer was also required to reassess its reserves (the amount it expects to pay for claims) in the fourth quarter of 2022 to reflect, among other things:
The increase in personal injury claims amounts reflects current data and updated assumptions related to the severity of third-party personal injury claims, increased claims requiring legal representation, litigation costs, increased use of medical treatment and higher medical inflation.
So, car crash victims and their attorneys are becoming more aggressive (I can’t imagine why), and they may have even made a big push in the first quarter (baffling). Or wrecks become rarer but worse for no apparent reason.
Whatever the reason, executives from Allstate and Progressive have spoken at length about rate increases. Allstate announced a 22 percent decline in new applications in its Q1 presentation, with particularly sharp declines in three states where the company has struggled to raise interest rates.
Still, the metric used to evaluate the profitability of auto insurers, the “combined ratio,” shows that Allstate continued to lose money in auto insurance in the first quarter, while Progressive just managed to make a profit.
In other words, it’s not looking like a “greed inflation” story for auto insurers just yet.
*This hypothesis may have nothing to do with recent events in this correspondent’s life.