MARKET WATCH: What’s Happening? U.S. property and casualty insurers have suffered huge losses since 2015, mainly due to the increased frequency and severity of auto accidents. Many media outlets and industry insiders have pinned this trend on a rise in distracted driving brought on by smartphone-toting Millennials.
Our Take: Distracted driving is only a small part of the story. Rising motor vehicle death rates are due mainly to an increase in miles driven. P&C insurers are doing what they can to regain profitability: They are hiking premiums and pitching usage-based insurance. But auto insurance may never regain its glory days. It faces not just a near-term margin squeeze but also a long-term existential challenge posed by the rise of self-driving technologies.
Auto insurance is about to get more expensive.
This year, property and casualty (P&C) insurers plan on raising auto premiums nationwide. The hikes will be particularly steep in some states: South Carolina drivers, for instance, can expect to pay nearly 14% more for coverage in 2017.
Higher premiums are the latest sign of trouble for the U.S. P&C insurance industry, which comprises a mix of publicly held companies, mutual firms, and subsidiaries.
According to the Insurance Information Institute (III), State Farm Mutual is the industry leader with $59.4 billion in “direct premiums written” in 2015—an industry term representing the total cost of written premiums not including those sold off to reinsurers. Second is publicly traded Allstate (ALL: $30.2 billion), followed by Berkshire Hathaway subsidiary GEICO ($30.0 billion). Liberty Mutual ($29.8 billion) comes in fourth, followed by Travelers (TRV: $23.2 billion), a public firm that earns most of its revenue from commercial P&C sales.
Other notable P&C insurers include names like Progressive (PGR: $21.3 billion), Chubb (CB: $20.7 billion), and Farmers Insurance ($19.1 billion), the latter of which is a subsidiary of Swiss conglomerate Zurich Insurance Group. These companies both insure your property and protect you in the event that you’re found legally liable for someone else’s loss.
The sector’s problems trace back to 2015. As part of a Dodd-Frank review, the Treasury Department reports that all P&C insurers earned $58 billion in net income in 2015, down 15% YoY. Barclays analyst Jay Gelb wrote last year that core auto insurance profitability weakened to its lowest level in 15 years in Q3 2015. By year-end 2015, the deficit between premium income and auto liability payouts had stretched to a massive $7.5 billion.
These problems have ramped up in 2016. In all, P&C insurers suffered a $1.7 billion underwriting loss over the first three quarters of 2016—compared to a $7.3 billion gain over the same period in 2015. All told, the cost of motor-vehicle deaths, injuries, and property damage was $432.5 billion last year—up 12% YOY.
To blame has been the rising frequency and severity of auto accidents. Insurance Institute for Highway Safety (IIHS) data show that the number of U.S. motor vehicle fatalities rose to 35,092 in 2015, up 7% from its 2011 nadir. (Preliminary National Safety Council estimates indicate that this figure rose again in 2016.) Meanwhile, separate III data reveal that the severity of these accidents is rising even faster than their frequency. For instance, the number of property damage claims rose 2.9% from 2014 to 2016, while the severity of these claims jumped up 11.5%. The story is the same for bodily injury, collision, and comprehensive claims.
“Personal” P&C insurers, because they derive most of their business from everyday consumers as opposed to professional drivers, are most exposed to these risks. It’s no wonder that the operating margins for personal P&C insurers like Allstate and Progressive are low and falling fast, while the operating margins for commercial P&C insurers like Chubb and Travelers are higher and falling more slowly.
POSSIBLE DRIVERS
A Millennial-fueled distracted driving epidemic. One theory that gets a lot of press is that the unsafe driving habits of Millennial drivers are bringing up the traffic death rate. After all, according to a report by the AAA Foundation for Traffic Safety, 19- to 24-year-olds are 1.6 times as likely as other drivers to read a text while driving—and are twice as likely to send a text while driving. State Farm Director of Technology Research Chris Mullen says of Millennials: “We’re talking about a generation that was texting first, driving second.”
But the data don’t bear out this theory. In 2015, distraction-related fatal crashes represented just 10% of all fatal crashes, according to the National Highway Traffic Safety Administration—a share that has remained constant since 2011.
Moreover, Millennials are much safer drivers than their parents were at the same age. From 1975 to 2015, traffic fatality rates plummeted 69% among 13- to 19-year-olds and 47% among 20- to 34-year-olds. The most important reason is that Millennials don’t own cars or drive as much as earlier generations of young adults. A larger share of Millennials live in urban settings where public transportation and walkability render car ownership optional. (See: “America’s Car Culture Shifts Gears.”) Another reason is growing risk aversion and better safety habits—look no further than rising seatbelt use among teens and the waning youth appeal of thrill-seeking “hot rod” culture.
A travel rebound. In reality, traffic deaths are far more correlated with total miles driven than with any other single factor. IIHS data show that, thanks to lower gas prices, Americans drove 5.9% more miles in 2015 than they did in 2011. This explains four-fifths of the entire traffic death rate increase over that time period. In fact, after adjusting for the rising number of miles driven, we hardly see any uptick at all in the motor vehicle death rate since 2011.
Other factors. Of course, if more miles driven explains around 80% of the traffic death rate increase, that still leaves 20%. What other factors are at play?
The final 20% is likely driven by a mix of factors. Let’s go back to distracted driving. Yes, it’s true that pinning all or even most of the traffic death rate increase on distracted driving is inaccurate. But there does seem to be a correlation between a lack of distracted driving regulations and higher traffic death rates. None of the top four deadliest states for population-adjusted traffic fatalities—Wyoming, Mississippi, Montana, and South Carolina—have laws on the books banning handheld phone use while driving. None of the top three ban general cellphone use. Montana and South Carolina each allow texting.
Other contributors may include everything from worsening public infrastructure to rising illicit drug use. However, the data are unclear. There is little overlap between the top 10 deadliest states for traffic deaths and the top 10 deadliest states for drug overdoses. Nor is there much overlap between traffic deaths and alcohol abuse, as measured by the prevalence of binge drinking.
WHAT FIRMS ARE DOING
Root causes aside, the rising rate of motor vehicle fatalities puts P&C insurers in a tough spot. How are they attempting to reverse their fortunes?
Raising auto premiums. One course of action that we’ve already highlighted is hiking auto premium prices. The average cost of a car insurance premium has risen 16% since 2011. In states such as South Carolina, where population-adjusted traffic death rates are highest, the premium increase has been particularly steep: Allstate and State Farm plan to raise car insurance rates for South Carolina drivers by 18.6% and 12.2%, respectively, in 2017.
Ramping up advertising. P&C insurers have created some of America’s best-known ad campaigns with characters like Allstate’s “Mayhem” and Progressive’s “Flo.” Their ad budgets are astronomical: GEICO leads the way with $1.2 billion in annual ad spend, or $6 out of every $100 it collected in premium revenue in 2013.
These campaigns are more important than ever, because they allow firms to craft a unique brand identity that makes them stand out in an age of shrinking margins. Ads are a quick and easy way to let consumers know that GEICO has low premiums, State Farm has market-leading customer service, and Liberty Mutual will not raise rates after an accident.
Rolling out usage-based insurance. Insurers are also attempting to boost market share with tech-enabled safe-driving discounts. Progressive, Allstate, and State Farm are pushing in-vehicle “telematics” devices that allow these firms to build an all-encompassing actuarial profile of each driver resulting in (mostly) lower premium prices. Today, one-quarter of new Progressive customers and one-third of new Allstate customers sign up for these “usage-based insurance” (UBI) programs.
However, UBI faces pushback from older consumers. According to Pew Research Center, 45% of consumers would turn down an auto insurance discount in exchange for driver monitoring—and that’s not even taking into account the possibility that UBI could raise premiums. (Progressive, for one, penalizes unsafe drivers with fees reaching as high as 10% of premium cost.)
The National Association of Insurance Commissioners reports that aversion to UBI programs rises with age. For Boomers, a device that beeps every time they slam on the brakes is a reminder that Big Brother is watching. Pragmatic Xers are more likely to embrace UBI for its cost-savings—but many undoubtedly worry about their personal information being stored and sold to the highest bidder.
Millennials show the most interest in UBI. A recent Willis Towers Watson survey found that 62% of Millennial drivers would take out a UBI auto policy, compared to just 42% of older drivers. Millennials are already taking steps to lower their car insurance bill, whether by dropping collision coverage or by “unbundling” their various policies to get cheaper rates with another company.
Plus, the added nonmonetary benefits of these programs—such as theft tracking and breakdown notification services—are a huge draw for risk-averse Millennials. And Millennials likely regard rates set based on driving behavior as fairer than an opaque algorithm that sets rates based on personal, sometimes uncontrollable factors such as gender, age, and zip code. (It’s worth mentioning that age and zip code tend to penalize Millennials.)
THE MURKY FUTURE OF AUTO INSURANCE
In the coming decades, P&C insurers will be forced to grapple with more than just rising costs and skepticism over Big Data-fueled insurance policies. They will have to find a new niche for auto insurance in an age when machines, not humans, will rule the road.
While self-driving cars won’t be going mainstream anytime soon (see: “Driverless Cars: Unsafe at Any Speed?”), their eventual rollout will create an existential crisis for P&C firms. Law firm partner Peter Gillon says that, “The more you take driver error out of the equation, the more you are looking at an auto insurance market based on safety system performance and product liability.”
And he’s right. In the intermediate term, to be sure, semiautonomous vehicles will likely save P&C insurers money by limiting human error, thereby slashing accident rates. Exhibit A: Tesla, whose crash rates have plummeted 40% since Autopilot’s introduction. But these savings may be canceled out by a worsening risk pool: As more high-end cars come equipped with semiautonomous features like “electronic stability control” (ESC), P&C insurers may lose out on premium revenue from high earners whose cars don’t need much coverage.
Over time, the stakes for P&C insurers will rise. As ESC spreads, and damages and premiums fall, many auto firms are likely to offer their own insurance on policies which straddle the divide between personal liability coverage and product liability coverage. Tesla confirmed in a recent earnings call that it is already offering lifetime warranty and insurance coverage to “select” customers—and that the majority of its new Asian customers are buying it.
Over the longer term, once a growing share of cars are doing all the driving, the traditional auto insurance market is likely to shrink rapidly—by 60% by 2040, according to projections by consulting firm KPMG. Finally, once machines are doing all the driving, the P&C market will shift away from personal liability and toward product liability. No longer will drivers be suing each other for damages—they will be suing auto firms and parts manufacturers. This type of product liability coverage is uncharted territory for the P&C sector.
