Medical Indemnity Insurance: Surviving the Global Financial Crisis

Medical Indemnity (MI) is usually the most important insurance policy that a doctor has. As with other "liability" insurances, your MI insurer must be able to meet your multi-million-dollar claim if and when it arises, which will typically take several years to settle. QBE writes MI through Invivo. Victor Walter, QBE Australia's Chief Financial Officer, explains the challenges facing liability insurers as the global financial crisis unfolds.

"Safety First" Is Imperative When You Insure

Above all else, policyholders need their insurer to be able to satisfy its claim obligations in an efficient and orderly manner under all market conditions. To be able to do so, an insurer must be well capitalised, have a strong balance sheet and have effective risk management and corporate governance practices. These basic imperatives become even more important in times of market instability or dislocation.

QBE Shows How to Manage Risk

By their very nature, insurers are risk takers. However, risk must be properly managed. QBE's risk management approach forms a useful checklist for anyone seeking to review of their insurer:

• Active and effective underwriting ensures that an appropriate premium is charged for the risk being underwritten, i.e. that each policy "pays its way".
• Use of some of the world's most pre-eminent reinsurers ensures that policyholders can be confident that their claims can be paid in all circumstances.
• A low-risk, absolute-return investment strategy, with minimal exposure to equities, avoids adding risks - and this strategy has paid off during the recent market tumult.
• A strong track record and a listing on the ASX make it easier to raise further capital if so required, as evidenced by QBE's recent substantial capital raising for acquisitions.

Australian Insurers Have Generally Survived the Credit Crunch .

We have already seen the global credit crunch, leading to stock market crashes, high profile corporate bankruptcies and bail-outs of financial institutions around the world, including some insurers. However, evidence suggests that the direct and immediate impact of the credit crunch on insurance companies has generally been relatively mild.

Insurers have had to write down the value of their mortgage-backed securities, fixed interest securities and equities - and the riskier the investment, the greater the write-down. In turn, these write-downs have reduced the money available to pay claims. However (partly through the influence of the prudential regulator) most Australian insurers have only small holdings of the riskier investments, so write-downs have been relatively limited. For example, QBE has a relatively small equity portfolio and had no direct exposure to "sub-prime" instruments or to Lehman Brothers, Merrill Lynch and AIG.

. But the Outlook Is Disturbing

It is becoming increasingly clear that the world is faced with a recession and there is plenty of concern about how bad things will get and for how long. With this outlook and the benefit of history, we can see three disturbing trends:

• Insurers can expect an increase in the number and size of claims, particularly in liability classes of insurance, such as MI.
• Meanwhile, investment returns will be lower as a result of lower interest rates and weaker equity markets.
• And all companies, including insurers, face reduced access to funding, as banks and other lenders become more reluctant to lend money.

In order to survive these forces, insurers need to be well capitalised and to have effective risk management and governance practices in place.

Australia Appears Well Placed .

In Australia, ratings agencies have largely maintained stable outlooks for the insurance sector (with a few notable exceptions), which means that there is a belief that local insurers are likely to be able to "ride out the storm". This can be largely attributed to the success of the Australian Prudential Regulation Authority ("APRA") in maintaining a stable, efficient and competitive financial sector in Australia and ensuring highly solvent financial institutions that place a great emphasis on effective risk management. APRA's regulatory model is based on the risk to which the financial institution is subject - the higher the risk that a company chooses to take on, the more capital that financial institution is required to hold.

. But There Are Additional Pressures for MI Insurers

All indications are that all MI insurers exceed APRA's minimum capital requirements, but none will be immune to the adverse trends listed above. Moreover, there are some specific issues facing MI insurers:

• There is emerging evidence that the tort law reforms in MI are being watered down in interpretation, which would cause medical indemnity claims to increase rather than decrease in the future. Similar developments have previously been seen in Compulsory Third Party and Professional Indemnity / Public Liability insurance in the Australian market.
• MI claims are long-tail in nature (meaning that there can be a long gap between the event giving rise to a claim and the settlement of that claim), so it is critical that the insurer is strong enough that it will still be around when the claims need to be settled.
• Because MI claims can be very large, it is important that the MI insurer holds adequate reinsurance (insurance for insurers), which is the principal way that insurers spread the risk that they take on.

Risk Management Is the Key to Being Able to Meet MI Claims When They Finally Emerge

In conclusion then, medical indemnity insurance, like all insurance, is a risk business. And that risk must be well managed, both by the policyholder and by the insurer. You can manage your risk by ensuring that the provider of your insurance cover not only provides great service but is able to operate successfully under all conditions. And that means not just thinking about today, but also looking to the future with confidence that your insurer will still be around to pay claims when they finally emerge.

Can Your Insurer Tick All the Boxes on the QBE Risk Management Checklist?

This article has drawn upon recent commentaries by Willis Limited (Impact of the Credit Crisis on General Insurance Companies, 20 October 2008) and a JP Morgan analyst speaking at a recent Institute of Actuaries of Australia conference (Mixed outlook for general insurance industry, InsuranceNews.com.au, 17 November 2008)

Victor Walter
Chief Financial Officer
QBE Insurance (Australia) Limited