Sustained economic growth, rising interest rates, and higher investment income contributed to a strong year for insurers in 2018. Tanya talks to insurance practice leader Gary Shaw about the possibilities for 2019—will it be another banner year, or will longer-term challenges like the potential for economic slowdown and ongoing disputes over tariffs and trade rules cast a shadow on the industry?
“The big question is, how do you free up dollars from business-as-usual spending to go invest in these areas? They're not easy decisions.”
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TANYA OTT: “Business as usual”—ha! What does that even mean anymore? Things are moving fast, decision-making has to be more collaborative, and the regulatory climate is getting even more complicated.
I’m Tanya Ott and this is the Press Room, a podcast where we dissect some of the biggest trends in business. Today, we’re focusing on the insurance industry. According to one estimate: Global insured losses, just for natural disasters, last year was $79 billion dollars. A good chunk of that came from the US.
Voice 1: January 2018—Montecito, California gets more than a half inch of rain in just five minutes … causing mudslides that flattened homes, covered freeways and killed more than 20 people. Insurance claims top $421 million.
Voice 2: May 2018—Ellicott City, Maryland gets more than eight inches of rain in a few hours, causing devastating floods.
Voice 3: September 2018—Dozens of people die in Hurricane Florence. Insured losses of up to $5 billion.
Voice 4: October 2018—Hurricane Michael leaves a trail of destruction through Florida, Georgia and the Carolinas. Insured losses up to $8 billion.
Voice 5: November 2018—Wildfires sweep across California, destroying tens of thousands of homes and businesses. Insured losses of up to $13 billion.
TANYA OTT: Gary Shaw leads Deloitte’s US insurance practice serving all sectors—life and annuities, property and casualty, as well as reinsurance. He says despite the losses, the insurance industry fared pretty well financially.
GARY SHAW: I'd say it's a tale of really two sides of the industry. Through the first three quarters of 2018, the Property Casualty (P&C) sector posted some pretty strong gains in premiums, investment income, net income and some significant improvement in underwriting results and combined ratio. So P&C insurers have done well. The growing economy has certainly helped in adding insurable properties to be covered, and certainly rising interest rates have boosted their returns on their investment portfolio.
On the flip side, the life insurance industry is still struggling for traction. Net investment income is also up due to higher interest rates; but overall net income was down 5 percent. The industry is still seeing somewhat stagnant growth. A slight increase in premiums written, but new life insurance applications are still depressed. There are some bright spots in universal life growing at 15 percent. And certainly annuities are rebounding quite well. Fixed annuity sales broke records for both the second and third quarter, and variable annuity sales are up 25 percent in the third quarter. A lot of this has to do with rising interest rates making annuities more of an attractive product, but we'll have to see how the fourth quarter and all of this comes together as we see year-end earnings releases. But again, more of a mixed bag, with P&C doing quite well and Life still trying to find its way.
TANYA OTT: We've got some economic uncertainty on the horizon. What is it that you are watching out for on that front?
GARY SHAW: Well, we saw the Fed could be raising interest rates. I think that can be good for insurers who have significant assets to invest, but there's still a lot of uncertainty in the overall stock market and what's going to happen from an overall economic perspective. There are always warning signs about recessions and how that's going to play out.
TANYA OTT: What can the insurance industry do to insure themselves against some of these issues with the economic stimulus from the federal tax cuts kind of petering out? We've got possibly rising interest rates, as you alluded to, and some signs of a potential recession ahead. What can they do to respond to that proactively?
GARY SHAW: Well, I think insurers, like all companies, are pretty adept at doing scenario planning, different modeling scenarios to various interest-rate scenarios. They do this regularly and I think they're pretty skillful at it. I'm sure that they're considering these various changes and scenarios as they are looking to set their targets for 2019.
TANYA OTT: I imagine some of the things they'd be looking at would include improving operational efficiency and lowering their costs. Things like that. How are they looking at accomplishing that?
GARY SHAW: They're thinking about what do they want to invest in. [Do they] continue to invest and make capital decisions to build things, or can they make better use of other capabilities to go rent or buy a service that's not core to what they're doing? So, I think that those trade-offs and those considerations are something that more and more I see companies looking at just to add flexibility to their operations and be able to scale up and scale down as necessary.
TANYA OTT: Key in all this is going to be technology. What do you anticipate will be the big tech headlines in 2019 for the insurance industry?
GARY SHAW: Technology is one of the key, I'd say definitely top three priorities for all the insurers that I interact with. I think everything in our lives is tech-enabled and for insurers that's the same. IT is a very top-of-the-house, strategic priority from a couple of perspectives. First is, just how is IT supporting the business from a business growth perspective and digital enablement? And then secondly, IT is just a very, very significant area of spend. It could be up to 20 percent of general operating expenses. More and more we're seeing that the CIO is reporting directly to the CEO, to make sure that the CIO is at the table with the CEO and the business leaders making good decisions and trade-offs around investing in new technology projects.
I really think that, not to oversimplify it, but from a technology perspective all insurers—life, property, casualty—have older legacy systems. They are inflexible. They're difficult to maintain. They're usually written on, you know, outdated code—even Cobol—and in some cases they're costly. Dealing with that conundrum of these legacy systems I think is challenging and insurers are really looking at, how do they deal with this older legacy platform issue? Companies are looking at their legacy platform issue and, whether it's replacing or some type of surround or overlay strategy, being able to extract data from these disparate systems is really somethings that everybody's focused on.
And number two is how they are thinking about investing in digital engagement across the whole value chain: [Going with] agents or directly to customers, the whole quoting and bidding process, billing, claims and then policy administration, as well as investing in data and analytics. All companies are looking at that area of investment. And then lastly, cyber is a major concern of companies, boards and regulators. Investments in those three areas are really what insurers are looking at. The big question is, how do you free up dollars from business-as-usual spending to go invest in these areas? They're not easy decisions. There are a lot of tradeoffs to be made and in some cases, CIOs and CFOs and heads of business have to work together very, very tightly to make these business decisions, because you can look at an individual business case for any one project, but it may take years to see the benefits of it.
TANYA OTT: Gary says there are several things these C-suite execs are increasingly focused on. One is cloud computing.
GARY SHAW: In moving to the cloud, what we're finding is many companies can see a significant decrease in the cost of their infrastructure. Iit also gets to this notion of variablizing their cost structure—so, paying as you go, ramping usage up and down in certain areas. Pulling this cost lever is a pretty powerful tool that insurers are looking at. I know one client that moved a global application to the cloud and achieved mid-teen improvement returns on their performance, so it's been a pretty powerful lever for companies to look at.
TANYA OTT: What I'm hearing from you is that not only do we have some of these legacy platforms—when you said COBOL that made me flashback to my computer programming years decades ago—but also this need to be able to customize products and services in line with what consumers are looking for and using technology in a really smart way, whether it's cloud computing, which can have greater faster capacity now and also be cost effective.
But the other thing that I'm hearing a lot these days is blockchain, blockchain, blockchain. I mean, we're hearing blockchain in reference to lots of different industries and insurance is no exception.
GARY SHAW: So there's a lot of experimentation around blockchain and I think there are some great business and use cases out there. There's a lot of effort going into it, and there will continue to be, and there needs to be. Companies have a lot more work to do to really bring these to fruition. We can see certainly powerful use cases, such as if we can get to a common health record, how that can be used to streamline the life insurance underwriting process? [Could you use that record to put] yourself out to a competitive bid, say, "Here I am, who wants to give me the best quote on life insurance or health insurance?”
TANYA OTT: So what you're talking about is an individual being able to say here's the full electronic health record for me and who can give me the best life insurance bid on that?
GARY SHAW: Yes, we've heard that is a scenario. Look, there's a whole host of regulatory challenges and other things that need to be considered if that would ever come to fruition, but something along those lines.
TANYA OTT: You mentioned regulatory priorities. What are the biggest issues on the regulatory front right now?
GARY SHAW: There are a number of emerging areas. Certainly, solvency will always be a priority of the regulators, but more and more we're seeing consumer protection really taking center stage. That's happening in a few different areas. First, from a sales standards and practice perspective: [A proposed] Department of Labor rule out there would set a pretty high bar for the selling of annuity products and other products, really getting to this fiduciary standard. That particular rule is not moving forward, but there were others that are now coming into the fold. New York has issued a best-interest regulation, which covers both life and annuity sales. From industry's perspective, they are really opposed to having life insurance be included in that standard, but there is a lot of regulatory will behind that. So, regulators from New York, California, and others are really pushing for that.
The NAIC (National Association of Insurance Commissioners), which is the body of any of the 50 state insurance regulators that come together and create a regulation that can apply across all the states, have put out a best-interest standard for annuity sales, which is still going through the approval process within the NAIC. I guess we're likely to see something happen with that standard in 2019. So that would create a higher level of expectation around annuity sales and could have impact on disclosures of commissions and other disclosures for consumers that annuity writers would have to take into consideration into the sales process.
TANYA OTT: One of the things you alluded to was risk, and cyber risk is an issue as well. When we talk about consumer protection, protection from cyber risks is a significant thing. I would imagine that would be pretty prominent on the landscape as things become much more technological, much more digital moving forward.
GARY SHAW: Completely agree. From a cyber perspective, again New York has taken the lead and passed the first cyber-security and risk-management regulation. It's being phased in over two years and insurers that are subject to the New York regulation had to certify back in 2018 that they have met certain standards. The second wave of it, which is coming up in March of 2019, part of the requirement is they must have a third-party risk-management program in place. It's a pretty formal regulation in terms of having cyber-risk-management program protocols, a chief information security officer designated, board oversight. So, insurers that are within the New York regulation world are having to deal with that. At the same time the NAIC has adopted a similar data-security model law. On the international front, the IAIS (International Association of Insurance Supervisors), which is the global insurance regulatory body, is also looking at reporting risk management and some aspects of cybersecurity. So, yes, I think the bar will continue to be raised, and it's a top priority for companies, for boards, for regulators going forward.
TANYA OTT: Looking at 2019, what are the things that leaders in the insurance industry should be thinking about when it comes to not only protecting themselves from the challenges of the economy and other things like that, but also leveraging technology? Where do they start?
GARY SHAW: You know, they're all searching for growth, and growth could be in the form of new products and having more flexible products to offer to consumers, as well as the way that insurers are offering the products. There's a continued demand from the consumers to have a better digital experience. A lot of insurers are working on that, but I don't think anybody has cracked the code. So, this investment in digital enablement will continue to be one of the top agenda items in trying to drive different product design, getting products to consumers more easily. That would be one area. Secondly is, how are you freeing up investment dollars? There's a finite pool of capital out there that insurers have to deploy, so how are they making these investment trade-off decisions in digital enablement? How are they freeing up money to help with cyber? How are they going to be more efficient from a cost perspective? And then lastly, dealing with all the regulatory issues that are out there that are not going away that they will have to focus on.
TANYA OTT: We've talked about the regulatory environment. We've talked about technology. We've talked about some of the economic issues that are at play here. But one of the big issues, as well, in this industry is talent. What are you seeing on the talent front in terms of the way insurance leaders are thinking about talent and perhaps thinking about talent differently than in the past?
GARY SHAW: I think insurers face a number of specific challenges as well as the common challenges that all companies are facing with respect to new talent models, different expectations of younger and more tec- savvy workers entering the workforce. From a specific perspective, insurers have certain aspects of their workforce that are aging and they can be critical roles, so how will insurers attract new agents and then retain them? And then insurers have some very technical skills that they need to be successful—like underwriters—and you could just think about the highly diverse array of products that insurers offer and how do you have the right expertise from an underwriting perspective to make judgments about pricing? That also gets into the need for actuaries to properly price products, to do the reserves on products. So there's a lot of specific issues with respect to the talent that insurance companies need historically. Then there's new talent demands for data scientists and new technologies. We touched on cloud and cyber.
Also, there's low unemployment across all industries, so how do insurers really compete for talent with tech startups and the retail companies that are out there? I think insurers have been looking at ways to exploit robotic process automation and artificial intelligence to reduce some manual work effort. And that's from two perspectives: number one to be more cost efficient, but also to redeploy people that are doing more manually based activities into higher value, more interesting activities.
But I think something that insurers should think about is how do they tap into the higher-value societal purpose of insurance—how insurance facilitates the business world, how insurance protects families. Tying into that social purpose may be a way to continue to attract some of the newer generation that may be more in tune with societal goals and objectives that maybe insurers maybe haven't focused on as much in the past.
TANYA OTT: Gary, thank you so much for giving us insight into what 2019 is going to look like in the insurance industry.
GARY SHAW: Thank you. I appreciate the opportunity to talk with you today.
TANYA OTT: Gary Shaw leads Deloitte’s US insurance practice. The 2019 Insurance Industry Outlook is chock-full of information on the challenges and opportunities for the insurance industry, including an analysis of merger and acquisition activity. You can find it at Deloitte.com.
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