When I was half my current age, an actuary in my life insurance firm said to me, "Property-Casualty insurance is not real insurance. When they lose money, they just raise rates, and they make the money back." Today, with greater knowledge, I know that he was half-right. Here is where he was wrong:
- If a P&C insurer risks a significant fraction of its surplus, such that if they could lose enough in a single year that they would not be able to write more business, that is an insurer to avoid. Good P&C insurers do not bet the farm. They manage such that they will always stay in the game, allowing themselves to write good business at good rates after a disaster.
- If a few badly-run insurers die after a disaster, that is all the better for those that remain. Capacity exits, and those left standing raise rates and earn strong profits. P&C insurers and reinsurers that "swing for the fences" tend to die.
- As with most things in life, it is those that take moderate risks that do best. Invest in those P&C insurers.
- P&C insurance is insurance on a micro level. It is not as if losses are directly rated back to insureds. On a macro level, conservative P&C insurers and reinsurers are toll-takers.
- This applies more closely to short-tail and mid-tail insurers. Long-tail insurers take a long time to validate their underwriting, and in certain environments, can go broke more easily than other P&C insurers.
That said, P&C insurers and reinsurers that underwrite and invest carefully tend to make money regularly, and with a better return on equity than most industries. It is one big reason why Warren Buffett has done so well over the years. Small underwriting gains combined with small investing gains can compound quite well, leading to a very nice overall return.
There is one more advantage here. Insurance fuses the twin problems of uncertainty and time (accruals). This is difficult enough, but the accounting treatment discourages many from analyzing the insurers. Complexity in business begets accounting complexity.
That is why I think that my main job with insurers is analyzing the management team. Good management teams think like owners, and reduce exposure when times are aggressive.
That's why 15% of my portfolios for clients & me are in P&C insurers. They have done well in the past, and there are no changes indicating why they won't do well in the long run if they are conservative.