Sometimes, it helps to zoom out a bit and look at the big picture. I was looking at some long term industry stats recently and stumbled on an interesting conclusion.
Did you know that over the entirety of the 2000s, workers comp has had a better combined ratio than the industry?
| Average CR | Worker’s Comp | Total Industry |
| 2000-2023 | 101.3% | 101.6% |
This happened while many carriers retreated because they thought profitability peaked ten years ago. Oops!
| Average CR | Worker’s Comp | Total Industry |
| 2014-2023 | 91.4% | 100.1% |
You might note that comp benefitted from the strong past decade, but at the beginning of the century it was up at a 120. So the full sample period represents a complete cycle.
The Paradox
Why do I find this interesting? Because, on paper, comp should have a higher combined ratio than the industry.
First, the tail is longer so more of the ROE comes from investment income. Remember the days of cash flow underwriting when it was encouraged to write comp at a higher CR just to get access to the float?
Second, it is a highly regulated, frequency line. The relative predictability and lack of cat (yes, I know a quake can have W/C cat but they buy cat cover for that) means it should require a lower ROE than more volatile lines.
Yet, comp has managed to perform as well, and even a little better, than the industry overall. Once you add on the investment income benefit, comp comes out well ahead of the industry on returns.
Not only has it been better than the industry overall, it has been better than each of the other major lines. This makes no sense!!!
| Workers Comp | CMP | Other Liability | Commercial Auto | Personal Auto | Homeowners | |
| 2000-2023 CR | 101.3% | 103.4% | 106.6% | 103.4% | 101.6% | 103.3% |
If you’re wondering what is better than comp, it is primarily smaller lines like surety and marine.
Comp vs. Auto
What’s particularly fascinating to me is that comp even beats the short tail lines like auto. In auto, you are taking more operating leverage (higher premium/surplus) in return for less investment income.
Yet, that extra leverage is actually losing money while the comp writer is benefiting from the extra float.
| Simple ROE Model | Workers Comp | Personal Auto |
| Premium/Surplus | 1X | 2.5X |
| Underwriting Margin | -1.3% | -1.6% |
| Investment/Equity | 3X | 2.5X |
| Investment Yield | 5% | 3% |
| Pre-tax ROE | 13.7% (=1*-1.3 + 3*5) | 3.5% (=2.5*-1.6 + 2.5*3) |
This results in much higher ROEs in comp (note, the higher investment yield assumed on comp reflects the longer tail).
So why would anyone write auto or liability when they can write comp instead?
Over the long run, they probably shouldn’t.
Now, not every insurer has a choice. You may be personal lines only or large account commercial where much of the comp risk sits in captives.
But if you are a diversified commercial lines insurer, these results suggest you should skew your book more towards comp over time.
Qualifiers
Before everyone rushes out to write a bunch of comp, I should point out a few things.
The investment income benefit to comp was suppressed for a good ten years due to zero interest rates, which is part of why prices went up and, thus, loss ratios down.
Comp has had a terrific run on loss trend leading to large reserve releases over the last decade. This is likely largely played out.
We had historic unemployment suppressing claims and significant progress by insurers in managing medical trend.
Also, states are starting to cut prices, so future accident years will likely be worse than recent ones. Combine this with slower reserve releases and it’s not hard to imagine future CRs being above the median.
So, the best of times may be behind us, but remember, the results since 2000 reflect a cycle and comp has proven better over the full cycle.
The Real Solution
Let’s not lose sight of the big picture. It’s not like comp has been an amazing business. A 11% a/t ROE over a cycle is acceptable but not exciting.
The real issue is the ROE in most other lines is gross!
If your takeaway is “I should grow my comp book”, you have misunderstood the lesson. The real solution is you should shrink all the other lines that aren’t earning their cost of capital!
The Two Paradoxes
There are really two paradoxes here. First, there is the obvious one that the longest tailed line shouldn’t have the lowest combined ratio.
The other, perhaps less obvious one, is why do so many insurers chase growth in shorter tail, more volatile lines when they can sit back and write comp instead?
The latter paradox is a choice to do something illogical rather than an unanticipated outcome. That is much harder to explain.