An Exploration of Underwriting in the Insurance Markets

Written by Terence Huang

Modern insurance as we know has evolved significantly: the concept of spreading risk and providing financial protection dates back to hundreds of years. For instance, the Marine Insurance Act of 1909 is a focused piece of legislation that protects the interest of the insurers, which remains fundamental in insurance contracts today (Pacific Maritime Lawyers, 2022). Additionally, the 20th century had insurance companies expand their offerings to include a wide range of products, including health insurance, automobile insurance, and homeowners’ insurance. Furthermore, governments implemented many regulations to ensure the solvency and fairness of the insurance industry. One regulation that has a significant impact on insurance companies is the underwriting cycle.

The underwriting cycle, defined as “the tendency of property and liability insurance premiums, insurers’ profits, and availability of coverage to rise and fall with some regularity over time” (Fitzpatrick, 256), encompasses two distinct phases. At the cycle’s onset, insurance companies enter a competitive phase, resulting in lower prices and more extensive policy conditions, commonly referred to as the “soft” market. This phase typically arises when insurers have surplus capital, strong investment returns, and experience relatively few claims, which intensifies competition among insurers. However, as prices decrease and reinsurers and insurers encounter a surge in claims, their return on equity diminishes, possibly leading to unprofitability or the exit of some providers from specific product markets. This scenario causes them to withdraw or cease operations entirely. The poor financial results and reduced market capacity lead to higher pricing and a more restrictive approach to coverage, known as the “hard” market (Henderson, 2023). The underwriting cycle is influenced by several elements, including economic conditions, investment returns, regulatory modifications, and the frequency and severity of insurance claims. For instance, in times of economic downturn, there is a propensity for a “hard” market to emerge due to insurers facing investment losses and a surge in claims. In contrast, periods characterized by economic prosperity and profitability often give rise to a “soft” market. The various stages of the underwriting cycle carry specific consequences for both insurers and policyholders. During a “hard” market, individuals and businesses may encounter heightened difficulty and greater expenses when seeking insurance coverage. Conversely, a “soft” market can present more economical alternatives with wider coverage (Henderson, 2023).

Navigating the cycle successfully requires insurance companies to prudently oversee their underwriting methods and pricing strategies. Similarly, underwriting is a critical component of the underwriting cycle as it bridges the gap between policyholders and insurers: it involves a systematic assessment of risks to determine the suitable terms and conditions for insurance coverage. Based on this risk evaluation, underwriters establish the premium rates that policyholders are required to remit. Individuals or businesses carrying higher risks may be subject to elevated premiums to offset the heightened probability of claims. (Economic Times). Underwriting is extended to various insurance types. For example, Property & Casualty (P&C) Underwriting encompasses a broad spectrum of risks, encompassing physical property damage, liability for bodily harm, property damage to third parties, and a range of other non-life insurance categories. Additionally, P&C underwriters are responsible for managing diverse specialty lines of insurance, such as workers’ compensation, product liability, and directors and officers (D&O) liability insurance (Phillips, 2). Each of these specialized areas brings its distinct array of risks and considerations.

A compelling case study highlighting a successful underwriting instance revolves around a client who opted for surgery to address obesity. Prior to the surgical procedure, the client weighed 320 pounds, but he had consistently maintained a weight range of 205-210 pounds for the preceding eighteen months. Notably, two years ago, the client had a history of obesity that included gastric sleeve surgery, as well as a prolonged history of substance abuse involving Cocaine and Oxycontin over a span of 13 years. At this juncture, the client expressed the need for a $2.5 million Universal Life (UL) policy to meet personal requirements. In response, both the client and the broker enthusiastically accepted an Individual Universal Life (IUL) policy under the “preferred plus nonsmoker” category, featuring a structured monthly premium of $2,000 (Guyer, 2022). The policy was thoughtfully structured to offer coverage for a duration of two decades. The client perceived this plan as a tax-advantaged supplementary retirement vehicle that would not only provide essential life insurance, but also encompass valuable living benefits. The provision of a preferred classification for this level of risk was an exemplary service.

The insurance industry is in the midst of a significant transformation driven by technological advancements, shifting customer expectations, and changing risk landscapes. A prominent aspect of the future of insurance underwriting is the growing reliance on data analytics and artificial intelligence (AI). The rise of InsurTech, which encompasses insurance technology, has granted insurers access to an unprecedented wealth of data. This data can be leveraged to gain deeper insights into risks and customer behaviors. Furthermore, advanced analytics and machine learning algorithms empower underwriters to analyze this data in real-time, resulting in more precise risk assessments (Clough, 2023). For instance, in the realm of auto insurance, telematics data derived from connected vehicles offers valuable insights into driver behavior, allowing insurers to customize policies and pricing based on actual driving patterns. Additionally, Jennifer Hobbs, VP of data and analytics at Zurich North America, stated that the new technology for evaluating the insurance claims model will, “make humans more efficient, more powerful, more responsive” (Clough, 2023). It has become evident that the insurance sector will maintain its crucial function in furnishing financial stability and risk management for both individuals and enterprises. The future of insurance underwriting holds the prospect of an engaging voyage, characterized by persistent adjustment and inventive solutions to address the ever-shifting demands of a dynamic global environment.

Works Cited

Australian Insurance Legislation. Pacific Maritime Lawyers. (2022, April 10). https://pacificmaritimelawyers.com.au/australian-insurance-legislation/#:~:text=The%20 Marine%20Insurance%20Act%201909,the%20 Marine%20Insurance%20Act%201909. 

Fitzpatrick, S. M. (2004). Fear Is The Key: A Behavioral Guide To Underwriting Cycles. Connecticut Insurance Law Journal. 

Phillips, R. J., & Nickerson, D. B. (2011). Underwriting in Property-Casualty Insurance Markets: Regulation, Risk and Volatility. SSRN Electronic Journal. https://doi.org/10.2139/ssrn.1911350 

Henderson, G. (2023, May 11). The Underwriting Cycle. Unimutual. https://unimutual.com/the-underwriting-cycle/ 

What is underwriting? definition of underwriting, underwriting meaning. The Economic Times. (n.d.). https://economictimes.indiatimes.com/definition/underwriting 

Guyer, J. (2022, March 21). Case study: Obesity and Drug Abuse. First American Insurance Underwriters. https://faiu.com/obesity_and_drug/ 

Clough, Abi Potter | July 10, Clough, A. P., By: Allied World | October 2, World, A., By: R&I Editorial Team | September 1, & Team, R. E. (2023, July 12). Predicting what distribution, underwriting and claims will look like in the 2030 insurance value chain. Risk & Insurance. https://riskandinsurance.com/predicting-what-distribution-underwriting-and-claims-will-look-like-in-the-2030-insurance-value-chain/