An expected recovery in insurers’ profitability didn’t go to plan last financial year but with premiums rising and pandemic business interruption claim risks factored in, the anticipated rebound is likely back on track.

The annual Finity Optima report sees the industry in an improved position 12 months from now, even if it is still only part-way to desired profitability levels, and with lingering COVID unknowns adding to typical catastrophe claim uncertainties.

“Premium growth should continue to be strong due to both system growth and margin improvement,” the report released last week says. “It should be another year of commercial lines leading the way on pricing with private motor and householders not far behind.”

Most of the pricing increases will simply counter claims cost inflation, but there’s tipped to be just enough of a gain overall to improve underlying loss ratios.

Improving profitability will be all about underwriting performance, with investment returns still curbed by low interest rates and prior year reserve releases a well that has largely run dry.

The exception on reserve releases could relate to COVID-19 business interruption claims, with insurers having made substantial provisions in the past year as industry test cases and other legal actions have taken place.

The absence of further significant business interruption reserving removes a significant headwind, but the report makes no assumptions on any reversals of past provisioning, with the second case still to be concluded after an initial judgment supporting insurers.

“There is still a process to go through with the appeals, anything can happen and there is a wide variety of wordings out there,” Optima report lead author Andy Cohen tells insuranceNEWS.com.au. “But if it goes well, I think that some of those reserves could be written back.”

Overall, the industry return on equity is expected to improve to 7.2% from 2% while the insurance margin should rebound to 5.7% from 0.2%.

The outlook for individual insurance classes is mixed. Travel and general liability are still expected to be lossmaking, while most other areas may see an improvement, while remaining below the 10-15% targeted return on equity (ROE) levels.

Travel’s performance will depend on pandemic-related restrictions, locally and overseas, while standalone liability faces continuing material reserving increases and a still hardening reinsurance market.

Business packages have been below target profitability on an underlying basis, putting aside the COVID-19 issues, with other factors also at play.

“Insurers are also facing a number of strategic issues, including increasing competitive pressure, greater pricing sophistication, the potential need to offer automatic flood cover and the growing demand for cyber cover,” the Optima report says.

“Having said this, we feel there is strong potential for profitability and profitable growth for insurers who can navigate these issues successfully.”

Motor lines have benefitted from above-target profitability as lockdowns and restrictions resulted in fewer claims. Rising demand for delivery vehicles has boosted the commercial side, while competitive pressures have increased due to new market entrants.

“In the short term, while mobility is low, insurers are facing the risk of competitors reducing prices as a way of growing market share,” the report says.

“However, in the medium term, as mobility returns to pre COVID-19 levels, premium increases will be required to maintain target profitability, particularly as claims inflation continues to emerge.”

Commercial and personal property lines experienced a more normal level of perils last year after the catastrophic previous season, and both are expected to improve profitability, while remaining below target levels.

On the personal property side, COVID-related supply chain disruptions and shortages have exacerbated claims inflation, with the average building claim size rising 20% to $8800 last year.

Gross earned premium is expected to rise to 9% from 6%, but Finity says it may take a number of years for householder profitability to return to acceptable levels.

Financial lines are likely to see rate momentum slow, depending on the sector and recent performance, after premium increases over the past four years.

Construction and finance are likely to see upward pressure as capacity issues persist, while COVID-19 impacted sectors such as tourism, retail, healthcare and aged care could face heightened claims risk. Other areas may experience some easing as higher rates entice new capacity.

Overall, on a reported basis, financial lines are expected to experience claims pressures as the Royal Commission and COVID-19 impacts continue to come through, making it less likely the industry will report a profit for the class in the short term.

Compulsory third party has benefitted from lower mobility, but reserve release levels have declined, while workers’ compensation issues include potential rising claims costs as pandemic restrictions ease.

Across the insurance landscape, Australia’s recovery from the pandemic, possible inflationary pressures and longer-term societal impacts will be closely watched as underwriters adjust to new COVID repercussions.

“One thing that is unknown, or a wildcard, is the economic trajectory and changes that may come about as a result of changes in ways of doing business and the way we are working,” Mr Cohen says.

COVID-19 has not vanished, another flood-inducing La Nina year is possible, and there could yet be another joker in the pack, but the Optima report suggests the rebound that didn’t happen last year may this time really be on the way.