The Hedging of Work Comp

Workers' compensation, like most property and casualty lines of insurance, goes through a cycle. Work comp in particular for many states seems tied to a seven to ten year cycle of "hard" versus "soft" markets.

A "hard" market is where the insurance industry has more control and power over pricing. A "soft" market is where the consumer of insurance products has more power - i.e. there is more price competition in the market.

Some analysts have been saying that the current market is an interesting mix of the two - that there really isn't any great power in the industry to raise prices because there's plenty of capital seeking returns, but carriers have been able to get away with increasing prices to make up for the soft investment environment.

And employers aren't revolting yet.

Willis Group Holdings is an international risk advisor and insurance and reinsurance brokerage that makes annual predictions as to the insurance market, including workers' compensation.

In a press release Monday, Willis North America's Chief Placement Officer Matt Keeping said that the market might be heading for a disruption of the traditional softening and hardening cycle of property and casualty insurance rates.

And it seems that this year is an example of what Keeping is saying.

For workers' compensation insurance, the group predicted rate changes between a 5% decrease and a 5% increase, although some large state markets post likely increases.

In its semi-annual "Marketplace Realities" report, Willis says that California might see an increase of about 8%. Other states with potentials for price hardening include New York, Massachusetts and Pennsylvania.

California's independent rate-making agency, the Workers' Compensation Insurance Rating Bureau, has filed an advisory rate of $2.77 per $100 of payroll for 2015. That represents a 3.5% increase above the $2.68 advisory rate the state's insurance commissioner filed last year.

Even Bowzer can smell the money.

The Willis report does not take into account the financial chicanery that is used to sell insurance such as dividends, rebates, rate adjustments etc. But an alarming note to me is that Willis says that hedge funds find workers' compensation investments attractive.

"Despite several leading carriers moving away from the line, the hedge funds see predictability and profits, even if one of the predicable aspects of Workers’ Compensation is that 15-20% of the loss cases can last the life span of the injured employees," the report states. "Part of the hedge fund interest is in ancillary services associated with Workers’ Compensation and managing of the claims."

Indeed, the "long tail" of workers' compensation is PERFECT for a hedge fund to make money via "ancillary services" - if a case is going to last 15 years, that's 15 years worth of bill review, utilization review, copy services, interpreting services, etc. etc. etc.

Investopedia defines a hedge fund as "an aggressively managed portfolio of investments that uses advanced investment strategies such as leveraged, long, short and derivative positions in both domestic and international markets with the goal of generating high returns (either in an absolute sense or over a specified market benchmark)."

Seems the Willis observation of hedge fund participation in workers' compensation fits this definition precisely.

Yesterday I questioned whether utilization review, and other "cost containment" programs, were nothing more than new profit centers that add no value to workers' compensation claim management - and this Willis statement should be sending strokes of chill down the backs of anyone that really cares about the health of the system.

You can't tell me there's any altruism with investment in workers' compensation "ancillary services," and certainly much of the issue with claims mismanagement is tied to pure greed actually sending capital out of the system.

If there's anything the matter with workers' compensation it's this conflict between social obligation and financial return - and this is where the government must be particularly vigilant in regulation.

Anytime there is a captive market there is plenty of room for abuse, and the trend of increasing "cost containment services" expenses (which really should be called "profit enhancement services") should be an alarm to all state insurance and industrial relations departments; particularly California which represents over 20% of the total national market with a forecast $16 billion in premium to be written in 2015 and about half of a billion dollars per year being spent on "cost containment services."

"With policyholder surplus at record levels, insurers are increasingly in a position to compete for business on price," Keeping said in the statement. "With opportunistic capital continuing to show interest in the insurance sector, we wonder if the traditional cycles of hard and soft market might be changing."

I don't think the "traditional cycles" are changing. I think they are becoming more acute, and more volatile. Hedge funds and their investments in "ancillary services" is one reason why - because profit heading outside the industry trumps people to be served within the industry.

The full report is available here.