Thanks. Good morning, it's Meyer Shields of KBW's Equity Research team. Our next session is with W. R. Berkley Corporation. We are fortunate to have with us Executive Chairman, Bill Berkley, President and CEO, Rob Berkley, and we also have online, Rich Baio, who is the CFO, and Karen Horvath, who is Vice President of Investor Relations. I want to thank the Berkley team for sharing your time and your insights into what seems to me to be the noisiest period in the insurance industry that I can recall since I started getting on 30 years ago. I'm going to kick it off with the big question on pricing with a couple of nuances, I think. First, I was hoping you'd share your insights on the overall adequacy of insurance and reinsurance pricing.
I think people get that, for the most part, rates are rising, but the perception of risk is rising, and other elements of return are worse. How do you see the overall adequacy? If you could share your expectations of overall industry-wide pricing as well, I think that would be a great way of starting off our conversation. I do want to also point out to everyone on the line that if you submit questions, I'm more than happy to look at those and make sure that we are saying what you want to hear. With that, Rob, all yours.
Okay. Thank you, Meyer. Thank you for the opportunity to participate. We very much appreciate it. Do you want to kick off with any comments on pricing or-
You start.
From my perspective, I think from our perspective as an organization, I believe that the view is shared broadly and widely within our clubhouse that pricing has had a bit of a headwind for several years. There were a lot of things that led up to it. There was benign loss activity, both in much of the casualty market, and we went through a period of time for a while where, quite frankly, the property market experienced benign loss activity as well. What has happened over the past several years, it's been a growing groundswell, is we've had a couple of forces. First of all, we've had the realities of lower investment income coming ever more into focus, and that is certainly the case today. That is really been something that's been eroding over time.
Number two, we have seen a growing level of momentum as it relates to social inflation, which is certainly something that I think we're all focused on, which, in other words, is just an important component that's driving loss costs up. Social inflation rears its head in many ways, but particularly on the liability lines. I use the words a building groundswell deliberately because it's not like property cat, where all of a sudden there is an event and it comes into focus and quickly people recognize there's a rate adequacy issue or the nature of the exposure has changed. In the liability lines, it just happens gradually over time, and eventually it comes into focus very sharply, but you may have, and we as industry, there are many historic examples where we will have drifted off course.
I think those realities coming into focus very quickly at this stage. From our perspective, by and large, rate adequacy is short of where it should be. It is perhaps the most pronounced in the reinsurance market and some of the excess lines, but it, quite frankly, is prevalent throughout the industry. That is why we are seeing the type of response from the industry in pushing for the necessary rate. From our perspective, we do not see that momentum shifting. We see it continuing to build. As we've commented in the past, the need is not equal in all product lines. All product lines from a pricing perspective do not march in lockstep.
We have commented in the past, for example, how commercial auto pricing some number of years ago started to firm, and we started to see that impacting other lines of business where we saw the momentum building in some of the professional lines. We are seeing it in the GL lines now more and more. Simultaneously, we're seeing the erosion of comp rates. From our perspective, that's been going on for some number of years. You're likely late this year or next year, see that rate erosion bottoming out, and perhaps by the time we roll around to call it 2022, you'll see rates in all likelihood moving in the other direction. That's a high-level perspective as to how we're seeing rates.
Again, long story short, rate adequacy is still a challenge for the industry, and we do not see anything that would derail the momentum from building from here.
Okay. Fantastic. A related question with regard to adequacy, I think there's an awareness now among many industry participants that you need to price for these really remote events, like what is hopefully a once-in-a-century pandemic and the associated issues with that. Can you talk about how you see that getting priced in or impacting pricing? I'm describing it as a remote event, however you would characterize it would be helpful.
I think I'd only say one thing to start with, that is you can't cover things that will be universal events, which is why pandemic is not covered, because everyone has risk simultaneously.
Right.
Remote events or the unforeseen, if you will, are always, in theory, priced in. It's what catastrophes are. Then you go to the remote catastrophic event, I think it's really the edge of pricing, and it takes place when the things Rob was talking about before. Prices have to get adequate to give you a margin for that. You have to differentiate things like the pandemic, which are universal risks, that insurance is spreading the risk. It's not covering risks that everyone has simultaneously. I think that adequate pricing should cover the unforeseen event, and it's got to get to be adequate to do that. This has happened in every pricing cycle, when they become adequate and you don't have those very unusual events, everyone celebrates the extreme profitability and forgets about those unusual, unforeseen events and thinks it's great.
Yeah. If I could just add to that, I think as far as COVID-19 and that situation that we're all trying to cope with and work our way through, as far as the industry is concerned, certainly there is the question around pricing, as suggested a moment ago, but that's really something that's going to be addressed, in our opinion, through policy wording. We think the wording by and large is clear, and that's going to work its way through the legal system. Without a doubt, there will be further clarification around that. To that end, a lot of the focus has been around wording on the property front, particularly around BI.
From our perspective, it is likely you will see a concerted effort on the part of the industry clarifying on the liability front as well in many cases, that there is no room for misunderstanding, that the policy is what it is intended to cover and what it is not intended to cover when it comes to things such as communicable disease.
Understood. Yeah, that makes a lot of sense. I want to give Berkley some explicit credit because, as you pointed out, detecting social inflation is a lot harder, or detecting changes in social inflation is a lot harder than counting car accidents. You've been beating the drum about social inflation becoming a worsening, and I would say compounding concern for a while. I was wondering if we could dig a little deeper into maybe the variations of social inflation. Does it vary by region?
Does it vary by account size? By line of business? Now that we're going through, again, hopefully getting closer to the end of the pandemic, is that alleviating or exacerbating those pressures?
Well, from my perspective, I think we all have finally gotten our head around that social inflation, to your point, is real. Does it vary by territory? Does it vary by product line? Clearly, certain territories, certain venues are more litigious, if you will, than others. Certain product lines lend themselves to having to cope with this circumstance more than others. The pandemic, I think there's multiple sides to the situation. One, there was a period of time when things were locked down very tight from the perspective of society. As a result of that, there were not cars and trucks on the roads. You didn't have slip and falls. There were a whole host of things that led to there being, in all likelihood, a period of time where frequency will prove to be down considerably.
I think that that will come, and it has come into focus and will come to focus further. I think the other piece sort of going the other way, if you look at the level of litigation and just general legal activity around COVID-19 circumstances, if you like, it is very clear that we are living in a society today that is very litigious. There are examples of where before claims are even filed by insurers, they're already filing a lawsuit. One would have thought intuitively, well, you put in a claim before you would even file a lawsuit. I think that would be a data point that speaks to how aggressive the plaintiff and how aggressive parts of society are around looking for a legal remedy, which perhaps is not how people would have thought about things historically.
As it relates to the insurance industry, ultimately, as we've commented in the past, whatever the outcome is, ultimately it's society that will pay the price because we are nothing more than a mechanism to help society cope with and spread risk. As the costs go up, if they were to go up, then ultimately premiums will go up.
Understood. I guess we're certainly seeing that manifest itself. I'd like to go back to the comments you made about workers' compensation, because it seems like we've got two or three different dynamics going on right now. On the one hand, the contribution from investment income for a medium-tail line of business, that's getting worse. Certainly, as you said, the threat of litigation is worse than it had been and may be getting worse. On the other hand, we do have depressed or delayed claim frequency. I was hoping you could flesh out your optimism on that potential pricing inflection, I think you said 2022, which seems like a reasonable timeline, and how that accommodates those contributing factors.
Look, from our perspective, there is, in much of the insurance industry, as frustrating as it may be, a delayed reaction, and we tend to make choices as to whether we're going to steer the vehicle to the left or the right, oftentimes based on what we see in the rear view mirror. Again, that is what drives this delayed response and is a meaningful contributor to the cyclical nature of the industry, amongst other things. When we look at workers' compensation, there is no doubt that when people were sheltering in place, that is going to have an impact on loss activity. Clearly the case.
Having said that, from our perspective, knock on wood, hopefully society will be able to be continuing to open up, and hopefully that will happen at an accelerating pace and people will be back to work and all the good things that will come with it. From our perspective, this period of time when loss activity from a frequency perspective in particular has been somewhat benign, that is going to be, in scheme of things, a relatively short, somewhat defined period of time. What has been going on for a more extended period of time has been a consistent and somewhat gradual erosion of pricing for the industry when it comes to workers' compensation. It's been several years now.
While trend has certainly been the industry's friend when it comes to frequency, both long-term and particularly, as discussed a moment ago in the immediate term, there is no doubt in our mind that it is highly likely that there is going to be a growing impact of the rate action that has been taken by the industry, led by state bureaus over the past several months. One cannot avoid that reality. Is it going to end in tears? Is it going to be as severe as it's been at moments in time in the past? I don't know. We'll have to see. Clearly there will be an impact, and from our perspective, leading to an inflection point in the comp market due to the erosion of pricing over the past several years now.
Great, thanks. I've gotten the same question actually from multiple people submitted, I'm going to present it to you. That is that with this combination of a recovering economy, recovering exposure units and recovering claims, and a positive pricing environment, how are you thinking about the potential for, I guess, both top-line growth in the context of premiums, and core or underlying loss ratio, combined ratio improvement as these higher rates earn in?
Obviously, as I think we're all aware, there are a lot of factors that go into that. Before, did you want to?
Why don't you start?
Okay. I'm going to lead off fire, then he's going to correct me. There are a lot of factors out there. Factor number 1 is clearly, we have a rate environment where the type of rate increases that we've been seeing for the past several quarters are significant. Over the past few quarters, I think it's unquestionable that we are comfortably outpacing loss cost trend by several hundred basis points. Will that impact margin? Without a doubt. In addition to that, as we discussed a moment ago, shelter in place, is that going to have an impact on loss costs for some period of time? Clearly. As it relates to growth, we as an industry are not completely insulated from the health and wellbeing of our insureds. When our insureds, their businesses are shrinking, that impacts us.
Much of what we do is priced off of payrolls or priced off of revenue or receipts. Not all, but much. It's not just when their businesses are shrinking, but when they go out of business, clearly they do not need to buy insurance. The way we think about things at this stage is, are margins improving? It's hard to imagine they are not. In other words, yes, it is our expectation that they are. Rate adequacy from our perspective is always paramount importance. When you see where we're going and how we're growing the business at this stage, a lot of it is being driven by rates. There is a modest but existing headwind having to do with the health and wellbeing of our clients.
Long story short, I think you're going to continue to see rate, I think you're going to continue to see margin improvement. As the economy opens up, you're going to start to see our growth rate accelerate considerably from here, is how I would see things going forward.
Okay. Thank you. Bill, you were going to add something, I think.
Yeah. I think that everything in that question is reasonably easy to predict, except that economic activity issue.
Right.
Economic activity issue has to do with what's going to happen, what are the politics going to be, what's stimulation going to be. I think that ultimately, the insurance industry is a reflection of economic activity to a greater or lesser degree. You see the economy down eight or 10%, we may make all of that and then some up with pricing, but we're not independent of that economic activity. That's really going to be a cornerstone, and we would expect the economy is going to do better than it has done for the past couple of quarters. Will it resume robust growth is not something that's easy to call at the moment.
When it does open back up, and once the economy starts to fire on a few more cylinders, I think it's likely that you will see our growth rate steepen considerably. If you look at history, we as an organization, because of the nature of the types of businesses that we have within our group, the types of business that we write, we do particularly well during these type of market conditions.
Right. Can I ask you to flesh that out a little bit? I think I understand what you're saying, but I was hoping for a little more color.
Because of the nature of the business that we write, a significant amount of our effort is in the specialty lines, particularly the E&S lines. As you see a firming market, a lot of that business will come out of the standard market, make its way into the specialty market and E&S market. What we have seen over the past several quarters is a lot of change in behavior in some of the large specialty and E&S players. More recently, what we're seeing is not just that, but we're seeing a growing level of momentum of a change in appetite coming out of the standard market as well and driving more business into the specialty and E&S market. Again, hard to know exactly how firm the market will get and how much is going to be coming flooding into the specialty and E&S market.
Clearly, we are seeing growing submissions at a very healthy pace. We are seeing the opportunity to get the rate, we are clearly seeing the opportunity on the terms and conditions front, which I know is something that is very difficult for people outside looking in to try and quantify what does that mean. A lot of people get very consumed on, well, how much rate are you getting? Then they try and back into what does that mean for margin based on their loss cost trend assumption. I would tell you, as powerful as rate is, terms, conditions, attachment point, et cetera, et cetera, has as much or more leverage on our bottom line than just straight up rate.
Okay. I agree. It's certainly difficult for us to put into a chart, that's an important statement that you're making. Over the past 10, 20 years, there's been a thesis that I think has been disproven that from an industry-wide perspective, you've got better data and analytics, therefore, that will moderate the cycle. I think we're seeing, for relevant lines of business, a legitimately hard market. In the past, hard markets have overshot, they ultimately turn into soft markets. I was wondering how a company with the antennae that Berkley has can take advantage of that industry-wide tendency to overshoot pricing, and maximize return generation given that proclivity.
Did you want to?
Look, from our perspective, data and analytics clearly have been, continue to be, and will be ever more important tools for the industry to use. To your point, the cycle is still alive and well, and the pendulum still swings back and forth. Do I think that the data and analytics help us make better decisions? Clearly, they do. Do I think it is going to completely ameliorate the cyclical nature of the industry? No. Why? Quite frankly, the cycle is driven by human nature as much as it is anything else. The data and analytics have been there and available for many years, but people choose to read the tea leaves in a way that tells a story that they want to hear, from our perspective. I think that there will be more data and analytics in the future.
I think it will certainly help product lines where there are large data sets, where there's a degree of homogeneity. When you're in the specialty lines the way we are, while we certainly are using those tools more and more every day, there's not necessarily always the same level of applicability because of the nature of the business not having the level of homogeneity in the data sets.
Okay, thank you. A question, pardon me, that was recently submitted is just looking for an understanding of the interplay of rate increases and margin between insurance and reinsurance. You'd started off saying that reinsurance was more pressured. Are we seeing a catch-up in rate adequacy there?
I think the reinsurance market is trying to catch up. I think that we are seeing greater efforts for discipline to return to that market than we have seen in, I don't know how long, but it's a long time. From my perspective, the reinsurance market probably in some respects came farther off-track than the primary or the direct market, so it has a longer way to go. It will be interesting to see what happens at 1/1, the next big renewal date. For us as an organization, because of the type of business that we write, we are less dependent on the reinsurance market than some of our peers.
Certainly, we have a reinsurance presence where we assume business, and my colleagues that have run that business have done a fabulous job being very disciplined over the past several years, not following the foolish behavior down the drain. We are looking forward to market conditions continuing to improve. You'll see a bigger part of our business having shrunk as a result of that discipline I referred to a moment ago over the past many years. I think long story short, reinsurance, they have a lot of wood to chop to get to a better place. I think the whole market does, but particularly reinsurance. I think it's going to happen, and we're looking forward to participating in that as a reinsurer. We'll have to make judgments as a buyer of reinsurance, what makes sense or not.
Again, we are far less captive to the reinsurance market than many others because of the nature of business we write.
No, that makes perfect sense. We've certainly seen the demonstrated discipline in terms of premium volumes. That is always the better of the choices that are available. I would add, we've seen positive commentary from a number of large European reinsurers really over the past day or so. I personally view them as the biggest risk to underwriting discipline. The fact that they're singing from that particular hymnal, I think is a positive sign for reinsurance. A related question in terms of pricing, and that is that we're heading towards an election season. How do you incorporate that political uncertainty to the extent that it matters in terms of, I don't know, judicial appointments or legislation should there be a change in administration with their, I think, acknowledged differences in how these matters should be approached?
As far as the legal system goes, certainly there are a lot of drivers, but our view has been and continues to be, again, there's a bit of a delay. I would suggest that one of the contributing factors that we have seen that has led to the legal environment that we are facing today, and by extension, a degree of social inflation, has come about as a result of the Obama era or administration. I think it is likely as the Trump appointees to the bench are taking more hold, you're going to start to see the pendulum swing back the other way. Who will be the next president and what that outcome will be, we'll have to see with time. If you were to see Biden elected and you saw the Democratic Party having more of a control over Washington, D.C., will there be an impact?
Clearly. As far as the legal environment and by extension, the claims environment, that will take some number of years in all likelihood to come into focus.
Thank you. Can we talk a little bit about, in the same context, Workers' Compensation with specific regard to the expanded presumptions of compensability? How much of that are you seeing in terms of claims? How much of that is an appropriate extension rather than an inappropriate changing of the rules of the game?
Meyer, I'm not a politician, and consequently, am not going to opine or offer a view as to what is appropriate or what is not appropriate as far as decisions that are made by governors by state. By and large, was a pandemic and the exposure around communicable disease fully contemplated by the Workers' Comp market? No, I don't think it was. Do I think it has an impact on loss costs? Yes, clearly, I think it will. Is it likely to be as overwhelming or even notable or material? As some people have speculated, certainly based on our experience so far, we do not think it's going to be the earth-shattering event that some people that like to make headlines have suggested. At least that's what we're seeing in our data so far.
Doesn't mean that it won't prove to be more of an issue in the future, I don't know. I can just share with you from our perspective, we don't see this as being the overwhelming industry event. There will be claims. There are claims. There will continue to be claims.
Okay. Thank you, and I appreciate the fact that you're not a politician because if nothing else, it gives me confidence that we can trust what you're saying is something that you believe. I want to talk a little bit about a specific Berkley strategy of decentralized underwriting. What you see as the costs and opportunities embedded in that, both with regard to the disruption that we're seeing and over the long term, when hopefully these things fade.
I'm going to start because we've spent a lot of time thinking about it as we've gotten bigger. When we started, we were a very small company. We needed a competitive advantage and being close to the customer in an era where data was really what you got directly from the customer, there were no big databases or anything like that. Being close to the customer, having relationships locally gave the ability to respond quickly and appropriately. We continued with that strategy, and that strategy worked well. We had three regional companies, then we bought the Admiral Insurance Group. Again, a focus on distribution. We continued that focus until now we have 50 plus operating units, the world has changed because data and information is available, you know much more about your customers and the markets and how you look at things.
Still a real advantage, not as big an advantage as it was then. When we started, it was an overwhelming advantage. Good regional companies made 10 points more underwriting profits than the national company. It's changed. It's not as dramatic a difference. You've got to look in how you combine data and local control and relationships.
I would just add, I share the views that were just expressed. I would just add that this time, any time of meaningful transition is when our decentralized model is at its greatest competitive advantage. Why? Because we are, A, closer to the marketplace, closer to the customer as far as the decision-making, and we are able to pivot and bob and weave more quickly oftentimes than many of our competitors. It has always been an advantage. It continues to be an advantage, but it is most notably an advantage when you see a marketplace where there is a meaningful transition or change, then we can adapt more quickly than a more traditional insurance industry model can.
Great. Thank you. That, I think, flows naturally into the next question, and that's in the subject of data and analytics and technology. What we're trying to get are concrete examples from individual companies of the competitive or internal advantages that they've been able to build. I was hoping you could spend a few minutes talking about Berkley's strengths there.
Who do we mention?
Mark, sorry. I want to make sure I'm clear, the competitive strengths that we've been able to create on the data and analytics front.
Data and analytics or what we would call insurtech maybe in another context. I want to get a sense in terms as this transitions from an abstract theoretical concept to things that are happening literally today, trying to understand your company's strengths.
We try and figure out how we can have the best of all worlds. On one hand, we're conscious of the fact that we have these 53 different operating units, and we need to build ways and explore ways for them not to be islands and isolated from one another. We need to leverage the scale and the benefits of bringing the knowledge, the know-how, and in particular, the data together. We're doing every day a better job, in my opinion, of finding ways to use the data, not just locally, but at a group level, and then returning that information at a group level to colleagues locally to be able to make better decisions. In addition to that, it's an overused word, particularly these days, and that being innovation.
We are big believers that one needs to be constantly, as my boss says, dissatisfied with the status quo as an organization throughout, both locally and at the group level. With these 53 different operating units that are populated by very intelligent, skilled individuals, we effectively have 53 different laboratories. Each one of those organizations is strongly encouraged to be running experiments on how do they want to change their business, how can they do it better, and we are driving that through. Again, it's an example of how we are able to experiment in many different places in a relatively modest way with the idea that there is great opportunity for us to leverage those learnings and populate that knowledge base across the group. We've had a real concerted effort around that over the past couple of years.
Really, the philosophy has been part of who we are for many decades at this stage.
Understood. Can you talk a little bit about the process of disseminating these successful laboratory experiments to other units?
There'll be an initiative, an experiment, what have you, in one pocket of the organization. We have a variety of tools that have been created and continue to be refined that will allow that information to be shared with counterparts at different organizations in the group. At each one of the operations, in addition to the senior leadership, we're trying to involve all people throughout the organization to participate. At each one of the companies, we have an individual who has been deputized, labeled, anointed the innovation leader or innovation coordinator. They help both drive the initiative in the local operation. They are also a key participant in making sure that the cross-pollination happens throughout the group.
We also have some people at the holding company that help facilitate that as well and have played an important part in developing the architecture behind this for the group as an initiative.
Okay, thanks. I did want to take the opportunity to ask Bill his thoughts on the investment environment right now, where the opportunity is in fixed income, equities, and any investment funds. Overall, your approach, your level of optimism or pessimism.
Well, I think that it's a clearly tough environment. In spite of the indexes showing behavior that you think the market's better than it is, there's lots of attractive securities still because many stocks are still closer to their lows than their highs. I think that again, that looks at the economy. We think that there are attractive, reasonably yielding common stocks. We think that the private equity market is very competitive still because debt is cheap and people are being pretty aggressive in what they pay for things. We think interest rates are going to stay relatively low for at least another few years. You have to keep looking for what's out of sync at any moment in time, and therefore it makes it much more difficult to get those good opportunities. You have to be patient.
Some broker, investment income going down, a little more volatility into these specific opportunities. Where we have more liquidity, we're willing to sell it and search for opportunities that for some reason or another offer us better than average return. Even when you look at that, however, you're looking for lower levels of investment return than you had five years ago. Tough environment, full of risk, and you need patience. The current level of liquidity is costing us a lot. While we're seizing opportunities now and again, our most overpriced things we're perfectly willing to sell and have more liquidity. It's a long-term game. It's not a sprint, it's a marathon.
You have to be willing to have liquidity, to have flexibility, and we are, and we're willing to just wait for opportunities and constantly are looking, and now and again, we're finding them.
Excellent. It looks like we're at the end of our session. I did want to see whether you had any final comments that you wanted to leave us with and to thank you for what has, as usual, been an incredibly informative session.
I think one question that's in the past, Meyer, which I think is a very fair question, though sometimes I grind my teeth over it a little bit, is what is it that we don't think is understood by many about this organization in so many words? We have these discussions, and we talk to investors, but I think one of the questions that people grapple with is they look at us and they look at our multiple and maybe they compare it to other names that are on the sheet, and they say, "Well, you guys look a little bit expensive." From our perspective, well, that's one way to look at it. Our view is that sometimes you get what you pay for.
If you look at our ability to build book value for shareholders over an extended period of time, you compare that to many of the other names that might appear on that sheet of comparables, our value wouldn't look particularly expensive at all. Again, from time to time, you've asked, I think people understand. I think people tend to look at us just as a snapshot as to what the multiple is, people need to think about the multiple relative to earnings power and our ability to grow book value for shareholders compared to peers, not just a multiple in a vacuum.
Over the long run, we've compounded book value at a little over 17% a year.
Yeah. Absolutely impossible to argue with that. Thank you very much. This was great. I really appreciate you taking the time to meet with us. We will speak soon.
Great. Thank you for the invitation. Take great care.
You as well.
Thank you.