Tough markets to challenge RSA

When RSA Insurance reported its full-year results last month there was much that should have pleased investors. For example, the group's international operation bolstered premium rates by 8 per cent in 2009 and its emerging markets business pushed through a 13 per cent rise in rates. But in the UK - a market described as "tough" by chief executive Andy Haste, and responsible for delivering about 40 per cent of the group's gross premiums - rates slipped by 3 per cent. And 2010 is likely to hold further challenges for the underwriter.

That's partly because the insurance market is facing an uncertain future now that the trend of hardening premium rates, which began in the autumn of 2008, is beginning to weaken. Bizarrely, those buoyant conditions were originally generated by the losses arising from hurricanes Gustav and Ike - estimated to have cost the insurance industry as much as $24bn (£16bn) - and the hits to underwriters' investment portfolios as the financial crisis took hold. Those events left underwriters with little choice but to hike premium rates in order to rebuild their reserves. Yet 2009, unlike 2008, saw few big claims, leaving comfortably-capitalised underwriters tempted to chase business by cutting premium rates.

But, unlike the Lloyd's insurers whose premium rates are beginning to fall from historically high levels, RSA focuses on highly competitive and less profitable business lines, which means it is badly placed when conditions soften. For example, during 2009 many of the Lloyd's insurers reported double-digit rate increases in such specialist areas as catastrophe-related business. That leaves them well positioned to continue delivering decent underwriting profits for quite a while even though rates are slipping. But RSA's growth prospects look pedestrian in comparison. The group's UK household insurance book saw rates rise by a modest 3 per cent in 2009 and even RSA's best performing UK segment in 2009 - personal motor - managed a not particularly special 7 per cent rate rise.

This focus on low-growth areas leaves RSA structurally less profitable than many other insurers. Broker Numis Securities estimates that the group's ratio of claims to premium income will be 93 per cent for 2010. That's reasonably profitable, but it's far less attractive than the ratio that Numis forecasts for Lloyd's insurers Amlin (81 per cent) and Omega Insurance (77 per cent).

Still, RSA's efforts to restructure itself after being hit hard by the need to hike provisions against US claims in 2002 deserve a round of applause. Indeed, since Mr Haste took the helm as chief executive at that time, the group has become much more focused. His actions included hiving off the Australian and New Zealand business, selling the UK life-insurance unit and, in 2006, finally ditching the dreadful loss-making US unit. That has left RSA free to focus on its fairly profitable - if rather competitive - UK, Canadian and Scandinavian operations.

RSA's investment book looks in reasonable shape, too. The portfolio is dominated by high-quality fixed-income investments and cash, with riskier looking equities representing just 7 per cent of the book. And, while the group's investment return did fall by 10 per cent in 2009 to £616m, the average underlying yield on the book still reached a decent 3.9 per cent in 2009. Not all of RSA's Lloyd's peers can boast such a decent investment performance; Beazley, for example, reported a rather less attractive 2.9 per cent investment return with its full-year figures last month. Although RSA's isn't the most profitable investment book play around, either - Catlin managed a 5.9 per cent return in 2009. And RSA's management expects the investment gain in 2010 to be no more than around 2009's levels.