Although some insurers saw their shares drop sharply today after a shock decision by Lord Chancellor and Justice Secretary Liz Truss to dramatically change the way in which personal injury claims are assessed, ultimately analysts expect consumers to be the main losers.
Neil Wilson, senior market analyst at ETX Capital said: “The change means that rather than paying 2.5% less than the court decides, insurers will have to pay 0.75% above the payout.
“Premiums are definitely set to rise to cover this but insurers’ profits are set to be knocked pretty badly too.”
He added: “While the industry was prepared for a change to the discount rate, this goes a lot further and will have a much larger effect on profits after everything is paid.”
Russ Mould, investment director at AJ Bell, pointed out that analysts “had already been expecting a cut in the so-called Ogden Rate, which is used to calculate compensation payments to victims of car accidents based on the return any money paid out can earn when it is invested.
“The lower the Ogden rate, the bigger the lump sum the insurers must pay out.”
He said: “The consensus was looking for a drop to 1.0% from 2.5%, the figure set back in 2001. The actual reduction announced by the Government today takes the Ogden Rate down to -0.75%.
“This will be a nasty shock to most, but not all, of the big insurance firms in the FTSE 100 and FTSE 250, some of whom may now struggle to meet the profit and dividend figures expected of them by analysts for 2017 and beyond.
“This will be of particular concern to income hunters who have latched on to the yields offered by Direct Line and Admiral – both are among the three highest yielding stocks in the FTSE 100, based on 2017 forecasts”.
Blue chip casualties …
Direct Line Group PLC (LON:DLG) was the top blue chip faller in lunchtime trading, dropping almost 8% to 336.2p after revealing it will make a one-off charge in its 2016 results to reflect the Ogden rate changes, which will also reduce the group's year end Solvency II capital coverage ratio.
Admiral Group PLC (LON:ADM) was the second biggest FTSE 100 lower, down 3.1% at 1,812p after also saying it will take a one-off charge against second-half 2016 profits.
David Cheetham, chief market analyst at XTB.com said: “The discount rate which is based on real yields on index-linked gilts has been at the present level since 2001 and is in essence simply the amount by which insurance companies can discount their liabilities.
“Whilst many in the industry expected a cut but the consensus had been for a move not below 1%, so this latest development has caught many off guard.
He added: “Consultants PwC have estimated that annual motor premiums would rise by 50-75 pounds on average in light of this news.”
But Nicholas Hyett, equity analyst at Hargreaves Lansdown, pointed out:“ If prices in markets such as motor insurance, which has significant exposure to personal industry claims, do start to increase then it’s a potential windfall for the price comparison industry, which should benefit from the increased switching that usually accompanies rising prices.”
“However,” he added, “in the longer term the impact on insurers is likely to be limited.”
He noted too that “higher prices should help the industry to largely offset the impact on profitability in the longer term.”