The six-year underwriting cycle for group health has been uncannily consistent over the years

By Darrell Knapp

Is it time for the downside of the group health insurance cycle to return? Many pricing actuaries at health insurance companies say they are being “selectively aggressive” with rates while insisting that they have no intention of encouraging a downturn by engaging in underpricing. No wonder the chief financial officers at these companies are having sleepless nights.

While the crystal ball is a little cloudy, our best guess is that the increased Medicare provider reimbursement levels will restrain medical cost trends enough to make 2004 another profitable year for group health carriers. However, the burgeoning surplus levels of many not-for-profit carriers will likely increase the pressure on profitability in 2005.

The six-year underwriting cycle for group healththree years of profitability followed by three years of losseshas rolled along with uncanny consistency over the years. The extended period of profitability ushered in by the advent of managed care in the early 1990sthe so-called “managed care dividend”was a rare exception to that pattern. Now, health insurance executives are getting anxious as they spot the signs that a downturn may once again be headed our way. Those signs include:

The closing of the gap between pricing trends and experience trends. Recently, pricing actuaries have used trend levels to set premiums that are slightly higher than what experience seems to call for, bearing in mind what happened in the late 1990s when a spike in medical costs caused losses for many health plans. However, the affordability of health insurance is a growing issue, and the market is no longer as accepting of the higher rates. Many carriers now are reporting pricing trends at or even 1% to 2% below recent experience based on projections of more favorable provider contracts and utilization levels.

Surplus level concerns. Many not-for-profit carriers have developed robust levels of surplus. To address concerns about excessive surplus, they are trying approaches ranging from premium rebates and “holidays” to specific price reductions at renewal. All of these techniques will adversely affect industrywide premium levels.

New forms of competition. Defined contribution health plans and health savings accounts offer new coverage alternatives, increasing the pressure on traditional plans to cut rates in order to retain existing market share.

Selective aggressive underwriting. Many carriers have indicated a desire to be “selectively” aggressivean approach that, in the aggregate, has a negative impact on premium levels. It doesnt take much pressure against the thin medical insurance profit margins to turn a profitable block into a big loser.

But even with these clouds on the horizon, some fundamental changes in the industry lead us to believe that a downward cycle is not certain and that if one does occur, it will be briefer than in the past. One change is that many carriers have implemented or are looking at desktop information management tools that will boost managements ability to identify and react to even slight changes in medical cost and pricing trends. The trend models used at many carriers today also are more robust, including information from predictive models and improved linkage with provider contracting areas.

Also, unlike at the start of the last down cycle, the health insurance industry today is dominated by for-profit carriers. Its unlikely that Wall Street will be as willing to accept an extended period of losses to maintain market share, as often occurred when the industry was driven by not-for-profits. This is a major reason why any downturn will be substantially shorter.

Finally, as part of the 2003 Medicare legislation, many providers received a bump in their Medicare reimbursement levels that should make contracting with providers easier for carriers. Many of the profitable periods in the cycle have coincided with periods when Medicare reimbursement levels were favorable to providers. The “survival pressure” release for providers that comes with improved Medicare reimbursement levels generally flows downstream into easier commercial contract negotiations. This increases the probability that the more aggressive pricing trends currently being used by many carriers may be realized.

We believe that, in the short term, these favorable factors may outweigh indicators pointing to reduced profitability. However, pressures relating to increased surplus levels for not-for-profits and growth for for-profits may overwhelm the favorable factors in the long run.

Darrell Knapp is a principal in Ernst & Youngs Insurance Actuarial and Advisory Services practice in the firms Kansas City, Mo., office. He can be reached via e-mail at darrell.knapp@ey.com.


Reproduced from National Underwriter Edition, August 12, 2004. Copyright 2004 by The National Underwriter Company in the serial publication. All rights reserved.Copyright in this article as an independent work may be held by the author.