An Exploratory Analysis of Insurer Groups

ABSTRACT Grouping is a widespread and interesting phenomenon of the insurance industry, among both life-health insurers and property-liability insurers. Recognizing the potentially important implications of group membership for insurer behavior and characteristics, numerous academic researchers using insurance company data have included a dummy variable in their regression analysis to control for group membership. However, it has never been clear exactly what is being controlled for when such a variable is included. This article attempts to shed light on this question. Results indicate that group affiliated insurers tend to be larger than unaffiliated insurers, are more likely to be licensed in New York, are more likely to be stock firms than mutuals, and are likely to be less geographically concentrated. INTRODUCTION In 1969, the National Association of Insurance Commissioners (NAIC) adopted the Model Holding Company Act. This adoption came at a time when noninsurers were forming conglomerates and the insurance industry was becoming very interested in diversification. As noted by Fee (1998), reasons for their interest in diversification included: (1) long-term inflation; (2) a decline in underwriting profits of property-liability insurers; and (3) the desire to develop a one-stop financial services business. The Model Act was designed, in part, to provide protection to policyholders in the light of the insurers' desire to diversify by participating in the holding company phenomenon. Since the 1960s, there have been a significant number of companies that have become members of groups. In 1999, 2,921 of the 4,077 insurers (71.65 percent) on the NAIC data tapes were listed as being a member of a group. Given that there were/are motivations driving insurers to organize in a group arrangement, it is understandable that academics would develop hypotheses as to what effects these group affiliations would have on insurer behavior. For example, Colquitt et al. (1999), in a study on the determinants of cash holdings by property-liability insurers, find support for their hypothesis that an insurer who is a member of a group would be less inclined than a nongroup insurer to hold higher amounts of cash because of the insurer's ability to look to other insurers within their group should they face a need for short-term capital. In a related study, Dumm and Hoyt (1999) find that group members tend to have a higher rate of surplus note usage, suggesting that these insurers use surplus notes as a way to transfer capital between insurers within a group. Sommer (1996) and Phillips et al. (1998) note that when an insurer is organized as a group, it has the option to allow one of the group members to fail if that member becomes insolvent, since there is generally no legal obligation for the rest of the group to rescue the failing member. These authors propose and find support for the hypothesis that insurer groups that have liabilities that are widely dispersed among their subsidiaries charge lower premiums for their policies because of the risk their policyholders face as a result of the option to allow a group member to fail. In contrast, Horwich and Weil (1998) discuss the potential effects of interaffiliate pooling arrangements, suggesting that these arrangements have resulted in "unprofitable subsidiaries [being supported] even when there is little hope for their recovery" as well as contributing to the "receivership of otherwise healthy companies in the affiliated group. " Pottier and Sommer (1997), in their investigation of the activity choices of stock and mutual life-health insurers, find that stock firms choose group membership at a greater rate than do mutuals. Also, in their study on the determinants of New York licensing of life-health insurers, Pottier and Sommer (1998) include a group dummy variable and find that group membership and New York licensure are correlated. Finally, Barth (1996) investigates the effects of group membership on the statistical variance of a property-liability insurer's reserve errors. …