Travelers 2012 Annual Report Download - page 154

compensation reserves represent approximately 34% of the Company’s total claims and claim
adjustment expense reserves.
The Company’s change in reserve estimate for this product line was 2% in 2012, 0% in 2011 and
1% for 2010. The 2012 change was primarily driven by better than expected frequency and severity
related to lifetime medical claims for accident years 2008 and prior.
Fidelity and Surety
Fidelity is generally considered a short tail coverage. It takes a relatively short period of time to
finalize and settle fidelity claims. The volatility of fidelity reserves is generally related to the type of
business of the insured, the size and complexity of the insured’s business operations, amount of policy
limit and attachment point of coverage. The uncertainty surrounding reserves for small, commercial
insureds is typically less than the uncertainty for large commercial or financial institutions. The high
frequency, low severity nature of small commercial fidelity losses provides for stability in loss estimates,
whereas the low frequency, high severity nature of losses for large insureds results in a wider range of
ultimate loss outcomes. Actuarial techniques that rely on a stable pattern of loss development are
generally not applicable to low frequency, high severity policies.
Surety has certain components that are generally considered short tail coverages with short
reporting lags, although large individual construction and commercial surety contracts can result in a
long settlement tail, based on the length and complexity of the construction project or commercial
transaction being insured. (Large construction projects can take many years to complete.) The
frequency of losses in surety generally correlates with economic cycles as the primary cause of surety
loss is the inability of an insured contractor to fulfill its contractual obligations. The Company actively
seeks to mitigate this exposure to loss through disciplined risk selection and adherence to underwriting
standards. The volatility of surety losses is generally related to the type of business performed by the
insured, the type of bonded obligation, the amount of limit exposed to loss and the amount of assets
available to the insurer to mitigate losses, such as unbilled contract funds, collateral, first and third
party indemnity, and other security positions of an insured’s assets. Certain classes of surety claims are
very high severity, low frequency in nature. These can include large construction contractors involved
with one or multiple large, complex projects as well as certain large commercial surety exposures.
Other claim factors affecting reserve variability of surety include litigation related to amounts owed by
and due the insured (e.g., salvage and subrogation efforts) and the results of financial restructuring of
an insured.
Examples of common risk factors, or perceptions thereof, that could change and, thus, affect the
required fidelity and surety reserves (beyond those included in the general discussion section) include:
Fidelity risk factors
• Type of business of insured
• Policy limit and attachment points
• Third-party claims
• Coverage litigation
• Complexity of claims
• Growth in insureds’ operations
Surety risk factors
• Economic trends, including the general level of construction activity
• Concentration of reserves in a relatively few large claims
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