The head of UK operations for global broking giant Aon yesterday said the hard market conditions that the insurance industry has experienced in the last two years were precipitated more by investment losses than by poor underwriting results.

During the hard market phase of the past two years - with the industry having seen decades of hard phases (where there is a void of premium capacity that results in a rate surge) and subsequent soft phases (where there is a glut of premium capacity creating a competitively priced environment) - there has been much industry talk of the necessity of maintaining underwriting discipline as a means of staying the market's volatility.

But Dennis Mahoney, who is both CEO and chairman of Aon Limited - the Aon operating unit for all the broker's UK operations - speaking yesterday to more than 100 delegates at the Latin American risk management congress currently taking place in Bermuda, said that investment losses accounted for the bulk of capital flowing out of the insurance market in recent years.

Although reinsurers - with reinsurance being "a capital business that is all about balancing assets and liabilities" - were in the business of underwriting the risk that insurers cede to them, Mr. Mahoney said the driver of the last hard cycle was primarily investment losses on the industry as a whole.

He did not deny that the industry had seen its share of underwriting knocks - with major losses being sustained in recent times from a spate of events including the Seattle earthquake, storm damage, the September 11 terrorist attacks, and corporate scandals such as Enron and Parmelat, compounded by reserve increases for growing estimates of prior year losses - but said "huge investment losses" that followed a nosedive in stock markets in late 2000 had been the biggest blow. To underscore that point, Mr. Mahoney said that the industry had seen a steep increase in the exposure to property catastrophe events in the years just prior to this hard market yet did not raise prices because market players were banking on investment returns making up for any shortfall in underwriting returns.

"I would argue that the losses (with capital out exceeding capital in) on the asset side was driving the hard market, not losses on the liability side."

Mr. Mahoney, looking at data from the end of 2000 to the end of 2002, pointed out that both insurers and reinsurers had been badly hit.

At the end of 2000, he said insurers had estimated capital, on a combined basis, of $570 billion. In the two-year period to the end of 2002, $32.9 billion of that pot was paid out in catastrophe losses while $13.5 billion was lost in credit defaults and a whopping $138.5 billion flushed away in investment losses. In total, Mr. Mahoney said data (compiled in a HSBC Global Insurance report) showed that $184.9 billion had been destroyed in the two year period, compared to the paltry $23.8 billion that had come into the market.

That left the insurance industry with a steep 30 percent drop to $408.9 billion in combined capital, at the end of 2002.

Reinsurers did fare better with $120 billion in capital being depleted more by underwriting losses ($34.5 billion in catastrophe claims compared to $2 billion in credit defaults and $11.2 billion in investment losses during the same two year period) than investment losses. Because of this Mr. Mahoney said that insurers were the first to see hard market conditions but that had eventually led to similar conditions for reinsurers.

It also led to a shift in the balance of power with strongholds in Europe and the US lost some of their advantage as capital flowed into both the Bermuda and London markets.

Meanwhile, Mr. Mahoney said markets were unlikely to completely mirror past soft markets (now that many lines are seeing flat or declining rate pricing), because during the last hard market - which was across nearly all lines - corporate buyers and insurers themselves got into the habit of retaining greater levels of risk.

That view was shared by Mr. Mahoney's contemporary, Marsh senior executive John Sinnott, in an earlier speech to the Latin American contingent, who said that once corporations became comfortable with a higher level of self-retention of risk, they were unlikely to lower that during soft market conditions.

He said the net impact of this development was a riskier environment with "increasing self-insurance and use of captives, growing peak exposures and consolidation of buyers and sellers leading to growing underwriting volatility."

Mr. Mahoney added that the industry could be in for another rough ride with increasingly stringent accounting and regulatory requirements coming to bear on businesses being the newest challenge for an industry already reeling from the the financial pressures - with his saying that reinsurance pricing and terms and conditions were more stable than for primary writers - that created the "perfect storm" in 2002.

Both Mr. Sinnott and Mr. Mahoney also sounded a warning that already difficult market conditions could be exacerbated by the increasing level of reinsurance recoverables with the frequency of reinsurance disputes reaching levels never seen before.