Why Warren Buffett likes P&C

But, he predicts, industry profits will continue to fall short of those from the last decade

Warren Buffett is a fan of the property and casualty game.

“P/C insurers receive premiums upfront and pay claims later,” Buffett wrote in his annual letter to Berkshire Hathaway shareholders this weekend. “…This collect-now, pay-later model leaves P/C companies holding large sums – money we call ‘float’ – that will eventually go to others.”

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But in the meantime, insurers can invest those premiums that were collected but haven’t yet been paid for their own benefit. And when premiums exceed expenses and eventual losses, an insurer registers an underwriting profit and can “enjoy the use of free money – and, better yet, get paid for holding it.”

Berkshire Hathaway’s float, the letter explains, has grown from $39 million in 1970 to $87,772 million in 2015. But while Berkshire Hathaway’s insurance units saw their combined floats increase last year–$83,921 million in 2014 to $87,722 million in 2015–their combined underwriting profits fell from $2,668 million to $1,837 million.

Competition for the ”happy result” of underwriting profit leads to vigorous competition and premiums so low that the industry as a whole operates at an underwriting loss.

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“The prolonged period of low interest rates the world is now dealing with also virtually guarantees that earnings on float will steadily decrease for many years to come, thereby exacerbating the profit problems of insurers.”

Overall industry profits, Buffett predicts, will fall short of profits from the last decade, especially for reinsurers.

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