Construction outlook mixed on surging inflation and $1tn infrastructure deal
As fears over plummeting exposure units and soaring losses mounted during the pandemic, many executives pointed to the construction insurance market as being surprisingly resilient.
According to a range of sources, work on many projects kept pace, and loss trends remained broadly stable.
As the economy continues its recovery – and following the passage of a $1tn infrastructure package in Washington earlier this month – construction executives have divided views on the market outlook.
Many in the market are bullish on growth opportunities as exposure units rise owing to the economic recovery, with the Biden administration’s infrastructure deal promising more to come. But there is also growing concern about escalating loss costs tied to surging economic and social inflation.
“We're seeing construction obviously making a comeback from how it was during Covid,” Tom Farrell, president at K2-backed agency Partners General, told Inside P&C in an interview. That has led some carriers to target the vertical as a prime opportunity for growth, he noted.
“Rates [are] being very competitive, such as for owners’ interest,” Farrell went on, referring to one type of coverage for construction projects. “We're seeing those rates go down as we're getting more competition there.”
New capacity has come into the market, targeting excess placements in particular, where rate increases in some areas have become more moderate relative to some other parts of the excess casualty space.
Anthony Dietz, a senior vice president at NFP, told Inside P&C: “The rate increases that have happened the first two quarters of the year have come down somewhat, so the rate increases are decreasing. But it is still a rate increase.”
Willis Towers Watson reported this month that construction rates are not expected to decrease any time soon, but that “the worst of the hard market is behind us".
Rising inflation clouds outlook
But despite the rebound, higher costs of materials driven by a supply chain crunch and shortages in the trucking sector threaten to push loss costs higher. Congestion at ports triggered by the pandemic have led costs for lumber, timber and other essential materials in the construction market to soar, in addition to contributing to project delays.
“First we saw lumber prices skyrocket,” said Kristyn Smallcombe, the recently-installed construction practice leader at Argo.
“Now we're seeing this next wave of metal price [and] steel price increases.”
This issue has become evident throughout the economy as the US inflation rate reached a 30-year high last month with prices rising over 6%.
“Cost of materials has absolutely gone up,” Farrell said. “The timeframe to get the material has also gone up as well.”
The Partners General executive added that the insureds that have done better so far are usually the ones that acquired lumber and other materials in advance – sometimes on speculation.
Supply chain crunch brings added complexity
In the case of larger infrastructure projects, supply chain bottlenecks have meant additional logistical challenges for the insurance industry, elevating risk.
Terry McCann, a managing director and president of the Chicago office at RT Specialty, said: “There's no secret the infrastructure in the United States is aging, so a lot of these projects are necessary.”
The challenge “for the insurance marketplace is that these projects are more and more complex than they've ever been, so their costs are very high,” McCann commented.
The executive added that as the costs of large projects rise, some carriers have explored the options to insure them in phases.
Other sources have pointed out that the recent crunch has shown the increasing necessity of implementing robust communications and audit plans around supply chain risks.
Axa XL, for instance, has highlighted the importance of managing material procurement and tracking logs to verify that suppliers place orders in time, and that the anticipated lead times are current – and have a buffer.
Labor costs are rising
Prices of materials, however, won’t be the only costs going up in the coming months for contractors.
Potentially compounding cost inflation for insurers, construction executives estimate that the recent infrastructure bill signed by President Biden will intensify the labor shortage in the construction industry, which has struggled to find workers for some years now.
The $1tn federal infrastructure bill – which will put around $110bn into new road, highway and bridge projects, along with rail construction, among other projects – is expected drive demand for construction workers higher, along with worker wages.
Darryl Holmes, vice president for corporate underwriting at Selective Insurance, said: “The shortages are already there, but then there's going to be more competition for workers.
“I think there's going to be more leverage on the side of employees looking to engage in this particular industry.”
Sources estimate that higher costs for materials and labor will ultimately affect the price of insurance in the construction market overall, as payroll and sales are often the exposure base used by underwriters evaluating construction companies.
However, some sources cautioned that the greater premium volumes driven by exposure growth could conceal a deterioration in underlying rate adequacy, as risk in the system mounts.
“That’s how the insurance companies are underwriting, based on payroll and construction value, not the actual exposure,” NFP’s Dietz said.
Construction service contracts also pose new risks
The risk landscape is also changing in other ways that pose challenges insurers are having to navigate.
Numerous sources have pointed to shifting allocations of liability between risks that have historically fallen on design firms to contracting companies, as architectural and engineering businesses have increasingly delegated services they have historically performed to contracting firms.
Among those developments, more contractors are becoming involved in the pre-construction phase of projects, which is becoming a new source of liability for contractors in instances where they are not even awarded a role in the construction phase of a project.
Gary Kaplan, president of construction at Axa XL, explained that sometimes the design now sits with the construction company meaning that “they’re liable for it”.
“It's part of their exposure now,” Kaplan observed. “[It] used to be the architects’ exposure, not the contractors, but now over the last 10 years more and more of this design risk is coming into [contractors’] professional liability exposure,” he added.
In such cases, contract precision has become even critical in providing certainty in the event of a dispute, sources said, adding that managing workers' knowledge of professional risks during the design and construction phases has taken on even more urgency in managing risks in the construction market.
Kaplan added that the lack of clarity in construction contracts had contributed to liability disputes that “blew up” in the international market but are “starting to creep over the US”.
To overcome the additional risk posed by contract wording ambiguity, some insurers are providing contractual risk transfer to help contractors manage their general liability exposure.
Selective is embracing one inclusive avenue to eliminate wording ambiguity, by writing some contracts in Spanish to better protect its clients.
“Because if the language is not accessible, the contract may lose some of its meaning,” Holmes said. “And so, we're looking at that and saying, ‘we need to be a little more diverse in that perspective'.”