A Comparison of the Solicited and Independent Financial Strength Ratings of Insurance Companies

This study provides a comparison of the life/health and property/casualty insurance company ratings of a solicited ratings agency, A.M. Best, versus those of an independent ratings agency, Weiss Ratings Inc. for the time period 1998 – 2001. Financial strength ratings assess the company’s overall claims paying ability.  The results provide further evidence that A.M. Best ratings are higher than Weiss ratings. Although previous studies have indicated this result, they did not fully account for any lack of correspondence between ratings and possible sample selection bias, as this study does. The finding of no difference in rating changes with respect towards timing is inconsistent with previous research. The results add evidence to the argument that there should be concern among consumers regarding the closeness and unique nature of the relationship between the solicited rating agency and the insurance company being rated. The results remain consistent across both life/health and property/casualty insures.  Insurer financial strength ratings provide the rating agency’s assessment of overall financial strength and the insurer’s ability to meet policyholder obligations. Consumers, insurance agents and brokers, corporate risk managers, regulators and investors use financial strength ratings to assess insurer’s insolvency risk. Individual consumers utilize the financial strength ratings to determine which companies are preferable and insurers often utilize those ratings in their advertising. Insurance agents and brokers typically are reluctant to recommend coverage with insurers that are either unrated or poorly rated. In addition, many corporate insurance buyers require a good rating. Ratings also help regulators in assessing the financial strength of insurers. In addition, strong financial ratings give insurers better access to capital markets and help them to lower their firm’s cost of capital. An insurer’s financial strength rating is an important part of the selection process, but not the only factor to be considered. The informed insurance buyer should make adjustments for differences in ratings by various agencies. In addition, such buyers tend to examine more than just the rating. However, the individual consumer and less informed buyers might not have the time or expertise to closely compare potential insurers and must rely heavily on ratings.  Insurer ratings are different from corporate bond ratings and serve different purposes. A bond rating applies to a particular debt issue, while an insurer rating applies to the entire company and its ability to meet all policyholder claims. Insurer ratings are optional for solicited rating agencies. There is no regulatory requirement for insures to obtain a rating. The primary users of insurance ratings are consumers and independent agents. Corporate bond ratings are used primarily by investors. During the time period of this study there were five major rating agencies that provided financial strength ratings of insurance companies. These agencies were: A.M Best, Weiss Ratings Inc., Standard and Poor’s, Moody’s Investor’s Services, and Duff and Phelps Credit Rating Company. Only A.M. Best and Weiss specialize in the financial strength ratings of insurance companies. Weiss also rates banks along with some other entities.  It is important to point out that four of the five agencies—A.M. Best Company, Standard and Poor’s, Moody’s Investor’s Services, and Duff and Phelps—require the insurance companies to pay a fee in order to be rated. Of the five agencies, only Weiss Ratings accepts no fees from the insurance firms. Prior studies have compared A.M. Best to other rating agencies and found that A.M. Best life/health insurance company ratings were higher (1994 GAO Report). The 1994 GAO Report examined the ratings of life/health insurers for various rating agencies including A.M. Best and Weiss. The GAO study divided the rating scales into five categories. Weiss agreed with their rating assignments to various categories while A.M. Best did not. Using a bargraph pairwise comparison, the GAO Report concluded that A.M Best assigned higher rates than Weiss. In addition, Weiss reported financial vulnerability of insurers that became financially impaired much sooner than A.M. Best. Other studies of rating agencies found that ratings can differ between agencies due to different factor weights, cutoff points and sample selection bias (Pottier and Sommer 1999). This study compares the property/casualty and life/health insurer ratings of A.M. Best with those ratings of Weiss. A.M. Best is the largest, best known solicited rating agency specializing in insurer financial strength ratings. Weiss is the largest, best known independent rating agency specializing in insurer financial strength ratings. The purpose of this study is to determine if a significant difference exists between the insurer financial strength ratings of a solicited agency (A.M. Best) and those of an unsolicited agency (Weiss). In addition, rating upgrades and downgrades along with their timing will be examined. To our knowledge no previous studies have examined the same set of companies, with both solicited and unsolicited ratings, broken down into categories approved by both A.M. Best and Weiss. We examine life/health and property/casualty insurers along with the number and timing of rating upgrades and downgrades. The objections raised by A.M. Best to their rating assignments in the GAO study make this a relevant issue.