Expert Commentary

Energy Insurance Market Conditions Update

The purpose of this article is to provide an update regarding the ongoing challenges facing energy insurers under current market conditions (prior article dated May 2015). This update outlines the observed effects of oil and gas prices on demand from companies within the industry and evaluates the anticipated impact of current forecasts. 

Valuation of Insurance Organizations
November 2016

After West Texas Intermediate (WTI) crude oil spot prices steadily declined from $59.27 per barrel in May 2015 to a 12-year low monthly average of $31 per barrel in January 2016, prices began to recover and have largely remained in the $40–$50 per barrel range since July 2016.1 The US Energy Information Agency (EIA) explained the largest drivers of the price increase as falling US production, supply interruptions (primarily in Iraq, Nigeria, Libya, and Canada), and improving macroeconomic conditions increasing demand.2 While crude oil production averaged 9.4 million barrels per day ("b/d") in 2015, the EIA is currently estimating averages of 8.7 million b/d in 2016 and 8.6 million b/d in 2017.

Under these assumptions, WTI crude oil prices are projected to average $42 per barrel in 2016 ($47 per barrel in the fourth quarter of 2016) and $50 per barrel in 2017. This forecast reflects the expectation of lower oil inventory builds transitioning to net drawdowns over the next year and reduced risk of higher-than-expected OPEC production. However, the market is still expected to face downward pressure from high levels of oil supply in the foreseeable future,3  and the EIA states that the current values of futures and options contracts suggest a high level of uncertainty in the price outlook.4

Henry Hub natural gas spot prices experienced a similar decline from $2.85 per million British thermal units ("MMBtu") in May 2015 to $1.73/MMBtu in March 2016, the lowest point since 1998. However, natural gas prices rebounded at a much faster rate than crude oil and even surpassed the May 2015 level, averaging $3.05/MMBtu in October 2016. This increase resulted from a combination of higher summertime demand for gas-powered electricity, lower inventory builds, and the market’s expectation for a colder winter.5 The annual price is projected to average 2.51/MMBtu in 2016 ($3.04/MMBtu in the fourth quarter of 2016) and $3.07/MMBtu in 2017.

Below are charts illustrating the WTI and Henry Hub historical trends and forecasts.

WTI and Henry Hub Historical Trends and Forecasts - Balcombe - 2016

Reductions to Capital Expenditures

Large-scale development projects are one of the key drivers of demand for insurance coverage in the oil and gas industry. Directionally, these outlays tend to move with oil prices as companies delay or cancel projects during sustained declines. Having taken on heavy debt loads in the preceding boom, companies have been forced to maintain high production levels from existing wells at lower prices to sustain cash flows. Facing a collapsing market, these companies moved to preserve as much cash as possible to meet these obligations and pursued aggressive cost-cutting measures. Over the last 2 years, these conditions left decision-makers with little in the way of funds or incentives to invest in new exploration or development activities. Unsurprisingly, the EIA has observed that capital expenditures across the industry have fallen sharply to less than half of the levels observed from 2012 to mid-2014.6

Investment and Cash Flow Chart - Balcombe - 2016

Looking forward, the short-term outlook remains mixed. The International Energy Agency anticipates a continued decline through 2017, while the research firm BMI projects a 2.7 percent rise in 2017 followed by further increases through 2018.7 From within the industry, growing numbers feel a turning point has been reached. In a 2016 survey of professionals across different oil and gas sectors, a plurality of respondents expected capital expenditures to increase in 2017 after roughly the same percentage anticipated continued declines going into 2016.8

Impact on the Insurance Industry

Although energy prices have begun to recover, the prolonged downturn and expected continuance of depressed prices have significantly impacted demand in the energy insurance market. The premium income pool has diminished exponentially over the last few years as energy companies scramble to manage costs through the reduction of new activity and risk management budgets.9 The decline in development operations has a compounding effect of not only reducing the overall exposure available but also causing a larger portion of the remaining exposure to be covered at lower nonoperational rates.10

In an effort to reach premium income targets, energy insurance companies have loosened underwriting standards by offering to renegotiate coverages at improved terms and widen the coverage offerings.11 While this has allowed the energy insurance market to maintain overall portfolio profitability, companies must be careful not to increase risk exposure to unsustainable levels relative to the premium rates.12 The reduction in risk management budgets has the potential to compromise risk management standards and increase the market loss record. If this happens in conjunction with rates continuing to fall, the fallout for the industry could be devastating.

Insurance Overcapacity

While market forces appear to be driving a convergence in the global supply and demand for crude oil, there has been no such correction in the energy insurance market. Despite flagging demand, capital has continued to pour in as industry participants have expanded from both new entrants and established providers increasing their lines. This expansion is attributable to the combination of relatively low loss levels in recent years and the dearth of opportunities for investors to generate attractive returns in the current low-yield environment.13

Willis Towers Watson comments that this trend shows "absolutely no sign of abating" as the industry enters its tenth consecutive year of expansion in the upstream operating space.14

Upsream Insurer Capacities - Balcombe - 2016

These inflows have led to intense competition between underwriters as challenging conditions for upstream companies have limited their appetite for increased program sizes.15 Under this imbalance, premiums will continue to come under pressure.

Continued Low-Interest Rates

Citing low inflation and the need for further improvement in labor market conditions, the Federal Open Market Committee has thus far maintained holds on the fed funds rate in 2016. As of November 2, 2016, the CME Group FedWatch tool shows the market estimating a 66.8 percent chance of a rate increase at the December meetings.16 However, even if an increase is implemented, materials released at the September meetings indicate targets through 2019 remaining near historic lows.17

FED Funds Rate Targets - Balcombe - 2016

This is doubly challenging for insurance providers. Holding losses constant, these conditions would be expected to support sustained levels of record-high underwriting capacity while insurers must also invest the proceeds from premiums in the same low-return environment.


The energy insurance industry has faced unprecedented challenges as premiums have declined due to steady increases in capacity coinciding with a severe drop-off in demand. Following the precipitous decline in oil prices from 2014 to early 2016, there are now signs of improvement as industry players look to put money back to work in new exploration activities while reducing reliance on short-term cost-cutting measures.18 However, persistent overcapacity driven by clean loss records and low yields in the broader marketplace continue to moderate any recovery that could be realized from increased demand.

1 U.S. Energy Information Administration, Short-Term Energy Outlook, November 8, 2016.

2 U.S. Energy Information Administration, Unplanned global oil supply disruptions reach highest level since at least 2011, June 9, 2016.

3 IBISWorld Business Environment Report, World Price of Crude Oil, September 2016.

4 U.S. Energy Information Administration, Short-Term Energy Outlook, supra.

5 Ibid.

6 U.S. Energy Information Administration Markets and Financial Analysis Team, Financial Review of the Global Oil and Natural Gas Industry: Second-Quarter 2016, September 2016.

7 Oil & Gas 360, "Oil and Gas Capex Set to Rise for the First Time Since 2014," September 23, 2016.

8 Deloitte Center for Energy Solutions, 2016 oil and gas industry survey: Optimism emerges in the aftermath of a long downturn, 2016.

9 Willis Towers Watson, Energy Market Review—The challenge of global instability: how can the energy industry respond?, 2016.

10 Bruce Rodger, "The Effects of the Low Price of Oil and the Current Upstream Insurance market," ArgoGlobal, March 21, 2016.

11 Ibid.

12 Willis Towers Watson, supra.

13 Bruce Rodger, supra.

14 Willis Towers Watson, supra.

15 Ibid.

16 CME Group, "Countdown to the FOMC," November 2, 2016.

17 Federal Reserve Open Market Committee, Economic projections of Federal Reserve Board members and Federal Reserve Bank presidents under their individual assessments of projected appropriate monetary policy, September 2016, September 21, 2016.

18 Deloitte Center for Energy Solutions, supra.

Opinions expressed in Expert Commentary articles are those of the author and are not necessarily held by the author's employer or IRMI. Expert Commentary articles and other IRMI Online content do not purport to provide legal, accounting, or other professional advice or opinion. If such advice is needed, consult with your attorney, accountant, or other qualified adviser.

Like This Article?

IRMI Update

Dive into thought-provoking industry commentary every other week, including links to free articles from industry experts. Discover practical risk management tips, insight on important case law and be the first to receive important news regarding IRMI products and events.

Learn More


Social Media

User ID: Subscriber Status:Free