THG 2018 Annual Report

Climate change may adversely impact our results of operations. There are concerns that the increased frequency and severity of weather-related catastrophes and other losses, such as from wildfires, incurred by the industry in 2018 and in prior years is indicative of changing weather patterns, whether as a result of climate-warming WUHQGV ³JOREDO FOLPDWH FKDQJH´ FDXVHG E\ K uman activities or otherwise, which could cause such events to persist. Increased weather- related catastrophes would lead to higher overall losses, which we may not be able to recoup, particularly in a highly regulated and competitive environment, and higher reinsurance costs. As noted above, certain catastrophe models assume an increase in frequency and severity of certain weather or other events, which could result in a disproportionate impact on insurers with certain geographic concentrations of risk. This would also likely increase the risks of writing property insurance in coastal areas or areas susceptible to wildfires or flooding, particularly in jurisdictions that restrict pricing and underwriting flexibility. The threat of rising seas or other catastrophe losses as a result of global climate change may also cause property values in coastal or such other communities to decrease, reducing the total amount of insurance coverage that is required. In addition, global climate change could have an impact on assets in which we invest, resulting in realized and unrealized losses in future periods that could have a material adverse impact on our results of operations and/or financial position. It is not possible to foresee which, if any, assets, industries or markets will be materially and adversely affected, nor is it possible to foresee the magnitude of such effect. We may incur financial losses resulting from our participation in shared market mechanisms, mandatory reinsurance programs and mandatory and voluntary pooling arrangements. In most of the jurisdictions in which we operate, our property and casualty insurance subsidiaries are required to participate in mandatory property and casualty shared market mechanisms, government-sponsored reinsurance programs or pooling arrangements. These arrangements are designed to provide various insurance coverages to individuals or other entities that are otherwise unable to purchase such coverage or to support the costs of uninsured motorist claims in a particular state or region. We cannot predict whether our participation in these shared market mechanisms or pooling arrangements will provide underwriting profits or losses to us. For the year ended December 31, 2018, we experienced an underwriting loss of $23.2 million from participation in these mechanisms and pooling arrangements, compared to underwriting losses of $13.6 million and $12.7 million in 2017 and 2016, respectively. We may face similar or more significant earnings fluctuations in the future. Additionally, increases in the number of participants or insureds in state-sponsored reinsurance pools, FAIR Plans or other residual market mechanisms, particularly in the states of Massachusetts, Texas, California, New York, or North Carolina, combined with regulatory restrictions on the ability to adequately price, underwrite, or non-renew business, as well as new legislation, or changes in existing case law, could expose us to significant exposures and risks of increased assessments from these residual market mechanisms. There could also be a significant adverse impact as a result of losses incurred in those states due to hurricane or other high loss exposures, as well as the declining number of carriers providing coverage in those regions. We are unable to predict the likelihood or impact of such potential assessments or other actions. We also have credit risk associated with certain mandatory reinsurance programs such as the MCCA. The MCCA was created to fund 0LFKLJDQ¶V XQLTXH XQOLPLWHG SHUVRQDO LQMXU\ SURWHFWLRQ EHQHILW $V RI 'HFHPEHU 31, 2018, our estimated reinsurance recoverable from the MCCA was $977.1 million. In most years, the MCCA operates with a balance sheet deficit, which may fluctuate significantly based on investment returns, discount rates, incurred claims, annual assessments and other factors, although historically its annual operations have been cash flow positive. In addition, we may be adversely affected by liabilities resulting from our previous participation in certain voluntary property and casualty assumed reinsurance pools. We have terminated our participation in virtually all property and casualty voluntary pools, but we UHPDLQ VXEMHFW WR FODLPV UHODWHG WR WKH SHULRGV GXULQJ ZKLFK ZH SDUWLFLSDWHG 7KH SURSHUW\ DQG FDVXDOW\ LQGXVWU\¶V DVVXPHG UH insurance businesses have suffered substantial losses during the past several years, particularly related to environmental and asbestos exposure for property and casualty coverages, in some cases resulting from incidents alleged to have occurred decades ago. Due to the inherent volatility in these businesses, possible issues related to the enforceability of reinsurance treaties in the industry and the continuing history of increased losses, we cannot provide assurance that our current reserves are adequate or that we will not incur losses in the future. Our operating results and financial position may be adversely affected by liabilities resulting from any such claims in excess of our loss estimates. As of December 31, 2018, our reserves totaled $37.5 million for these legacy voluntary property and casualty assumed reinsurance pools, with the largest being the Excess Casualty Reinsurance Association (ECRA) pool. 21 2018 ANNUAL REPORT | THE HANOVER INSURANCE GROUP