The Days Ahead:

  • First read on Q4 2023 growth; over 170 companies report earnings next week.

This Week:

  • Car insurance is around 3% of the consumer price index.
  • Prices are growing 20%.
  • There should be some relief soon.
  • Red Sea disruptions mean delays.
  • But will have little effect on inflation.

Why Is My Car Insurance So High?

Most surveys show that people’s expectations of inflation are heading down. The closely watched New York Fed’s survey of inflation expectations fell from 5.8% a year ago to 3.0% now. That’s a good move. The Fed gets nervous if they remain high. They feel that if consumers expect inflation, they will kick off a wage spiral, where wages go up, prices go up, wages go up and repeat. So, falling inflation expectations are a good thing.

But there’s also a measure of inflation uncertainty, which has barely moved in the last year. The inflation expectations number captures a prediction, and in this case, it’s that inflation will be 3% in a year. But it does not capture how certain people feel about their answer.

There’s been very little change in the uncertainty measure in the last year. It seems people are, well, just not that sure about the future.

One reason could be that while inflation has moderated, prices have not. Many prices went up and stayed up, notably for new cars, used cars and car parts, which are up 26%, 31%, and 29% since peeak Covid-19  Weekly earnings are up around 20% for the same period so a price of, say, a F-150 Lariat is now 107% of the annual wage up from 95% a few years ago.

There’s one category where prices continue to grow: auto insurance. And with 282 million cars registered in the U.S., it’s a price that affects every household.

Here’s a chart of auto insurance compared to broad inflation:

It’s up 20% over the year and up 61% from the 2020 lows. For many years, it tracked inflation, then in 2016 it started to grow faster. It leveled off for a few years in 2017 to 2020 and took off again in 2022.

Why?

It’s Not That Car Insurance Companies Are Making Big Profits.

Insurance companies don’t have many levers to pull when making profits. They’re exempt from many anti-trust laws especially when it comes to sharing “historical loss data”. That means if you have a speeding ticket in New Jersey and move to Texas, the record follows you. Every insurance company has the same data on drivers, cars, accidents, weather, addresses, damage, repairs and costs. There’s nothing proprietary.

Sure, some companies may have better underwriting or access to low-cost repairs but for the industry, the combined ratio is around 98. That means that for every $100 in premiums, companies pay out $98 in claims. In a good year, auto insurance companies earn around 9% to 15% return on equity. But the car insurance is often bundled with more profitable homeowners or umbrella coverage.  

Stand-alone auto insurance is not a great business. Progressive Insurance company, for example, has 16 subsidiaries in California and 14 in New York. It’s much the same for Geico, Chubb and Farmers.  Progressive’s California insurance business took in $613 million in premiums in 2023, paid out $446 million in claims and $188 million in commission. It made a profit from investment income and various service items, like windshield replacement. Churn rates and acquisition costs are high.

Car Prices Are High…

That cost of new and used cars feeds straight into auto insurance companies’ costs. If a car is a write-off, a new or second-hand car costs a lot more for insurance companies to replace than a few years ago.

Car Parts Too.

Car parts became scarce and expensive after supply delays and shutdowns in 2021 and again during the UAW strike in late 2023. Prices have risen 18% in the last year. Parts are also more complicated. A typical rear-end accident can take out a rear bumper. That used to be a solid bar of metal and rubber. It now has numerous sensors, integrated turn signals, lights, cameras and safety systems. A rear bumper can cost over $4,000.

Electric Vehicles (EVs) Are Heavy and Fast…

Hertz recently announced it was selling 20,000 Teslas, citing high repair costs. A Tesla Model S can do 0 to 60 mph in 2.3 seconds with a top speed of 200 mph. A family Toyota does 0 to 60 in 7 seconds and tops out at 117 mph. The EVs also weigh a lot at around at 4,800 lbs compared to 2,900 lbs for a family car. You don’t have to throw heavy objects against a wall for long to know that the damage of the heavier car increases (checks calculator)… a lot. And every 10 mph increase in speed doubles the risk of dying in a crash.

And Expensive To Repair.

Many EVs use batteries as part of the frame. So, a small accident bends the whole bank of integrated batteries. It’s not a “cut out part of the frame and spot weld it” job. It’s a “remove all the batteries and replace them” two-week project. Most auto shops aren’t equipped to mend EVs. They need special storage units for the batteries and sophisticated safety measures.

We Like Our Heavy SUVs Too.

Import duties on cars coming into the U.S. are around 2.5% unless they’re from China, in which case add another 25%. Importing any truck into the U.S. will cost 25% in duties. All SUVs, pick-ups, and trucks with a bed are “trucks” in the auto world. Even the humble Rav 4. Most car manufacturers make their SUVs in the U.S. to avoid the 25% duty. Just about every car company, builds their SUVs in America including Mercedes Benz. BMW, Toyota, and Kia. There’s a huge incentive to sell SUVs in America.

In 2016, there was about one SUV sold for every one car for a total of 15 million vehicles a year. Now, there are four SUVs sold for every car. Trucks are heavier, taller and with less visibility than cars. They crash into stuff more often and do more damage.

That uptick in insurance rates in 2016 coincides with the 50% increase in truck sales and 75% decline in car sales from 2016 to 2023.

We Crash More.

Tracking U.S. car crashes is more difficult than it sounds. Not all states report them. But we do know that fatalities went up 20% in the four years to 2021 and fatalities per head of population or miles driven are 30% higher than 10 years ago. So, it has nothing to do with “well there are more cars and people are driving more.” In 2021, the number of property damage crashes rose 20%. We also saw the highest number of pedestrians killed in 40 years.

The reasons given are legion: trucks that are too high to see people, distracted drivers, aggressive drivers, over reliance on automated systems, speeding and lower seat belt usage. But to an auto insurance company, the reasons matter less than they happen in growing numbers.

The Weather Doesn’t Help.

Insurance companies don’t make big announcements when they leave a state. They usually have residual businesses or non-auto and homeowner lines which they want to retain. But plenty of companies exited California, Texas and Florida, fearful of more frequent catastrophic weather. These states are 21% of the auto market. If a wild fire or hurricane tears through a neighborhood, auto claims will follow. And many companies just don’t want the exposure. The reinsurance market, where companies buy excess coverage, saw prices increase 10% in 2023 and 50% in 2022.  

There Aren’t Enough Auto Repair Technicians.

Pay for automotive technicians was up around 15% in 2022, the last year for which we have full data. But it’s gone up a lot since then and the national average, from various job sites, is more like $57,000 to $63,000. Higher pay means higher repair costs, which means higher premiums.

Phew! That seems like a long list. You could also add things like higher insurance for Uber drivers, more leasing of high-end cars (insurance rates are higher for leased cars) and worse driving habits. More people are driving rather than taking public transport. Ridership in places like San Francisco and New York are down 65% and 25% since Covid-19.

So, Is There Relief Ahead?

Probably, if only because prices for cars and parts have steadied. The trend to SUVs has probably also plateaued which removes much of the additional damage risk and EV sales growth is slowing.

We’d expect the overall growth rate of auto insurance prices to start falling. But they’ll remain a high item for many households and they won’t feel happy about it.

Will The Red Sea Attacks Cause Inflation and Supply Problems?

Almost certainly not. Although about 12% of global maritime trade and 30% of container trade passes through the Red Sea, the disruptions aren’t likely to lead to the same kind of delays and cost increases we saw in 2021.

First, the bad news. The major shipping companies like Maersk, Hapag-Lloyd, CMA and MSC, which control 80% of container shipping volume, have diverted many ships around the Cape of Good Hope. That adds some 20 days to the transit time. They’ve also added around $1,500 of insurance surcharges to the average cost of $3,500 for a single 40’ container.

The average cargo value of an oil tanker with 500,000 barrels of oil is around $40 million. For a ship carrying grains, it’s between $20 million to $200 million.

But container ships targeted by the Houthis carry around 10,000 containers each with an average value of $100,000 at wholesale prices and around $250,000 at retail prices. The cargo value is thus around $1 billion to $3 billion. The total cost of shipping the containers worth $1 billion is around $35 million, or 3.5%. The surcharge increases that to around 5%. It all depends on what’s in the containers, of course, but the transport cost of the goods is small. High value, small weight goods like iPhones, pharmaceuticals, some commodities and foods all go by air. Air freight costs have gone up as some shippers look for alternatives, but not by much. A fully loaded 747 can only carry 10 to 14 containers so they’re not a viable option.

But none of this is a disaster.

First, although container prices have risen by 120% to 200% in the last two months, it’s from a very low base of around $3,000. They were as high as $10,000 to $15,000 in the Covid-19 era.

Second, there’s plenty of capacity. Here’s the New York Federal Reserve’s measure of supply chain pressure.

The blue line is the overall supply chain index. It’s barely moved and way below the Covid-19 era. The green line is the number of U.S. containers in use.

There’s more capacity coming too. There are around 5,400 container ships in the world capable of carrying 24 million containers. After Covid-19, the industry ordered around 480 ships with a capacity of 7 million containers for delivery between 2023 and 2026. That’s a 33% increase. If there was a shortage in 2021, there’s now a glut.

This is what a ship that carrying 15,000 containers looks like. Some will carry 20,000!

Some of the major shipping companies are public. They’ve had a rough two years as prices dropped and capacity increased.

Recently, however, the share prices have popped due to the problems in the Red Sea. A company like Maersk saw earnings drop by 80% in the third quarter of 2023. Things look better now but shipping is a cyclical business and the new capacity will be sure to keep cargo prices in check.

So, while the actions in the Red Sea are dangerous and disruptive, they’re unlikely to lead to the same sort of supply inflation we saw a few years ago.

The Bottom Line

There were more calls from Fed officials to cool it on expectations of March rate cuts. Fed Governor Christopher Waller, and President Christine Lagarde of the ECB, both put more emphasis on cuts in the summer. The Fed Funds futures market seems to think we’ll see five cuts this year, two of which will be by mid-year. Futures markets tend to take current readings and assume they continue for a few months. We’d go with the Fed guidance.

The U.S. economy refuses to slow down. December retail sales were strong with non-store (i.e. internet) sales up 11% and continuing their outsize growth from Covid-19 days. They are enow 24% of all retail sales, excluding motor vehicles and spending at gas stations.

The Chinese economy continues to struggle with outright deflation and slowing trade growth. Chinese stocks are down 23% in the last year and down 7% this year. It will be a while before we see a solid recovery.

The S&P 500  market was up 0.3% but flat for the year so far. We’d expect some consolidation after the 10% gain in the last three months.

Art of the Week: Frances Bell (b. 1983)

Please read important disclosures here.