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A ‘bomb’ in Obamacare? Not quite.

at 08:48 AM ET, 12/05/2011

Over the weekend, Forbes’s Rick Ungar drew a lot of attention arguing that the health reform law contains a “bomb” that’s about to explode: the medical loss ratio.

Unger was referring to a new regulation that requires insurance companies to spend at least 80 percent of subscriber premiums on medical costs. Anything above that can go to administrative costs (like advertising) and profits. That new, downward pressure on insurance company profits leads Ungar to predict that “the medical loss ratio will, ultimately, lead to the death of the large parts of the private, for-profit health insurance industry.”

To be sure, health insurance companies are not thrilled with the final regulation. But they’re not exactly outraged and definitely not anywhere near the verge of bankruptcy. Quite the opposite, health insurance executives and investors look to be banking on the health reform law’s success.

Back to the medical loss ratio: The White House published the final version of the regulation Friday morning, which looked similar to the preliminary regulation published in April. What was most notable to health policy wonks is an industry-friendly change that the Obama administration didn’t make. Many insurers had lobbied hard for insurance brokers’ commissions to be taken out of the equation altogether. Right now, they’re counted as administrative costs. That change, which would have freed up more space for insurance companies’ administrative spending and profits, was rejected.

So, what did health plans think of the final rule? The four largest health insurers’ stock performance last week makes a good proxy for understanding how markets expect the health plans to fare under the new regulation. The data speaks to Ungar’s argument in a way: You can see an across-the-board drop in share prices for UnitedHealth, Aetna, Humana and Wellpoint midday Friday, right about when the final regualtion was released. But overall, they had a pretty decent week, with all four outperforming the S&P 500. Here’s what that looks like for last week, using data from Yahoo Finance:

Why didn’t the health insurance stocks completely tank when the final medical loss ratio rule came down? To start, most are already close to meeting the new spending requirements in their biggest book of business: Employer-based plans. There, a 2009 Senate Commerce Committee report found insurers spending about 84 cents of every premium dollar on medical costs.

Where insurance companies do have trouble meeting the spending requirements is the individual market. The same report found insurers only spending 74 percent of premiums on medical costs for individual plans. But individual plans are a relatively small industry segment, accounting for about 5 percent of 149 million Americans with private insurance.

Health insurers have known since the Affordable Care Act passed about the medical loss ratio. But they haven’t seen their stocks drop as a result. Quite the opposite, major insurers have outperformed the market ever since shortly after the law passed. Here’s a chart that compares the same four, major insurers to the S&P 500 since March 2010, when the health overhaul passed:

That doesn’t exactly look like an industry on the verge of bankruptcy.

Health insurance has never been an industry with an especially large profit margin. It came in at a dismal 35th on Forbes annual rankings of most profitable industries in 2009, well before the health reform law passed, with an average 2.2 percent profits. The medical loss ratio will undoubtedly have an impact on squeezing those profits even more. With some industry analysts predicting a multibillion-dollar impact on the industry, insurers are aggressively looking for waivers from the new regulation.

Given all that, why are insurance stocks doing well? To be sure, some of it has to do with a insurance companies exploring new ventures like health information technology, as Ungar notes. But part of it is probably because of the health reform law, too.

Although there’s not a ton for health insurers to like in the medical loss ratio, there’s one part of the law they love: the individual mandate. The requirement to carry health insurance, or pay a fine, is expected to drive 16 million Americans into the private insurance market by 2019. That’s a huge new book of business, and one that insurance companies are actively preparing to absorb by expanding their individual market presence.

There’s a host of new regulations in the Affordable Care Act that insurance companies disagree with. Some, like the medical loss ratio, are quite likely going to drive down insurance companies’ profits. But none, so far — at least judging from their financial performance — are anywhere close to closing up shop.

 
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