Monday, 20 May 2013
Growing reinsurance capital is welcome news for buyers
New capital flowing into the reinsurance market is increasing competition for peak zone catastrophe cover, which should mean more affordable insurance capacity is made available to corporate buyers.
Thai floods in 2011 affected property loss and business continuity
Reinsurance renewals in January, and more recently in April, saw last year’s trend of increasing prices slow and even reverse. According to the big three reinsurance brokers, the April renewal saw rates for Japanese catastrophe exposures flatten out, while for US property catastrophe risks prices fell.
More aggressive price competition is now expected at the June and July renewals, which mainly focus on US contracts ahead of the summer hurricane season.
Renewals in April suggest the trend towards price increases in the global catastrophe reinsurance market has run out of steam, according to James Vickers, Chairman, Willis Re International.
Property catastrophe reinsurance rates had increased in 2012 after the large losses of 2011—a near record year that included earthquakes in Japan and New Zealand, as well as flooding in Thailand and Australia.
However, one year on and the situation looks very different, said Mr Vickers. Despite Superstorm Sandy and the US drought, losses in 2012 were modest and most reinsurers put in a good performance and were able to grow surplus capital, he said.
All three of the big reinsurance brokers—Aon Benfield, Guy Carpenter and Willis Re—said that inflows of capital and competition from capital markets were affecting renewals.
“The industry had a strong year and reinsurers reported sparkling results. But there is growing interest in the sector from capital markets at a time when underlying demand for reinsurance is muted and as some large insurers look to increase retentions,” said Mr Vickers.
“Clearly the reinsurance market is under pressure. It is a good time for buyers and I would expect to see reductions at the renewals in June and July—the question is who will get reductions and by how much,” said Mr Vickers.
The growth of capital from hedge fund and pension fund investors is a significant trend that could have big implications for the reinsurance market over the long term, according to David Flandro, Global Head of Business Intelligence, Guy Carpenter & Company LLC.
There has been some $27bn of reinsurance sector capital growth since the end of 2011, one third from unrealised investment gains, one third from earnings and some $9bn from new and existing capital market investors, as well as existing carriers, according to reinsurance broker Guy Carpenter. Non-traditional, or what Guy Carpenter terms ‘convergence’ capacity, now accounts for some 14% of the global catastrophe reinsurance market, it says.
These new hedge fund and pension fund investors increasingly look likely to stay, even if faced with a mega-sized industry catastrophe loss, argued Mr Flandro.
“This new capital is here to stay, at least at the current levels or even higher. This is a long-term trend that has recently started to reach a critical mass,” said Mr Flandro.
Over the past year and a half it has become apparent that the traditional reinsurance and capital markets are converging, which is changing the capital structure of the reinsurance sector for the first time since the 1980s, when there were several early reinsurer stock market listings.
Insurers now have greater access to an alternative pool of capital—the multi-trillion dollar hedge fund and pension fund industries—which could change the cost of capital over the next ten years or so, says Mr Flandro. While the impact of convergence capital is still unclear, it is now competing with traditional reinsurers and may reduce price volatility in the reinsurance market, said Mr Flandro.
New capital is entering the market from pension funds, life insurers and high-net worth individuals, which are all participating in the cat bond market, sidecar arrangements and via special captives writing collateralised reinsurance contracts.
“All three of these ways of participating in the market add up to a lower cost of underwriting capital for insurers and reinsurers, which should mean lower catastrophe prices in key US markets,” said Bryon Ehrhart, Chairman of Aon Benfield Analytics and Aon Benfield Securities, the firm’s investment banking division.
Catastrophe bonds, where public information is easier to come by, have seen rising demand from investors and price falls for the insurers and reinsurers purchasing cover. Cat bond prices have changed dramatically in recent years, with some transactions renewing at prices 20% to 70% less than when previously placed, according to Aon Benfield.
“For the first time the cost of issuing a cat bond is significantly lower than the cost of reinsurance for peak zone exposures,” said Mr Ehrhart.
Reductions in the price of cat bonds could ultimately filter down to corporate insurance buyers, said Mr Ehrhart. The attractiveness of cat bonds may also make some insurers reconsider how much commercial insurance they are able to offer in peak zones, he said.
“In the past, many corporate buyers have found cover in US peak zones to be too expensive and have purchased only limited cover. However, many insurers may now think again about how they have restricted growth in peak zones, and, as the cost of underwriting capital falls, this could trickle down to a more favourable proposition for corporate buyers,” said Mr Ehrhart.
While the cat bond market has been attracting new capital, however, the collateralised reinsurance sector has been moving fast, said Mr Vickers. While more opaque, this sector could be worth $35bn, according to estimates of funds active in the collateralised market.
Collateralised deals are more in-line with traditional reinsurance contracts and do not incur the frictional costs associated with cat bonds. Having dominated the retrocession market, collateralised reinsurers have begun to compete with reinsurers in their core market, providing catastrophe cover to primary insurers, said Mr Vickers.