S&P Conference Report: Reinsurers Assess Present/Future Concerns

June 6, 2007

Standard & Poor’s Ratings Services’ 23rd annual insurance conference, – “In Pursuit Of Sustainable Earnings” – focused on the “highly profitable” 2006 results, and the current “softening reinsurance pricing cycle, future losses and loss ratios, and future financial health.

A panel of top level reinsurance executives at the conference in London concluded that, “even though softening prices have not yet begun to hit reinsurer bottom lines, management teams are already looking at how they can protect future earnings in a cycle that could turn out far different from all prior cycles.”

The panel discussion, moderated by S&P’s Managing Director Rob Jones, included: Joseph P. Brandon, chairman and CEO of General Re Corp. (a subsidiary of Berkshire Hathaway); Patrick A. Thiele, president and CEO of Partner Reinsurance Co. Ltd., and Dr. Nikolaus von Bomhard, chairman of the board of management of Munich Re.

“I think this cycle will end badly, as the fundamental economics of the reinsurance business have not changed,” Brandon stated. “Exposures have been growing faster than premiums for a few years now, which is one definition of a soft market.”

Thiele agreed with that assessment, indicating that, although loss trends at this point are well constrained, “another loss cycle could lead to several years of poor results.” Both CEO’s expressed concerns that it currently takes about two to three years to identify loss cost trends. “If all the new tools could enable a soft landing in a market where capacity has been withdrawn and performance is poor, that’s fine,” Brandon observed. “However, the back-end tools currently available will not do the job until it’s too late.”

Von Bomhard said he sees capital management as part of good cycle management, but he added that right now, it’s “an uphill struggle” to convince the capital markets that a reinsurance business is well-run.

Thiele commented on share repurchases, noting that they are not always the most efficient way to reward shareholders, as they “don’t create economic value unless done at a level that’s realistic to a reinsurer’s value.” His remarks are especially pertinent in light of PartnerRe’s recently announced share repurchases (See IJ web site May 14).

S&P noted that “none of the panelists saw real value to acquiring a reinsurer in the current market.” Brandon cited the fact that “historically, failures in reinsurance mergers are more frequent and synergies difficult to capture.” Dr. von Bomhard said better value-creation could be found in optimizing Munich Re’s “existing portfolio.” Thiele indicated that there weren’t many opportunities, but he added that “as a cycle management tool–when cycles are out of sync, you can purchase a reinsurance business at a good value.”

Turning to the “burgeoning insurance securitization market,” the panelists were neutral, seeing it as neither positive nor negative. There was some concern about securitizations, however. Dr. von Bomhard said it “should not cannibalize development” in the reinsurance market, but should be about portfolio optimization, while Thiele is worried about the potential of securitizations to serve as a substitute for reinsurance, even though the “capital markets option is more expensive than traditional reinsurance.”

The panelists also indicated that the “value proposition of reinsurance brokers has been undergoing slow, steady change for the past 15 years, shifting into a more consultative relationship. This can add value for the client, but Mr. Brandon believes that if reinsurance brokerage continues to become more consultative, margins for brokers in the servicing business could drop quite substantially, and the shift to a fee basis for services, a trend already in place, could accelerate.”

The complex U.S. 50 state regulation system came in for some comments as well, with Thiele describing it as “inefficient,” and Brandon calling it a “fundamental mismatch that must be dealt with.” Dr. von Bomhard said he would like to see reinsurance used as a test case for the optional federal charter.

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