Reinsurers Welcome Rate Stabilization: S&P-PwC Bermuda Reinsurance Forum

November 18, 2016

North American reinsurers may soon see some rate stabilization after a prolonged period of declining premium rates, as they deal with a supply-demand imbalance that has weighed on returns, according to executives at the 2016 Bermuda Reinsurance Conference co-hosted by S&P Global Ratings and PwC Bermuda.

“We are pleased with the stabilizing rate environment,” said Kean Driscoll, chief executive officer of Validus Reinsurance Ltd.

Joseph Brandon, executive vice president of Alleghany Corp. agreed broadly with Driscoll. “On the primary side, the rate declines in property are much steeper than in reinsurance. The pace is slowing. Casualty lines have seen minor rate increases,” Brandon said.

Kevin O’Donnell, president and chief executive officer at RenaissanceRe Holdings Ltd. believes actual results have been “better than expected” for the industry. “Overall, catastrophe losses have been low and we’ve seen diminishing rate reductions,” O’Donnell said.

“I think the death of the reinsurance market has been greatly exaggerated, as Mark Twain would say,” Brandon told conference attendees. He said that the reinsurance market has survived more adverse periods–particularly in the late-1990s and early 2000s. “What we’ve gone through in the past few years doesn’t even compare,” he said.

Nevertheless, the “softer for longer” reinsurance pricing environment is proving to be deeper and longer than many market participants anticipated a few years ago. This, Brandon said, will continue to hurt reinsurers’ returns.

“Anybody who says they can make 15 percent through the cycle is playing a big game of pretend; it’s simply not true,” he said. “Serious companies have assumed that the current environment is going to persist for a while and have adjusted their views.”

Kean Driscoll of Validus said his company is targeting returns of at least a 1,000 basis points above the “risk-free” rate, which he defined as three-month Treasury bills–an outcome that has certainly been challenging. “Given where the pricing environment is today and where we think it will be in the next few years, I’m comfortable with that projection,” Driscoll said. “It’s achievable; it’s not easy.”

Although returns have been lower than in the past, they’re still attractive compared with many other industries, said O’Donnell. Moreover, reinsurers have largely avoided falling into the trap of overextending their risk exposures to chase returns, he said. To that extent, the outlook is rosier than it might seem at first glance.

“Generally, the reinsurance market should be proud of its behavior,” O’Donnell said, adding that it’s important to resist the temptation to rely on risk premiums from investment activity to make up for a loss of underwriting premiums. “The question we need to ask is: Are the structures appropriate for the types of risk we’re taking? I think the answer is generally yes.”

“Looking at 2017, I think it’s going to be a tough year, but I think the reinsurance market is poised for success,” O’Donnell said.

He said that while companies fight for market share, it’s important for the industry as a whole to expand the market through nascent lines of business such as cyber-risk protection. “I don’t think we as an industry speak with as common a voice as we need to,” O’Donnell said. “There’s opportunity for all of us to make the pie bigger.”

Validus’s Driscoll pointed to mortgage reinsurance as “an area where there’s a significant pipeline” of business to be brought to the market. At the same time, as third-party players enter the market, supply may continue to outweigh demand overall.

“We recognize that the supply-demand imbalance isn’t going to reach appropriate equilibrium unless we do something,” he said.

In any event, investors have reacted to credit losses they suffered during the recent financial crisis by diversifying their exposures to areas unrelated to credit, with many entering the U.S. property/catastrophe reinsurance market.

Therefore, the popularity of third-party capital vehicles designed to provide direct access to potentially higher-yielding insurance exposure, such as insurance-linked securities (ILS), has been growing over the years, though at a slower pace over the past 18 months.

RenaissanceRe’s O’Donnell said that it’s important to understand that “alternative capital” doesn’t just mean “hedge funds,” as it did in the past. “Third-party capital is a permanent fixture in our business, but their appetites have changed and they will continue to change,” he said. “We have seen capital try to get closer to original risk–we expected it to move horizontally and it’s gone vertically.”

Driscoll agreed, offering that there is “a highly educated investor base looking to establish permanence” and that there’s been significant interest from pension funds in the property/casualty market.

“There’s a lot of money sitting out there that will push in,” he said. Still “there’s definitely a lot of learning in the ILS space that needs to occur before it’s fully formed.”

Meanwhile, as consolidation in the industry continues and companies around the world, specifically in Asia, look to grow, there’s room for players of varying size to succeed, the panelists said.

Taoufik Gharib, S&P Global Ratings credit analyst moderating the panel, asked whether there is a tiering of the reinsurance market.

“I think being ‘Tier 1’ is a lot more than just size or scale,” said Alleghany’s Brandon. “It goes to relationship, expertise, what lines of business you’re in.”

O’Donnell joked that many companies think of themselves as Tier 1. “The first way companies define Tier 1 is by looking in the mirror,” he said, adding, “I think it’s good that companies look different. The way the market’s changing provides opportunities.”

Driscoll at Validus agreed. “If you have a good relationship and you have a good product, you can get business at any tier,” he said.

Source: S&P Global Ratings; PwC.

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