A renewed sense of purpose

Return on capital is the refrain from battle-hardened reinsurers in the run up to the 1 January 2022 renewals. But as two experienced campaigners explain, there are many forces at work in the market this year. Garry Booth reports

For the second year running, the annual reinsurance market renewal discussions are taking place under the cloak of Covid. Not only are things running late, due to the dislocation in traditional negotiating processes, but many more market forces are at work this time.

From behind the scenes, an insistent drumbeat that portends a harder market for European cedants can be heard from reinsurers who have been battered by nat cats. But perhaps more than for any renewal experienced since the aftermath of 9/11, few of the old certainties apply on either side of the balance sheet this year.

The combination of climate change risk perception and Covid-19, especially, has caused a major rethink of risk exposures across the property-casualty reinsurance spectrum. Meanwhile, the entire market is operating in a low interest rate environment, weighing on investment returns and pulling the focus on underwriting.

Unprecedented cat losses
Winter storm Uri in February, the European floods in July and Hurricane Ida in August generated massive losses for reinsurers.

Mike Van Slooten, head of business intelligence for Aon’s Reinsurance Solutions division, points to unparalleled nat cat losses for the insurance industry as a whole: “We’re already through $100bn insured losses this year and half a trillion for the last five years. That makes it an unprecedented period for the insurance industry as a whole. Reinsurers are designed to absorb volatility and they’ve certainly taken their share of the load. The same is true of the retrocession market, where capacity is now constrained.

“After another cat-affected year, reinsurers have stepped up the rhetoric and the appetite for cat business appears to be waning in some cases, despite the strong capital positions. Others are well positioned to grow if pricing meets their terms. It’s a sign of the pressure management teams are now under to achieve their target returns on capital.”

Meanwhile, Covid-19 has generated significant losses for reinsurers in both the life and non-life segments, and is a continuing event in terms of excess mortality, Van Slooten adds: “There is also ongoing uncertainty around reserving positions, notably for BI/contingency losses, as well as the possibility of additional claims emergence from longer-tail classes.”

Covid and casualty

Firming in the casualty, long-tail, end of the reinsurance spectrum has been underway for a while and will be sustained through the next renewal, according to Simon Welton, market head, P&C UK and Ireland, at Swiss Re UK: “For the upcoming renewals, we expect rates to improve, with differences by market and product. These improvements have been needed, for different reasons, for longer. Casualty has been an underperforming line of business driven by hard-to-predict factors like social inflation in the US and by lockdown. Plus, inflation is rising steeply while [investment] yields have dropped to very low levels.”

The eventual cost of Covid-19 casualty-related losses are hard to call, Welton says: “The advices on loss are coming in very slowly, so we are just starting to build a picture of where the losses will come from. Contingency and event cancellation are obvious but we will need to observe the trends regarding property and BI in some regions outside the UK.

“A big issue is not the BI losses per se, which we can understand, it’s the impact on global supply chains and the impact on inflation around rebuilding.”

Overall, casualty presents a mixed picture, according to Van Slooten: “There are concerns around the impact of inflation in its different forms: economic, loss cost and social. However, most casualty insurance lines have benefited from significant price increases over the last few years and reinsurers writing proportional programmes have obviously benefited. Once again, there will be strong appetite for good business.”

Welton agrees that when insurers are generating very strong rate on the original business, then reinsurers follow their fortunes. But he advises caution: “It’s a paradox whereby this is a hardening market but there is some pressure to start offering better terms to cedants because of the improvement in underlying primary rates. That would risk derailing the improvements that are needed.”

Investor sentiment slumps
Investor sentiment is weighing heavy on a reinsurance market that has not been meeting its cost of capital for years.

Van Slooten says: “In many cases, reinsurer results over the last five years have not been in line with the expectations of management teams, investors or ratings agencies. Investors are now questioning whether reinsurers are pricing for the effects of climate change, which is putting pressure on reinsurers to address the volatility that’s being seen in their results.

That will add to upward pressure on the pricing of catastrophe covers at the year-end, and potentially not only in the areas that have been affected by losses this year, Van Slooten reckons.

Swiss Re’s Welton echoes that view. “There has to be a general rising tide. The whole point of reinsurance is mutualisation of risk and if you want the benefits of that diversification, then there’s a downside. Our capital is exposed globally and is affected globally if there’s a local loss. Will floods in Germany cause UK insurers to pay more? Yes, a little bit, because our capital base is affected by it,” he reckons.

But Swiss Re does differentiate between cedants as well, Welton stresses: “It’s very important to do that and we would never mandate an across-the-board rate rise. It goes against the ethos of getting closer to clients. There will be a general upturn in the market and the losses are a catalyst for it and not the cause.”

Trapped collateral chills ILS
Third-party capital has been a significant influence on reinsurance capacity and pricing in recent years – but has taken a hit this year.

“We’d seen a resumption in the growth of alternative capital up until the third quarter, and the property cat bond market in particular looks set to have a record year. However, the European floods and Hurricane Ida have resulted in losses to the retro market and resulted in additional collateral being trapped,” Van Slooten says. “This is discouraging for investors who already had concerns around climate risk. With little sign of new money coming in, there will be less alternative capital available to serve the retro market at the year-end, which in turn will put upward pressure on reinsurance pricing.”

Welton is similarly bearish on ILS: “Anecdotally, while cat bonds are a buoyant market, the role of third-party capital overall is probably reducing. That said, ‘alt capital’ should be opportunistic and if there was a capacity constraint it would be welcome. Right now, there isn’t a shortage of capacity.”

Cyber risk in the spotlight
The machinations taking place at the sharp end of the risk transfer pyramid might seem a long way removed from the premium rating action down on the ground. But reinsurance availability and pricing does have a direct effect on commercial business.

Cyber is one of the most challenging areas at the moment, says Van Slooten. “It is high on the list of priorities for corporate buyers, but carriers and their reinsurers are struggling to fully understand the loss potential. Concerns have been heightened by the elevated cost of ransomware claims in 2021.”

Swiss Re’s Welton agrees that cyber is creating more noise than any other line today and for very good reasons. “Amid the celebrations over the growth opportunity presented by cyber, the industry is currently reassessing some of the potential risks, notably ransomware, that are now manifest. This is leading to a substantial price correction. It’s an important part of the industry and [there’s a danger that] prices can become unsustainable.”

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