Hardening reinsurance market set to prolong primary buyers’ pain

Heavy losses, inflation and rapidly rising interest rates are combining to drive reinsurance market hardening, particularly for nat cat risks, as we head into year-end renewals, with brokers and ratings agencies predicting that this may well prolong difficulties in the primary space, as insurers pass higher costs onto corporate risk managers.

The reinsurance market initially started to harden following heavy nat cat losses over recent years. Things were already set to get worse for buyers at 1 January renewals on the back of rising inflation and unrealised losses hitting reinsurers’ results. Then, hurricane Ian came along to potentially make things even more difficult. 

Mike Van Slooten, head of business intelligence for Aon’s Reinsurance Solutions, told Commercial Risk Europe that underwriting results were the bright spot for reinsurers in the first half of 2022, but hurricane Ian now threatens to derail outcomes for the full year. 

Van Slooten views this as a large loss that will exacerbate existing difficulties in the property catastrophe market.

“Results in this line have been challenging over the last five years and the volatility has concerned investors. Some reinsurers were already dialling back their risk appetites, while others have been reinforcing their commitment to the class. The latest loss will provoke another round of reassessment,” he said. 

Supply-side constraints are coinciding with an expected increase in demand for nat cat cover, as buyers look for additional limit to offset the effects of inflation.

And Van Slooten believes that inflation is going to be the big topic leading into end-of-year reinsurance renewals. 

“Reinsurers are going to be pushing cedants very hard in terms of what strategies they are using to manage inflation. Reinsurers are very concerned about loss cost inflation that hasn’t been taken into account in the negotiating process,” he said. 

“In the meantime, interest rates are rising more quickly than expected to head off the inflationary threat. That is generating significant unrealised losses on bonds, which are undermining earnings and capital positions in 2022. In the longer term, higher interest rates are a clear positive for industry profitability, as they will result in higher investment returns, but in the short term, we’re going through quite a difficult adjustment period,” he added.

Van Slooten said, however, that things are looking better for reinsurance buyers beyond nat cat risks. 

“Reinsurers pulling back from nat cat business can create additional capacity elsewhere and it seems to me that appetites remain reasonably strong for casualty and specialty business, for example,” he said. 

And Van Slooten firmly believes there will continue to be strong competition for good business among reinsurers. 

“Reinsurers will be looking for greater transparency at these renewals. If the business has performed well, supporting data is of good quality and views of risk and inflation are properly articulated, good outcomes are still possible. Cedants that are not in this position will likely be facing some very difficult conversations,” he said. 

Pricing

Like others we spoke to, Van Slooten thinks it is likely that higher overall reinsurance costs and falling capacity for nat cat risk will ultimately be passed on to primary buyers, and corporate risk managers will start being quoted higher prices for nat cover amid less capacity. 

“You have had primary and retro pricing moving ahead of reinsurance for quite a while, and there is evidence now that reinsurance is playing catchup. The recent narrative has been that while rates in commercial insurance are still  going up, the increases have slowed. However, I think there is going to be a tendency going forward for higher reinsurance costs to sustain pricing on the primary side as well,” he said.

“This is not easy for anybody, I fully recognise that. But when you see these nat cat losses increasing on a global basis and everybody  being affected by inflation to a greater or lesser degree, the logical conclusion is that everybody will have to pay more to some extent,” added the reinsurance broker. 

Brian Schneider, senior director in Fitch’s insurance team, told Commercial Risk Europe that the overwhelming consensus at the reinsurance industry’s recent Monte Carlos Rendez-Vous was that market hardening will continue into 2023 at January renewals, even in the absence of significant catastrophes in the second half of this year.

Hurricane Ian

Of course, since that meeting, hurricane Ian has ripped its way across Florida and other parts of the US, causing insured losses estimates at the time of writing up to $63bn.

Experts have warned that if Ian causes losses of this magnitude, it could be a capital event for reinsurers and will exacerbate the mismatch between supply and demand in the P&C reinsurance market. 

Speaking before Hurricane Ian hit, Robert Mazzuoli, a director at Fitch, said hardening will differ across the various lines of business at year-end, with property cat cover hardest hit as some reinsurers withdraw capacity after suffering losses. 

“We expect prices to go up most – so double-digit in nominal terms – in property cat and retro and far less in casualty lines,” he said.

Mazzuoli added that capacity will be restrained at year-end for certain peak risks exposed to nat cat risk, such as US hurricane.

“This means prices will go up, limits will also rise to accommodate for inflation and terms and conditions will tighten. Reinsurers may also move away from quota-share treaties and prefer XL-covers if they feel cedants are not pricing the insured risk adequately,” he predicted. 

And the bad news for readers of Commercial Risk Europe is these price rises and tightening conditions will likely be passed onto insurance buyers, said Mazzuoli.

“The pressure on primary insurers will rise to pass on higher claims and reinsurance costs to their clients. This should still be easier to achieve in the commercial space than in the retail space,” he said. 

Mazzuoli also noted that higher claims on the back of inflation will first be felt in property lines but are likely to eventually spill over to liability, D&O or workers comp as wages go up in response to inflation, and social inflation gathers speed again as courts start to work off the backlog

Headwinds

Johannes Bender, director at S&P Global Ratings’ insurance practice, paints a similar picture of hardening reinsurance markets and insurers ultimately passing on higher costs to their customers.

“Hardening pricing is expected to continue across the board in view of headwinds heading into the next reinsurance renewals in 2023,” he said. 

“But it looks like the price cycle is becoming even more regionalised and price increases are more pronounced in lines of business and regions where losses have occurred,” he continued. 

“The important question will be if rate increases are fully matching or exceeding claims inflation going forward. In property, catastrophe business rate increases have been more pronounced driven by large losses in recent years but also by a divergence of natural catastrophe risk appetite among reinsurers,” added Bender. 

Carlos Wong-Fupuy, senior director of global reinsurance ratings at AM Best, said investors are getting nervous about the volatility of results, and carriers on both the primary and reinsurance side have been shifting their business models away from catastrophe risk into casualty, specialty lines and excess and surplus.

As a result, appetite for catastrophe risks has diminished “significantly”, he said.

“We see some serious pressures toward the renewals for 1 January. Negotiations are going to be tough. There is pressure for commercial lines business to retain more risk. Everybody is trying to move to higher layers of protection. Rated insurers are trying to reduce the volatility of their results. But we have started to see the first signs of that stabilisation of results during this year. We expect that to continue,” he added.

Wong-Fupuy said the reinsurance market remains well capitalised but funds aren’t being allocated for volatile risks, such as property cat, as they once were.

Inflation

Greg Carter, managing director of analytics in EMEA and Asia-Pacific at AM Best, said inflation is the elephant in the room and no one is quite sure how things are going to develop. 

He said inflation is proving an “enormous” challenge for reinsurers because the costs of everything is going up. “Trying to factor that into premiums collected today for claims that are going to come in over the course of the next one to five years is extremely difficult. No one seems to have a clear picture of what to do about that,” he said.