Reinsurers Can Prosper, Even While Pricing Is Lousy: S&P Panelists

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by: Steve Evans

A lack of catastrophe losses significant enough to meaningfully drive any upturn in reinsurance rates, coupled with high levels of reserve releases enables reinsurers to perform better than the pricing environment suggests, according to a panel of industry leaders and experts.

Speaking at the Standard & Poor's (S&P) Global Ratings 2016 Insurance Conference, held in New York recently, panelists discussed the state of the softening reinsurance marketplace and resulting sector trends.

Rates continued to decline at the key January 1st renewals across a range of reinsurance business lines, and while panelists expect further declines at mid-year renewals and beyond, there was mention of the noted deceleration of rate reductions.

One of the main reasons reinsurers have been able to withstand the mounting pressures of the overcapitalized, highly competitive reinsurance marketplace, is the benign catastrophe loss environment.

This trend has enabled firms to release higher levels of reserves that become freed up owing to a lack of large loss events, essentially helping companies to bolster balance sheets that are feeling the impacts of reduced rates and dangerously low, global interest rates.

"With no catastrophes, you can have lousy pricing and still come out ahead," said Constantine Iordanou, Chairman and Chief Executive Officer (CEO) of Arch Capital Group.

"It's a tough market. On a scale of 1-10, with 10 being a great market and one being a terrible market, we're at two or three. But I see some signs of bottoming in some of the sectors," continued Iordanou.

Artemis has discussed previously how some reinsurers have been seen to aggressively release reserves in order to bolster returns, a move that essentially masks true underwriting profitability and is just one of the techniques adopted by firms in an attempt to navigate the testing landscape.

This approach is enabling reinsurers to continue to prosper in particularly challenging times, and with further rate reductions expected at the upcoming mid-year renewal season, absent a substantial market event, it's likely reserves will continue to play an important role in the near-term profitability of global reinsurers.

However, according to Chris O'Kane, CEO of Aspen Insurance Holdings, a "drying up of reserve releases" is imminent for the sector. Suggesting that if some reinsurers continue to release reserves at current levels, and losses remain benign, reserves will increasingly diminish and companies won't be able to rely on prior accident year reserves to improve their balance sheets.

O'Kane also stressed that despite further price declines being expected at mid-year and beyond, he does feel the market is "reaching the bottom in pricing," but that the all important question of "What will get us back off the bottom?" remains.

What it might to take to seriously impact rates in a positive manner has been a constant discussion and debate throughout the softening reinsurance landscape, with some analysts claiming that it might take a $200 billion loss event for any substantial impact on rates to materialize.

"You'd need some big losses to emerge. Even in today's soft market, where you see losses, you see a correction," said Brian Young, President and CEO of Odyssey Re Holdings.

Young explains that despite an increased volume of global catastrophe losses occurring in the opening months of 2016, which includes the Fort McMurray, Canada wildfires, Japanese earthquakes, and severe storms in parts of Europe and the U.S., "it's not having a global impact."

"For us to see corrective action globally, I think you'd need to see losses of $50 billion - or maybe north of that," said Young.

While a substantial, industry changing event or aggregation of a series of sizeable events might be enough to drive a shift in the supply/demand imbalance occupying the reinsurance sector, losses of this magnitude could prove dangerous to those that aggressively released reserves and perhaps weren't as disciplined as required at renewals.

Furthermore, panelists explained that the pricing dynamics have now changed in the reinsurance space, with the historically volatile reinsurance market undergoing structural change that has been exacerbated by the persistent influx of both traditional and increasingly alternative reinsurance capital.

In today's market, O'Kane explains that post-event "the upturn tends to be a bit milder and a bit shorter," than previous softening market cycles.

Market observers and leaders have discussed previously how the abundant of capital in the space, combined with the reportedly large volumes of reinsurance and insurance-linked securities (ILS) capacity sat on the sidelines, has compressed the traditional reinsurance cycle. Noting that while the sector will most likely remain cyclical, the highs and lows will be far more compressed than years gone by.

Another divergence from previous market cycles, say the panelists, is the increased maturity, willingness, and sophistication of those retaining risk, with insurers increasingly utilizing models that enables them to be more comfortable retaining a greater portion of their risk, ultimately reducing their reliance on reinsurance. Another trend that has more than likely contributed to the sector's supply/demand imbalance.

"Given the current marketplace in reinsurance you have to be patient and disciplined because you're walking through a minefield right now," said Iordanou.

While O'Kane concluded that "We'll hunker down. We'll survive this."

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