Verisk Analytics (NASDAQ:VRSK) division, ISO, has reported that the combined ratio for private U.S. property and casualty (P&C) insurers deteriorated further in 2015, a trend that could manifest itself in greater losses for reinsurers, but that might also stimulate increased demand for reinsurance capacity.
The combined ratio for U.S. P&C insurance companies ended 2015 at 97.8%, representing continued deterioration from the 97% reported in 2014 and 96.2% in 2013, as a range of persistent market pressures continue to challenge the profitability of global insurers and reinsurers.
ISO explains that in 2015 the group of private U.S. P&C insurers' loss ratio, being losses and loss adjustment expenses (LLAE) to earned premiums, grew 4.6% to $350.2 billion, while other underwriting expenses grew to $144.3 billion, and policyholder dividends climbed 3.7% to $2.5 billion.
All of the above resulted in the group of U.S. P&C insurers reporting a decline in net underwriting gains for the year of $8.7 billion, compared with $12.2 billion a year earlier.
A significant driver of the increased LLAE is the $3.6 billion reserve charge taken by major re/insurer AIG (NYSE:AIG) in the fourth-quarter of 2015, says ISO, which also contributed "to deterioration of underwriting results as measured by combined ratio and by net underwriting gains," says ISO.
However, absent even the substantial reserve charge, the combined ratio for 2015 would have still been worse than the previous two years, albeit only slightly at 97.1%.
Deterioration of the combined ratio for U.S. P&C insurers could mean higher losses for the reinsurance industry, as despite insurers' net LLAE from catastrophe losses declining slightly in 2015, net LLAE losses other than catastrophes grew by 4.8% to $333.5 billion.
As a result of an increased LLAE in 2015, which still exceeded premium growth despite net written premiums for the year growing to $514 billion in 2015, and rising combined ratios, P&C insurers could have utilized a greater portion reinsurance protection in the year, suggesting higher losses for the sector last year, and also in the future should combined ratios rise further.
However, while the deterioration of combined ratios for U.S. P&C insurers could result in more losses filtering through for the reinsurance industry, it could also help to stimulate an increase in demand with more insurers looking to protect their balance sheets against a backdrop of dwindling reserves, low investment returns and reduced rates.
The rise of alternative reinsurance capital, a lack of large loss events and other market trends has contributed to a supply/demand imbalance that has engrossed the reinsurance marketplace for some time now.
However, several insurance and reinsurance industry analysts and experts in recent months have noted an increase in demand for reinsurance protection in 2016, despite rates continuing to decline across the majority of business lines.
The competitive reinsurance landscape and persistent rate declines has resulted in the buyers market that remains today, with insurers able to take advantage of favorable pricing and terms and conditions at renewals as reinsurers fight for market share.
With global interest rates remaining low any profit on the investment side of the business is proving challenging for most and, with combined ratios rising for the group of private U.S. P&C insurers, it's very possible that demand for reinsurance continues to grow as primary players look to diversify and bolster their capital base.
An increase in reinsurance demand also highlights the potential for the expanding wealth of insurance-linked securities (Pending:ILS) capacity to find its way into primary insurers' reinsurance programs.
Owing to its efficient, diversifying nature and increased sophistication as an asset class, ILS capacity continues to expand its reach and will likely be utilized more and more by insurers directly, or through their catastrophe reinsurance placements.
So it's likely that a rise in demand for reinsurance protection will result in greater use of ILS capacity and structures as insurers and reinsurers look to optimize their risk portfolios, ultimately boosting returns at times of broad financial market turmoil.
One thing is clear, combined ratios for private U.S. P&C insurers are continuing to deteriorate, which suggests an increase loss for the reinsurance industry. However, with profits hard to come by and efficiency a must in testing market times, demand for the wealth of cheaper reinsurance capacity, along with ILS capital could increase in the coming months.
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