CFO’s expect more pricing impact from alternative reinsurance capital

Many of the world’s leading insurance and reinsurance company Chief Financial Officer’s said they expect the pricing impact of alternative capital’s entry into reinsurance to continue, according to a survey from Goldman Sachs Asset Management.

GSAM’s survey of insurance and reinsurance company CFO’s and CIO’s highlighted that CFO’s remain concerned about the ongoing effect of alternative or third-party capital on reinsurance pricing and ultimately the impact that will have on insurance pricing as well.

Property and casualty insurance and reinsurance company CFO’s are most worried about the potential for alternative capital to continue to pressure prices through the rest of 2014, with 50% of those surveyed saying that they expected alternative capital to negatively affect pricing through this year.

33% of all the CFO’s surveyed, so including life, health and other lines of insurer or reinsurer, said that alternative capital is expected to negatively affect insurance and reinsurance pricing, while 27% said they were undecided. It’s no surprise that P&C CFO’s are the most concerned, given alternative capitals focus on property catastrophe lines of business.

P&C CFO’s also said that the introduction of an increasing volume of alternative capital into the market is making organic growth more difficult to come by. Only 14% said that using excess capital to grow organically was a good approach, as consolidation in the industry and alternative capital means that the amount of attractive growth opportunities are more limited.

Hence the preference at many reinsurers currently for returning capital which cannot be put to work at cost-effective margins and to take in and manage third-party capital to try to grow into select opportunities using lower-cost capital.

P&C insurers are particularly concerned about the prospects for competition from alternative capital to negatively affect pricing over the next twelve months, said GSAM. This trend is predominantly affecting P&C insurers and reinsurers but also to a lesser degree life insurers and reinsurers.

Perhaps unsurprisingly, where insurers and reinsurers are based in the world affects their perception of the possible impact to pricing from alternative capital. GSAM said that EMEA-based CFOs are the most concerned about alternative capital, with 47% believing that believe it will negatively affect pricing over the next twelve months, compared to 29% in the Americas and 14% in Pan Asia.

More respondents to the survey said they do not expect negative price impacts than said they did expect it in all regions apart from EMEA. This perhaps reflects the mix of respondents, being predominantly primary insurers with just a few larger reinsurance firms surveyed. Despite that, it is telling that the percentages of CFO’s expecting pricing impacts are so high, suggesting that we are going to see an increasing softening across primary insurance lines, particularly in P&C lines.

Here are the full results for the GSAM survey question on alternative capital:

Survey responses to question on alternative capital impacting insurance and reinsurance pricing - Source: GSAM Insurance Asset Management Survey

For 2014, CFO’s generally have lower return on capital expectations than the peer group surveyed in 2013 had. GSAM said that this is may be related to the strong capitalisation of the insurance and reinsurance industry as well as the increased competition from alternative capital.

Over a third of the insurance and reinsurance company CFO’s surveyed said that they believe the sector to be over capitalised, while only 10% said it was under capitalised. In the main, CFO’s believe excess capital should either be put to work in growth opportunities or returned to shareholders.

The other interesting insight from the GSAM survey is the fact that the majority of respondents said that they expect to increase the overall risk of their investment portfolio, while reducing liquidity, over the next twelve months. This suggests that the majority of respondents are set to adopt an increasingly high risk return investment strategy to compensate for low-interest rates and to boost overall company return on equity.

GSAM said that respondents recognise the need to enhance their investment portfolio returns in order to combat the current low yield environment. This is likely to involve greater allocations to alternative investments, less liquid assets, hedge funds and equities, rather than moving down the credit spectrum to lower graded bonds.

It’s interesting that the industry at large appears set to take on more asset side risk at a time when some reinsurers are making that a key part of their strategy, copying the hedge fund reinsurer strategy, to boost overall returns at a time when underwriting opportunities have become less attractive.

With insurers and reinsurers under continued pressure from alternative capital and forecasting this pressure to be sustained there is perhaps greater focus on opportunities to adopt more active investment strategies. The market environment is forcing change on both assets and underwriting sides of the re/insurance business and we appear to be moving towards a market where a hybrid approach to capital and investment management is increasingly becoming the norm.