Low losses help Munich Re stay on track despite “intense competition”

by Artemis on November 6, 2014

The world’s largest reinsurance company Munich Re reported that its target for full-year profitability remains on track for 2014 despite the continued “intense competition” in the market, as low levels of losses boosted its income for the third-quarter.

The quiet hurricane season has again helped the major reinsurers to a much better than expected quarter. Munich Re reported that its expenditure for natural catastrophe losses was well below the reinsurers expectations, coming in at just €100m, compared to €306m for Q3 2013.

The low-level of losses contributes to Munich Re maintaining its full-year profit target of €3 billion. CFO Jörg Schneider explained; “There will always be uncertainties – for example, the winter storm season just starting in Europe now. To date, however, losses from hurricanes in the USA and the Caribbean have been rather low. Overall, we consequently now expect to be able to achieve a profit of just over €3bn.”

Market conditions remain a challenge for Munich Re and the reinsurer continues to adjust its business mix in order to navigate the worst priced and softest areas of the market. Primary insurance and health continue to play a larger part in the reinsurers operations, while it continues to pull-back in some areas of the reinsurance market.

Chairman of Munich Re Nikolaaus von Bomhard explained the challenges Munich re faces; “The reinsurance market is still defined by intense competition among the established players. The number of well-capitalised reinsurers has been rising steadily over the years, whilst the demand for reinsurance on the part of equally well-capitalised primary insurers has at best been stagnating. Added to this, further capacities have been brought to the market by new players such as pension funds and hedge funds.”

As a result of the challenging market environment and the high-levels of reinsurance capital, both traditional and non-traditional, von Bomhard said that the reinsurance cycle may no longer be the same. As we’ve been writing for a while now, there is an expectation that prices may not rebound after a large industry loss event like they have before and some even say that the cycle will never be the same again.

von Bomhard explained; “Even if a costly natural hazard event were to occur now, it would not trigger any major shift in the market environment, that is to say it would not restore balance to the reinsurance market. Therefore, what is called for now is disciplined underwriting and strict cycle management.”

As a result of the challenges seen in the reinsurance market, Munich Re has been focusing on putting its efforts into growing its share of large and complex risk business and as a result innovation has been a key focus to enable the firm to pull together some of its expertise in different ways to generate new sources of income.

von Bomhard continued; “New business must be based on innovative solutions, as this is the only way to avoid the enormous pricing pressure.”

Once again Munich Re puts some focus on its weather risk management and weather derivatives business as one example of an area it can generate more revenue by focusing on complex solutions where it includes weather derivatives for large insurance and reinsurance clients. The synergies between Munich Re and its weather risk management unit continue to grow to the companies benefit.

von Bomhard said; “These and many other weather risks can be managed and covered by our subsidiary Munich Re Weather & Commodity Risk Holding, which we acquired last year. Weather risks are a growth
market, with only a fraction of the economic consequences of these risks currently being hedged in the market.”

On the opportunity to grow its weather risk management business CFO Schneider agreed saying; “Risk-coverage here is only in the single-digit billions, but economic weather risks worldwide are many times higher than that.”

Results wise, premium income in reinsurance was down slightly during the quarter compared to a year earlier, at €20.2 billion compared to €21 billion. Property casualty saw the firm report €496m of premium income, compared to €527m, and a combined ratio of 91.3%, which is an improvement over the 94.3% from Q3 2013. As a result the consolidated result for reinsurance is up slightly at €533m compared to the 2013 Q3 result of €511m.

However if you focus on the property casualty reinsurance operating result you can see the effects of the challenging market as Munich Re reported a drop of 32%, from €801m down to €542m. Despite this the consolidated result only dropped by 6%, helped by a lower expense ratio and combined ratio year-on-year.

In its quarterly report Munich Re said of reinsurance; “We are currently experiencing unrelenting competition.”

Recognising the challenge that alternative capital poses to it, the report continues; “Insurance-linked securities and other forms of reinsurance-like transactions are also increasingly being favoured by institutional investors such as pension funds in their search for a reasonable return. This capital is mainly being channelled into non-proportional catastrophe business, such as covers for hurricane losses in the USA, so reinsurers that have previously focused on this business are
seeking to diversify into other areas.”

On how this competitive environment affects its figures, the report says; “The prices, terms and conditions for reinsurance cover have therefore come under increasing pressure. This has also impacted
Munich Re’s portfolio, as the price erosion in the most recent treaty renewals has shown.”

Munich Re also acknowledges that there may be a sign of a stabilisation in pricing, which Hannover Re also noted yesterday, but it is too early to tell whether this will prop up the market. Munich Re remains ready to pull-back even more on reinsurance business if prices continue to drop.

“It is still too early to say whether the currently observable initial signs of a certain stabilisation, in particular of prices for insurance-linked securities, herald a sustainable consolidation of the reinsurance markets. If, contrary to expectations, there were a further significant fall in prices, Munich Re would withdraw from an even more substantial volume of business,” the firm explained.

“We expect the competitive environment to stay unchanged for the pending renewals as at 1 January 2015, and that prices will remain under pressure. Munich Re will maintain its consistently profit-oriented underwriting policy, and only accept risks at commensurate prices. In the future, we will continue to systematically withdraw from business we do not consider to be sustainably profitable, and thus in particular use innovative approaches to open up new growth potential,” the report continues.

Torsten Jeworrek, Munich Re’s CEO of reinsurance, stressed; “We will continue to resist pricing pressures and withdraw from business if necessary. In this environment, we can deploy our know-how and capacity better in offering our clients new and intelligent coverage concepts for their differing requirements. Due to the unchanged economic dynamics in Asia in particular, we see good opportunities for profitable growth overall.”

von Bomhard summed up and agreed that the reinsurer remains on track in 2014; “Munich Re closed with a satisfying result of €738m. Our shareholders will be pleased to learn that, owing to the positive performance of our business in the first three quarters, we are now proceeding on the assumption that we will be able to slightly exceed our original profit guidance of €3bn for 2014.”

Munich Re continues to benefit from the low loss environment and its ability to switch its focus away from the most pressured areas of the reinsurance market. With such large franchises in primary insurance, life and health, as well as its expertise to deal with complex risk solutions, the reinsurer will no doubt navigate the markets worst.

The results might look very different though with even an average level of losses, which would have reduced the result directly. Even large reinsurance groups like Munich Re will need to become expert at actively controlling their expenses and operating increasingly efficiently, particularly if the reinsurance cycle does not ever look quite the same as we’ve seen in the past while capital continues to be attracted to the sector.

The intense competition that Munich Re and all other reinsurance firms face shows no signs of stopping. In fact it looks like competition could become even more intense at the January reinsurance renewals as even more capital looks to access the market and tap reinsurance returns.

We could see another reduction in Munich Re’s property casualty reinsurance premiums written as a result, as it shifts focus even more from the areas of the market where ILS and alternative capital are most focused. Better to compete where the return on its capital can be maintained, rather than contribute to the general market softness by fighting over business which cannot support is expense and return needs.

CFO Schneider admitted that it may be difficult to get close to the €3 billion result in 2015, as the continued competition and low pricing will impact Munich Re’s results throughout the full year. 2015 will likely be a more difficult year than 2014, he said.

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