Hannover Re reports record results, foresees ongoing price pressure

Reinsurer Hannover Re reported record results for the full-year 2014 today, but said it expects little change in the intensely competitive property and casualty reinsurance market during the year ahead and cited the contribution that ILS makes to this pressure heavily in its report.

Hannover Re reported its strongest annual result to date this morning, but acknowledged that continued low levels of catastrophe losses allowed it to benefit over the course of the year, despite the lower pricing and higher competition in property and casualty reinsurance lines of business.

The reinsurer reported group net income up by 10% on a year earlier, at EUR985.6 million, considerably higher than its targeted profit of EUR850 million. As a result Hannover Re is joining so many other reinsurers and promising a higher dividend to distribute more of its capital to its shareholders.

The reinsurers combined ratio came in at 94.7%, down from 94.9% a year before thanks to a major loss expenditure of EUR425.7 million which is considerably lower than the reinsurer had budgeted for.

Despite these impressive figures however, Hannover Re reported that return on equity (ROE) is down slightly at 14.7%, compared to 15% for 2013. Perhaps a sign of reducing profitability in the reinsurance world.

“The successful financial year was based on a 25 percent rise in net income in life and health reinsurance and the continued good underwriting result in property and casualty reinsurance. Furthermore, we were able to slightly improve our investment income despite the challenging market environment,” CEO Ulrich Wallin explained.

On the dividend Wallin said that it should be seen as a “capital management measure” as the reinsurers capitalisation now significantly exceeds its required capital. This excess capitalisation is also putting pressure on reinsurance pricing, as traditional players need to deploy as much as they can, even in the competitive environment.

Looking ahead Hannover Re acknowledges that “the general climate is likely to remain challenging in the current financial year.” The reinsurer “anticipates little change in the intense competitive pressure in property and casualty reinsurance or in the low level of interest rates.”

Wallin explained; “Our good market position as a broadly diversified reinsurer, our excellent financial strength and our low administrative expense ratio relative to our competitors should nevertheless enable us to achieve another good result in 2015.”

The reinsurers annual report discusses the conditions in the reinsurance market in much more detail, with Wallin writing:

The state of the market in property and casualty reinsurance continues to be fiercely competitive. With the supply of reinsurance capacity significantly exceeding demand, we are faced with what can only be described as a buyer’s market. This is due not least to the very good results enjoyed by reinsurers in recent years and, furthermore, to the inflow of capital from so-called alternative markets. What is more, the healthy capital resources of most primary insurers have prompted a tendency for them to raise their retentions.

As a consequence of these factors, covers to protect against losses from natural catastrophes – in particular – could only be placed at appreciable price mark-downs. Rate reductions were observed in many other reinsurance sectors too. In view of this general climate, we can be satisfied with the development of property and casualty reinsurance business at Hannover Re. Through disciplined underwriting and a concentration first and foremost on our renewal business, we succeeded in preserving the quality of our portfolio on a good level. We were further helped by the fact that we were able to purchase our reinsurance protection at more reasonable prices. Despite our quality-driven, prudent underwriting policy, we thus modestly increased the premium volume in property and casualty reinsurance to around EUR 8 billion.

The report also discusses the influence that alternative reinsurance capital and insurance-linked securities (ILS) such as catastrophe bonds is having on large, global reinsurance firms like Hannover Re:

With investors searching for higher-return investments, the market for insurance-linked securities (ILS) once again attracted very substantial (re)insurance capacity: additional alternative capital here came up against an unchanged level of demand. Pressure on prices and conditions consequently intensified still further, especially in natural catastrophe business.

In many property and casualty reinsurance markets competition intensified still further in the year under review. This was driven by the renewed absence of market-changing major losses as well as the tendency among ceding companies to carry more risks in their retention thanks to their healthy capital resources. As a further factor, additional capacities from the market for catastrophe bonds (ILS) and alternative capacities, especially in US natural catastrophe business, led to appreciable price erosion.

On the North American reinsurance market, Hannover Re particularly noticed the intense pressure of pricing during 2014:

Intense competition was the hallmark of the US property reinsurance market in the year under review. An absence of market-changing major losses coupled with reduced reinsurance cessions on the part of primary insurers led to further rate cuts, sometimes running into double-digit percentages. Only for loss-impacted programmes were modestly positive price adjustments recorded. Some softening in conditions could also be observed, for example in the form of longer hours clauses or poorer reinstatement conditions.

Rates in the US catastrophe XL market came under additional pressure due to the inflow of capital from alternative markets and the sustained decline in prices – a reflection of the favourable loss experience for US hurricanes.

The pressure on rates similarly intensified in US casualty business in the year under review. Under proportional programmes conditions also deteriorated for reinsurers. This included instances of coverage extensions, more limits of liability or increased cost reimbursements.

Perhaps a little surprisingly, Hannover Re notes that ILS and alternative capital is not having a marked impact on rates in marine and energy lines. This is surprising as there are a number of initiatives bringing third-party and ILS capital to these business lines, so perhaps the impact will be felt more in 2015.

Despite this the reinsurer did not that traditional reinsurance capacity is impacting rates in this area, as reinsurers seek to deploy capital into a line of business considered still more profitable by some:

Unlike in other lines, alternative capital – originating for example from hedge funds – does not directly influence the price trend in the marine and offshore energy market. This is because the medium to long-term nature of many products as well as the fact that loss amounts sometimes takes years to finalise diminish the appeal of this business for investors. To this extent, the additional capacity in the marine market derives from reinsurers who are looking for, among other things, greater diversification effects relative to their other property and casualty lines. Prices came under further pressure because large insurance groups are increasingly purchasing their reinsurance on a centralised basis, as a result of which the total ceded premium volume has contracted.

Despite all this pressure Hannover Re has managed to turn out its best annual results ever. One thing this clearly demonstrates is the continued existence of margin in the reinsurance business, particularly while losses remain low.

As we’ve written before, it is when loss levels return to normal, or above normal, that we will see how profitable reinsurers can continue to be. With Hannover Re expecting the pressure in reinsurance to continue through 2015, it may not be able to report such strong results at the end of this year.

Finally, analysts at KBW came out a little negatively on Hannover Re today after the results were revealed, saying that they do not have confidence in the reinsurers life book and thought that its disclosure on the performance of its life reinsurance business was lacking. Something to watch for in results to come.