ILS continues to attract investors, will further pressure reinsurers: EIOPA

Insurance-linked securities (ILS) and reinsurance linked investments are continuing to attract capital market investors such as pension funds, resulting in continued growth of alternative capital and further pressure for reinsurers to face, according to regulator EIOPA.

The EU insurance and reinsurance industry watchdog, the European Insurance and Occupational Pensions Authority (EIOPA), has said before that it sees the growth of alternative capital as a “key risk” for traditional reinsurers.

In its latest financial stability report which was published on the 9th December, EIOPA highlights that while growth of alternative capital in reinsurance has slowed in 2015, in response to the reduction in available rates, it does continue to grow and as a result reinsurers will remain pressured by it.

“In the current investment environment, the diversification and yield provided by insurance-linked investments continues to prove attractive to investors,” EIOPA explains in the report.

However, this attraction to the low-correlation of reinsurance linked returns and its continued inflows into growing ILS funds and vehicles continues to affect the traditional reinsurance market, “producing an over-supply of capital and placing downward pressure on rates.”

EIOPA notes that the continued growth is just one way it affects reinsurers, but that alternative capital and ILS is increasingly expanding its territory and “seems set to expand into other reinsurance lines” beyond the non-proportional property catastrophe reinsurance space.

At the same time ILS and alternative capital backed reinsurance is becoming increasingly attractive to cedents as well, helped by the continued growth in acceptance of indemnity triggers by investors and the “tightening spreads between indemnity and other trigger types.”

“This development is likely to further enhance the attractiveness of ILS for both new and repeat sponsors,” EIOPA explains, making the cost of using ILS protection increasingly comparable, or even more efficient than, as traditional reinsurance.

These trends are “bound to continue,” EIOPA says, while large catastrophe events remain absent.

So while alternative capital flows into reinsurance have slowed, EIOPA expects that they will continue and the size of the ILS market is likely to grow. That will maintain the pressure on reinsurers, add to the excess of capacity in the market and should ensure that while rates are expected to stabilise the general trend will remain flat to slightly downwards.