M&A could stabilise reinsurance rates, but reduce demand in 2016: KBW

A persistent flow of insurance and reinsurance industry merger and acquisition (M&A) activity trended throughout 2015, with “significantly” more deals expected over the coming months. This consolidation has the potential to stabilize rates, but diminish demand in 2016, according to KBW.

In an effort to remain relevant to the industry and clients’ alike, as benign losses, excess capacity, low interest rates, and heightened competition contributed to a challenging insurance and reinsurance market landscape throughout 2015, consolidation has been prominent throughout the year.

And, with much of the same challenges expected to continue at the upcoming January 1^st renewal season, further rate declines of between 5% and 10% are predicted in property catastrophe reinsurance pricing.

As a result of the tough operating environment showing no signs of stopping, perhaps absent a large catastrophe loss event, although some in the sector fear this will unlikely be sufficient to truly turn the soft market, analysts at Keefe, Bruyette & Woods (KBW) predict more M&A among reinsurers and insurers in 2016.

“We expect significant insurance and reinsurance consolidation activity in 2016, stemming from a number of catalysts,” said the financial services specialists.

“Numerous deals were completed in the reinsurance, specialty and Lloyd’s marketplaces in 2015, and we expect more transactions in 2016.”

The drivers of further industry consolidation will be declining rates, and a search for relevance, size, scale, and underwriting profitability, something that has been difficult to achieve throughout 2015, absent the support of reserve releasing.

One benefit of the challenging environment and resulting reinsurance M&A activity is that less reinsurance entities, small or large, will create less competition for pressured business lines, like property cat, which in turn should lead to some rate stabilization, says KBW.

However, analysts at KBW also warned that further consolidation among primary insurers, which it expects to see in 2016, could result in reduced demand for reinsurance.

“Reinsurance consolidation could stabilize rates over time, but ongoing insurer consolidation will probably erode reinsurance demand,” said KBW.

It’s a fair assessment. As the market pressures influencing primary sector participants to embark on an M&A deal, typically, post-consolidation, are that the insurer will have acquired greater scale, and a larger capital base. This means the insurer can afford to retain more risk on its balance sheet, resulting in the need for less reinsurance protection than was previously required.

So according to KBW, M&A among reinsurers is positive for the sector in its current state, as less competition points to more stable rates, but, M&A among insurers will likely exacerbate the current supply/demand imbalance seen in the global reinsurance space.

For the coming months KBW expects M&A activity to continue and pick up pace, explaining that previous deals will also fuel this trend.

“Expense cuts and increased competitiveness associated with already-announced deals will probably motivate more deal-making to both lower expenses and expand product portfolios, and finally, we think likely declining reinsurance purchases stemming from recent primary insurer consolidation will push some smaller reinsurers to consolidate to develop and/or maintain adequate scale,” advised KBW.

On pricing, and looking forward to the key, up coming January 1^st 2016 renewals, KBW said; “We seem to be approaching a pricing floor as underwriters push back against unprofitable business. We expect continued pricing pressure in 2016, but at a slower pace than seen in 2014 and 2015.”

With the large number of deals, and the significantly high value of some of those deals that completed during 2015, it will be interesting to see just how much M&A activity takes place over the next 12-18 months.

Alongside the wealth of insurance and reinsurance industry M&A, 2015 also saw a reinsurance and retrocessional reinsurance linked investment and fund manager acquired by re/insurer Markel, in CATCo Investment Management.

This is the first time a re/insurer has acquired an insurance-linked securities (ILS) fund as opposed to partnering, or establishing its own vehicle to utilise the capital markets.

And it will certainly be interesting to see if more deals of this nature materialise in the coming months, as global insurers and reinsurers increasingly look to participate and utilise the expanding glut of alternative reinsurance capital, and its structures.