London re-insurance market softening to continue in 2017: PwC

by Artemis on December 20, 2016

The London insurance and reinsurance market will see continued price softening in 2017, albeit at a reducing pace, according to PwC, which the consultancy believes will result in around a third of the market experiencing an underwriting loss next year.

Lloyd's of London buildingThe global reinsurance market has been softening steadily for a number of years now and with excess capital overflowing into commercial, specialty and other insurance lines, while large reinsurers look to specialist areas of the market to make profits, the London re/insurance market has seen itself come under increasing pressure.

According to PwC underwriting confidence in the London market continues to decline, as the effects of market softening spread. However, the firm does agree with most analysts that the softening is beginning to reduce, saying that increasing resistance from London market insurers to falling prices means rate reductions at the January 2017 renewal will be lower than the reductions seen a year earlier.

Re-underwriting strategies are now considered key to London market profitability, PwC believes.

“It is now clear that the profitability of the market, in an average 2017 cat year, hinges on the success of planned re-underwriting strategies seeking to improve the performance of the book in light of ongoing rate reductions,” the firm explains.

As a result, re-underwriting is believed to be at the heart of most London market insurance and reinsurance players strategies to retain profitability in the market.

With companies on average assuming a net combined ratio of 97% for 2017, which includes a 4% reduction in profitability due to reinsurance, investment returns are going to be key with almost a third of insurers relying on them to generate profits.

Given the investment climate and where interest rates are today it’s easy to see that this is not going to be an easy task and that the margin between profits and losses will be extremely slim in 2017.

The market is expecting the most pricing pressure to be seen on lines such as energy and aviation, PwC said, with 2017 average risk adjusted rate reductions expected to fall around the 6% and 7% for these lines.

Interestingly, PwC says the outlook for offshore property risks in the energy sector is particularly bleak, with anticipated market average risk adjusted rate reductions of 8%. As a result “These classes are not anticipated to make gross underwriting profits in 2017. This follows an average risk adjusted rate reduction of 14% during 2016 for risks in the Gulf of Mexico and 11% elsewhere,” PwC says.

It’s interesting as a number of insurance-linked securities (ILS) funds are targeting these areas, of offshore energy property exposure, with new parametric style products and having some success. These ILS fund players are also finding rates attractive on many accounts, so it will be interesting to see whether the lower cost of ILS capital can enable the capital markets to take some more of this business from London.

Finally, PwC believe that binder business will continue to become increasingly prevalent in the London market, with the proportion of binder business is expected to increase from c. 40% in 2016 to 47% in 2017 plans.

Harjit Saini, London Market director who led PwC’s review of the London market’s prospects for 2017, commented; “The outlook for energy lines continues to deteriorate. For example, the majority of 2017 plans are unprofitable for the offshore property risks of energy operators. Whilst the view of 2017 plans highlights cause for concern, 2016 pricing data appears relatively more positive despite 2016 price reductions being greater than expected.

“Counter-intuitively, 2016 new business profitability for most energy property classes is anticipated to be better than renewal business and what was initially planned for these classes. We believe the view of new business profitability is materially overstated for most energy property underwriters in an average catastrophe year.

“More generally, we have observed questionable pricing information for many London Market insurers and this highlights the need for strong controls to be in place for monitoring new business profitability in particular.”

Jerome Kirk, London Market actuarial Leader at PwC, added; “It’s tough to find positives, although the declining pace of rate reductions is one. However, counter this with the low expectations of the market and the outlook is still fairly bleak, something confirmed by Lloyd’s recently. The reliance on re-underwriting makes sense at an individual syndicate level but not at a Market level.

“2016 saw some real horror stories in classes such as energy and the outlook for 2017 is not much better. Making the right decisions at all levels is crucial in such a soft market and market participants should focus on getting the right analyses, analytics and management information to support the business. Especially as our analyses at a Market level shows not everyone is going to get is right.”

Overall the London insurance and reinsurance market looks set to undergo further pressure through 2017, adding the the pressure felt through the erosion of profits in many core areas of the market’s business.

Add to all the above the fact that the capital markets and ILS funds are increasingly allocating capital to re/insurance business through the London market and Lloyd’s of London, as well as growing their focus on specialty, facultative and commercial insurance lines and it’s hard to see conditions getting much easier for the London market in the near future.

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