Reinsurance pricing to remain depressed, organic growth tepid: S&P

In reinsurance rating agency Standard & Poor’s expects that conditions are unlikely to change throughout the rest of this year, with results from the first-quarter of 2017 likely to be “fairly representative of how the year will play out” with prices remaining depressed and organic growth tepid.

In its latest update on Bermuda reinsurance market performance, S&P notes that many impacts to reserves from the Ogden rate change losses and higher losses from natural catastrophes “delivered a one-two-punch to Bermudian re/insurers’ earnings” during the first-quarter of this year.

Both factors “chipped away at underwriting profitability” for the Bermudians, adding to the pressure felt from continued soft reinsurance pricing and consistently increasing competitive pressure from alternative capital providers such as insurance-linked securities (ILS) funds.

But, despite these pressures, Bermudian reinsurance firms saw gross premiums underwritten rising by 5.5% to $17.54 billion in the first-quarter 2017, up from $16.64 billion in the first-quarter 2016.

Mergers and acquisitions continue to support growth, the rating agency said, but softer pricing at the key January reinsurance renewals partially offset the benefits of this.

The highly competitive reinsurance rate environment continues to result in some companies pulling back on premiums written, S&P notes, with market pressures “exacerbated by the continuing influx of third-party capital.”

Catastrophe losses on top of the difficult market conditions took their toll in Q1, with Bermudian reinsurers reporting catastrophe losses of $240.4 million in the first-quarter of 2017, more than double Q1 2016’s losses and at least 4.5x that of the same period in 2015 and 2014.

That’s a difficult start to the year and puts some companies on the back foot, with loss ratios taking a hit at the start of the year and the peak U.S. wind season now ahead. It also puts some aggregate reinsurance arrangements on the back foot for the rest of the year, as many of these contracts will now see deductible erosion running ahead of forecast.

Bermudian reinsurers average combined ratio dropped 3.3 points to 94% in the first-quarter of 2017, up on the 90.7% in the prior year.

A 4.6 point increase in the loss ratio due to the frequency of natural catastrophe activity and the Ogden losses was the principal cause of this rise, but pleasingly the average expense ratio dropped by 1.3%, which is a positive sign for reinsurers in a climate where efficiency is increasingly important.

However the indicator of profitability, return on equity, fell again with the industry’s annualised RoE falling to 7.8% in Q1 2017, down from 8.6% in the previous year.

Investment returns need to be factored into this view of profitability though, as they give a clearer picture of underlying underwriting profits.

Investment return for the Bermuda reinsurance market rose 27.4% year-on-year to $855.9 million, due to improving financial market conditions and this has been a significant boost at this pressured time in reinsurance.

Looking ahead, S&P says; “We expect first-quarter 2017 to be fairly representative of how the year will play out for Bermudian re/insurers in terms of pricing, competition, and capital management.”

Prospects are likely to remain gloomy in reinsurance and S&P expects “Prices to remain depressed, albeit decreasing at a lower rate than in previous years,” while opportunities for growth will remain limited.

“Rate declines will continue to underlie tepid organic growth for the industry, with pockets of opportunity being exploited by early movers,” the rating agency concludes.

Should the catastrophe activity seen in Q1 continue, as it does seem to be in April with U.S. severe weather losses piling up again, S&P says “This will likely put further pressure on reinsurers’ underwriting margins.”

However, with the expert and disciplined companies in Bermuda maintaining profitability so far, S&P believes “The industry as a whole will be able to navigate these choppy waters reasonably well for now.”

The outlook on the global reinsurance sector ratings remains stable at S&P, although market prospects remain weak, with strong capital adequacy, strong enterprise risk management (ERM), and what the rating agency sees as still-rational underwriting behavior helping the majority of reinsurers to navigate the challenging market environment.

Bermuda faces a unique set of challenges in reinsurance, but the fact that the market has fully embraced alternative capital is a positive which can help the firm’s operating their to enhance their competitiveness and find new sources of income, perhaps something London needs to take note of.

Pressure continues, with no sign of it abating. While the bottom of the reinsurance market is being increasingly talked up, there is no guarantee that the bottom (once found) won’t prove to be the baseline for some significant time to come.

With profits dwindling efficiency continues to rise in importance, as will low-cost underwriting capacity and therefore the capital markets and third-party capital vehicles will continue to proliferate in reinsurance for the forseeable future and competition from ILS funds continue to rise.

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