Reinsurance pricing floor yet to be reached: Fitch Ratings

Rates in the global reinsurance sector declined throughout 2015 as the pressures from alternative reinsurance capital, benign losses, and stiff competition persisted. And while declines in rates moderated somewhat in recent months, Fitch Ratings believes a pricing floor is yet to be reached.

With 2015 nearing its end insurance and reinsurance industry outlooks for the coming year are beginning to emerge, with many of the same challenges and trends expected. However, deviating slightly from the majority of forecasts, ratings agency Fitch is unconvinced that a pricing floor in the reinsurance market has been reached.

“The agency remains unconvinced that the slowing price reductions, reported at mid-year renewals for some major sub-classes, indicate that a floor has been reached, and that property reinsurance rates have continued to fall in the second half of the year,” explains insurance and reinsurance industry ratings agency, Fitch.

Certain industry analysis and commentary has suggested that a pricing floor in the global reinsurance marketplace is increasingly nearing, or has been reached in some instances, underlined by the slowing of rate declines across reinsurance business lines and, in particular with property lines, which have been the most negatively impacted by the current supply/demand imbalance in the space.

A recent report from Fitch Ratings, named ‘2016 Outlook: London Market Insurance,’ however, suggests further rate declines and underwriting margin erosion for London market reinsurers during 2016, a trend which also applies to the wider, international community of reinsurance entities.

“Fitch’s decision to maintain a negative sector outlook on the London market is driven by the expectation that pricing pressures will persist in 2016, especially in reinsurance classes,” says Fitch.

The ratings agency notes that reinsurance business, which includes specialty, property, and casualty lines, accounted for 34% of London market premium during 2014, underlining that it’s a substantial portion, at just over a third, of the market’s business that is experiencing, and will continue to experience adverse rate movements.

For many, rates in the property catastrophe reinsurance arena have fallen below desirable, and often profitable levels, resulting in less third-party reinsurance capital entering the most pressured lines than seen earlier in the year, and has also resulted in primary players and traditional reinsurers pulling-back on writing business in the most competitive lines.

However, while this alleviates some, and likely minimal pressure from the intensely competitive property cat sector, Fitch explains that other re/insurance sub-sectors will likely become under increasing pressure during 2016.

“Other major non-catastrophe lines, such as casualty, (27% of the market, including direct and reinsurance), are also expected to see further price falls as more re/insurers move into this line of business for diversification,” notes Fitch.

As well as the diversification benefits of entering the casualty space, increased entry into this line of business also provides primary insurers, and traditional reinsurance players with the potential for higher returns than are currently achievable in property, partly due to the fact that it’s more difficult for the expanding alternative reinsurance capital base to meaningfully enter the casualty space.

While a lack of adequate modelling in casualty limits the entry of alternative reinsurance capital, for traditional players it’s expected their presence will grow throughout the next 12 months, as they look to establish underwriting teams that understand the asset class and can utilise its diversification and yields.

Moving away from pricing, Fitch explains’ that profitability for London market participants, which again is applicable to the international re/insurance world, during 2016 will be significantly influenced by the level of catastrophe activity.

Global losses from natural or man-made losses have remained below long-term averages for some time now, with Swiss Re recently reporting expected global insurance industry losses for 2015 from catastrophe events at an estimated $32 billion, some 48% below the long-term average.

“A significant catastrophic industry gross loss event of USD70bn or more, coupled with significant unrealised investment losses from an abrupt jump in interest rates of 300bp or more, could threaten London market insurers’ stable rating outlook,” advised Fitch.

The firm continues to stress that should catastrophe losses return to a more normal level, the “London market still has enough headroom to return positive underwriting results.”

Merger and acquisition (M&A) activity was also a key theme of 2015, and unsurprisingly, as insurers and reinsurers fight to remain relevant and look to increase value across the board, Fitch predicts further re/insurance consolidation through 2016.

“The need for smaller re/insurers to increase scale, partly to reduce operating costs and improve diversification has spurred M&A activity throughout 2015 and is likely to be a driver for further M&A in 2016,” said Fitch.

So the message from Fitch is mostly in line with other re/insurance market outlooks for the upcoming year, for London and the industry as a whole.

The admission from Fitch that a pricing floor is yet to be reached in the reinsurance sector suggests the firm expects further, and possibly significant rate declines at the upcoming January renewals, and beyond.

Read more of our reinsurance renewal season coverage here.