Rates rises likely for ILS capital backing loss-hit E&S portfolios

Reinsurance broker Guy Carpenter has said that it expects reinsurance capacity backing catastrophe loss-affected excess & surplus (E&S) line portfolios will see rate rises of as much as 30% at the mid-year renewals, which bodes well for the ILS funds and alternative capital providers that also underwrite E&S portfolios of risk.

There are a number of insurance-linked securities (ILS) funds and strategies that target the excess & surplus (E&S) underwriting market in the United States. As this segment of insurance took heavy losses from the 2017 catastrophes, especially the hurricanes, it is expected that reinsurance capital backing E&S portfolios of risk will secure rate rises at the next renewals.

Reinsurance broker Guy Carpenter explained some of the market dynamics seen last year, “The E&S market remained consistent and disciplined with its pricing and risk selection, with the first half of 2017 being very similar to 2016.”

Then came the third-quarter with hurricanes Harvey, Irma and Maria, causing a significant impact to E&S underwriters.

“It is estimated that the E&S market will have absorbed approximately 15 percent to 20 percent of the insured loss total of these three storms,” Guy Carpenter explained.

Continuing to say, “The aggregation of these losses may have a hardening impact on the US insurance market, mainly on the property side.”

The majority of the U.S. E&S markets property catastrophe reinsurance treaties are due for renewal during the second-quarter of the year, which Guy Carpenter notes will, “give reinsurers time to assess their 2017 losses and determine the levels of rate increase that may be necessary.”

But already there is an acknowledgement that markets will be pushing for significant rate increases, for reinsurance programs backing E&S portfolios.

Guy Carpenter explains, “The general consensus is that companies with significant cat losses will see rate increases in 2018 estimated as high as 20 percent – 30 percent while companies with little to no 2017 catastrophe loss will remain relatively flat, depending on attachment.”

That’s a similar level of rate increase to those seen at property catastrophe retrocession renewals at January 2018, where loss-affected accounts rose by as much as 30%.

If the reinsurance market is hoping for similar levels of rate increase from the renewals of programs backing E&S underwriters, it might be disappointed, as those accounts would typically be expected to increase a little less than retrocession, we would imagine.

By the mid-year renewals the levels of reinsurance capital will have fully recovered and alternative capital or ILS capacity will have grown even more influential, suggesting an even greater moderating effect on rates at 1/6 than were seen at 1/1.

However, with such rate rises forecast the E&S space is likely to become an increasingly attractive target for ILS fund managers and alternative capital, as well as by the traditional reinsurers.

We’ve written before that the E&S space has been becoming an increasingly competitive one, as reinsurance firms and others with the ability to underwrite E&S risks have targeted the sector, to offset lower pricing in other areas of reinsurance.

If E&S sees particularly high rate increases, both in its direct underwriting business and also in the reinsurance of loss-affected portfolios of catastrophe exposed E&S business, the attraction to the segment of the market is likely to rise even further, drawing more companies in to write E&S busines directly, or to try to reinsure a greater proportion of it.

The excess & surplus lines insurance market has also been a target for insurance-linked securities (ILS) fund managers, as a potential area of growth.

Securis Investment Partners teamed up with specialist Lloyd’s insurer Novae Group to launch a special purpose syndicate focused on U.S. E&S property business in 2015. Other ILS fund managers have also been underwriting E&S style property insurance risks more directly in recent months, or backing portfolios of E&S risk, and there is an expectation that this will continue.

If the weight of capital attracted to E&S threatens to dampen rate rises, it’s possible that underwriters of E&S business may find partnering with ILS capital an appealing way to maximise returns from this business.

The underwriters in the E&S market may find they can push rate increases through to their customers that make writing E&S policies backed by a pool of ILS capital, so sharing some of the returns with ILS investors, a very attractive prospect compared to their traditional reinsurance renewal arrangements.

With rate rises of this magnitude hoped for, it’s almost certain that the E&S market will become as congested and competitive as other areas of property catastrophe exposed insurance or reinsurance business, resulting in the same rate moderation we’ve seen at 1/1.

That makes using efficient underwriting capacity and structures, through partnerships with ILS investors and funds to back portfolios of E&S risk, a strategy that could help underwriters better maintain their returns, while helping to keep the E&S product as cost-effective as possible.

So those ILS investors already backing E&S portfolios are likely to see some improvement in returns from that business, while other ILS investors may begin to find this market segment an increasingly attractive proposition.