AXA + XL cede more risk, significantly reduce catastrophe exposure

AXA and XL Group, who’s M&A deal is scheduled for completion soon, have ceded more risk to reinsurance or retrocession counterparties, as the pair make good on promises to control their combined exposures to natural catastrophe events.

During the early stages of the process of French insurance giant AXA’s acquistion of Bermudian insurance and reinsurance firm XL Group, the pair made it very clear that putting the two together would not result in a concentration of risk and would likely mean the firms buying more protection going forwards.

AXA CEO Thomas Buberl said back in March that, “The issue of nat cat is a very simple one, the more you want to lose in insurance the more you will lose. It’s a question of your risk appetite, and I can clearly tell you, we will be running the business with a very different risk appetite – i.e. a smaller risk appetite – than XL has done.”

In fact, Buberl said that one of the attractive features of XL Group was its ability to be selective in the risks it underwrites versus those it retains and with XL having good access to the capital markets, through its catastrophe bond program, its stake in ILS capital and fund manager New Ocean Capital, and its third-party capital vehicles such as the much expanded Daedalus Re.

“XL is very leading in the space of originating, packaging, but only keeping a small share of the risk and placing the risk elsewhere through reinsurance, or, through capital market instruments. This is something for us that is extremely important and is extremely attractive, something we don’t have today,” Buberl had said.

The companies have stood by this promise and as of the middle of this year the combined AXA and XL Group now have a significantly lower potential earnings exposure to natural catastrophe events, measured by annual exceedance probability after tax and reinsurance.

How much lower? Well roughly 36% lower for a 1-in-10 year all natural perils return period, 40% lower for a 1-in-30 years return period and 47% lower for a 1-in-50.

This has been largely achieved through taking underwriting actions at XL and buying more catastrophe reinsurance protection for its book, something that is very evident in the XL Group second-quarter results statement.

It’s assumed that some of these actions include the increased ceding of risks to third-party capital partners, possibly part of the growth that the Daedalus Re vehicle enjoyed and other quota shares or private ILS deals with capital markets investors.

On top of these actions and increased cessions, the combined AXA + XL business now benefits from a new tailor-made aggregate reinsurance cover, specially created to protect the combined book against frequency events and attrition.

As a result of the reduced XL nat cat exposure, AXA said that the combined exposure is relatively stable with how it was before the acquisition.

XL’s own second-quarter results statement makes clear the increased cessions of risk to reinsurance and retrocessional capital providers, with the firm reporting that it underwrote more business during the quarter, as it took advantage of improved market conditions, but adding that its ceded premiums increased in line with this, “as well as due to additional cat-exposure covers” that the firm purchased for its insurance business and “property and specific cat-exposure covers” for the reinsurance portfolio.

Slightly more premiums were ceded in insurance lines by XL, around 1.5% more proportionally. But in reinsurance the increase was much greater, with roughly double the proportion of reinsurance premiums ceded on compared to Q2 2017.

In fact XL ceded over 15% of the reinsurance premiums it underwrote in Q2 2018, as it took these underwriting actions and bought more catastrophe retrocession it seems.

AXA + XL will be able to start on a level keel, as far as catastrophe exposures go and the increased cessions seen likely mean ongoing opportunities for third-party investors and ILS funds to back XL’s ILS funds and structures, such as Daedalus, as well as to enter into private ILS quota shares and the like with the firm.

In this way, AXA + XL could be set to leverage the capital markets as its source of capacity to manage PML’s within its combined book, a sensible way to earn the fees from its underwriting, while not becoming over-exposed.