Challenges ahead, as reinsurance overcapacity continues: A.M. Best

There may be trouble ahead and for reinsurers no amount of moonlight or music will change their prospects, while the reinsurance market remains awash with capital and capacity, warns rating agency A.M. Best.

“Significant challenges lie ahead” the rating agency said this week in a rating affirmation for one of the world’s leading reinsurers Munich Re.

The warning is relevant to the entire traditional reinsurance and insurance-linked securities (ILS) market, as the factors that affect Munich Re affect all players, large and small and in fact the reinsurer is among the best placed to weather the soft market.

A.M. Best notes that Munich Re has performed well, despite “persistently low interest rates and challenging conditions across global reinsurance markets.”

As with the rest of the global reinsurance market, from globally diversified players, down to the smallest mono-line reinsurers, the recent low incidence of major natural catastrophe losses has contributed to the build up of overcapacity in the reinsurance market, which alongside increasing interest from ILS and alternative capital is set to put more pressure on pricing at the January renewals.

For Munich Re the low levels of catastrophe losses helps to offset the impact of the difficult investment and interest rate environment, which is also the case for other reinsurers. A.M. Best notes that as a result the reinsurer can still “generate an overall return on risk-adjusted capital comfortably in the double-digit range.”

Of course for the more narrowly focused reinsurers generating double-digit returns, without taking on additional risk, can be much harder than a globally diverse, insurance and reinsurance platform like Munich Re finds.

“Significant challenges lie ahead for Munich Re over the medium term in the form of low interest rates and soft reinsurance market conditions,” warns A.M. Best.

The rating agency continues, warning that the excess capital base of the industry points to continued rate declines; “Despite indications that reinsurance premium rate decline is slowing, there continues to be over-supply of capacity within the industry and no sign of hardening conditions.”

A.M. Best warns that any return to more normal levels of catastrophe losses could result in “negative pressure on the company’s combined ratio,” again something that will apply across the market and is something to particularly watch for in property catastrophe specialists.

Munich Re stands better positioned than most to weather any hike in catastrophe losses, A.M. Best explains, due to “the excellent diversification within Munich Re’s (re)insurance portfolio, its solid distribution network and its conservative strategy.”

A.M. Best concludes by saying that it expects; “Munich Re will maintain a resilient level of operating performance through the market cycle and emerge strongly as conditions improve.”

A.M. Best also noted in another rating report that China Re faces challenges, saying that an offsetting factor to its rating affirmation is “the challenging operating environment in the domestic and overseas reinsurance markets.”

“The potential increasing number of domestic reinsurers and recapitalization of existing onshore reinsurers in China could also intensify the market competition, which could impact China Re Group’s business prospects and operating results. Also, given the continuous soft market conditions in the global reinsurance market, it remains a challenge for China Re to explore profitable overseas business expansion opportunities,” the rating agency continued.

So challenges appear to be everywhere, for the largest, the smallest and for those reinsurance companies hoping to expand, according to A.M. Best.

Of course if you don’t have the great scale, diversity, market access and expertise that a Munich Re has, then it is efficiency, cost-of-capital, innovation and leveraging new capital sources which are the tools and levers that can help reinsurers (and ILS players) to negotiate a soft and troubled market.

The outlook isn’t really changing and softness looks set to be the tone moving into the renewals once again. This will affect everyone, regardless of scale, making discipline especially important in January 2016.

The key, particularly for ILS, may be to remain focused on where the opportunities lie to help re/insurers negotiate the soft market, educating them on how they can tap into capital market structures and capacity, while also keeping an eye on where the opportunities will appear after losses tick up.

Also read:

– Reinsurance prices could fall double-digits in January: Guy Carpenter.