Excess capital threatens Bermuda re/insurer performance: Fitch

The profitability of Bermuda domiciled reinsurers is under threat from the abundance of traditional and alternative reinsurance capital that continues to drive down pricing in the sector, among a series of other market challenges, according to Fitch Ratings.

International financial services ratings agency, Fitch Ratings, has noted signs that the already challenging profits of Bermuda-based reinsurers is at risk of weakening further, owing to an abundance of capital and other market headwinds.

“Bermuda based (re)insurers serve as meaningful providers of underwriting capacity in the U.S. and global (re)insurance markets, with a long history of operating profits and favorable returns on capital.

“However, an overabundance of capital and new alternative market participants has fostered intense price competition, limited growth opportunities and earnings pressure,” said Fitch, in a recent report released in time for the 2016 Monte Carlo Rendez-vous that looks at the financial performance of Bermudian insurers and reinsurers.

Capital from both traditional and alternative reinsurance sources continues to enter the global re/insurance market, fuelling the supply/demand imbalance that has resulted in the ongoing buyers market, where cedents can take advantage of efficiently priced reinsurance protection.

Artemis recently discussed the Fitch analysis on the performance of the U.S. property & casualty re/insurance market, which concluded that companies’ operating results fell sharply in H1 2016, with returns on average common equity (ROAE) declining by 36%, when compared with the same period last year.

For the Bermuda market profits remain strong but the evolving market landscape is adding pressures, notes Fitch, exacerbated by the fact that large favourable reserve releases are declining over time.

“Favorable reserve development to net premiums earned (NPE) benefited the combined ratio by 7.1 percentage points on average over the last five years, but the ratio has been in decline since a high of 9.9 points reported in 2008. In 2015, the group of Class 4 (re)insurers’ combined ratio was lower by 6.5 points due to favorable development,” explains Fitch.

Historically, Bermuda-domiciled reinsurers have experienced strong results, but Fitch warns that a series of market headwinds, including the oversupply of capital, is adding pressure to this and threatening weaker returns.

“Underwriting gains for the group were $4.4 billion in 2015 with a combined ratio of 86.0% and a 10.0% net income return on common equity (ROCE), with all measures deteriorating moderately over the prior year.

“Returns in 2016 will likely be lower due to rising core loss ratios, higher insured catastrophe losses and lower investment income,” explains Fitch.

Interestingly, Fitch explains that in each of the last five years Bermudian re/insurers have outperformed Fitch’s group of North American P/C insurers, measured by return on common equity (ROCE). The Bermudian sector has produced a five-year average return of 10.5%, compared with 8.7% reported the ratings agency’s universe of North American players, says Fitch.

However, as highlighted by Fitch throughout its report, ROCEs for the Bermuda re/insurance sector are under an increasing threat from the excess supply of capital, which, combined with heightened loss experience and deteriorating reserves adds further pressure to the group’s profitability.

As the softening landscape persists and the capital from traditional and alternative sources continues to enter the space, absent any loss activity, it will be interesting to see how Bermudian players react and perform in a market that is being squeezed from all sides.

It’s not just the Bermudian reinsurers that are threatened, that’s just where this particular report from Fitch focused. The entire reinsurance market is facing a reshaping and evolution that even the strongest will have to work hard to resist and accommodate into their business models.

Of course, one way to mitigate the impact of alternative reinsurance capital is to look to work with it, utilising its features and skills in order to add efficiency, yield and diversification, something some in the Bermuda and U.S. marketplace have done successfully in recent times.

Read all of Artemis’ Monte Carlo Rendez-vous coverage here.