Goldman Sachs goes neutral on reinsurance, capital flow into alternatives a factor

Readers of Artemis will know that we often discuss the increasing flow of capital from institutional investors into the non-traditional reinsurance space and the effect capital markets sourced capacity has on the traditional reinsurance market and on reinsurers. One of the effects of this influx of capital is pressure on rates, as availability of capacity seems to have helped to subdue rate rises recently, another is that non-traditional products are starting to compete directly for traditional reinsurance business.

So here’s an interesting example of the way this can impact a reinsurer. Goldman Sachs have downgraded their sentiment rating on Bermuda based reinsurer RenaissanceRe Holdings from ‘Buy’ to ‘Neutral’ and cited capital inflows to the non-traditional reinsurance sector as one of the contributing factors.

Now, RenaissanceRe is one of the strongest reinsurers in the world, admired by many in the industry for their strategy, diversification and underwriting results. They even participate in the collateralized and convergence areas of the reinsurance market through their DaVinci Re and Top Layer Re ventures but still Goldman Sachs clearly believes that the reinsurance market is not such an attractive investment right now.

In their analyst commentary, Goldman Sachs said; “We think that RNR is a clear leader among Property CAT reinsurers with scale, but RNR’s peer-high valuation reflects a premium franchise and above-average return potential. Further, recent industry commentary suggests momentum in Property CAT pricing is likely to recede as industry capacity has reached a new high due to a combination of significantly low CAT losses during 2012 to date and a favorable Property CAT pricing environment earlier in the year that attracted new capital in non-traditional forms such as sidecars, ILW and collateralized reinsurance.”

So Goldman Sachs attribute some of the decline in reinsurance pricing momentum to the inflows of capital from capital market sources into instruments in the collateralized arena such as sidecars, collateralized reinsurance vehicles, ILWs and we’d assume also catastrophe bonds and insurance-linked securities.

It’s safe to assume that the pessimistic outlook on reinsurance rates that Goldman Sachs reveals in this analyst comment also applies to most other traditional reinsurance firms. The reinsurance sector is in a state of flux right now as it adapts to the new future of increasing capital from non-traditional and alternative reinsurance sources. The sector needs to learn to adapt to this new reality and innovate to attract capital back to their own equity, or diversify by launching their own convergence arena vehicles. In this respect RenRe is actually one of those well positioned to be able to take advantage of new sources of capital, but that agility is currently not enough for them to escape this sentiment from Goldman.

Further reading:

Here are a few of our recent articles on the topic of non-traditional capital flowing into reinsurance and the impact it appears to be having.

– Investors largely uninterested in a ‘reinsurance class of 2011′: S&P

– The reinsurance market has converged: Guy Carpenter

– New capital and ‘competitive convergence’ credit negative for reinsurers: Moody’s

– Third-party capital providers to play growing role in catastrophe reinsurance market

– Capital market participation in reinsurance to grow quicker than traditional capacity: LGT

– Excess capital means supply outstrips demand for reinsurance globally: Aon Benfield

– Plentiful alternative and non-traditional reinsurance capital helps subdue pricing at 1st July

– Marked increase in flow of capital into non-traditional vehicles and catastrophe bonds

– Investment capital flowing into re/insurance market might be stickier

– Non-traditional reinsurance capacity puts pressure on traditional Bermuda