Third-party capital’s ascendance, influence to continue: S&P

Despite the fact the growth of third-party or alternative capital in reinsurance has paused in the wake of the major catastrophe losses of the last two years, its ascendance is expected to resume and its influence over pricing to continue, according to S&P.

Rating agency Standard & Poor’s said that after the heavy catastrophe losses of 2018, reinsurers were “left holding the bag for an estimated quarter of the losses.”

They also note that, “The alternative capital influx seems to have slowed recently” but S&P adds, “we think it won’t be an ongoing trend.”

However reinsurance pricing increased only modestly and increases were seen to be increasingly regionalised, S&P said, noting a “lack of an overarching global trend during the recent renewals,” which the rating agency said it expects will continue through 2019.

As a result, the catastrophe losses are expected to exceed reinsurers catastrophe budgets for 2018, resulting in only single digit returns on equity for the sector for the year.

Reinsurance firms had been hoping for higher rate increases at the renewals in order to help them restore their underwriting profits, but this didn’t manifest in the renewal discussions and rates didn’t rise as hoped for in many quarters of the market.

“Global reinsurance pricing was, once again, only flat to up about 3% in aggregate during the January 2019 renewals –mimicking a similar scene from a year ago that played out during the renewal season in January 2018,” S&P explained.

S&P highlights alternative reinsurance capital as a “protagonist of this rerun” continuing to influence pricing, particularly in property catastrophe risks.

“Despite third-party capital’s rapid growth pausing for now, we think it’s temporary and its ascendance will likely continue,” commented S&P Global Ratings credit analyst Taoufik Gharib.

As a result, reinsurers continue to find ways to integrate third-party capital within their business models, but profitability is now key and sharing underwriting returns perhaps only really attractive to the larger players.

“Reinsurers are trying to pull whatever levers they can to not only remain relevant but also sustain profitability,” S&P says.

Third-party capital and bringing ILS within the traditional business model is just one lever they have, something we expect to be embraced by an increasing number of traditional players over the coming years.

But soft pricing endures and as alternative capital continues to flow into the reinsurance market, finding new ways to attach itself to risk, S&P says the price improvements seen at 1/1 renewals will not be sufficient to alleviate competitive pressures for the reinsurers.

The rating agency expects the reinsurance sector will have another challenging twelve months ahead, but notes that it continues to “weather unfavorable and continuously difficult business conditions.”

Business model adjustment is likely to be a key feature of 2019 and S&P notes that some of the largest reinsurers have already successfully augmented their client offering to become more of a risk partner than just a capacity provider.

These adjustments are likely to continue as the role of risk bearer continues to evolve and reinsurers look to provide a broader offering, building on the emerging “service layer” of the industry.

Of course this is also destined to put reinsurers and brokers increasingly directly into competition, while alternative capital and ILS will increasingly be a lever for efficiency that both sides use to help make the matching of risk and capital increasingly effective.

As a result, Standard & Poor’s maintains its stable outlook on the reinsurance sector and on the majority of the reinsurers it rates.