Alternative reinsurance capital is helping to make reinsurance “more efficient and fair” by targeting pricing of peak perils and bringing costs down in regions that have perhaps been inflated, according to Nelson Seo of Fermat Capital.
Driven by insurance-linked securities (ILS) fund managers who leverage funding from the capital markets and other third-party investors to underwrite reinsurance risks, the growth of alternative capital is democratising the sale of reinsurance, Seo, co-founder of specialist ILS managers Fermat Capital implied during a panel discussion at the recent Standard & Poor’s Ratings Services’ 2015 Insurance Conference.
“From my perspective, alternative capital has hit the peak peril pricing… it’s the long-term profit driver for the reinsurance market. With that going away, it’ll cause the reinsurance market to get more
efficient,” he commented.
That’s a very interesting point from Seo. With prices having been driven down in peak peril zones such as Florida, due to the growing interest of alternative capital and the excess capital of traditional reinsurers, the profit margin has been eroded in these peak zones, to a degree.
However, ILS investment managers have seemingly found their limits, in terms of price declines, as evidenced by the leveling off of catastrophe bond coupons and slowing rate declines at the latest renewals.
So as ILS players find their acceptable level, or limit, of risk appetite, return and cost-of-capital deployed, the cost of reinsurance capacity in these peak zones has tumbled, enabling insurers to become better protected and ultimately the market to become more accessible.
Seo continued; “Overall, things should just become more efficient and fair.”
“Florida may have been overcharged in paying premiums for hurricane coverage for a long time and that’s subsidized the rest of the world,” he continued.
Reinsurers focused on property catastrophe risks have long said that Florida provides a significant proportion of their profits, but that proportion is now shrinking significantly. The effect this has in those specific markets can be dramatic, lowering the barriers to purchasing reinsurance protection, as has been witnessed in Florida this year.
Of course it’s also been responsible for driving reinsurers, and also some ILS players, to look to other lines of business to augment their profits. Hence the ongoing expansion into specialty risks, casualty lines and other areas of the market, including into primary insurance.
By removing the excess profitability of some peak peril zones ultimately the availability of reinsurance and insurance improves and the costs are coming down. This is positive for consumers, as well as for insurers seeking reinsurance capacity.
And if the trend of increasing amounts of lower-cost and more efficient risk capital continues to enter the market, the end result could be a democratisation of insurance and reinsurance, as prices come down to levels considered appropriate for lower-cost players.
This is one of the great promises of ILS and alternative reinsurance capital.
That, over time, its efficiency could help to lower insurance costs for everyone. Ultimately that can help to make insurance more available, growing penetration rates, as well as reducing the gap between economic and insured losses in peak zones and more widely around the world.