Swiss Re Insurance-Linked Fund Management

PCS - Emerging Risks, New Opportunities

Best London market conditions in decades. No surprise ILS interest grows


The London insurance and reinsurance market is experiencing its best conditions in decades, according to analysts from investment bank Jefferies, which means it is no surprise that insurance-linked securities (ILS) fund managers are increasingly looking to access business there.

london-market-insurance-reinsuranceWe’ve noted an uptick in interest in accessing reinsurance related returns from the London market among ILS fund managers we communicate with.

Of course, some have been accessing business from the London market, or using Lloyd’s for the platform it offers, for a number of years now.

At the same time, third-party capital from ILS investors is increasingly backing underwriters and syndicates in the Lloyd’s marketplace, with this expected to increase as Lloyd’s own ILS structure London Bridge Risk PCC comes to life.

But right now, some investors have spotted an opportunity to capitalise on the recent underperformance of the London market it seems, as they seek out returns from the market at the time its underwriters have been sharpening their pencils and raising their rates.

Jefferies analysts said that the London market is “experiencing the best market conditions in a number of decades, with rate increases across almost all lines of business, driven by consecutive years of significant catastrophe losses.”

“We expect rate momentum to continue into 2022, given magnitude of losses, supported by low investment yields,” the analysts continued.

Some business lines are now into a fifth consecutive year of price increases, the analysts note.

Granted, these are largely outside of the more traditional property catastrophe reinsurance that most ILS funds and investors seek returns from.

But there is a growing interest in specialty and certain longer-tailed lines in the ILS market and some funds are accessing returns from the specialty market already, with London one source of that.

The current momentum in London market rates across insurance and reinsurance is largely driven by its losses, Jefferies analysts highlight.

But going forwards, it is expected that dynamics such as the low-yield environment is going to support this positive rate momentum, leading to at least stable pricing, but perhaps slower rises as well.

This all makes choosing your underwriting partners very important for ILS investors considering backing Lloyd’s or London market entities, while for ILS funds it is important to make the access points to risk as efficient as possible, given the often high-cost of doing business there.

Which makes it a good time to back quality underwriters in Lloyd’s, that have the ability to write all the specialty lines of business that are experiencing the steepest price increases and that can offer a reasonable structure, with reasonable terms of exit.

The London Bridge Risk PCC vehicle could be one way to achieve this, on a quota share reinsurance basis. Enabling investors or ILS funds to access returns from the London market and Lloyd’s risk.

But some, such as Nephila Capital, are taking more control, now having its own managing agency at Lloyd’s and preparing the launch of a specialty lines focused syndicate and ILS investment funds to back it.

Specifically on Lloyd’s, the Jefferies analysts believe that the market has “promising tailwinds” behind it right now.

Highlighting how things have changed at Lloyd’s of late, Jefferies explained, “During 2020, the Lloyd’s market collectively raised prices by +10.8%, more than double the rises in 2018 and 2019. Simultaneously, the market remained disciplined and cut back volumes by 12.0% to improve margins.”

That leaves the market poised to enjoy a steadier rate environment, making for potentially the most attractive returns in years for any ILS funds or investors accessing risk there.

Jefferies analyst team believe that rates will continue to increase at Lloyd’s in 2022, driven by the losses and the challenging investment markets.

“Although the risks are high, we would argue that the potential rewards are greater,” the analysts said, which could be a siren call for the ILS market as it seeks out new avenues to deploy capital and gain diversification.

Analysts from Goldman Sachs also highlighted the London market and Lloyd’s opportunity in a recent report, saying that they expect above cycle returns on equity for players there through 2023, perhaps further ahead.

“While rates are now moderating, we believe they are moderating at attractive levels, leading to above cycle ROEs over the next three years. The economic recovery should aid top line growth over and above pricing tailwinds,” they explained. Although cautioned that, “Primary and specialty insurance pricing are increasing faster than reinsurance pricing.”

That last comment, on primary and specialty rates moving faster than reinsurance in the London market, also drives home the need for ILS funds and investors to enter that market with a strategy to access risk from the front of the chain, while putting their reinsurance capital behind it, to extract the best possible returns.

Simply being the final source of capital in the chain may not deliver the performance that the London market’s diverse and varied pool of risk is capable of.

This makes it an interesting time for those backing the ILS funds and vehicles of re/insurers with significant operations at Lloyd’s as well, as the benefits of higher rates should flow back through those structures to their backers as well.

Given the positive market dynamics, particularly the pricing, it is no surprise that we increasingly hear from ILS funds and ILS investors that are considering accessing risk from Lloyd’s or the London market platform.

However, this isn’t for the faint hearted and we continue to hear stories from those in ILS that have engaged with Lloyd’s, or tried to, but a number of years later are still no closer to establishing an underwriting vehicle, or having a clean and more direct route to access risk from the market.

This is something that Lloyd’s and the UK needs to overcome. As it does remain harder to engage in ILS business in the United Kingdom than it elsewhere, especially if you want your own structures and greater control of your access to risk.

London and the Lloyd’s market remain a more complex place to do business for ILS funds and investors, it seems, but the rewards can be great and right now they are perhaps more attractive than they have been for a very long time.

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