Chief Executive Officer (CEO) of Validus, Ed Noonan, has warned that it could take time for the reinsurance industry to recapitalise after a major industry loss event, the type of which could seriously disrupt the retrocession marketplace.
During the Validus third-quarter 2016 earnings call, Noonan discussed the impacts of hurricane Matthew with an exploration of what it might have meant for the industry should the storm have tracked 30 miles to the West, instead of its chosen path along the U.S. coastline, eventually making landfall in South Carolina.
So far, insurance and reinsurance industry losses from the damages caused by Matthew vary, with reports that the total industry impact is expected to be between $4 billion and $6 billion from some firms, with others suggesting the loss could be greater, even as high as $8.8 billion.
Noonan explained that were the storm to have tracked 30 miles to the West, impacting Florida coastal properties and infrastructure that have increased value when compared to where the storm did make landfall, the insurance and reinsurance industry loss would have been $38 billion.
Such an event would remove a significant amount of traditional and third-party reinsurance capital from the space, something that Noonan explains would take time to rebuild regardless of the reported excess capital pressuring pricing and market conditions.
There’s reportedly a wealth of alternative reinsurance capital sat on the sidelines waiting to enter the space when conditions are more favourable, and the removal of a substantial amount of market capacity as a result of a major loss event could present such an opportunity.
However, Noonan explained that Validus discussed Matthew with a number of its insurance-linked securities (ILS) investors as the storm approached the U.S. coastline, noting, “While some had capital they were willing to deploy, it would not have come close to replacing the lost capital in a $38 billion event.”
“It would, in fact, take some period of time to replace that capacity,” added Noonan.
This is an interesting piece of market commentary from Noonan, as previously industry experts and leaders have said that it would take a $100 billion+ loss event to alter the market, but Noonan feels that such an events’ impact on the retrocession market would likely result in some dislocation, and even correct pricing dynamics, for a time.
Noonan highlighted how typically retrocession is purchased with attachment points in the $20 billion to $25 billion loss event range, meaning that an industry loss of $38 billion would have fallen “disproportionately on the retro market.”
“Since much of this coverage is collateralized, the capital would have been locked up well through January 1 renewals. This would in turn have created strain on price and availability of retrocession for next year,” continued Noonan.
Absent a strong and well-capitalised retrocession market reinsurance companies would have little choice but to lower aggregates for the next year, says Noonan, or open up their capital to far greater volatility than desired. This would then get passed on to the primary insurers in rate increases, and filter through to the original insurers.
“Now, all of this may not create a post-Katrina type dynamic, but at a point in time when U.S. coastal wind is largely underpriced you would see a fundamental shift in pricing dynamics for some period of time,” said Noonan.
“$38 billion is not a mega-loss, but it would have exposed the industry’s reliance on a thin retrocession market and the ensuing cascade of dislocation,” continued Noonan.
The exact location and size of an industry loss event required to turn the market, or even lead to disruption in certain areas of the insurance and reinsurance industry remains to be seen, but insightful commentary such as this from Noonan is helpful in understanding the potential impact a large event can have segments of the reinsurance landscape.
How much ILS capital is willing to step in and refill the market’s capital base post-event also remains to be seen, and it’s likely that won’t be unknown until the next large loss event happens.