Clear signs of momentum in ILS market pricing: Twelve Capital

Specialist insurance-linked securities (ILS) and reinsurance investment manager Twelve Capital said that there are “clear signs of momentum” in the ILS market, as pricing responds to the losses of the last two years.

Giving its outlook for 2019, Twelve Capital notes that pricing has responded at the reinsurance renewals and also noted that the spread widening in the catastrophe bond market provided opportunities.

Twelve Capital said that, “Clear signs of momentum have been noted with new consideration given as to how natural catastrophe risk is priced in the wake of the two recent heavy loss years.”

While in the investment managers view, “Spread-widening in late 2018 (despite the 2018 hurricane season having ended) offers an attractive entry point,” in the catastrophe bond market.

The ILS fund manager expects “mega-trends” will continue to drive the need for consolidation in the insurance and reinsurance industry, in particular, “The long-term expansion of capital markets’ direct participation in insurance risk as an asset class,” as well as, “Market risk assumed by insurers being unrewarded by investors in most listed insurance groups.”

While Twelve Capital notes the current “pause in capital markets’ expansion into insurance” as a response to the losses of recent years, the firm expects expansion of ILS assets will resume.

“Twelve sees a continuation of recent trends, with capital markets increasingly willing to invest in a wider scope of insurance risk. This raises material challenges for incumbents such as reinsurers and specialty lines insurers, pressuring them to rethink their business models and the means by which they remain relevant in a more competitive environment,” the ILS fund manager explained.

Twelve Capital expects natural catastrophe reinsurance pricing will continue to build as the year progresses, hoping for rate increases in Japan at the April renewal, as well as in Florida and loss affected U.S. regions in June and July.

The firm explained, “Twelve believes that significant drivers for this included a recalibration of risk appetite and lower levels of capital to deploy into the asset class by some segments of the ILS community after significant losses in 2018 (compounding others suffered in 2017).”

Twelve Capital said that the focus for its private ILS fund strategy, which invests in fully collateralised contracts, was on retrocession, especially as this is where rate increases were seen most attractive.

Twelve Capital invests mainly in higher attaching aggregate and natural catastrophe retrocession contracts, where low single-digit rate increases were achieved.

On retrocession, the ILS fund manager said, “This is where Twelve has seen the most attractive compensation for the type of risk that is selected. Twelve was largely able to maintain the renewal portfolio for 2019 and, on renewals of prior year business, a positive rate movement was achieved. Within the strategy, not only were price increases achieved, portfolios were rebalanced to reflect current market conditions.”

The manager told Artemis, “In this area we were generally happy with the direction and overall extent of rate movement. Where appropriate, Twelve has grown its portfolios with good quality.”

On catastrophe bonds, Twelve Capital noted that the opportunity provided to investors from the spread widening seen as the result of “intense selling pressure” as ILS fund managers sought to liquidate cat bond positions would not last.

The investment manager has taken this opportunity to bolster its own cat bond investment fund strategies, but said that it “would expect the current opportunity to dissipate once renewals are fully settled.”

Twelve Capital’s cat bond funds came out of 2018 with positive returns, despite the influence of loss creep and fresh catastrophe loss events. In fact the manager told Artemis that most of its cat bond portfolios had successfully recouped losses from the 2017 hurricanes over the course of 2018, making last year a positive one.

On the recent opportunity to invest in cat bonds, Twelve saw this as worth taking advantage of, saying, “The recent spread widening in the cat bond market is an attractive entry point into the ILS market not seen for a long time.”

The hope will be that the pricing momentum noted by Twelve Capital will continue into April, June and beyond, as ILS funds, investors and reinsurers all seek slightly higher returns for underwriting natural catastrophe risk.

But, as in recent renewal years, there is no guarantee of this being the case. Hence it is wise for ILS fund managers like Twelve Capital to take these opportunities when they can, to ensure delivery of improved returns to their investors.

The investment manager had previously said that it hoped the 2019 reinsurance renewals would hold a “surprise to the upside.”

It seems that while there may not have been surprisingly large price increases, there was enough positive momentum to help Twelve Capital to build a larger book for the year ahead, both in its private ILS and catastrophe bond funds.