Insurance and reinsurance industry focused equity analysts at investment bank Goldman Sachs believe that concerns over climate change and its influence on severe weather related catastrophes are set to support reinsurance pricing in future.
Both insurers and reinsurers have been particularly pressured by severe weather related catastrophes over recent years, but the analysts believe the reinsurance firms have yet to provide the evidence in their results that rising pricing and the harder market is offsetting these effects.
They see some evidence in strong results of certain companies early in 2022, with more perhaps likely to come at the approaching half-year results announcements, but analysts and investors in the sector now want to see the hard market coming through in earnings and returns-on-equity (ROE).
Part of the reason there is this desire to see the benefits of the hard market being evidenced is a fear over how climate change may be impacting the results of insurance and reinsurance markets.
The analysts from Goldman Sachs said that, “Reinsurers need a period of benign losses or at least an average catastrophe year (in line with cat budgets) to help them re-rate, but have not yet had a relatively quiet period for nat cat.”
Adding, “In our view, this remains a show-me-story for the reinsurance companies.”
By which they mean, the reinsurers have yet to provide the evidence that higher rates-on-line can offset the effects of weather on their earnings, that investors are looking for.
But these concerns, that drive the demand from investors to see performance improvements evidenced across the reinsurance sector, are also set to continue driving rates higher as well, the analysts believe.
“We believe the increasing worries around climate change should support further price increases and demand for nat cat covers,” they explained.
Going on to explain that the mid-year renewals should have provided another attractive opportunity for margin enhancement and growth.
The climate factor could be a driver of more sustained firming in property and catastrophe reinsurance, but there will come a point that capital tips the equation once again.
The question for the industry will then be whether they are covering the potential increases in loss costs driven by climate change, and whether they can sustain a level of pricing to account for that going forwards.
Or whether appetites, the opportunity and fresh or increasing industry capital levels, from traditional reinsurers or ILS market sources, turn the price cycle back on its head again and drive some softening.
How that manifests will likely come down to the occurrence of catastrophe losses and whether they remain elevated, or we experience a more benign period at some stage.
While catastrophe losses and severe weather related events remain more elevated and in the mainstream press, it seems likely the industry will be able to sustain new and higher pricing levels, perhaps even with an influx of capital.
Perhaps encouragingly for those in the reinsurance and insurance-linked securities (ILS) market, the Goldman Sachs analysts state, “The reinsurance cycle (particularly nat cat) has lagged the primary insurance cycle, but we believe the reinsurance cycle (due to weather losses) could be longer lasting.”
There have been some questions over risk appetites around the mid-year renewals and certainly some reinsurance firms have backed away from property and catastrophe perils in general, while more have shied away from lower and loss-hit layers, or peak zones like coastal Florida and the Gulf.
But how much of this is being driven by concerns over climate change remain to be seen, or whether this is simply a reaction to the consecutive years of losses experienced.
Frequency is a big factor, especially with severe weather related losses and that has been driving a reduction in the appetites of some providers of reinsurance capital.
As a result, with the firmer reinsurance rate environment, many others have moved their attachments higher, seeking out better priced top-layers of reinsurance towers.
Keeping this a sustainable model will be key, as we’ve all seen before the gradual shift down the towers, broadening of terms and conditions, and declining pricing of the last soft market.
Prior to that we heard many similar statements, on risk aversion, the need for higher pricing and the need to firm up conditions and move up the tower.
That lasted but a few years until we saw a land-falling hurricane drought and an influx of capital.
It might be a little different this time though, as the pressure on re/insurers and ILS funds to deliver returns and to account for and ensure they are covering (in pricing) climate change and any elevated frequency in claims, is now a much bigger deal and being pushed by the industry’s capital providers.
That could provide the impetus the industry needs to be far more disciplined on its pricing over the coming decade, even if we did enter a below-average loss environment through some of that.
For reinsurers, the higher-priced reinsurance environment, with better returns available in catastrophe risk, could be a significant boost to their diversified models.
For ILS funds, the promise of portfolios that can deliver far better returns is clear, with higher rates, tighter terms and higher attachment points.
Lastly, increased frequency of catastrophe loss and severe weather events is also driving demand for reinsurance higher.
The Goldman Sachs analysts believe that, if reinsurers can keep their pencils sharpened on pricing and terms, they have a chance to offer beleaguered investors a good return opportunity moving forwards.
Precisely why ILS funds are gaining attention from investors more meaningfully again, as the investor community is looking for alternatives right now and with reinsurance markets harder and managers under-pressure to deliver, the future opportunity in ILS looks greatly improved.