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Credit Suisse analyst cites threat of ILS and third-party capital in Validus downgrade


In a research report published on Friday by Credit Suisse, analyst Michael Zaremski noted the increasing pressure that property catastrophe reinsurers are coming under due to the growth of the third-party reinsurance capital and insurance-linked securities market. The report singled out Validus as a firm particularly threatened by this trend.

Validus shares dropped almost 4% by the end of trading on Friday in response to the analysts report, again reflecting investors nervousness regarding how the rising tide of alternative reinsurance capital will impact traditional and large property catastrophe reinsurers.

Zaremski particularly highlighted the threat that the catastrophe bond market poses to Validus, noting that it is effectively taking large chunks of business which would have traditionally been underwritten by reinsurers such as Validus. Despite Validus having its own third-party capital platform in the AlphaCat ILS funds and its sidecar operations, Zaremski believes that the transformation of the reinsurance market will result in pressure on returns for large reinsurers.

Credit Suisse has now downgraded its outlook for Validus from Outperform to Neutral and also lowered the share price target for Validus from $40 to $38.

Zaremski said; “Prop-CAT reinsurers are in the midst of a transformative period whereby competition from external ILS market growth is testing/ transforming current business models. Traditional reinsurers are weighing and/or balancing internal ILS platform startups, which in our view, pressures returns within reinsurers existing legacy portfolios given the competitive overlap of many ILS structures.”

Validus has previously said that it sees its own third-party capital AlphaCat operations as well ahead of the curve in terms of reinsurers setting up operations to leverage investor capital.

Zaremski expects catastrophe bonds to continue making inroads into traditional reinsurers business, commenting; “Cat bonds will continue to make inroads into primary insurers’ reinsurance programs. Reinsurance has become more of a commodity due to lower barriers to entry and vendor models.”

Validus responded with an emailed statement to Bloomberg, which said; “Validus has previously acknowledged the competition from third-party capital, but continues to assert that we are among a very select group of companies that has the skill set and existing platforms to adapt and thrive in the changing reinsurance market.”

This is not the first analyst report to cite third-party capital and the ILS sectors impact on traditional reinsurers. Macquarie said it was bearish on reinsurers due to the impact of third-party capital. Credit Suisse previously said it saw further growth ahead for ILS and forecast the pressure on reinsurance rates to continue. Nomura forecast a soft market ahead, citing third-party reinsurance capital as a factor contributing to lower rates. Finally, Numis said that cheaper ILS rates would end the golden era of property catastrophe reinsurer margins.

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