The insurance and reinsurance market is facing a fundamental change to its business structure over the next 10 years as the capital markets continues to exert influence over the sector, according to speakers at the recent SIFMA IRLS event held in New York.
Speakers at the SIFMA Insurance and Risk Linked Securities (IRLS) 2015 conference discussed the market environment and how change seems to have been accelerating in recent years, as the capital markets and insurance-linked securities become more of a feature in the insurance and reinsurance market.
According to Aditya Dutt, President at RenaissanceRe Underwriting Managers and SVP at reinsurer RenaissanceRe, the reinsurance market is facing a “profound cycle of change” as it comes to terms with the influence of the capital markets.
V.J. Dowling, Managing Partner at analysts and investors Dowling & Partners Securities LLC, said that the rate of change is increasing. He said that he believes there has been “more change in the last three years than in the last thirty.”
Dutt concurred, saying that he expected a “fundamental change over the next ten years” as the market reacts to the influence of new capital and the new business models it is now encouraging.
Dowling explained that pension funds have now determined that reinsurance, especially catastrophe risk, is an asset class. Investors like this asset class and now they are in the market they are not expected to leave, the panel insisted.
Dowling said that he expected to see more consolidation between traditional reinsurance and ILS players, with the result being a smaller group of asset managers in the space in future, something we may be beginning to see the start of with the recent news about AQR.
Of course alongside reinsurers leveraging ILS and the capital markets there is also consolidation between traditional players themselves, seeking to find additional scale and to diversify, a trend that may expand to ILS players.
So with fewer players in the reinsurance market as a whole, while the gross returns are also far lower, traditional companies are expected to increasingly underwrite business for third-party capital, Dowling continued.
But we’re still in the early stages of this trend, Dowling insisted, and it likely has a long way to run. Hence the call for fundamental change over a period as long as ten years. As much as 75% of the profit in Florida reinsurance business has gone, he explained, which will result in a leap in combined ratios for traditional players in the region.
Hence it will become ever more important for traditional players to either diversify away from some of the peak zone perils, as the capital markets increasingly becomes the capacity of choice for these risks and the once high margins disappear, perhaps forever.
And this fundamental change is set to impact the insurance market in more ways than just through the availability of cheaper and more efficient reinsurance capital. Increasingly the capital markets are not just a reinsurance story, it’s an insurance issue too, the panelists said.
Panelists cited examples of initiatives which see ILS managers providing risk capital to fronting primary insurers in order to access risks that are not as readily available in the reinsurance market, or to disintermediate the reinsurance market even more.
These deals, alongside the entry of ILS managers into the Lloyd’s market, the setting up of rated vehicles by ILS managers and the creation of follow-form arrangements, are all giving the capital markets greater access to risks, which is helping ILS to deepen its penetration into the traditional markets.
The profound change that has been seen in the last few years is expected to be nothing on the changes that we could see over the coming ten. With the ILS market around twenty years old now, it is really just coming out of its infancy and this new-found maturity is enabling managers of ILS capital to come up with innovative ways to access more risk.
That looks set to ensure that change continues to accelerate across the reinsurance market, something that traditional players may not want to hear, but it’s worth bearing in mind that traditional players stand just as well positioned to take advantage of this trend to their own benefit.
However change is never an easy process and something so fundamental as the structural change faced in reinsurance, as the capital markets becomes a larger and increasingly permanent fixture, will not come without negatives for some.
Those brave and innovative enough to embrace it stand to reap the positives and profits from this change and may position themselves much more strongly for the coming decade (or two). Those who try to fight it or ignore it should be ready for further disruption.
Also read these recent articles for more on the structural change the reinsurance market is facing: