ILS Capital’s Prospero Re in accident year improvement, but Jebi loss creep persisted

According to a rating report from KBRA, ILS Capital Management’s reinsurance company Prospero Re Ltd. reported an improved accident year combined ratio for 2020, but its calendar year result was affected by loss creep largely related to 2018’s typhoon Jebi.

Prospero Re Ltd. is the rated reinsurance vehicle of Bermuda headquartered ILS fund and investment manager ILS Capital Management.

The company received approval from the Bermuda Monetary Authority (BMA) late last year for an expansion of the operating model of Prospero Re Ltd, allowing it to underwrite collateralized reinsurance as well as traditional reinsurance with an element of leverage.

In affirming its A rating for Prospero Re Ltd. with a Stable Outlook, KBRA noted that the new operating model with added leverage “results in a more productive use of capital,” for the reinsurer and its owner ILS Capital Management.

Prospero Re is short-tail reinsurance focused, writing a portfolio of property excess of loss reinsurance, specialty excess of loss reinsurance (mainly offshore energy and marine), and quota share specialty reinsurance.

The new operating model means that the initial collateral level for each assumed contract written by Prospero Re may now be set to a 1-500-year modeled return period, with additional capital available to support the entire portfolio to a slightly more than 1-1000-year modeled return period, KBRA explained.

It’s a low-level of leverage, but the vehicle enables ILS Capital greater flexibility in how it engages with cedents, added capital flexibility and a rated reinsurance platform to write traditional covers with leverage.

In short, the introduction of some leverage and the ability to write traditional, rated covers as well as collateralized reinsurance through Prospero Re should reduce the amount of capital that ILS Capital Management has exposed to trapping from major loss events.

The new business model only took shape from January 2021 and KBRA believes it could take several reinsurance renewal cycles for Prospero Re’s underwriting portfolio to fully transition to its modified business model.

KBRA reports that 2020 was a relatively quiet year for Prospero Re and that “Prospero Re fared well as it limited its exposure to aggregate and retrocessional covers and deployed its capacity primarily to occurrence contracts with significant retentions as well as to its expanding quota share reinsurance portfolio.”

As a result, the accident year combined ratio improved by an impressive 12.6 points to 71.2% for 2020.

KBRA reported that, “In 2020, Prospero Re was impacted by property catastrophe events including historic wildfires in the western United States, severe convective storms, several landfalling Atlantic hurricanes and a mid-west derecho. The company also established precautionary reserves against potential COVID-19 claims following the landmark ruling in the UK regarding retroactive business interruption coverage.”

However, despite these loss events and catastrophes, plus pandemic related reserves, Prospero Re’s accident year combined ratio was far better than the reinsurance industry’s 105.9%, KBRA noted.

Prospero Re’s results were impacted by prior year loss events though in 2020, in particular Japanese typhoon Jebi from 2018 drove additional loss creep.

“In addition to the 2020 accident year losses, prior year adverse development drove Prospero Re’s reported 2020 calendar year combined ratio to 115.6%. Claims from 2018’s Typhoon Jebi were the primary driver of prior period development during the 2020 calendar year. The company believes that these losses have stabilized based on information it has received to date from ceding companies but continues to monitor the situation closely,” KBRA explained.

Prospero Re underwrote almost $70 million of gross premiums in 2020, up on the almost $40 million written in 2019.

The business mix changed considerably year-on-year, with in 2020 67% being non-catastrophe related, while in 2019 it was reversed with 67% being catastrophe focused business.

That reflects ILS Capital’s continued efforts to expand into specialty lines of reinsurance and also into primary insurance, through its carrier investments and relationships.

The underwriting loss for 2020 was reported as just over $8.7 million, far better than 2019’s underwriting loss of over $39 million.

However, the results of Prospero Re, as a rated reinsurance transformer need to be looked at in the context of ILS Capital’s 1609 Fund, it’s flagship insurance-linked securities (ILS) fund offering, which delivered a 14.2% return on investment in 2019 and 13.9% for 2020 (images below from KBRA’s rating report).

KBRA explained, “Because of accounting and reserving disparities between Prospero Re and The 1609 Fund, a look at The 1609 Fund’s reported returns is insightful in putting Prospero Re’s reported results into perspective.

“Returns for the Fund are subject to change as collateral is released and a final return is typically not available until at least 36 months after the inception of the last contract written in a given year.”

As ever, the underwriting vehicles of ILS managers do not translate to the profitability and returns of their fund strategies, something also seen in the Lloyd’s syndicates of certain ILS fund managers, where the results can look negative, but the added benefits to the overall investment operation can be far more positive.