Last Friday we wrote about the pressure that recent inflows of non-traditional capacity from capital market investment sources have placed on the traditional reinsurance market in Bermuda in our coverage of an analyst report on the Bermuda market. Now we’ve noticed that the Royal Gazette have covered similar comments from some of Bermuda’s top re/insurance CEO’s at a recent conference on the island. The Royal Gazette article discusses inflows of investment capital and how they are changing re/insurance market dynamics according to these CEO’s.
Clearly sentiment in the Bermuda market is running high about the way capital has flowed into the sector in recent months. The influx of investments into collateralized reinsurance plays, catastrophe bonds and insurance-linked securities is at the forefront of executives minds as they struggle to understand market dynamics and the way this increase in capital is affecting pricing and rate movements. We suspect that this is a topic we’re going to hear a lot more about over the rest of this year and it will likely also involve discussions of the relative pricing of traditional reinsurance and both collateralized options and cat bonds, as this is being driven largely by capacity and capital availability.
In the Royal Gazette article the CEO’s of some of the islands largest re/insurance groups say that they feel the influx of new capital could be a game changer for the sector and that the new capital is changing the markets dynamic. Even in recent months they have seen a deluge of new investment capital and not just in catastrophe bonds and insurance-linked securities.
Jed Rhoads, President of Alterra Bermuda is quoted as saying; “It’s coming in from capital managers in a meaningful way and I’m not certain looking forward that the capital is going to get driven out of our industry because of a big event or series of big events. It might be stickier than we think and that’s a game changer.”
Now that’s a very interesting comment. In previous periods of high investment capital interest in the reinsurance space the capital has come into the market to profit from rate rises after catastrophe events. This time it is certainly on the heels of the second worst loss year ever but we tend to agree with Rhodes that capital is not just looking for a short-term profit and at the least a greater proportion of it is more likely to stay in the sector for a number of years. Where the capital is deployed is a different matter and we are likely to see some evidence of capital moving around as investors deploy it where it fits best with their risk-return profile, so in a collateralized fund or perhaps moved into pure cat bond investment. Some of our contacts in the collateralized space have been suggesting that if the capital does stick around there it could aid liquidity in the market and make things easier for investors to manage, this in turn could attract even more capital into the space. Of course all of this is dependent on there being decent investment returns to be made and a lack of other areas to invest for comparable risk/return. While the financial markets are in flux reinsurance is rapidly becoming seen as a space worth deploying at least some capital into for a more consistent and less volatile investment.
The Royal Gazette piece also discusses the phenomena we mentioned in our earlier article, that reinsurance rates have not risen as much as expected due to the abundance of capital and therefore capacity. The CEO’s at the conference mention that some capital could get trapped in the sector due to ongoing liabilities and that some investors would love to get out. However this is likely due to the vehicles selected in some cases and the type of investor, often hedge funds want to move money around frequently where as a pension fund may deploy it for a longer period of time, we feel.
Tom Hulst, CEO of Ariel Re said that the inflow of capital could mean that from their point of view the market may not get as good as it used to, meaning that hard markets may be seen off by the fact the sector has abundant capital. That just means re/insurers are going to have to work harder and smarter and come up with new products and lines of business to capitalise on having this additional capacity.
Finally, Kean Driscoll, CEO of Validus Re, said that if clients change their buying habits due to the influx of capital and begin moving from traditional treaty reinsurance products to non-traditional solutions such as cat bonds then the market will change. “If this is a dynamic we have to deal with, then I think what we’ll find is a lot of traditional rated reinsurance capital will leave the industry and reinsurance companies will start to manifest themselves into more asset managers, positioning themselves between buyers and capital providers to leverage their opportunities,” he said.
We are already seeing this happen in some cases as new players emerge with an asset management approach to buying, assuming and selling risk. Again, this is a trend we expect to continue as reinsurers become more collateralized by investor capital and take a more capital markets approach to assuming, investing in, trading and seeking returns on risk. If this trend does indeed increase then expect the dynamic of the re/insurance market to change even more rapidly. If capital market capacity becomes sticky within the space the traditional players will need to adjust to make best use of their core competencies of underwriting and risk management in a new reinsurance market paradigm.