Markel Corporation reported its first-quarter 2020 results yesterday and in its report the company warned of the potential hit to its insurance-linked securities (ILS) operations from the Covid-19 pandemic, which is perhaps partly evidenced in a -4% decline in assets under management at Markel’s flagship ILS fund manager Nephila Capital.
Markel, the global insurance, reinsurance and investment group, now counts insurance-linked securities (ILS) as a significant area of its business, ever since it acquired its way into the space, buying first CATCo Investment Management and then Nephila Capital, as well as program fronting specialist State National.
More recently, Markel launched Lodgepine Capital Management as a new retrocessional reinsurance focused ILS investment management unit.
With ILS operations now an intrinsic part of the Markel global insurance and reinsurance offering, the company is acutely aware of the threat to those operations posed by the coronavirus pandemic and the global economic fall-out from this crisis.
Markel reported that during the first-quarter of 2020 the investment losses suffered by ILS funds within its group have not been significant.
However, the company warns that the uncertainty surrounding potential Covid-19 loss exposures has reduced, and may further reduce, the net asset value on which Markel’s management fee income from the insurance-linked securities (ILS) business is based.
Perhaps reflecting this, as the ILS funds will have been marked for the end of the last quarter, Nephila Capital’s ILS assets under management fell by roughly $400 million, or 4%, from $10.4 billion at the end of 2019 to $10 billion as of the end of March 2020.
That reflects what Nephila Capital Co-founder Frank Majors told us in a recent video interview, when he explained that the ILS fund manager had seen low mid single-digit redemptions from investors due to the economic climate induced by the coronavirus pandemic.
Majors said that the level of redemptions was not surprising, given large institutional investors need to rebalance portfolios after a major hit across financial markets like was seen due to the pandemic, and that it was actually a relief not to have seen a repeat of 2008, when redemptions were much higher to ILS funds like Nephila as the ILS investor base was not as concentrated on pension funds with longer-term horizons.
As ILS fund managers have faced some redemptions and also begun to mark their ILS portfolios for any potential Covid-19 claims impacts, a decline in AuM at the end of March is to be expected for some.
There’s every chance that has continued into April, given the timing of the global pandemic and the fact redemptions cannot always be serviced particularly quickly.
In addition, the decline in net asset values that Markel warns of for ILS funds will include the mark-to-market declines seen in catastrophe bonds, which came under significant selling pressure in March due to the pandemic and some investors need for cash.
This element should be recovered relatively quickly, as cat bond prices are expected to bounce back.
The mark-downs made to ILS positions may not be recovered so quickly though, given the continued uncertainty surrounding Covid-19 claims, particularly business interruption related.
Markel also warned that Covid-19 could cause the deferral or reduction of certain investment management fees from the ILS business, which could impact its available cash flows, something the company said is impossible to estimate at this time.
In addition, the company warned that the ongoing volatility in financial markets could impact the ability of Markel’s ILS operations to raise more capital from third-party investors for a time.
While “higher than anticipated investor redemptions” from the insurance-linked securities (ILS) funds within Markel’s group operations are also possible, the company warned.
With the impacts of he global Covid-19 pandemic coming later in the first-quarter, Markel still reported attractive fee income and related revenues from its insurance-linked securities (ILS) businesses.
Markel reports total revenues from its insurance-linked securities (ILS) operations of $53.2 million for Q1 2020, just slightly down on the $53.4 million it earned in Q1 2019.
Of that, $43.9 million of the Q1 2020 revenues were from Nephila and Markel CATCo operations, compared to $52.8 million in the prior year period.
The decline is likely partly due to the impacts of Covid-19, but also due to the continued running-off of the Markel CATCo retro reinsurance investment operations and associated costs there.
Markel explained that, “The increase in operating revenues at our Nephila operations was offset by lower revenues at our Markel CATCo operations. The increase in operating revenues at our Nephila operations was primarily due to growth in our managing general agent businesses, partially offset by lower investment management and incentive fees during the three months ended March 31, 2020 compared to the same period of 2019.”
ILS related expenses declined in the first-quarter of 2020 compared to the prior year, due to lower expense at Markel CATCo.
Markel also highlighted that, both in Q1 2020 and 2019, “Operating revenues attributed to our Nephila operations exceeded the related services and other expenses.”
Given the global impacts of the Covid-19 pandemic it is really not a surprise that ILS operation revenue would take a slight hit, that ongoing management fee income may be affected, or that assets under management may decline.
As we all know, at the extreme tail correlations can occur. But still, ILS investments remain one of the few asset classes delivering relatively consistent value through this crisis and Markel is well-positioned to capitalise on this going forwards.