The reinsurance market is closely watching SAC Re, the Bermuda based Class 4 reinsurer backed by Steven A. Cohen, billionaire hedge fund manager and founder of hedge fund SAC Capital Advisors LP, to see if there will be any fall-out after its parent company SAC was charged with insider trading by the U.S. government.
The hedge fund backed reinsurance play launched in July 2012 having raised $500m of capital in a private placement of the equity securities of its parent, S.A.C. Re Holdings, Ltd. That capital has been deployed into underwriting business we believe and the premium income from reinsurance business is invested in the parent hedge funds investment strategies.
This is what’s known as the float in reinsurance circles, as with many reinsurers the capital base of the reinsurer is invested but so is the premium float so that it can make money during the period of the underwritten reinsurance contracts. This is one of the attractions that the reinsurance business has for hedge fund managers, a source of long-term capital and investment float, which while losses remain low can turn a very profitable investment return.
So with SAC Re’s parent, the hedge fund, facing criminal charges from the U.S. government for insider trading, the market has naturally begun to speculate about the potential for fall-out. One article from The Street suggests that SAC Re could find it hard to pay claims if hit by a major catastrophe event such as a hurricane. However, given the fact that a good proportion of the hedge funds capital is actually its owner Steven Cohen’s money it shouldn’t really have difficulty paying any claims on the $500m or so of business it could have underwritten.
Of more concern to SAC Re will likely be the damage to its reputation that could cause its customers to seek another reinsurer to switch to for protection. As SAC Re is a recently formed reinsurer it likely won’t find much loyalty from its customers who will have a very competitive market bidding to secure their reinsurance for them.
Depending on how the criminal charges pan out a number of scenarios seem possible. If the charges stick, we could see SAC Re spun off as a separate reinsurance company perhaps, thus cutting the ties with SAC and moving to a more typical reinsurer operating model. Or we could see it unwind its reinsurance contracts written at the earliest opportunity and return money to any third-party investors. SAC Capital pleaded not guilty to the charges brought against it.
If the charges against SAC don’t stick then the question will be whether the reputational damage is enough to spoil the reinsurer strategy for the hedge fund. Cohen, owner of SAC, has sufficient capital to keep using the strategy for investment float on his own, without any third-party capital, and with reinsurance an attractive proposition he may just stick with it if, of course, the firms customers stay the course.
Reuters reported that rating agency A.M. Best, who gave SAC Re a financial strength rating of ‘A- (Excellent)’ to the reinsurer, said that it was assessing the situation but had no comment to make at this time.