The 57th Reinsurance Rendez-vous is winding down, and, while it’s been another successful networking opportunity for the re/insurance industry’s movers and shakers, most of the discussions have ended on a note of uncertainty.
The elephant inside the room this year was the increasing contribution of “alternative†or “third party†capital in the reinsurance market. Essentially placements by hedge funds, private equity firms, pension funds and other money managers. They're making more investments in reinsurance markets as they seek higher returns than are currently available in the low interest rate environment that has dominated global financial markets since 2008.
According to Aon Benfield, insurance linked securities, or ILS, now account for $44 billion of capital dedicated to the reinsurance market, out of $510 billion (Aon) or $515 billion (Swiss Re). Collateralized reinsurance ($20 billion) and cat bonds ($18 billion) are both largest categories with sidecars accounting for around $4 billion.
As a result rates inside the property sector have declined slightly. Many reinsurance professionals have also expresssed concerns that this capital poses a threat to underwriting, because money managers are more taken with making a living than assessing risk, that may create problems, especially following a vital natural disaster. It is also feared that it will be a transitory source of capital that could flow out of the market, once the investment climate gets better.
According to Kurt Karl, Swiss Re’s chief economist, this may be already commencing to happen. [See his video interview on IJ TV] The U.S. is showing the strongest growth, he said, while Europe and the uk have registered smaller GDP gains and Japan is emerging from its decade long quiescence. Although growth has slowed in China, India and Brazil, they're still registering growth rates above four percent (China’s is 7.7 percent), which may be cause for celebration inside the developed countries.
Some of the big boys are concerned have expressed these concerns at the Rendez-vous. Lloyd’s Chairman John Nelson thinks the influx of ILS vehicles could weaken underwriting standards. Willis Re’s CEO John Cavanagh said third party capital is affecting “rates and the competition†contained in the property catastrophe reinsurance market, and that an additional “influx of $100 billion†would “have various profound consequences.†As much as $20 billion excess equity capital ought to be deployed.
Most of the other big reinsurers and reinsurance brokers - Aon, Swiss Re, Munich Re for a start -however, don’t seem like overly concerned. At its press conference Swiss Re said it “expects the demand for natural catastrophe reinsurance to double in high-growth markets and to rise by around 50 percent in mature markets by 2020.â€
In addition, about 70 percent of ILS investments are concentrated in the U.S. property catastrophe market. Other lines aren’t affected. The additional capital is also seen as a motor for growth in other areas, particularly emerging markets, where insurance and reinsurance penetration were historically low, but is now increasing as the countries - China, India, Brazil and others - continue to industrialize and modernize.
Bryon Ehrhart, Chairman of Aon Benfield Analytics, sees one other $100 billion in capital entering the market by 2020. He said at a press conference: “The benefits of this new capital will begin to extend beyond property catastrophe and mortality risks which might be common features of the current ILS market and extend into many other reinsurance lines where loss frequency and severity are more predictable.â€
At a breakfast meeting hosted by PwC, Nelson said “capital contained in the reinsurance market will grow to $2 trillion by 2025.†That is a rise of approximately 4 times over the present level, that's the most significant amount of reinsurance capital the industry has ever had as it began with Cologne Re and Swiss Re inside the 1860’s.
Nelson has backing for his assertion, however. The head of PwC’s Bermuda insurance operations, Arthur Wightman, explained that the $2 trillion figure is “largely per projections on likely GDP growth per capita.†He sees this growth coming from three sources: the first, and most important is from emerging markets as they industrialize; the second area will come from the development of recent products to conceal emerging risks, and the third from the potential of covering existing risks, including earthquakes and floods, that aren’t being adequately reinsured.
If the parents who believe inside the positive scenario are correct, the reinsurance industry will need the entire capital it could get in the coming years from whatever sources supplies it, and alternative capital will cease to be an issue; unless the negative concerns prove to be true - underwriting suffers and an important amount of this capital decides to seek opportunities elsewhere.
