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Firming, not hardening: reinsurers grappling with rates and uncertainty

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Reinsurance rates are rising after the high level of catastrophe losses in the past two years, but the trend may not bring the same comfort as in times past as the industry faces plenty of changes and challenges.

Reinsurers, clients and analysts have been mulling over the state of play while the annual Rendev-Vous de Septembre takes place in Monte Carlo, and some clear themes have emerged from positive and negative perspectives.

S&P Global Ratings notes modest rate increases at the start of the year have picked up steam, with larger gains at the mid-year renewals and tightening terms and conditions.

The momentum is expected to continue, with global aggregate rate increases up to mid-single digits expected over the next 12 months, assuming an average catastrophe year, it says. S&P characterised the pricing environment as a “firming” rather than “hardening” market.

Swiss Re expects further rates increases for loss-affected and underperforming business and broadly stable rates elsewhere as capital remains abundant.

“The recent experience of hardening rates in reinsurance mainly reflects the response to higher loss occurrences and adverse trends in natural catastrophe markets and other affected segments,” says Edouard Schmid, Swiss Re Institute Chairman and Group Chief Underwriting Officer.

The reinsurer warns further increases are needed to ensure a long-term sustainable market, with the current hurricane season highlighting the importance of having prices that adequately reflect risk.

Will Re notes lower expense ratios have been driven by premium growth, presenting a more buoyant profitability outlook compared to the recent past.

“Looking behind the headline figures reveals a positive direction of travel for reinsurers so far this year, with modest but important reductions in non-catastrophe combined and expense ratios,” Global CEO James Kent says. “This improvement is supported by the positive trajectory seen in 2019 market pricing across many lines.”

The potential for further rate gains is curbed by the amount of capital available, which remains a major factor despite the impact of record catastrophe years, defying earlier hopes that it might significantly diminish after a few tough years.

Total capital dedicated to the global reinsurance industry measured $US559 billion ($815.7 billion), at the half-year, an 8% increase from the end of 2018, Willis Re estimated.

Aon says alternative capital in the re/insurance sector stood at $US93 billion ($136.43 billion) at June 30 – a decrease of $US5 billion ($7.34 billion) from the preceding period, but upward growth momentum is expected to resume this year and next.

AM Best notes that despite considerable investor losses from catastrophes, the collateralised reinsurance market remains the fastest-growing segment of the insurance-linked securities industry.

“The abundance of capital in the insurance market has impacted the entire reinsurance value chain, increased cost sensitivity, and is requiring reinsurers to find new ways of creating value for primary insurers,” Swiss Re says.

Reinsurance broker Guy Carpenter highlights the way the nature of catastrophe losses is changing, noting the impact of “loss creep” in recent years. Examples include the scale of losses from wildfires in California, which have gone beyond previous expectations.

“If the past two years provide any sort of template for what can be expected in years to come, loss development for major events will be uncertain,” Head of Research and Publications Julian Alovisi says. “The scale and severity of attritional perils will accentuate protection gaps.”

The trends around increased wildfire activity and stalling hurricanes, which increase potential damage, have been linked to a changing climate.

Risk models, already under scrutiny due to loss creep and spiralling costs “will need to be recalibrated to better understand the risk potential associated with these exposures”, Guy Carpenter says.

Casualty business has also seen increased loss frequency and severity across several long-tail lines.

S&P questions whether reinsurers are up for the challenge or whether they are “complacent in their centuries-old industry” as they battle commoditisation of their business and the risk of alternative capital “nibbling” at their margins.

“In response, they could take a page from the playbook of other disrupted industries to stay relevant and become more innovative,” it says in its 2020 Reinsurance Sector Outlook.

Guy Carpenter says digital technology is set to be at the forefront as the nature of risk changes, but it warns of dangers from relying on legacy software that may be outdated, or rushing to market with cyber security as a distant afterthought.

This year’s event might have struck a more positive pricing tone compared to recent years, and current upward momentum places reinsurers in a better position to take on the challenges ahead.

But the industry faces some powerful headwinds and a changing business environment.