UK: Insurance Market Update – The Deloitte View For Non Life Insurers, November 2012

Welcome to the November edition of the Insurance Market Update in which we focus upon issues in the general insurance industry.

Monte Carlo is the location where the world's reinsurance industry gathers annually to discuss placement strategy for the forthcoming renewal season and strategic developments within the industry. It takes place in September each year and there are approximately 3,500 attendees gathering from about 80 countries. Monte Carlo always sets the agenda for the reinsurance and specialty lines industry for the next 12 months and this year was no different with a number of topics being widely discussed. In this edition Ian Clark looks at the key issues that were debated around the coffee tables and cocktail parties.

Feedback from the 56th Annual Monte Carlo Reinsurance Rendez-Vous

Monte Carlo is the location where the world's reinsurance industry gathers annually to discuss placement strategy for the forthcoming renewal season and strategic developments within the industry. It takes place in September each year and there are approximately 3,500 attendees gathering from about 80 countries.

Monte Carlo always sets the agenda for the reinsurance and specialty lines industry for the next 12 months and this year was no different with a number of topics being widely discussed. Key issues that were debated around the coffee tables and cocktail parties were:

  • The reinsurance rating environment
  • Reinsurance capital at record levels
  • Lloyd's stocks lead the pack on year-to-date share performance
  • The changing relationships between capital markets and traditional reinsurers
  • Lloyd's must return to an entrepreneurial hotbed

The reinsurance rating environment

The general view in Monte Carlo was that reinsurance rates at the forthcoming renewal season will be flat with some downward pressure. Consensus was that reinsurers are seeking to hold their line on pricing as the prospects of price rises on their books of business begin to ebb away.

At the previous renewal season reinsurance price rises on property catastrophe business were strong and these continued into the early part of 2012 particularly for US and Asia Pacific accounts which have suffered significant losses. However, the discussions in Monte Carlo indicated that these are all now showing some downward pressure and this is unlikely to change following the recent US East Coast storms. As it currently stands, Super Storm Sandy is estimated to generate an insurance industry loss of somewhere in the region of $20 billion which will be insufficient to turn a softening reinsurance rating environment.

For casualty business the markets continued to show concern around casualty pricing levels with the belief that recent low levels of investment returns had not been reflected in liability product pricing. Rates for many classes have been gradually climbing but the consensus is that this is not as much as is needed, particularly given that inflation is now running ahead of investment returns in most mature economies.

In addition, the scale of reserve releases has begun to dry up particularly in the core US property and casualty sector which appears to be causing the rating agencies some concern, particularly around the potential for large reserve hits at the end of a soft pricing cycle. Dependent on your point of view, this looks to be good news if you are an insurer or bad news if you are a reinsurer. The forthcoming renewal season is likely to throw up some mixed messages.

Reinsurance capital at record levels

Consensus from amongst the major brokers was that capital levels supporting the reinsurance market are up perhaps five per cent from where they were at the start of 2012. There has been a continued influx of non traditional reinsurance capacity and this, combined with very strong third quarter results coming out of all of the major (re)insurers, adds to the downwards pressure on rates.

In Bermuda, where many of the stocks are trading at below 100 per cent book value, the trend appears to be for capital repurchases to improve capital efficiency. In London, where the listed stocks are trading at multiples much higher than their Bermudan counterparts, there is a strong likelihood of special dividends being paid as opposed to stock repurchase plans.

The volume of capital supporting the reinsurance industry being at an historical high level is generally regarded as having removed the need for price rises. The knock on effect of too much capital leading to lower prices and more returns of capital is likely to result in an increased volume of mergers and acquisitions activity, regardless of where the industry is in its current pricing cycle.

Lloyd's stocks lead the pack on year to date share performance

Lloyd's insurers are leading the pack on year to date share performance with share prices in the majority of cases up in excess of 30 per cent since the start of the year. This has been driven by growth in declared profits and reflects the continuing trend of the Bermudan players to pay back capital to their shareholders with the aim of improving capital efficiency.

The differential that now exists in valuation between the Lloyd's and Bermudan stocks is a relatively new phenomenon. However, as in any market, not all stocks are performing well and a number of laggards remain. Current valuations, particularly in Bermuda, leave the legacy sector eying some of the underperforming insurers. Run off insurance acquirers are increasingly looking to bid for live market businesses as a result of some of their historically low valuations. As a rule of thumb where market capitalisation is below 70 per cent book value for a sustained period the company concerned may attract attention from the run off buyer community. As yet none of these approaches have been successful but the interest of the run off acquirers is likely to continue.

The changing relationship between capital markets and traditional reinsurers

One of the major topics for discussion in Monte Carlo was the changing relationship between capital markets and traditional reinsurers. Historically, these two markets competed for reinsurance business but increasingly it is becoming one market with two or more tools to transfer risk.

Capital markets have traditionally played in the upper layers of reinsurance and retrocession programmes but there are signs that they now have an appetite lower down the food chain, competing with traditional reinsurers for more mainstream business. Having said all of this, the corner stone of reinsurance programmes continues to come from long term stable players and not from opportunistic forms of catastrophe bond capacity.

It will be interesting to see the mix between traditional reinsurance and capital market solutions post the forthcoming renewal season.

Lloyd's must return to an entrepreneurial hotbed

At the Insurance Insider's Pre-Monte Carlo Rendez-Vous in London, John Cavanagh, the CEO of Willis Re, gave a headline speech on Lloyd's need to return to being an entrepreneurial hotbed. He expressed the view that the Lloyd's market needed a greater number of start ups from dynamic young underwriters and needed to break down the barriers to entry which have been self imposed by the Corporation of Lloyd's. His plea was for the need to create more agency structures that facilitate small embryonic businesses.

The Corporation's role in attracting new capacity has received much airtime in the trade press and it is fair to say that they have sought to manage the capacity influx in a soft market, whilst seeking to attract capital from geographically diverse sources as it seeks growth in emerging markets. One of the tools that they have in their armoury is in relation to the approval of business plans and they have sought to restrain the growth of new start ups in their early years of trading, but this puts profit pressure on all new enterprises which, in a pre Solvency II world, need to incur significant preparatory costs.

Having said all of this, Lloyd's is likely to see a number of new start ups in 2013 with a return to fashion of traditional Lloyd's Names as a means of capital support. The market is likely to see the creation of a number of special purpose sidecar syndicates. Also, there are rumours of the potential launch of one or two private investment funds focussing on Lloyd's market participation. In addition to private equity funds and particularly US private equity funds, there continues to be significant interest shown by a number of global players seeking to expand their geographical operating platforms or, alternatively, to take advantage of the capital efficiencies that Lloyd's offers.

Whether John Cavanagh's wishes ultimately do come true remains to be seen. However, what cannot be questioned, is the current strength of the Lloyd's market where the third quarter results have been stellar and high levels of M&A interest remain. So another Monte Carlo has passed and the market now settles down for the contract negotiations to come. A late scare in the form of Hurricane Sandy has passed with little impact on insurer and reinsurer stock prices and the focus is now on renewal price negotiations.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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