Reinsurers reach peak performance as market stabilizes; Pending M&A

The reinsurance market has reached equilibrium, with an increased capital supply from retained earnings meeting the greater demand for reinsurance protection from the antecedents. As such, margins will peak in 2024, although reinsurers should continue to produce a favorable return on equity of close to 20%, well above the cost of capital (8%–10%).

That plateau prompted Fitch Ratings to recently revise its global reinsurance outlook to “neutral” from “improve.”

Despite a moderately softer and more competitive market, underwriting discipline should be maintained. The disciplined environment is supported by limited new capacity entering the market as supply from traditional and alternative sources remains ample, worsening US trends in loss losses due to social inflation and increased catastrophe risk and climate change. This environment should support continued organic growth opportunities over potential acquisition activity.

Record profits in 2023 and the first half of 2024 from the best underwriting conditions in over 20 years, steady investment income, increased balance sheet strength through growing capitalization reserves and the adequacy of consolidated reserves provide a strong foundation for the sector to to withstand potential pressure from falling prices. from multi-year highs and rising claims costs. Capitalization is expected to remain very strong, allowing for sustained high levels of capital repatriation into 2025, while providing sufficient headroom to absorb any unexpected earnings volatility.

When the market inevitably softens and organic opportunities diminish, companies that have accumulated capital from sizeable profits may look to acquire reinsurers that have been less successful in taking advantage of the difficult market.

Fitch expects flat to modestly lower margins in 2025 after the peak in 2024, assuming no major losses and anticipating tight terms and conditions to be maintained and retrocession costs broadly constant. Continued price adjustment and conservative loss choices in 2025 should offset rising damage costs from natural catastrophes and social inflation. Pricing efforts by primary insurers for underlying quota treaty business should help underwriting margins, but substantial premium increases are unlikely as economic inflationary pressures ease, particularly in commercial lines.

Real estate market Apartment; Concerns about casualties drive up rates

Fitch anticipates a moderate softening of the market in 2025, particularly in the housing catastrophe, unless there is significant loss activity in H2 2024. Property rates face downward pressure, but risk-adjusted yields remain attractive, with potential price gains in lines affected by losses. Reinsurers’ appetite remains limited for lower tiers, aggregate treaties and per risk coverages where high property losses persist, as reinsurers are not interested in returning to underwriting earnings protection.

Market discipline will persist despite increased competition, with reinsurers being selective in expanding business volume to maintain price adequacy. The stricter terms and conditions reached in 2023 are likely to remain firm, although some flexibility in attachment points may emerge. Retrocession placements should remain positive for reinsurers with sufficient available capital.

While economic inflation has abated, casualty prices will continue to rise due to increased risk concerns in the US due to social inflation and litigation funding trends, with high damages from nuclear verdicts exceeding $10 million. This is particularly the case for commercial motor vehicle and general liability accident years 2015-2019, but also due to growing concerns around the more recent period 2021-2023. This will help increase the accident rate to keep up with higher loss costs.

Additionally, the potential for higher latent liability losses from exposures including opioids, microplastics and synthetic chemicals known as PFASs continues to be a significant concern for the casualty reinsurance market.

Demand for reinsurance remains strong

Global demand for reinsurance is growing structurally as primary insurers cover rising insured values ​​due to inflation and increased exposure and face increased risk, including from catastrophes and climate change and uncertainty in economic and geopolitical conditions.

Demand for protection, financial solutions, longevity and mortality reinsurance are supporting growth in life and health businesses. Low and stable economic growth in developed markets, projected at 1.4% per annum for 2024-2026 by Fitch, continues to support demand from primary insurers and topline growth for reinsurers, particularly in quota programs.

Continued expected rate increases in core primary insurance business should help support reinsurance rates, particularly through proportional treaties. Additionally, increased investment returns help offset higher claims inflation as capacity maintains its underwriting discipline.

Record alternative capital supports the reinsurance claim

Equity levels in insurance-linked securities (ILS) continue to reach record highs as yields in the sector remain attractive. Catastrophe bonds have been particularly favored because these securities have outperformed other ILSs during recent periods of high catastrophe losses. Fitch expects continued strong supply growth in the alternative reinsurance capital market through 2025, barring substantial ILS catastrophe losses in H2 2024.

The increase in alternative reinsurance capacity reflects the exceptionally favorable rate environment for property catastrophe risks in 2024, as a result of the significant price correction from the prior year and the corresponding attractive expected yields available in the market.

The catastrophe bond market saw a continued strong market for issuance, setting a record of more than $12 billion in the first half of 2024, with several new sponsors tapping the capital markets for additional sources of reinsurance capacity. As of mid-2024, the catastrophe bond market has reached a new high in outstanding issuance at about $46 billion, or about 42% of all alternative capital deployed.

Catastrophe bond returns were particularly strong in 2024, with investors benefiting from attractive yields on recently issued deals and the generally higher positioning of catastrophe bonds in pre-catastrophe reinsurance towers. Limited recent loss activity for catastrophe bonds with per-occurrence triggers reflects the generally distant attachment points used in the market. However, ILS capacity supporting aggregate reinsurance has come under pressure due to intense severe storm activity in the US.

Reduced hard market mergers and acquisitions

After several sizeable deals that closed in 2023, the reinsurance M&A environment has had no major announcements so far in 2024. While higher market valuation multiples of reinsurers have boosted the currency of acquiring companies, the same this is also true of most potential acquisition targets. . This makes acquisitions expensive and less likely to be executed, acting as a constraint on considering large-scale M&A activity.

Continued favorable pricing and favorable terms and conditions for reinsurers have kept the focus on organic growth opportunities and away from M&A. In addition, industry participants face several impediments to completing M&A transactions, including significant integration risks, concerns about contingency reserve adequacy and uncertainty regarding regulatory approvals.

However, when the market inevitably softens and organic opportunities diminish, companies that have built up capital from sizeable profits may look to acquire reinsurers that have been less successful in taking advantage of the difficult market.

Potential for IPOs to rise

The IPO front was mixed. Hamilton Insurance Group Ltd. began trading on the NYSE in November 2023, generating net income of approximately $81 million that the company used to expand its business. Hamilton’s IPO improved its financial flexibility and increased its access to capital markets after being a private company since its inception in 2013, which was led by founding partners of hedge fund Two Sigma Investments LLC.

In contrast, Aspen Insurance Holdings Ltd. has decided not to proceed with an IPO in 2024 after filing a number of regulatory filings with the SEC in 2023. The company was also reported to be considering a potential transaction of merger as an alternative to going public. . Ultimately, the company’s valuations proved insufficient for its owner, Apollo Global Management Inc., which took the company private in 2019.

Aspen demonstrated notable improvement following portfolio optimization efforts, which included business line disruption and exposure management initiatives to improve profitability and reduce volatility. The company could reassess the market in 2025 and move forward with a deal if conditions were more favorable.

Such an improved environment could also be an opportunity for newer companies like Convex Group Ltd. and Vantage Group Holdings Ltd. to go public. Ascot Group Ltd. is also seen as a potential IPO candidate in 2025.

BIOGRAPHY

Brian C. Schneider, CPA, CPCU, ARe, is a senior director in Fitch Ratings’ North American insurance rating group, based in Chicago. Schneider is head of Fitch’s global reinsurance sector and has coverage responsibilities for property/casualty companies. Contact him at [email protected].

TOPICS
Mergers and Acquisitions Reinsurance