Fitch predicts reinsurers to post 97% combined ratio in 2004

In its assessment of the global reinsurance sector, Fitch Ratings is predicting a 2004 combined ratio of 97%, a slight improvement over 97.2% in 2003.
The prediction follows the rater’s decision in July to change the sector’s outlook to stable from negative, where it had been since late 2001. Despite this, the rater notes many contradictory trends in the industry.
Namely, while the sector will continue to experience adverse development on prior year claims, the magnitude of this development will continue to decline. This follows the trend in the primary p&c sector between 2002 and 2003, where reserve deficiency as a percentage of surplus dropped from 16-27% to 12-17%. The strong capital development of the reinsurance sector over the recent hard market will also buffer this adverse development. And, given the attention paid to underwriting and withdrawing from “bad business” in recent years, risk of adverse development on 2001-2003 accident years is low, the rater says.
Another plus will be investment yields, despite persistently low interest rates. The expectation that interest rates will indeed rise will lead to improving credit quality and yields on bond portfolios which will offset declines in bond values. At the same time, however, investment gains put pressure on premiums to decrease and underwriting discipline to flag. “While Fitch believes that is a risk to the sector’s long-term health, we don’t believe that investment yields will increase enough in the near-term for this to be an immediate concern.” The rater also predicts that despite pressure, premiums will remain technically adequate over the near term, with little chance of an industry-wide underwriting loss in the next 12-24 months.
In fact, the rate predicts the coming soft market will be shorter and shallower than the one which led up to 2001. While the last soft market was 12 years long, Fitch notes, the average soft market in the U.S. is 7.4 years.
One trend which will continue into the soft market is the growing gap between the strong and weak performers in the reinsurance sector. Among the factors which continue to widen the gap are: different levels of exposure to legacy reserving issues; the continued flight to quality; ratings triggers imposed differently on highly-rated, large players versus their small, lower-rated counterparts; the perception of the reinsurer’s willingness to pay claims; and the role of expense efficiency.