Global reinsurers’ soft market pricing pressures slowing: Fitch Ratings

The reinsurance market showed signs of decelerating rate declines in its most recent June/July 2015 renewals, indicating that pricing could be approaching a new equilibrium, said Fitch Ratings in a new global sector report.

Pricing in the reinsurance market has been pressured by a long-running influx of alternative reinsurance capital from private equity firms, hedge funds and pension plans, Fitch Ratings explained in a press release on Tuesday. However, the flow of alternative capital is slowing slightly, particularly from collateralized reinsurance. Insurance linked securities (ILS) pricing has also stabilized recently, as indicated by the spread between ILS and high-yield bonds compressing to around 100 basis points.

“Fitch believes this means that capital market investors may have a waning appetite for reinsurance risk,” the release said.

According to the report, titled Global Reinsurers’ Mid-Year 2015 Financial Results, Underwriting Results Profitable, but Pressured, Pushing M&A Surge, in addition to the challenges of a capital-saturated market, premium declines and some upward pressure on ceding commissions helped to drive negative growth in first-half 2015 profits. Several noncatastrophe marine events, including the Gulf of Mexico Pemex offshore rig explosion, also contributed to deterioration in underwriting results in first-half 2015.

Given the soft market conditions, reinsurer consolidation is likely to continue as companies consider M&A to combat market stress and limited organic growth opportunities. “While some consolidation might be a slight credit positive for moderating competitive pressures, Fitch is likely to negatively view deals where achieving greater scale and diversity is the singular purpose of the deal and strategic rationales are unconvincing,” the release noted, adding that a total of six acquirers either have closed, or soon will close, deals.

On a positive note, catastrophe losses ran below average and prior-accident-year reserve developments were generally favorable in first-half 2015, the ratings agency reported. Demand from the Florida catastrophe market, both from Florida-only primary providers and the Florida Catastrophe Fund, help support demand levels. “This factor drove the deceleration on rate declines in our view,” the release said. “Still, reinsurance net premiums written (NPW) declined 8.5% in first-half 2015, versus first-half 2014. Adjusting for foreign currency translations, NPW actually rose 0.7%.”

Capital levels remain strong, but deteriorated slightly in first-half 2015, mostly on unrealized investment losses due to rising interest rates on fixed-income portfolios, Fitch Ratings said. Although capital declined in part to the pursuit of M&A transactions, reinsurers continue to return current operating earnings to shareholders through share repurchases and special dividends, albeit at a much slower pace than in 2014.