Reinsurers squeezed for capacity

Reinsurance demand is up, capacity is down, and that has led to a focus on internal growth, a higher tolerance of lower-rated reinsurers, and a proliferation of alternative capital sources such as sidecars, catastrophe bonds and securitizations, according to a panel discussion conducted by Standard & Poor’s.
Reinsurers’ growth models have notably shied away from merger and acquisition activity, noted panelist Brian O’Hara, president and CEO of XL Capital Ltd. He observed there could be several reasons for this, but he thought the most fundamental reason is that reinsurers have shifted what they choose to acquire.
“Right now, reinsurers are looking to buy renewal rights more than businesses as a whole,” S&P’s noted in a report on the panel discussion. “This differs from a decade ago, when the merger and acquisition market was more vibrant.”
A decade ago, in the effort to buy market share, reinsurers “bought bad and poorly priced businesses, which led to increased reserve strengthening needs,” according to S&P’s credit analyst Laline Carvalho.
Recently, reinsurers have been more internally focused and have strengthened their risk management, S&P’s says, adding that reinsurers “are now focusing on bottom line rather than top line.”
O’Hara said reinsurers that have a higher credit rating will “see more quality business, especially in long-tail lines.” The problem with the higher-rated capacity of such insurers is that “everyone wants it,” he added.
O’Hara noted a growing tolerance of lower-rated companies, at least in Europe, which are more willing to accept reinsurers rated slightly lower than the very tight ‘AA’ to ‘A-‘ range within which most are rated.
“In Europe, it is easier for a ‘BBB’ rated company to succeed,” Carvalho said, adding that a ‘BBB’ rating should be just as acceptable to an American company. “The difference between ‘A-‘ and ‘BBB+’ companies is very small, and the potential for a ‘BBB+’ to default is very low.”
O’Hara says the recent proliferation of sidecars and catastrophe bonds as ways to gain strategic capacity and deal with uncertainty has been “amazing to watch.” But these capital sources are still untested, he added.
Panelist Edward J. Noonan, chairman and CEO of Validus Reinsurance Ltd., said “sidecars can provide the strategic capacity companies need to have to make the market work,” but “the market will have to work through how best to use them without adding risk.”