April 27, 2016 by Canadian Underwriter
2015 saw a 3.5% reduction in traditional capital dedicated to reinsurance, down US$13 billion from US$370 billion at year-end 2014, according to the latest Reinsurance Market Report from Willis Re, the reinsurance business of global advisory, broking and solutions company Willis Towers Watson.
Willis Re noted, however, that the decline in traditional capital was offset by the continued growth in non-traditional capital, which hit new heights of US$70 billion. In total, global capital dedicated to reinsurance now stands at US$427 billion.
According to the Reinsurance Market Report, released on April 22, “continued focus on active capital management is a main driver behind the fall in traditional capital as opportunities for acceptably profitable capital deployment remain challenging.”
The decrease in traditional capital is also a result of unrealized investment losses and the strengthening of the U.S. dollar against the euro. The record volume of mergers and acquisitions activity in 2015 was also a key driver, Willis Re said in a statement. For companies within the Willis Reinsurance Index – which includes more than 30 companies, such as Swiss Re, Munich Re, XL Catlin, Hannover Re, Everest Re and Markel, among others – these factors accounted for a reduction of approximately US$20.9 billion.
Despite the decline, capital oversupply remains a fundamental industry challenge and market pressures continue to manifest themselves in diminishing return on equity (RoE), Willis Re said. According to the report, companies within the index providing catastrophe loss and prior year reserve release disclosure (known as the subset) continue to show a seemingly healthy aggregate reported RoE of 10.2%, albeit down from 11.5% in 2014. However, based on a more typical catastrophe loss year and excluding prior year reserve releases, aggregate RoE would diminish to just 3.4%, down from 5.8% in 2014.
The report also found that a significant rise in expense ratios over several years is a major factor eroding RoEs: expense ratios for the subset have risen by approximately four percentage points to 33.1% between 2007 to 2015. In 2015 alone, expense ratios increased by one percentage point. This comes as reinsurers continue to invest in underwriting and diversify their business portfolios. The increasing costs associated with enhanced regulation and governance is also impacting bottom lines, the statement said.
“Reinsurers continue to face a myriad of headwinds placing downward pressure on underlying results,” said John Cavanagh, global CEO of Willis Re, in the statement. “However, headline figures remain robust and capital positions are strong – the dual saviours of reserve releases and low severity loss experience continue to underpin reported results.”
Cavanagh added that “underlying RoEs are now beginning to breach minimum target thresholds. The pressure persists with capital remaining at record levels amidst the continued influx of capital from non-traditional sources.”
“Given the current climate, the broadening of reinsurer business models is proving a successful strategy for many and increasing relevance to clients, despite the impact on expense ratios,” he said. “But ultimately, reinsurers will yet again be looking to another below average loss year to maintain acceptable results.”
Further highlights from the report include: