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An August AM Best report showed that investments by a segment of reinsurers had unspecified financial losses in H1 2023 due to fixed income securities in investment portfolios performing worse than hoped for.
In AM Best’s Market Segment Report, “Global Reinsurers Face Challenges Even as Conditions Improve”, the ratings agency said that despite the bearish pressures on investment results, it expected that reinsurers would “generate underwriting profits in 2023”, keeping them in the black.
This prediction comes amidst “extremely challenging” operating conditions, with “persistent and elevated claims activity”, said the report, which was published ahead of the annual Rendez-Vous de Septembre in Monte Carlo, where reinsurers will gather to discuss industry events.
Top of their minds will likely be the recent blow from Hurricane Idalia to Florida, which hit an area not usually felt by storms. The shock was also unexpectedly stronger due to unusually warm water temperatures.
This, coupled with the Lahaina wildfire in Hawaii, has some worried about how long underwriting will stay profitable.
Currently, fixed income makes up the majority of many North American re/insurers’ portfolios.
According to the report, whilst underwriting numbers were strong, investment results for the reinsurance industry were severely impacted by unrealised losses on fixed income securities – a direct result of the rising interest rates that began in early 2022.
After several years of disappointing results, the report added, reinsurers were feeling the pressure to provide good results. For net investment ratios – the ratio of a reinsurance company's net investment income to its earned premiums – there has been a slowdown.
For global reinsurance organisations, the five-year average was 10.9, whilst 2022’s ratio was 6.5, compared to 10.8 in 2018.
“Profitability ratios slumped again in 2022, compounded by unrealised
investment losses."
For the US and Bermuda, the five-year average was 8.2; whereas, in 2019, it was 10.4, compared to 2022’s 6.6.
However, Q2 2023 results showed strong fixed income results for several reinsurers outside the US.
For Bermudian firms, fixed income investments were the key to a solid performance – which is why the area dominates insurance investment portfolios.
AM Best said it believed that, despite the severe decline in shareholder’s equity due to unrealised investment losses in 2022, global reinsurers had remained well capitalised.
But there were still other concerns to keep in mind. “Profitability ratios slumped again in 2022, compounded by unrealised investment losses,” it added.
The report also touched on the trend of smaller capital inflow to the market, noting that the whole capital available to the market had shrunk due to market conditions – from $475 billion to $411 billion – between 2021 and 2022.
“During its early years, alternative capital was viewed as a direct competitor
to traditional companies for property catastrophe risks."
Recent market volatility has put a strain on third-party capital, which had been awash in the industry for several years. AM Best said these conditions were not wholly responsible for – but had not helped – the lack of new entrants into the market. “The presence of third-party capital isn’t entirely responsible for the lack of new entrants to the global reinsurance segment,” it said.
“During its early years, alternative capital was viewed as a direct competitor to traditional companies for property catastrophe risks. Low interest rates and absence of other investment options made reinsurance risks attractive,” the report continued.
“Given reinsurers’ prudent approach to deploying capital, they are likely to preserve underwriting discipline for a longer period than in previous cycles,” the report said, highlighting how investment losses would be rectified elsewhere.
“However, market participants are under pressure to innovate, expand their presence and assert their role in an evolving economy in which today’s emerging risks will soon become the dominant ones,” it continued.
“Available capital is not under pressure; however, the well-established global
reinsurers have become much more cautious allocating their capital.”
AM Best said it would stick with its “stable” outlook on the global reinsurance segment, which reflected this “balancing act between positive and negative factors”, including fixed income losses.
The losses from fixed income have been felt across North American markets – and not just for insurers. In early August, the Canada Pension Plan Investment Board (the largest in the country) announced it had lost 0.8% in the fiscal quarter ending 30 June, just as a stronger Canadian dollar and decline in fixed income assets due to high interest rates weighed on results.
“The January 2023 renewals highlighted the mismatch between supply and demand, but it’s also important to recognise the difference between ‘available’ and ‘deployed’ capacity,” said Carlos Wong-Fupuy, Senior Director, AM Best, in the report. “Available capital is not under pressure; however, the well-established global reinsurers have become much more cautious allocating their capital, which pressures the deployment of capacity.”
Wong-Fupuy added that investors will likely demand a strong commitment to flexibility going forward – so they can adjust to changing business cycle conditions. “Well-established, diversified companies with a track record are better positioned to succeed in this effort than start-ups that are pressured to meet top-line targets,” he said.
