Rating agency warns of short-lived rate rises but maintains industry’s stable outlook

AM Best describes the financial position of global reinsurers as “resilient” following the wave of catastrophes in 2011 and ongoing economic uncertainty.

Among the factors contributing to the industry’s resilience are a continuing evolution of enterprise risk management (ERM) along with advances in catastrophe and economic modelling.

The only year that produced larger cumulative insured catastrophe losses than 2011 was 2005, when hurricanes Katrina, Rita and Wilma (KRW), in combination with other smaller events, produced about $125bn in industry losses, it notes in a report on the global reinsurance sector.

“The numerous loss events of 2011 came very close to that tally with approximately $110bn of losses,” it observes. “This time, however, the market responded without any significant dislocation or squeeze on capacity.”

The report questions why the losses in 2011 did not cause a market dislocation similar to the hard market following KRW, especially given that at the end of 2010 it was widely believed a significant loss of $50bn to $100bn would be enough to turn the market.

“It is reasonable to ask why the market did not turn more broadly, considering all that 2011 offered: significant catastrophe losses, record low investment yields, uncertain financial markets and the downgrade of US sovereign debt,” says the report. “The simple answer is that reinsurance capacity remained ample despite the magnitude of losses and unrelenting headwinds.”

Few reinsurers experienced losses beyond their stated tolerances and for the majority the claims from 2011 “amounted to nothing more than a negative earnings event,” notes Best.

The rating agency anticipates that the approach to reinsurance purchasing among primary insurers may begin to change as a result of the recent catastrophe experience. Primary insurers have increased their retentions in recent years but cedants may now look to buy more cover and retain less risk going forward.

“The recent spike in global catastrophe activity, along with an increased level of conservatism in catastrophe models, appears to have changed the perception of risk for many primary companies, particularly in the United States,” notes Best.

While the rating agency has maintained its stable outlook for global reinsurers it is concerned that recent increases in reinsurance pricing may be short lived.

“History has shown that the market has a short memory, and if the sting of recent loss events quickly fades, the soft market may continue,” it states. “In that scenario, the segment’s capital strength would slowly erode, and AM Best would consider revising the ratings outlook to negative, as pressure on ratings would be expected to mount.”