The general description of “reinsurer” masks the fact that reinsurance organizations are busy reshaping themselves into whatever form they have to be to succeed in the years ahead, writes Robert Lippincott III.
The US reinsurance market is at the bottom of the cycle. Virtually every reinsurer now operating in the US market is extremely well capitalized, and all face the same key challenge: how to turn a profit on a level - or, in some cases, a declining - book of business. Some, including a number of the larger players, are looking to reduce capacity, minimize expenses, and even lose staff, in order to remain competitive.
But the market is not completely in the doldrums. The property catastrophe market is finally starting to stabilize. Most catastrophe business, other than cat quota share, is on an excess of loss basis. And, as we all know, excess rates are always either too high or too low. It is likely that rates are currently being held at a level that is still too low. However, that is probably more a reflection of the impact that other global markets are having on US business, than on the US market itself.
Lloyd's efforts to regain market share, for example, have come during a period of declining rates. It has suffered as a result, and is now attempting to hold rates at a stable level. The Bermudan companies, meanwhile, are principally looking for the big deal, and their rates for run-of-the-mill business are also being held. There is some evidence that US companies are also starting to hold the line. We saw some holding of rates at 1 July, and are hoping this effort continues through the 1 January property catastrophe renewals.
The hurricane and earthquake activity in the US during the past year has had a minimal effect on the market, other than as a reminder that losses can occur. There has, however, been some reduction in capacity. The Australian market has all but disappeared, and some US companies have started to withdraw capacity from the market - with others likely to follow. Though Floyd hasn't proved to be the decisive event some were predicting early on, it has certainly provided another clear demonstration of the destructive power of natural forces.
In property/casualty business, competition in both property facultative and casualty facultative is as severe as it has ever been. However, many in the casualty market are becoming increasingly concerned about Y2K and its potential impact on the casualty marketplace, and have consequently cut back on casualty exposure during the past year. In professional lines such as D&O and E&O, it is impossible to predict the impact of Y2K. I believe that in both areas, many lawsuits will be brought, and that defense costs will be substantially higher than they would normally be. It could be that many of the suits will prove to be frivolous, but there is still a duty to defend, and legal costs will be high.
Market conditions in the US have encouraged a continuing pattern of take-overs and consolidation. In theory, fewer players should make the business of reinsurance simpler - but, as many companies are now discovering, it is not necessarily that simple. Relationships between business organizations remain crucial in this industry. Reinsurers can potentially find established business partnerships with long-term clients thrown into doubt when that client is taken over by another insurance organisation that may have a different culture, a different approach to reinsurance.
Poor market conditions, together with this uncertainty, are driving many players in the US market to look closely at their competitors and to formulate strategies that will enable them to maintain, and if possible expand, their market position in both the short and long-term. This process is closely linked to the blurring of the division between insurance and reinsurance that we are currently witnessing in both facultative and treaty business.
Imagine one giant dollar sign that goes right the way through the insurance process. A little bit of this insurance dollar gets chipped away at every link in the chain, until it comes out the far end. If you consider the process as a whole, and look again at the role of all the players taking part, there is effectively no reason why companies that have the experience, and the inclination, shouldn't share every part of this insurance dollar. For example, a reinsurer might have an understanding with a true managing general agent - one that acts as an insurance company but doesn't have an insurance company of its own. That agent might represent the reinsurer for certain lines of business, and the reinsurer might have a fronting fee for the business placed. Some of the business might be retained within the reinsurer's primary insurance company, a share of the reinsurance might be taken by the reinsurer itself, and the rest might be placed in the open market through the broker. This enables the reinsurer to gain chips off the insurance dollar at every stage - and perhaps to gain soft dollars back by doing more business with the broker. This is just one example of an old approach that is being resurrected by US reinsurers as a response to the challenge of current market conditions.
Reinsurers - especially in the US, where the top players have become even larger through consolidation - can no longer afford to market themselves as companies that sell off-the-shelf products. Clients are getting more sophisticated all the time. They want specific solutions to a range of needs, and they want a reinsurer that is ready and able to design an appropriate product working with them and the broker. The reinsurer needs the ability to put together dedicated teams with the expertise and the capabilities to be truly responsive. Once the product is designed, the reinsurer must be prepared to commit an appropriate capacity, and to back that capacity up. Again, this may not be new, but it is a major trend here in the US and it is becoming even more important. The more mergers we see in the insurance business, the larger the companies are, and the more sophisticated they are at choosing the types of program they want from reinsurers.
To fully meet the needs of clients, US reinsurers have to use their expertise to its fullest potential. Increasingly this means being able to draw on the full range of skills of a worldwide organisation. It means being able to get the right team of people to anywhere in the world within 24 hours. The same principle applies to providing other client services like claims and accounting.
The reinsurance industry - in the US, and worldwide - is redefining itself. The general description of “reinsurer” masks the fact that reinsurance organizations are busy reshaping themselves into whatever form they have to be to succeed in the years ahead. Just as the difference between an insurer and a reinsurer has, in some areas, become a little nebulous, so the difference between a reinsurer and a capital provider is increasingly ill-defined. It is more common now for reinsurers to have direct access to investment banks and capital providers, and if necessary they can simply act as a conduit - channelling the business in the right direction. Equally, they can become capital market reinsurance companies that design products for the capital markets.
At the same time, there is a trend towards being selective as far as core clients are concerned. Reinsurers need to be continuously reviewing those major clients where they can develop a relationship. They also have to determine which brokers have the resources and the sophistication to develop appropriate products with them. However, US reinsurers must not lose sight of small-to-medium sized clients. The definition of a core client should not be based purely on premium income, but on whether the reinsurer plays a significant part in the decision-making process for that organization's reinsurance program.
As reinsurers, our efforts have to be focused on providing the US marketplace with a full-scale range of products with indivisible lines between capital markets, balance sheet effect programs and true risk-bearing programs. As a market we need to be able to demonstrate an expertise that reflects the growing sophistication of our clients, and we have to diversify into lines where we can maximise the value of our role in the process. It is a changing - and a challenging - environment. Ten years on, the landscape will look very different in many ways. But reinsurance organizations with the vision and the responsiveness to continue adapting and evolving can look forward to the future with confidence.
Robert Lippincott III, is president, ceo and chairman of AXA Re US.