What will the market look like in 2002? Broker Willis has recently issued a market overview outlining what it perceives are the future trends of the industry.
Just as experts have now said that the US economy was going into decline before the events of September 11, so the re/insurance market was hardening before that fateful day. In the same way that the terrorist attack on America concentrated and accelerated the country's economic slide, so the WTC disaster expedited the upward trend in rates and conditions for risk carriers.
With an event that had never been contemplated, there is an inevitable shift in the way risk is viewed and assessed. In many sectors, re/insurers are substantially increasing rates and lifting deductibles, restricting coverage conditions, and, in certain cases, exiting classes of business. With these changes currently taking hold, it is inevitable that the underwriting and broking functions will take longer to complete, and will, inevitably, become more complex. In particular, re/insurers are demanding transparent information with a high level of disclosure, and clients need to be aware that today's quote – when, and sometimes if, it comes – is unlikely to have a long shelf-life.
The current environment could well prove to be the fastest market hardening ever, though this is not necessarily overly surprising, following, as it does, the largest insurance loss ever. Cascading down from the sweeping generalisations to the individual classes, most are seeing huge changes in terms, conditions and premium levels. How long this will be sustained is another matter, with opinion stretching from the view that the hardening will last only a year or so as new capital floods in, to strong market conditions carrying through into 2004 and beyond.
In the meantime, Willis has peered into its crystal ball and made some comments and predictions for the shape of the market in the year to come. “The profile of risk, its management and transfer is higher than ever,” it says in a recent report. “It demands close attention by the most senior levels of management to ensure shareholders' assets and revenue flows are protected. Enterprises of all types will need to re-examine the risks they face and take action to reduce the impact on operations as insurance premiums rise further, deductibles increase and some covers are no longer available.”
Even before September 11, the reinsurance community was facing a time sufficiently tough that it was looking to address the problems. In particular, the shabby underwriting results for recent years, deterioration of past years due to long-tail exposures, in particular asbestos-related claims, and poor investment returns in falling equity markets combined with low interest rates, had all started causing serious pain to a number of reinsurers. Then came September 11, and these problems were exacerbated by the huge claims arising from the event. “In addition, reinsurers are facing uncertainty about the quantum of the ultimate loss from the WTC, its apportionment across property, casualty and life businesses, and the possibility of some reinsurance markets failing to meet their liabilities,” comments Willis. Already, Japanese insurer Taisei Fire & Marine Insurance Co has collapsed, citing WTC-related losses as a major cause, and its failure led to a North Carolina-based aviation reinsurer, Fortress Re, to cease writing. On top of this, Copenhagen Re has stopped taking new business because, it said, of claims arising from September 11. Although these situations are likely to be much more complicated than the companies state publicly, there is little doubt that WTC losses were at least in part responsible for the problems, and there are likely to be other similar situations in the future.
These pressures are leading buyers to follow the so-called ‘flight to security'. According to the Willis report, “The WTC loss clearly demonstrates the value of superior capitalisation in terms of policyholder security and the ability to maximize opportunities after a major loss.” It foresees many insurers looking for greater security ratings for their reinsurers, “and this will strengthen the hand of AAA- and AA-rated markets in renewal negotiations.”
Despite the current influx of capital into the reinsurance market, Willis remains unconcerned that it could dampen any upswing in the sector.
“Overall the reinsurance industry faces a capital squeeze,” it says. “Insurance and reinsurance companies' solvency margins are primarily calculated on the volume of premium they are accepting. In a market where rates will increase substantially, a number of reinsurers will be constrained in terms of the amount of business they can accept due to a lack of capital.”
As cash flow becomes squeezed with WTC-related payouts, reinsurers will need large volumes of cash from renewal premiums from ongoing risks, argues Willis. “We anticipate that there will be rate rises in every class of business going into 2002, though the quantum of any increases will vary by individual policy type and record.”
Rather unsurprisingly, reinsurers are looking at terrorism exclusions as standard now, but also at incorporating other restrictions. “Aside from the issue of terrorism, the WTC loss has clearly demonstrated a degree of correlation between different policy types, which is quite outside all reinsurers' previous expectations and models,” comments the study.
“In order to control these previously unforeseen correlations, reinsurers are likely to seek additional restrictions in coverage moving towards named perils forms and in some cases limited territorial scope.” Business interruption wordings will be tightened, suggests the report, as will suppliers' extensions wordings.
Retrocessional capacity has been tightening for some time, but now has reached a crunch. “The WTC loss is ravaging the retrocession market,” says the report, “especially from the coverage of single risk as opposed to natural catastrophe perils. Most prudent reinsurers are assuming that their existing retrocession capacity will either not be available in 2002 or the cost of such cover will be prohibitive.” This is another factor constricting available reinsurance capacity, as “the more conservative underwriting guidelines that reinsurers are adopting to control the correlation of risks are acting to further reduce capacity.”
At the same time, the WTC loss has cast a shadow over estimated maximum loss (EML) underwriting techniques. “Thus the worldwide insurance industry faces a difficult situation of demand increasing at the same time as supply is reduced, leading to further upward price pressure.”
Finally, Willis foresees reinsurers will demand greater disclosure of underlying exposures. “One possible scenario is that very major and complex target risks may be forced out of automatic treaties into a much-reduced facultative or single risk market.”