In a competitive sector, another year of record profits and benign catastrophe losses are simply exerting more downward pressure on energy reinsurance rates. But there is still some opportunity for reinsurers, discovers Jon Guy.
Reinsurers are playing a pivotal part in the direction of the world’s energy insurance sector as the clash between the brokers and the direct writers over premiums continues. Indeed, both sides are citing the approach to the energy market by reinsurers as proof of the need in brokers’ eyes to lower the premium levels and in the underwriters’ eyes to hike prices and tighten conditions.
In the past month Marsh and Aon have held two major energy conferences on opposite sides of the world. Both crystallised the stance of the clients and underwriters to the changing face of the energy business, a business where clients are looking for ever-greater levels of capacity to manage booming claims costs and risk exposures. Opportunities for the energy reinsurance companies abound with the new entrants and new capacity entering the direct market both upstream and downstream.
Speaking at the Aon Latin American Insurance Conference in Buenos Aires, William Lynch, head of broking within Aon’s natural resources and construction unit, said underwriters had been reporting a period of record profits on the back of two benign claims years and that the clients and their brokers had been in a fight to get better rates and terms for global energy risks. “What happens next?” he asked. “The client and the brokers strike back because underwriting prices are simply too high.” The major insurers have responded to the new capacity in the energy sectors by forcing their way into regional centres to access business they do not see.
The next KRW?
The hurricanes in the Gulf of Mexico in 2005 cost energy underwriters $20bn of the estimated $93bn insured material losses. This led to soaring insurance and reinsurance premiums in the hard market that followed. Catastrophe model revisions and rating agency requirements exacerbated pricing hikes to account for predictions of greater and more expensive storm loss activity.
“Can 2005 happen again?” asked Lynch. “Insurers will tell you it cannot. Underwriting discipline, aggregation, better modelling, risk management and peer review of risks coupled with the retentions going up for both clients and reinsurers have added discipline.” Lynch said that in recent months rates had fallen below the levels for 2000. “It shows the brokers and clients are winning.”
“The price of oil has broken $110 per barrel and the predictions from experts are that the price will not drop much below that in the foreseeable future
Insurers have a different tale to tell, and the figures seem to back up their theories. The price of oil has broken $110 per barrel and the predictions from experts are that the price will not drop much below that in the foreseeable future.
Speaking at the Marsh Conference for National Oil Companies (NOC) in Dubai, Edward Morse, managing director and chief energy economist at Lehman Brothers, told delegates price movement was now an issue they had to hedge against given the dramatic impact on their business expenses and operation. He said that while NOC have been traditionally reluctant to examine price change mitigation, its balance sheet implications were at the point where they could no longer be ignored.
The NOCs are indeed at the heart of the issues that face the oil and gas sector. The current oil reserves are expected to last 40 years with natural gas set to be exhausted by 2068. The major oil firms such as Shell, BP, Exxon and their peers have been quick to divert billions of pounds into research into new sustainable energy products and in the medium term, ways in which to extract oil and gas reserves from the world’s most challenging environments.
Power generation has promoted unprecedented levels of new projects and insurers have been faced with a major headache as the pressure to complete the project continues in the face of a shortage of skilled labour, raw materials and specialist machinery. Gordon Martin, managing director of Hydrocarbon Risk Consultants, speaking in Buenos Aires, said that the energy construction market at present faced the “perfect storm” as several factors combined to create an environment where the potential for major claims was now excessive. Costs for raw materials and the rapid increase in oil prices have raised the bar in terms of the costs and exposures for insurance underwriters.
The new firms have been quick to ensure that they have the right reinsurance in place. Benfield announced its preliminary results for last year with the marine energy practice of its corporate risk division seeing growth almost double. “The growth has come from the new entrants into the energy market,” said chief executive Grahame Chilton. “These are new companies and, as such, are willing to work with an independent company and are fully aware of the increasing need for adequate reinsurance because of the values of the projects and risk involved.”
“Global investment in sustainable energy technology grew by 25% from 2005 to 2006
Chairman of the global marine and energy practice at Marsh, James Pierce believes that the NOCs have undertaken a silent revolution in the way they do business over the past few years and are now looking to stand on their own feet after decades where the technical expertise had been provided by the major independent oil companies.
Pierce said the NOCs were now in a position where their actions would have a fundamental effect on the future global economy. “NOCs find themselves by either design or default in control of 90% of the world’s oil reserves and the way they choose to develop those reserves will have a big impact on the future world economy,” he explained. “They are standing at the door of tremendous opportunity on the world energy stage.”
Battle over price
Both underwriters and brokers have an opportunity as NOCs look to establish themselves across the world. “NOCs are now involved in projects with other nations and, as such, insurance cover for those projects is needed,” said Pierce. This also provides both brokers and insurers with new opportunities, he explained. However there remains overcapacity in the energy sector and as such the rates remain under considerable pressure. The upside is the fact that insurers are now seeking to cede larger proportions of their risk to reinsurers. The issue remains one of price.
While brokers have said they are “winning the battle on price” with the primary market the reinsurers are remaining steadfast in their premium rate levels. It has seen the cedants questioning their ability to utilise their full capacity at a price which will not hold up should the past two years of benign catastrophe experience fail to be repeated in the year ahead. Prospects do not look good with more major energy losses in the first three months of this year than in the past two years combined.
Jon Guy is a freelance journalist.
Exploring renewable energy
Insurers and reinsurers are increasingly finding new opportunities in renewable energy. In the last year, a number of insurers, reinsurers and brokers have launched businesses dedicated to providing cover for this sector. Ascotâ€™s Renewco business, formed last year, joined similar ventures by Royal & SunAlliance, Ace, AIG and Marsh. It is Lloydâ€™s first underwriting operation specifically dedicated to the renewable energy industry worldwide.
The opportunities in this sector for insurers and reinsurers will increase as the sector develops. Global investment in sustainable energy technology grew by 25% from 2005 to 2006, to $100bn in total investments, according to a study by the UN Environment Programme. â€œThis is a complex market and many covers have been limited to particular types of renewable energy production, such as wind power,â€ said Alistair Macintyre, UK product development manager at Renewco. â€œWhen you consider that approximately 50% of renewable energy electricity capacity comes from methods such as landfill gas, waste and biofuel generation, the need for more relevant insurance cover is clear.â€