Valerie Denney casts her eye over global developments.

Everybody surmised it would take `the big one' to turn the seemingly perpetually soft reinsurance market around, but nobody could have imagined the events of recent months. The September 11 terrorist attacks have gone down as the largest insured property loss to date, easily exceeding Hurricane Andrew ($19.6bn, according to Swiss Re's sigma report) and the Northridge earthquake ($16.3bn, according to sigma). Estimates of the final tally for WTC range from $50bn to $80bn, or more. This comes on top of an already bleak 2001 which saw hefty asbestos-related and mould claims in the US, and foot and mouth claims in Europe. Beleaguered by consistently poor underwriting results, deteriorating past years and dwindling investment returns, reinsurers were already asserting firmer rates, but the events of September 11 have accelerated this process to dramatic effect. The terrorist attacks have pared back the industry's oversupply of capital, both through loss payouts and reserve strengthening. In addition, reinsurers with large stock holdings have been forced to realise losses on their equity portfolios and Enron's spectacular fall from grace has brought about losses on some fixed-income investments. Anecdotal evidence of a tight market abounds, with some cedants seeing rate increases of between 200% and 300% along with stringent changes in policy terms and conditions. On average, however, price hikes are around the 25%-30% mark.

"To a degree it's dependent on where the risks are geographically located and the historical performance of the books of business," remarked Bob DeRose, managing senior financial analyst at AM Best in Oldwick, New Jersey. Nonetheless, 2002 is likely to prove one of the most powerful pricing years for quite some time. As Donald S Watson of Standard & Poor's in New York pointed out, barring significant losses, 2002 will be a peak year for the reinsurance sector. "Underwriting discipline is back with a vengeance, which will kick-start the industry into profitability. Now is a good time to be in the business."

Get it while it's hot
No surprise, then, that investors are back in droves to endorse the industry. Share prices of many re/insurers are on the up and the industry is being liberally supplied with funds, either to replenish capital or to establish new companies, largely in Bermuda. Some $24.5bn of capital has been raised, and more is anticipated. Whilst this is a sizeable sum, it is generally believed that it is not sufficient to dampen the pricing upswing, and certainly not in the short-term. For one thing, analysts still expect to see other players bowing out to become either discontinued operations or part of a larger enterprise as parent companies debate whether reinsurance is or should be a core business within their organisational structures. Among the roll-call of recent `drop-outs' are Japan's Taisei Fire and Marine and Fortress Re in the US - all collapsed under the weight of September 11 claims - and Royal & SunAlliance and Copenhagen Re, which have withdrawn, at least for the meantime, from the business.

Moreover, the figures speak for themselves. According to a recent S&P report, by year-end 2001, $6.5bn had flowed into startup operations. A further $18bn went to existing reinsurance operations, "placing the capital inflow at a similar level of magnitude as the sum of reinsurers' net September 11."

Moody's managing director in New York, Ted Collins, remarked: "It's not enough to spoil the party, particularly when you consider the fact that retrocessional capacity is not available."

Attracting headlines reminiscent of the early 1990s when Bermuda burst on to the cat XL scene with a crop of new companies, the island is currently making the most of the opportunities on offer. A wave of new capital has landed in Bermuda in recent months, primed to take advantage of the sharply rising rates and increased demand for and constricted supply of capacity for property risks. New ventures/developments include:

  • Axis Specialty, a $1bn property, aviation, war and political risk re/insurer established by Marsh & McLennan via its private equity subsidiary MMC Capital. Some of the $1bn capital come from MMC Capital's investors which include insurers, pension funds and large financial institutions such as JP Morgan Chase;

  • DaVinci Re, a $500m property catastrophe reinsurer largely financed by RenaissanceRe Holdings and State Farm. RenaissanceRe has also committed a further $100m capital to Glencoe Insurance, its wholly-owned subsidiary which specialises in excess and surplus lines business. This follows a $34m capital injection by RenaissanceRe last September, and brings Glencoe's total capitalisation to $200m;

  • Arch Reinsurance, the new reinsurance arm of Arch Capital Group. Capitalised at $1bn, including a $750m stake taken by private equity firms Warburg Pincus and Hellman & Friedman, the latter of which launched RenaissanceRe in 1993. Arch, which is backed by Marsh & McLennan and Merrill Lynch, is contributing the remainder;

  • American International Group (AIG), Chubb and GS Capital Partners 2000, a Goldman Sachs investment fund, have combined forces to set up Allied World Assurance Company. Capitalised at $1.5bn, AWAC underwrites commercial property and casualty re/insurance worldwide, selling through brokers and other intermediaries. Of particular interest here is Chubb's involvement; it has been a major opponent of Bermuda's tax-free status for some time now. Along with Hartford, Liberty Mutual and Kemper, Chubb has lobbied the US Congress for legislation to protect them from what they see as unfair competition from Bermudian companies. This recent move by Chubb may signal the fact that Bermuda is unlikely to lose its tax-free status in the foreseeable future. Certainly, George W Bush appears happy with the status quo;

  • White Mountains Insurance Group, partly owned by Berkshire Hathaway, has set up Montpelier Re, a new $1bn property/casualty reinsurer to focus initially on broker business;

  • Zurich Financial Services and Aon Corp have formed the $1.2bn Endurance Specialty Insurance to write commercial property and casualty re/insurance;

  • XL Capital is raising $1.5bn in new equity and ACE is seeking an additional $1bn in capital.

    Many observers believe that additional new capacity is likely to hit Bermuda's shores in the near term. The appeal of Bermuda with its flexible regulatory environment and tax advantages is clear, as is the undoubted attraction of new, unfettered capital in the current market conditions. Again, reminiscent of the early 1990s when Bermuda and London locked horns in dramatic fashion, rumour has it that Bermuda reckons it is taking advantage of the London market's "lack of momentum" due in part to a substantial hit following September 11.

    Biggest single loss
    Lloyd's, in particular, is facing the biggest single loss in its 300-year history following September 11. The bill, which is estimated at some £1.9bn net of reinsurance, has renewed the zeal of the critics and doom-mongers. Paying the bill will prove painful. Since September 11, Lloyd's has made a cash call on its syndicates of £780m. Names have been asked to pay £246m, or about £50,000 each, while corporate members, which account for 80% of the market, will foot the rest. Further cash calls may be on the cards.

    Despite this, Lloyd's capacity for 2002 is around the £12.5bn mark, a record for the market. This means that capacity has surged by over 20% in the past two years. "It used to be an immutable law that Lloyd's capacity was always around £10bn," remarked chief executive, Nick Prettejohn. "But it is important not to put too much focus on the terrible events of September 11, since many of these plans (to increase capacity) were in place before."

    Critics point to several high profile groups spurning Lloyd's and opting instead to set up in Bermuda. These moves include Goshawk's decision to become the first stock market-listed Lloyd's company to set up a Bermudian reinsurance vehicle, and AIG backing a Bermudian operation. However, they fail to mention that fact that Goshawk has added an additional £35m to its Lloyd's capacity for this year, and AIG has set up a new £100m Lloyd's venture.

    Mr Prettejohn admitted that Bermuda has its merits, adding that Lloyd's "only accounts for 3% of the global reinsurance market and 1% of the commercial direct market, so we cannot expect to get the lion's share of new capital. There are attractions to Bermuda which would be silly to deny. We have seen this before - after major upheavals in insurance such as Hurricane Andrew - but that did not stop Lloyd's making record profits between 1993 and 1995."

    Whether Lloyd's will take full advantage of current market conditions is debatable. Many observers have their doubts. According to one Global Reinsurance source, a major drawback of Lloyd's is the lack of transparency when it comes to its financial strength, which is an essential factor in a hard market. Just recently some harsh home truths were flagged when Tony Markel, president and CEO of Markel Corp presented a speech to the Insurance Institute of London. Representing one of Lloyd's largest corporate backers, Mr Markel warned that corporate capital investors, increasingly frustrated by the market's inertia, are set to force the pace of change and unless the market tackles some of its fundamental business practices and drags its culture into the 21st century, it is in danger of going out of business. "The sloppiness, lack of clarity, delays in documentation and poor business practices is appalling," he said.

    While accepting that Mr Prettejohn and his team have made steps when it comes to regulation, he pointed out that it is still concentrating on the minutiae rather than the core issues which are threatening to overwhelm the market. Mr Markel believes the recent flow of capital to Bermuda is another warning bell for Lloyd's. "The ease with which so many well-capitalised competitors entered the field is a strong reminder of the competitive battleground we are in worldwide. We have got to get our house in order and quickly."

    He concluded that his company is still glad to be a part of the market and that it is "committed to assisting in making the necessary changes to help Lloyd's realise its full potential." Lloyd's capital providers have already provided a vote of confidence with their financial backing. Corporates are expected to announce further increases during the course of the year. S&P's Mr Watson echoed many analysts in his view that Lloyd's corporate capital would bring discipline to the market in the long-term.

    Meanwhile, many London firms have seen their operations pumped up in light of the favourable market conditions. One of the latest players to announce increased capital is the St Paul Companies which has injected an extra £100m in share capital into the London unit of its reinsurance arm, St Paul Re. According to observers, in what is obviously proving to be a protracted renewal period, London is still pulling in substantial business through brokers.

    Christian Dinesen, director of financial services ratings at S&P in London, confirms that the same trend applies in Europe. "There's certainly more capital available. For example, Swiss Re had a major rights issue in November, generating over $1bn. A couple of large reinsurers have set up in Dublin to participate in the upturn without being involved in liabilities." These had not been officially confirmed at the time of going to press.

    The capital of existing firms has also been on the increase in Ireland. For example, Tokio Marine Re's capacity doubled this year and ACE has had a new capital injection. Although ACE has been in Ireland for some time, this is only its second year of active underwriting. "We've been involved in developmental work. We were looking at 2002 to be an important year before September 11. Recent events have crystallised our plans," said managing director, James Hooban.

    Reinforcing the international nature of the reinsurance business further still, large flows of European capital have hit the US market in recent months. Munich Re is ploughing over $1bn into subsidiary American Re and Gerling Global Re has boosted Gerling Global Reinsurance Corp of America's capital by $150m. In the meantime, US companies have been busy topping up their coffers.

    Flight to security
    The general consensus is that those most likely to benefit from the current opportunities are the companies enjoying the highest ratings, with a `flight to security' taking hold. Certainly, anecdotal evidence suggests that the likes of Munich Re and Swiss Re have dominated renewals. However, as Mr Watson pointed out, there is likely to be an element of panic buying. "Those needing primary coverage will be paying through the nose and taking on a higher retention, although a year from now they will rationalise this and move on to the big guys."

    In addition, the new Bermudian capacity will play a role in filling the gap in the high excess sector. Whether these startups are in it for the long-term remains to be seen. It will depend on future loss activity and rating experience.

    At the moment, opinion is divided as to how long the hard market can be sustained. Analysts point to potential brakes on pricing such as the increasing appetite for secondary coverage through the issuance of catastrophe bonds.

    Mr Dinesen added that cedants may not be that keen to purchase too much reinsurance at inflated rates, preferring instead to retain more risk. A couple of the reinsurers Global Reinsurance surveyed for this article confirmed this, finding less reinsurance demand than originally anticipated. Nonetheless, most analysts agree that the outlook for the reinsurance sector is positive for at least the next couple of years. "In the absence of two major losses, there are good opportunities this year and next," said Mr Dinesen. "It is not an absolute certainty, however, that everyone will be profitable. This is, after all, still a risky business."

    By Valerie Denney

    Valerie Denney is a re/insurance journalist.