Sidecars are once again becoming a popular means of increasing reinsurance capacity.
Post-Katrina, sidecars – minimal infrastructure reinsurers set up on the fly to boost capacity for established players – became an established entry in the insurance lingo handbook, but the concept is only likely to come in to use when crisis strikes.
At least five new sidecar reinsurers were formed in recent months, backed by up to $2bn in capital. But the concept, first pioneered after 9/11, isn't likely to become established. “Sidecars can fill in at the fringes, but by and large (one) has to reinsure with entities,” said Don Kramer, CEO and chairman of Ariel Re.
The piggyback reinsurers allow larger reinsurers to continue writing high-risk policies but reduce the volatility in their books because the business is done through a separate entity. Investors, who didn't want to make a long-term commitment, poured money into the entities, which are likely to be closed within a few years.
Charles Davis, chief executive of Stone Point Capital, a private equity firm that has long invested in the industry, called sidecars the “sidebar” to the headlines following the $20bn in new capital flowing into the insurance industry after record losses in 2005.
The 2005 sidecars took a page from 2001 – the last time there was a severe dislocation in the industry. And the next set of sidecars aren't likely to happen until crisis hits again, said Andy Barile, an industry consultant. “The capital for sidecars dries up very quickly, as soon as it becomes clear that rates are not going up as quickly as expected.”
In 2001, White Mountains led formation of $500m reinsurer Olympus Re to provide retrocessional reinsurance through a quota-share agreement. And RenaissanceRe formed DaVinci Re. In the intervening years, investors continued to pour money into investments, such as catastrophe bonds, and the sidecar was a concept retired to the mothballs until last year. In June, Montpelier Re partnered with hedge fund firm West End Capital Management to form Cayman reinsurer Rockridge Re. Rockridge fits the sidecar profile by providing retrocessional capacity to Montpelier.
Several more sidecars followed Hurricane Katrina. The most high profile was Cyrus Re, formed by XL Capital in partnership with Boston investment firm Highfields Capital. Montpelier also dipped its toe back in to form Blue Ocean, providing retrocessional capacity to other reinsurers. And White Mountain again tapped investors to rebuild Olympus' capital, and formed a second sidecar, Helicon Re.
Why set up a sidecar? Growing capital demands from rating agencies forced reinsurers to look for new ways to boost capacity while keeping volatility under check. And yet most won't be subject to the ratings process directly. So far, only Flatiron Re, formed by investments from Farallon Capital Management, to benefit Arch Capital Group, has won a rating. Castlepoint Re, a sidecar formed by Tower Group, a New York-based insurance company, also plans to seek a rating from AM Best.