Many factors that insurers encountered in 2020 likely will continue to impact the financial performance of the U.S. property/casualty (P/C) industry in 2021, with last year’s results reflecting a still-firm commercial lines pricing environment and higher-than-average catastrophe activity, according to AM Best’s annual Review and Preview market segment report published in February.

AM Best explained the battling negative and positive forces in its Market Segment Report titled Global Reinsurers Maintain Equilibrium through COVID-19 Turbulence, which was released Sept. 2.

Negative factors include increased uncertainty on claims reserve development associated with previous years’ property catastrophe events; social inflation, and more recently, business interruption and casualty lines related to COVID-19. Combined with an overcapitalized sector, these factors have translated into reinsurance companies struggling to meet their cost of capital.

On the positive side, reinsurance renewals during the first half of 2020 started to show strong momentum, with clear signs of a hardening market. All of which is reinforced by third-party capital providers reassessing their role in the industry after being affected by loss creep, trapped capital and a perceived higher risk as a result of discrepancies between actual and modeled claims experience.

In August, AM Best organized a webinar for a panel of experts to discuss the reinsurance market. Best’s coverage of the panelists’ discussion is five pages of the 89- page Market Segment Report. AM Best’s Meg Green moderated the panel, which featured Carlos Wong-Fupuy, See REINSURANCE Page 6 senior director of Global Reinsurance Ratings,

AM Best; Scott Mangan, associate director, Global Reinsurance, AM Best; Silke Sehm, executive member of the board, Hannover Re, and Jonathan Isherwood, CEO of Reinsurance Americas, Swiss Re.

Wong-Fupuy led off the panel by saying that Best’s stable outlook on the reinsurance segment does not mean nothing changed. To make his point, he described a number of developments, both positive and negative, in the past year.

He attributed Best’s negative outlook between 2014 and 2018 to excess capacity. “Excess capacity from traditional capital and a continued influx from third-party capital providers were pressuring rates,” he said. “The result was soft market conditions, low investment returns and companies struggling to meet their cost of capital.”

According to Wong-Fupuy, AM Best changed the outlook to stable at the end of 2018 because things were stabilizing, albeit at a lower level. “Expectations for return on equity were definitely lower than what historical trends would have suggested,” he said.

Over the past three years, Wong-Fupuy pointed out, claims activity has increased. Natural catastrophes have caused thirdparty capital to look at insurance risks more closely. Their skepticism is not just about losses. Concerns relative to loss creep and trapped capital emerged.

Wong-Fupuy noted that the situation is complicated with COVID-19 increasing the expectation of an improvement in pricing on the one hand, while there is concern about claims on the other hand.

Despite the stable outlook, Wong-Fupuy believes that all companies will not respond the same; their differences will be exacerbated.

Mangan speculated that it could take a while for reinsurers to flush off their balance sheets and take advantage of rising rates. He is not sure that anyone knows what COVID-19 losses will look like, but they could affect companies’ ratings. Market conditions, he said, will affect companies differently, and he’s not sure what rating action will be taken.

Despite the stable outlook, Mangan said, some reinsurers may not be able to weather the conditions because of lagging Enterprise Risk Management practices, business profile, capitalization or operating performance.

Hardening market brings new money Sehm said, “We definitely see capital flowing into the reinsurance space.” She added, “New money has been coming in to start new reinsurance companies.” According to Sehm, the number being mentioned is about $4 billion in comparison to the Bermudan class of new companies after the 2005 hurricanes, which was around $5 billion, and the class of 2001 after the attacks on the World Trade Center, which was $8 billion.

“Clearly, there is a change in rates,” Isherwood said, which accelerated through the first half of the year, from January through June/July renewals and across most lines.

According to Isherwood, there is a lot of capital looking at returns for the last few years that don’t meet expectations. At this time, Mangan opined, specialty and E&S type business seems to have a lot of the momentum going forward.

Wong-Fupuy said that companies need to recover from underperformance, adding that the settlement process for losses is taking longer than expected. Property catastrophe risks have a tail because of loss creep, which affects reinsurers’ ability to swiftly enter and exit the market. Even if there is not a dramatic decline in availability of third-party capital, growth could slow down and investors become more selective.

Isherwood said there has been some retrenchment. Those set up to generate asset returns were not so successful. He pointed out that 2018 was “the worst typhoon year ever,” and it was followed by 2019, which was “even worse.”

Wong-Fupuy said that companies required return has increased and that there are risk tranches in which the return “may not be met.” He observed that new capital is mainly coming from traditional capital providers.

Panelists indicated that escalating reinsurance pricing is not being driven by capital depletion as it was in 2001 and 2005, when capital depletion resulted in widespread market hardening.

Mangan opined that underwriting discipline is the key to this hardening market, in contrast to hard markets in the past. He is not certain that the market hardening is as widespread as it was in 2001, and to some extent, 2005.

He explained that the underlying mechanics of the current hardening market are different. This time around, there is uncertainty relative to COVID-19, and there is uncertainty about the investment environment going forward. Supply and demand issues are not driving the rates up, market uncertainty is.