Disciplined capital deployment, strong pricing drivers of record-breaking year for ILS: AM Best

Rating agency AM Best has highlighted disciplined capital deployment as a feature of the insurance-linked securities (ILS) market in 2023, which, thanks in part to sustained strong pricing in reinsurance, experienced a record-breaking year.

AM Best’s report on the ILS market in 2023 states that disciplined capital deployment paid off for the ILS market.

Among the drivers of a record-breaking year for the ILS market in 2023, according to AM Best, was also the strong pricing levels for reinsurance capital, the lack of a major peak peril insured loss event, continued efforts to de-risk ILS portfolios from frequency risk, and also favorable loss reserve development on Hurricane Ian and Hurricane Ida claims.

Emmanuel Modu, managing director, insurance-linked securities, AM Best, said, “Capital inflows have mostly matched the growth in reinsurance demand rather than exceeded it. The available supply of capital is often being directed to the more remote layers of risk, making low-attaching, frequency-driven coverage still difficult to obtain.”

According to the rating agency, the underwriting changes made to de-risk portfolios have perhaps been even more impactful than price increases for improving results, and with investor and cedent interest in cat bonds remaining high, current market conditions bode well for the ILS market.

As we wrote in early January, third-party capital in reinsurance was more than replenished in 2023, with AM Best and Guy Carpenter estimating that total ILS market capacity rose $4 billion to $100 billion at year-end 2023.

In its report, AM Best pegs the outstanding property catastrophe bond market size at $42 billion at the end of 2023, but notes that it’s challenging to accurately estimate other segments of the ILS sector.

Nevertheless, the rating agency estimates that reinsurance sidecar capacity was largely unchanged year-on-year, at between $5 billion and $7 billion. The company offers the same range for industry-loss warranty (ILW) capacity in 2023, explaining that cedents were “less reliant on this type of capital at the January 2024 renewals because ultimate net loss retro providers stepped up to provide capacity.”

Collateralized reinsurance capacity is estimated at approximately $42 to $50 billion by AM Best, with the firm noting that capital continued to move out of collateralized reinsurance and into cat bonds.

In recent years, catastrophe bond returns have generally outperformed collateralized reinsurance, but as noted by Wai Tang, senior director, insurance-linked securities, AM Best, collateralized reinsurance strategies have also been de-risking with higher attachment points and tighter terms and conditions.

“Results in 2023 vindicated that approach, allowing collateralized reinsurance strategies to post record returns despite global insured natural cat losses exceeding USD 100 billion,” said Tang.

Also in 2023, the ILS investor base experienced the highest returns on record, with AM Best citing the Swiss Re Global Cat Bond Index’s return of 19.69% for the year, and the Eurekahedge ILS Advisers Index return of 13.97%. Both of these beat the previous record set in 2007 of 15.43% and 13.22%, respectively.

After a record-breaking year for the ILS market, during which catastrophe bond issuance, as tracked by the Artemis Deal Directory, hit a new annual high of $16.4 billion, the first-quarter of 2024 has been very active and is on track to be a record Q1 for the sector.