No signals of collateralised reinsurance influx to disrupt hard market (yet): J.P. Morgan

Thus far, there are no signs or signals that a significant influx of alternative capacity will come in to disrupt the hard reinsurance market, particularly in the collateralised reinsurance space, according to analysts at J.P. Morgan.

Given there is no sign of a significant amount of new capital being ready for deployment into the traditional reinsurance space either, with just a few months until the key January 2024 renewals it seems unlikely at this stage, confidence is building that capital won’t be a major softener of rates this year.

Of course, when it comes to inflows to insurance-linked securities (ILS) strategies, we are expecting more capital to flow to catastrophe bond funds, as well as to private ILS strategies, from reinsurance sidecars to collateralized reinsurance, but in quantity terms, most analysts and our sources are beginning to point to the potential for mid to high single digit billions of dollars (perhaps low double-digits) of capital growth for the sector, which won’t be sufficient to move rates in a meaningful way, it seems.

Analysts at J.P Morgan commented today, “The reinsurance hard market appears to be continuing without any sign of the disruption from alternative capital and with reinsurers taking a cautious approach to recognising higher margins upfront.”

They are particularly bullish on the outlook for reinsurance-linked returns, saying, “Reinsurance remains our most preferred sub-sector with pricing reaching 20-year highs and terms and conditions changes having the desired effect on passing frequency risk back to primary insurers.”

They cite reinsurance market conditions as being “the best they have been in 20 years,” and see no current signs of anything spoiling the return environment too much for reinsurers, which reads across positively for ILS funds.

The analysts from J.P. Morgan see strong potential for margin expansion in the current environment, which again reads across positively for ILS market returns.

Looking at where positive earnings or growth could surprise, across insurance and reinsurance, the analysts explain, “The most salient of the these is for the reinsurers, where the reinsurance hard market appears to be strengthening rather than waning, with pricing continuing ahead of risk cost trends and reinsurance structures continuing to shift in favour of the reinsurers.”

Adding that, “At the same time, there are no signals as yet of a major influx of alternative capital to disrupt this hard market, particularly from collateralised reinsurance.”

While top-line growth has not been spectacular, given reinsurers shift in product structures and attachments, but this could lead to a surprise in terms of combined ratios, to please investors, J.P. Morgan’s analyst team suggest.

Which lines up nicely with commentary from ILS fund managers of late, with many saying that AUM growth is not the focus right now, as price, structure and terms are more important to ensure portfolios deliver the performance investors are looking for.

In fact, we’ve spoken to ILS managers recently who are not planning any significant capital raising efforts for the renewals, feeling happy with their size, their ability to roll-forwards capital commitments, allow long-standing investors to allocate a little more, all while remaining of a size that allows them to double-down on their cedent relationships on the collateralised reinsurance side, while protecting the return-potential of their funds and strategies.

It’s a very different environment to late 2017, when almost everyone raised significant new inflows for the January renewals the following year.

We all know what that did to rates, even despite the heavy losses suffered and that were still developing from 2017.

As a result, at this point (and of course things could all change), we and others like the J.P. Morgan analysts are not expecting a “great reload” into collateralised reinsurance strategies of the scale seen for 2018.

J.P. Morgan’s analysts state, “This reset for the sector looks set to last as there has been minimal capital formation in the industry relative to the undersupply of capital, and catastrophe bonds are not direct substitutes for traditional reinsurance capacity.”

As we said, things can change, but right now investors remain cautious on collateralized reinsurance and retrocession strategies, while fund managers remain focused on maintaining and steadily building their deployable capacity to meet the needs of trading partners and seize the opportunity, while not softening the market.

Of course, that discipline could evaporate as we move closer to year-end, especially if major investors start looking for ways to get into the market in a hurry.

There are certain to be inflows and we hear positive noises from most ILS managers on building out their capital bases again, but under the parameter of replacing lost and trapped capital, rather than seeking significant asset under management growth in a hurry.

As an aside, the one area where capital could become a more meaningful factor is retrocession, we hear. .

There are noises being made, in some quarters, about the need for new products that can better address retro buyers needs on frequency and aggregation, which we understand have led to some product design efforts and some investor conversations as well. But at this stage there’s no certainty these come to fruition at pace, or perhaps ever get beyond the drawing board. Time will tell.