Hard markets are great, earning cost of capital would be better: S&P

The reinsurance market for short-tail lines is undeniably hard with an outlook for rate growth to hold in 2023, but need not hold well enough to put reinsurance earnings ahead of their cost of capital,  S&P warned, holding the sector outlook at negative.

The current hard market in short-tail reinsurance "will continue throughout 2023" and casualty lines will hold "firm".

Dislocation in retrocession pushed its pricing up "significantly" and will largely heap the pressure on reinsurance still in 2023.

"This dislocation is likely not to be resolved in the following renewals, and that could support reinsurance rate momentum throughout 2023," analysts wrote.

"The question now is whether the pricing improvements are sustainable, and whether they are enough to combat the endless headwinds the sector has faced that have muted performance for the past several years."

S&P is "cautiously optimistic" on the question, but warns the issue "is not done and dusted yet" and reinsurers have to put some proof in the pudding with continued discipline towards further price adequacy.

The snag: reinsurers have failed to earn their cost of capital every year from 2017 through 2022 except 2019, S&P notes of the underlying negative outlook. And the cost of capital is no fixed variable: it's rise in 2022 has raised the bar.

But the gain in both pricing and T&C at the 1.1 renewals is outpacing, pushing the sector to "the tipping point" towards a more stable sector view if discipline holds and earnings clear the cost of capital, S&P analysts said.

S&P isn't the only one that's not yet convinced:  ILS investors are firmly on the side-lines.

"Despite favourable reinsurance pricing, investors remain on the side-lines except for catastrophe bonds," analysts wrote.

Investors in collateralised reinsurance and sidecars are still smarting from losses.

"We believe that investors will continue to favour catastrophe bonds because they have better structure, clear coverage, and liquidity compared with other ILS solutions," analysts wrote.

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