Profit deterioration prompts Fitch to put sector on negative outlook

Reinsurers’ profits in 2017 are expected to diminish as a result of both softening premiums and lower investments returns, according to Fitch Ratings, which has placed a negative outlook for the sector as a result.

Smaller, less diversified firms are likely to see rating pressure in tough market conditions, as they are reliant on business lines that have seen profits margins diminish, the rating agency said.

Furthermore, thinning underwriting margins are expected to leave the industry more expose to an uptick in major loss claims.

“Although we have seen an uptick in losses, the magnitude is not significant enough to drive pricing across the market,” said Martyn Street, co-head of reinsurance, speaking at a Fitch Ratings press briefing.

Profit deterioration was seen as the key risk for reinsurers in 2017, due to the combination of excess capacity and low investment yield environment.

“Reinsurers' investment portfolios often have an average duration of less than three years, so the need to regularly reinvest at lower yields can weaken investment returns significantly,” said Fitch.

As increased competition continues to cause profits to decline, Fitch suggests reinsurers are likely to divert more of their underwriting capacity to sector where margins are currently more attractive, such as casualty.

Fitch said this will lead to pricing pressure in these sectors, pulling down margins and contributing to lower profits for a significant number of reinsurers in 2017.

Despite this, Fitch’s reinsurance rating outlooks are stable, reflecting its expectation that, despite pressure on earnings, most reinsurers will be able to maintain credit metrics commensurate with their current rating over the next 12-18 months.

Downgrades or negative outlooks could result from further deterioration, however.

Finally, Fitch suggested thinning underwriting margins in the past four years have made reinsurers’ earning more sensitive to even a modest uptick in major claims losses, and expects this to continue in 2017.

Fitch believes the ability to generate a reserve surplus from earlier underwriting years will become ever more important and increasingly difficult.

“Surpluses will provide the flexibility to supplement future results, while a need to top-up reserves would be very difficult in a competitive and highly price-sensitive market,” said Fitch.