Run-off is growing fast, but there could be trouble ahead

It may be about old business, but it’s a young market: legacy insurance is growing fast —partly because it’s still in its nascent phase.

To discuss legacy’s potential—and the potential growing pains—Intelligent Insurer brought together a group of experts from across the industry: Jim Bichard, PwC’s global insurance leader; Tom Booth, group chief executive at DARAG; Will Bridger, chief executive officer of Compre Group; and Andrea Piatti, managing director for global risk solutions in EMEA at Guy Carpenter.

According to Piatti, while the legacy market has been growing for some time, it’s accelerated recently—with an expansion in the number and the type of deals.

“The last 12 to 18 months have been very active for us on the legacy side,” he said. “We’ve worked on a number of run-off transactions, not just mergers and acquisitions, but also retrospective insurance such as loss portfolio transfers (LPTs), reinsurance LPTs and adverse development covers.”

That has been accompanied by an expansion of run-off geographically.

“The second big theme is how much more global it is,” explained Bichard. “It’s still a relatively new concept in the US with the insurance business transfer rules, but Bermuda has been relatively active, and we’re seeing deals now in continental Europe and Australia.”

Still learning
The growth of the market is not without challenges, however. The most obvious is that, as a young market, it still suffers from misconceptions—even down to what “legacy business” means.

“It’s very easy to think about run-off as something quite old, but technically we define legacy as anything more than two years old,” said Bichard. “You could argue it could be even less than that.”

Piatti agreed that there’s still a need for education—and not just among potential users. “We still have a lot of work to do to sell the legacy market to clients but also to regulators to make sure that they understand its value and the benefits of separating the source of capital on the balance sheet depending on the underlying risks,” he said.

At the same time, the rapid growth of the market has brought new entrants and increased competition in some markets.

“Particularly in the Lloyd’s market, competition has been extreme. Pricing has been extremely tight,” said Bridger. Compre can cope with that through its operating model, which allows it to “dip in and out” of different markets. It’s also active in the US and continental Europe, for instance, he added. Not all businesses share that capability.

“We have seen a number of new entrants, and it is difficult for some of those unless they have a low-cost model where they can come in and out,” said Booth. “There are also inefficiencies of capital structures when you have a less diverse and smaller book.”

Tight markets underline the need for underwriting discipline, Booth added. “Once you’ve done a transaction, you live with it, so pricing mistakes on the inward side are painful,” he said.
“You have to be extremely disciplined. It is also a lumpy business, and if you are in growth mode you have to make sure that you distribute that risk appropriately.”

Again, that could prove challenging for smaller players, given the investment required—in both expertise and geographical presence. The US, for instance, is a key growth market but requires local resources, he said.

“If you’re in legacy, you have to be there; you have to have a strong team on the ground. You can’t manage US risks from London; you have to build that expertise. The US is 50 different markets, and within those markets, there are huge differences even in lines of business,” said Bridger.
“Workers’ comp in California has very different dynamics from the system in Florida; the same from medical malpractice or construction defects. You need to have access to expertise.”

Booth agreed: “The perennial problem for run-off groups is trying to get a diverse portfolio and marrying that with expertise. It’s not easy.”

It is only going to become more important given the challenges ahead.

Trouble ahead: inflation worries
Future concerns vary and include issues that are worrying other parts of the industry. Climate change is an obvious concern. As Bridger noted, the impact on casualty classes is still unclear.

Ultimately, though, climate risks could be as much an opportunity as a risk for legacy insurers. Bichard noted that, while the physical risk of climate change has less impact on the legacy markets than elsewhere in the re/insurance industry, transition risks could prove a significant source of business in future.

“As an insurance sector, we are just at the very beginning of understanding that and therefore being able to price and underwrite it correctly in the live environment. There has to be a legacy opportunity off the back of that,” he said.

More immediately concerning is inflation: social, medical, and general. It’s the key concern, said Booth, partly because of the uncertainty.

“It is quite hard for anyone to say how long it’s going to last and at what rates, and it’s uncertain with portfolios exactly how much it affects reserves,” he said. “I am concerned about it and think that some of the pricing in the market is not really considering those inflation risks.”

Bridger agreed. “Inflation’s keeping me awake at night. We’re seeing portfolios coming to the market that don’t have the current levels of inflation baked into their reserving—either medical, claims, or general wage inflation,” he said.

“I don’t think it is yet in our clients’ books, let alone in the transactions we’re looking at.”

Just like increased competition, this is unlikely to halt the growth of a market whose potential many are only beginning to realise.

“I still fundamentally feel we’re so early in the journey of appreciating what legacy can do as part of portfolio optimisation that there’s probably many multiples of the size the market we’re seeing now,” said Bichard.

It will mean, however, that now, more than ever, legacy insurers must proceed with caution.