Why Hannover Re is not better off than Munich Re

Recent news from Hannover Re makes the company look as if it’s sailing the current choppy markets fairly well.

Hannover Re said that it expects its 2016 profits to exceed expectations, generating a net profit of around €1.17 billion in 2016, surpassing its profit target of at least €950 million for the year.

Earlier on, Hannover Re has raised its expectations for its profits and premiums written in 2017 as it said it was satisfied with the outcome of the January 1 treaty renewals. As a result of this growth, the company raised its premium target for 2017 and now expects an increase in the low single-digit percentage range.

Hannover Re has also raised its group net income target for 2017 from more than €950 million to more than €1 billion.

In comparison, its bigger competitor Munich Re appears to be struggling in the current soft market.

In 2016, the group’s gross premiums written declined to €48.9 billion from €50.4billion in the previous year. Consolidated profit dropped to €2.6 billion from €3.1 billion over the period.

In addition during the reinsurer’s 2016 results press conference, CFO Jörg Schneider noted that for 2017 there is no reason to expect Munich Re to exceed the 2016 earnings.

But when asked during the conference by a participant, why Hannover Re seems to be dealing much better with the low rate environment, Schneider noted that Hannover Re’s increased 2017 profit is still below of what it achieved in 2016.

In addition, the higher 2016 results would only mean a small increase on the €1.15 billion it made in 2015.

Both companies saw market rates further shrinking in the past January renewals. According to Munich Re, rates dropped by of 0.5 percent in P&C January 2017 renewals.

The company experienced “continued pressure on XL (excess of loss) business, while price decline for US natural catastrophe was “lower than in the past.” The proportional business, however, remained resilient.

And Hannover Re’s experience has not been much different. At the January renewals, “there was an oversupply of capacity both from traditional markets as well as alternative markets,” Jürgen Gräber, Hannover Re member of the executive board for coordination of worldwide P&C reinsurance, commented during the company’s conference call on property/casualty (P&C) treaty renewals. “This was the fourth consecutive year of rate reductions in many lines of business, some of which actually were below the technical minimum.”

Munich Re’s Schneider noted that reinsurers have been lucky that in recent years there haven’t been any major large losses. The company’s P&C combined ratio deteriorated to 95.7 percent in 2016 compared to 89.7 percent in 2015. The absence of large losses has made price negotiations for reinsurers difficult, he commented.

However, Schneider added that the 2017 renewals saw the lowest rate reduction in many years and that there are strong signs for price stabilisation. Both reinsurers have nevertheless shed some exceptionally affected business, particularly in China.

New regulation has changed reinsurance demand in China where competition has anyway been particularly high, Schneider said. Because the business involves very large primary insurers, any changes have strong implications for total volumes, he explained.

Hannover Re has also reacted to rate pressure in China. Within Hannover Re’s global reinsurance, a selective approach in China caused worldwide P&C treaty reinsurance premium to drop 17.1 percent year-on-year to €776 million in the January renewals.

It proved impossible to avoid making share reductions in unprofitable business - above all in China -, which consequently led to lower premium income in this market, the company said in a statement.

“We have done a deep-dive about the profitability and only wrote those treaties where we felt the profitability is up to our margin requirements and this led to a reduction between $50 million to $70 million in premium volume just to our Chinese business,” Gräber said.

Hannover Re is also shrinking its exposure to specialty lines worldwide like marine and aviation. In marine, premium volumes shrank 9.2 percent year-on-year to €113 million in the January 2017 renewals.

“The marine business has had [rate] declines in the last couple of years despite meaningful loss activity,” Gräber said. “We saw the rates in our book declining 7.5 percent to 10 percent,” he noted.

Low rates are also driving Hannover Re to shrink its aviation book, but the company claims that it is still making money with it.

Munich Re’s P&C premiums shrank 4.9 percent year-on-year to €8.54 billion in January 2017 renewals as the company shed business which was not matching profitability expectations.

Nevertheless, both Munich Re and Hannover Re remain optimistic about the US market. During recent renewals, Hannover Re has expanded its premium volumes in the US, driving its North America business volumes up by 6.5 percent to €980 million. The economic recovery in the United States led to an increase in insurance premiums and hence to solid demand for reinsurance protection, the company said in the statement. The pressure on rates has eased appreciably, the company added.

SCOR is also eager to grow its US exposure, which drove the French reinsurer’s overall P&C premiums up by 5.4 percent during January 2017 renewals at constant exchange rates to $3.2 billion.

Unlike emerging markets, mature markets offer higher growth potential as cedants are more focused on quality than price, Victor Peignet, CEO of SCOR Global P&C, said during a renewals market briefing.

However, during latest renewals, the company’s overall technical profitability and risk-adjusted pricing declined further by 0.3 and 0.6 percentage points respectively, compared to January 2016.

Not only underwriting profitability is under pressure, reinsurers’ profits are also being squeezed through the low interest rate environment that is pressuring investment returns. And there is little hope for this to change in the short term.

Looking at pressure from interest rates, it would be unrealistic to expect operating conditions to change quickly, Munich Re’s Schneider said.

Munich Re’s return on investment in its reinsurance operations, excluding its primary insurance unit ergo, fell to 2.5 percent in 2016 from 3.2 percent in the previous year.

But Hannover Re and Munich Re emphasised different strategies to overcome the challenges of current market conditions.

Munich Re believes that its business model will in the future rely increasingly on fee income and less on premium income, Schneider suggested. Munich Re’s services are set to be remunerated via other means than insurance premium, he believes.

“I am convinced that through innovation and digitisation trends we will see many types of remuneration which will not result in higher premiums but which have great profitability potential,” he said.

With respect to digitisation and innovation, Munich Re is engaging in partnerships with startups, which can result in great growth potential in connection with Munich Re’s business resources, Schneider noted.

In May 2016, for example, Munich Re has partnered with PrecisionHawk, a global drone data platform, to enhance insurance assessments worldwide. The aim is to provide faster response times and increased reporting accuracy in the aftermath of a natural disaster.

In January 2017 Munich Reinsurance America (Munich Re, US) has created a key strategic position in its reinsurance division to help clients seize opportunities resulting from the rapidly developing field of insurtech.

Also in January, Munich Re helped funding insurtech start-up Bought By Many which uses social media and search data to offer “insight-driven insurance” to customers. Munich Re also has a long-term insurance agreement with the firm.

Apart from partnering with startups, Munich Re is investing in data analytics. But such action is likely to take time to bear fruit.

“This is not harvesting time, but time for very determined investing,” Schneider explained.

Munich Re is preparing for a different future; reinsurance will change, Schneider said. Natural catastrophes will continue to play an important role, but a lot will have to do with balance sheet management requiring tax and accounting know-how, with regulatory optimisation, removing undesired volatility for clients. This business will become increasingly important, Schneider said. In addition, Munich Re is expanding its business in adjacent areas, namely primary insurance and data management. “We firmly believe in this expanded definition of reinsurance,” he said.

Hannover Re, on the other hand, is focusing on structured finance solutions to boost income.

“Our financial solutions business is going well and we still have a very good pipeline of treaties,” CEO Ulrich Wallin said during the conference call. “For the future development we are quite optimistic for that business,” he added.

Structured reinsurance deals are tailor-made solutions to assist primary insurance clients to increase the efficiency of their capital management, optimise their balance sheet and manage their earnings volatility.

Hannover Re sees an increasing demand from primary insurers for capital relief transactions, driven by Solvency II in Europe and by rating agencies' capital assessment in the US and in Latin America.

Structured transactions are deemed as fairly profitable, offering an opportunity for reinsurers to boost income in an otherwise challenging operating environment.