A promising 2018 awaits re/insurers

The year 2017 will remain a prominent one in the re/insurance industry due to an unusually strong hurricane season in North America. Hurricane Harvey has caused billions of losses in Houston through floods, hurricane Irma hit the Caribbean and Florida and it was later followed by hurricane Maria. Including two earthquakes in Mexico, the natural catastrophes in the third quarter of 2017 are expected to cause around $100 billion in insured losses, severely impacting non-life re/insurers’ underwriting results. The combined ratio of US P&C insurers is forecast to rise to 109 percent in 2017 from 101 percent in 2016, according to Swiss Re.

In addition, wildfires in California that broke out in October 2017 are set to become the costliest wildfire loss in US history with estimates putting insured losses at around $8 billion. The majority of insured losses from the fires are expected to be in the personal lines segments, as a significant number of the structures destroyed were residential properties, according to Fitch Ratings. High winds pushed fires into urban areas that were considered to be lower risk for wildfires and consequently wide swaths of homes across numerous communities were affected.

The combined ratio in non-life reinsurance is estimated to hit 115 percent in 2017, with most increase due to the hurricane losses, but also a number of other nat cat events including cyclone Debbie in Australia, earthquakes in Mexico, and wildfires in California and Southern Europe, according to Swiss Re data. As a consequence, overall global industry profitability (ROE) for the full year is forecast to come in at around minus 4 percent.

2017 was “a little painful profitability-wise on the underwriting side,” said Swiss Re chief economist Kurt Karl during a November media briefing in London.

The third quarter nat cat events are expected to become a capital event for some re/insurers and not only an earnings event. In some instances, insurers could ultimately report aggregate 2017 catastrophe losses at levels that strain capital and pressure ratings, according to Fitch Ratings. The global non-life insurance industry profitability has declined in 2017, with return on equity (ROE) down to 3 percent in 2017 from 6 percent in 2016, driven by soft underwriting conditions, low investment yields and catastrophe losses.

The losses have hit the industry in what is described as a soft market. Rates in property/casualty have been falling steadily in recent years as investors created overcapacity in the market as they sought higher yields in a historically low interest rate environment as well as diversification. The absence of large losses further drove rates down.

Alternative capital keeps flowing into the market. Despite pressure on pricing, the total issuance of insurance-linked securities (ILS) was $9.8 billion in the first half of 2017, exceeding the highest total annual volume since 2009, according to the Bermuda Monetary Authority. The total nominal amount of outstanding ILS grew 17.6 percent year on year to $29.5 billion over the period.

But the ILS market has also been hit by the 2017 nat cat events, and the industry is now closely watching how investors will react.

Rates to rise in P/C

The losses in the third quarter of 2017 will strengthen reinsurers arguments for rate increases in the renewals negotiations, leading to rate hardening in both non-life insurance and reinsurance.

“Price rises in loss-affected segments are already happening and could be substantial,” Karl said.

“The ultimate volume of losses is not yet known, but appears to be large enough to cause price increases beyond the affected sectors. This is also happening because prices have fallen so low over the past few years.”

Property cat reinsurers are most bullish, with some expecting double-digit rate increases, according to Morgan Stanley analysts. More importantly, a brighter pricing outlook emerges in primary commercial lines. Primary insurance rate increases could be more gradual but more durable, according to the analysts.

The third quarter nat cat losses have reduced capacity in the reinsurance market, according to Swiss Re. The 2017 hurricane season has had a major impact on the balance sheets of the global reinsurers. According to company disclosures, the hurricanes caused losses of between 7 percent and 14 percent of global reinsurers’ capital, and are expected to absorb the industry’s net income for the year. Alternative capital vehicles have also been substantially affected by the 2017 hurricanes, given their high exposure to Florida-related risks and the retrocession market. Significant amounts of collateral in affected contracts are either paid out or “trapped” after putting up loss reserves. These amounts will therefore not be available in the upcoming renewals season, which is likely to further improve the rate environment.

Economic growth boosts demand

Re/insurers face further support from an upswing in the global economy after the growth momentum improved in 2017. The euro area is forecast to grow by around 2 percent in 2017 and 2018. In the US, gross domestic product (GDP) is forecast to grow by around 2.2 percent in 2017 and 2018.

Global non-life premiums are expected to rise by at least 3 percent and life premiums by about 4 percent in real terms annually in 2018 and 2019, according to Swiss Re estimates. The main growth driver of premium volume will be emerging markets, particularly Asia. In emerging markets, premiums are forecast to rise by 6 percent to 7 percent in real terms annually in 2018 and 2019. This growth reflects stabilising economic conditions in most regions and trends towards urbanisation as well as rising home and car ownership.

Overall, profitability in non-life insurance is expected to strengthen in 2018 and 2019 as underwriting conditions turn more favourable, according to Swiss Re research, estimating an industry ROE reaching 7-8 percent for each of the years.