Optimising capital in a dynamic market: insights from Aon

“No insurers or reinsurers have infinite capital; even the largest players felt the impact when interest rates spiked in 2022,” said Patrick Matthews, executive managing director and head of Americas Capital Advisory at Aon’s Reinsurance Solutions.

“Many of our clients are seeing significantly elevated losses and pressures on capital due to increased catastrophe exposure, while at the same time, they are facing rate and retention increase pressure from reinsurers,” added Dustin Loeffler, senior managing director and head of US legacy at Aon’s Reinsurance Solutions.

Loeffler and Matthews may have different role responsibilities within Aon’s Reinsurance Solutions, but their purpose is the same: helping re/insurers to optimise their capital utilisation with clarity and confidence.

With multiple stakeholders, including regulators, investors, and rating agencies, capital management has become more complex than ever before.

“Everyone’s trying to manage through this complexity,” Matthews said. “Some companies may have greater risk tolerance, but regulators and rating agencies often have a lower comfort level with volatility.”

Loeffler added: “Rising interest rates and higher retention levels are forcing companies to reassess their capital needs.

“Premium increases are happening, but this adds pressure on their ratings, particularly when it comes to Best’s Capital Adequacy Ratio (BCAR) or risk-based capital (RBC).

“For personal lines companies, it’s often about premium risk. The combination of increasing cat retentions and taking rate increases on their direct business has created pressure on their BCAR or RBC scores.

“For companies with significant reserve risk, such as those in workers’ compensation or casualty insurance, the situation is different as they can benefit from a loss reserve cover, which allows them to manage capital more effectively,” he continued.

Matthews added: “Many companies are looking for ways to manage their reserve risk, especially in the face of inflation. 

“Structured deals such as quota share agreements can help companies stabilise their capital position.”

As to the impact of rating agencies on capital considerations, Matthews noted that downgrades were more common than upgrades at the moment. 

“Surplus and equity are flat to down for many companies, which is putting pressure on their ratings.” 

“Companies need to be more proactive in managing their reserves.” Dustin Loeffler

Legacy and common mistakes

Another pressing issue for re/insurers is managing legacy liabilities. Loeffler explained that many insurance companies, particularly those with older liabilities such as asbestos or environmental claims, were looking for ways to offload these risks.

“There’s been an uptick in interest from companies with large self-insured retentions, particularly in commercial auto liability, which has been a tough market for the past decade.”

Matthews added that the legacy market often saw more activity in the second half of the year. “As companies prepare for the next fiscal year, they’re more inclined to wall-off legacy issues,” he said. 

“They want to ensure that past liabilities don’t impact future earnings.”

The executives agreed that one of the most common mistakes companies make in capital management is waiting too long to take action. 

“Companies may experience a drop in capital adequacy or higher underwriting leverage and think they can wait to see if the next quarter improves,” said Matthews. 

“Litigation financing has made it more difficult for companies to manage reserve risk.” Patrick Matthews

“But by the time they decide to act, it’s often too late, and the market becomes more expensive.

“We see this a lot with reserve risk: companies delay in taking action and later face adverse development that could have been mitigated had they acted sooner,” Loeffler added. 

While discussing how modelled exposures, such as climate change, affect capital management, Matthews pointed to social inflation as a significant concern. “Litigation financing has made it more difficult for companies to manage reserve risk, particularly in a post-COVID-19 environment,” he said. 

“Nuclear verdicts have led to significant growth in related insurance costs, harming US business competitiveness and consumers, so Aon took a firm stance in this area.”

At the end of September, Aon announced that it had decided not to accept engagements to serve as a broker for litigation insurance transactions insuring US litigation finance businesses.

“We believe that this decision will help contribute to a more sustainable marketplace for all stakeholders,” Matthews said.

Loeffler added that inflationary pressures are not always fully factored into standard actuarial methods. “In a stable inflationary environment, traditional methods work fine. But in today’s market, with inflation fluctuating, companies need to be more proactive in managing their reserves by ensuring their carried reserves properly reflect the possibility that inflation could be 5 percent or greater at some point in the future,” he said. 

Despite the challenges, Loeffler remains optimistic about the future, saying: “We have a robust pipeline of opportunities, and we expect many of these to turn into live deals by the end of this year or early next.”

Matthews concluded: “In a market this volatile, companies that can act quickly and efficiently will be the ones that succeed. Capital management isn’t just about today; it’s about ensuring long-term stability and growth.”

Patrick Matthews is executive managing director and head of Americas Capital Advisory at Aon’s Reinsurance Solutions. He can be contacted at: patrick.matthews@aon.com 

Dustin Loeffler is senior managing director and head of US legacy at Aon’s Reinsurance Solutions. He can be contacted at: dustin.loeffler@aon.com 

For more news from the American Property Casualty Insurance Association (APCIA) click here.

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