Reinsurance buying: changing appetites

Insurers are changing the way they buy reinsurance. Here, we explore the shifting dynamics of the cedant-reinsurer relationship.

Insurers are decidedly bullish at the moment, enjoying an increasingly strong capital position, underwriting profitability and a buyer’s market in reinsurance. Their position has been further boosted by rising levels of convergence capital and a bundled approach to reinsurance buying that is increasing net retentions and driving down reinsurance spending.

As Wolfgang Wopperer, global head of retrocession at Allianz Re explained: “Insurers are enjoying a buyer’s market at present and have been for the past two or three years. We are benefiting from attractive pricing, broader coverage and a more diverse choice of structures.”

Helping matters has been the relative strength of the reinsurance sector, which experienced lower than average catastrophe losses in 2013 and, despite the low interest rate environment, has achieved good profitability, said Franco Urlini, head of group reinsurance and R&D at Generali. Additionally, primary insurers such as Generali have sought to optimise their technical underwriting profit, by revising their retention strategies in light of capital management considerations.

Urlini said that due to general market conditions, demand for reinsurance has not been growing. “I would characterise the reinsurance market as having ample offer, but stagnant demand.” This has led to an increasingly competitive reinsurance market when it comes both to rates and to terms and conditions, he said.

Paula Jarzabkowski, professor of strategic management at Cass Business School, warned that recent trends in the insurer-reinsurer dynamic aren’t simply characteristics of a soft cycle, but that the change is more profound than that. “Changes in reinsurance-buying behaviour are more substantive than cyclical change and may in fact suppress the notion of cycles.

“Primary insurers are paying closer attention to capital efficiency. They are bigger and more diversified and are retaining increasing levels of risk,” said Jarzabkowski. By retaining increasing levels of premium, they are changing the dynamics of the insurer-reinsurer relationship.

Bundled reinsurance buying has been a key development in driving down insurers’ reinsurance spending, with Allianz and Generali both pursuing a centralised buying strategy. As Urlini outlined, “Generali has moved to consolidate its reinsurance buying at the group level, designating its retentions as a group.” This has in turn led to a “huge decrease in reinsurance expenditure”.

Wopperer said that Allianz has similarly moved towards a bundled approach, a development that started back in 2004, “ceding exposures through one source in order to be able to benefit from our purchasing power”. Such an approach has enabled the insurer to gain greater oversight of its aggregate exposures and drive down the cost of its reinsurance buying, he said.

A more bundled approach is likely to favour larger, global reinsurance partners, said Jarzabkowski, with only partners which are able to offer significant chunks of capacity likely to have much bearing on insurers’ buying appetite or allocations. “Smaller reinsurers will increasingly become fairly insignificant voices,” she said.

She also noted that a bundled approach is encouraging insurers to consider reinsurance more as a capital product “there to plug gaps in the programme”. Jarzabkowski said that this would probably make convergence products more attractive in the eyes of primary players in the years ahead.

Addressing the most recent reinsurance renewals, Urlini said that Generali had benefited from rate declines in the 10 to 15 percent range. He said that there had been some expectation of price decreases thanks to the competitive reinsurance environment, but admitted that barring a major catastrophe event in 2014 “some reinsurers will face trouble satisfying their shareholders and remunerating their cost of capital”. Matters aren’t being helped by the influx of convergence capital into the space, he said. “This is playing into the dynamic, with traditional players facing pressure to maintain their position in the market.”

Wopperer said that on Allianz’s core catastrophe programme—SuperCat, which provides coverage in Western Europe, New Zealand and Australia and has been in place for 10 years—the insurer has sought to avoid drastic price or panel changes to its programme, in order “to show our reinsurance partners consistency and continuity”. He said that the programme had shown a great level of stability and was still recognisable as it was at its inception.

Panels: value in continuity

Allianz and Generali both indicated that they value continuity in their reinsurance panels, which have remained stable and substantially unchanged over many years. As Wopperer explained, Allianz takes a “strategic partner approach” to its panel.

Depending on the particular programme, Allianz’s typical panel size ranges between 15 and 25 reinsurers, counting Lloyd’s as a single market, said Wopperer. Generali for its part has a rather more diverse panel, of around 60 markets, Urlini explaining that the insurer values diversification in its panel. “We have a wide panel, which means we are not in the hands of a few counterparties.”

Regarding the make-up of the panels, both said that Bermuda players are a significant component, with Urlini indicating that Bermuda markets make up around 10 to 15 percent of its panel in terms of premiums ceded. Wopperer said that Bermuda players have, since its inception, always been strong on the insurer’s SuperCat programme. Both insurers said that all the big names are to be found on their respective panels, with Wopperer indicating the size of their participation very much correlates with the capacity they provide.

Jarzabkowski suggested that there is likely to be a move towards smaller panels, with a weighting towards a privileged few, but said that a minimum size was likely as no cedant would want to give too much power to a small handful of reinsurers. “While there is some diversification benefit associated with a broader panel, it is largely a matter of power in the hands of the insurer,” she added.

Panels nevertheless tend to be stable, and Urlini said that when considering new panel members Generali “avoids opportunistic partners”. “When we select new reinsurance partners we want to know them, their capital position and their shareholders structure. Equally important is their strategy and their underwriting intentions behind building their portfolio,” he said.

But, as Wopperer explained, nowadays it is very difficult to break into existing panels due to the abundance of capacity in the market. He said that there might be “exceptions for new entrants related to strategic cooperation within the group, but to enter our panel simply due to capital or a good rating would be very difficult”.

Jarzabkowski, however, suggested that there may yet be a place for nimble players able to deploy capital cleverly to take advantage of the increasingly transactional nature of reinsurance buying. She said that in the case of new entrants much would depend upon which insurers they were targeting and what kind of returns they needed to make. She suggested that those that can offer capacity to small to mid-size insurers may be better placed, but that there may also be opportunities with larger reinsurance buyers.

Turning to what they value in a reinsurance partner, the insurers both spoke in similar terms. “Continuity, stable and attractive pricing, and a high level of counterparty security,” said Wopperer. Urlini said that Generali considers the quality of counterparty risk as the foremost criterion, with financial rating and business mix also key factors. He added that the insurer appreciates support from its reinsurance partners “through new ideas, structures and cooperation when entering new geographies”.

Wopperer explained that Allianz has over the years increasingly focused on continuity when it comes to its reinsurance partners—“we are not interested in partners who are hopping on and hopping off during particular periods in the cycle”. Stability is highly prized.

Convergence capital: not for everyone

Convergence capital represents a considerable opportunity for insurers, but it is apparent from talking with the two insurers that their appetite for insurance-linked securities (ILS) and convergence capacity differs. Generali has—to date—not taken advantage of ILS capacity and has not seen business opportunities from collateralised reinsurance.

Urlini explained, for example, that Italian earthquake represents a great diversifier for traditional reinsurers and that as such “we have received fantastic support without ILS so far for this risk”. He added that due to the size of Generali’s cat programme, ILS would be able to take only a small portion of the risk. The market is, however, seeing more European deals and Generali will continue to monitor the potential of alternative capital. “I suspect that sooner or later we will enter the ILS space,” said Urlini.

Allianz has been active in the ILS and swap space, although the focus has tended to be upon its US operations. As Wopperer explained, around a third of its US reinsurance purchase is from alternative capital, while for its wider global book it account for 10 to 15 percent of coverage. Within this mix cat bonds predominate, he said. European alternative capital remains less attractively priced than that available in the US, Wopperer stated, but Allianz is “always checking to see if alternative solutions to the traditional product are available”.

A number of reinsurers have sought to strengthen their position in the eyes of insurers by developing a convergence offering alongside traditional capacity. Jarzabkowski describes such developments as a “survival strategy”, but a potentially positive one that could make such reinsurers more attractive to cedants and brokers.

Wopperer agreed that such an offering is more attractive than a pure investor market. “If it is a company that you are already familiar with, you might have a view on the continuity of their business approach.” The addition of collateralised capacity may be an attractive proposition, he said.

“While collateralised capacity is attractive in mitigating counterparty risk, there is simply not enough capacity in terms of line size yet,” said Urlini. “At present, collateralised capacity makes up less than 1 percent of our panel. It’s not that we don’t like it, it is simply that the offer is still limited.

“Collateralised capacity is still confined to niche players, although we are observing their development with interest,” he concluded.