No easy ride: accessing the untapped potential of LatAm

11-05-2016

No easy ride: accessing the untapped potential of LatAm

Axstokes

Economic growth makes the Latin American markets a potentially lucrative opportunity for Bermuda’s reinsurance sector. Bermuda:Re+ILS investigates.

The reinsurance markets of Latin America have often danced to a different tune but global reinsurance firms are now doing the quickstep to gain what are seen by some as among the most robust and lucrative portfolios in the region.

“Despite sluggish economic growth and troubling inflation in key markets, the 2016 insurance market outlook for Latin America remains relatively bright,” reads the opening sentence in the 2016 EY Latin American Handbook.

The last 20 years for Latin America as a whole have been punctuated by the economic and financial crises of the 1990s and, more recently, by political upheaval. But GDP of the region has grown year on year since 2003, and crucially, economic development seems based on firmer foundations.

The LatAm market is currently in a state of flux. New opportunities and increasingly favourable conditions in the largely untapped reinsurance market are anticipated to drive strong growth for insurers, and 2016 is likely to see a scramble among global investors seeking to build a strong portfolio in the region.

“As markets develop in Latin America, commercial demand is increasing for new forms of insurance coverage, such as environmental liability. The opening of the oil industry in Mexico to the private sector, for example, is exposing new oil exploration and production entrants to potential losses from environmental damages. But market capacity is still restrained in key markets, such as Brazil,” states EY.

New streams of business

In the UK, reinsurance broker Aon Benfield is preparing to go live on its cross-class LatAm facultative facility this year, which will give London-based reinsurers access to a new stream of income in 2016.

"The devaluation of the Brazilian real and the economic uncertainties offer good opportunities for companies with US dollar resources.” Carlos Caputo, Markel Latin America

Wider competition across this diverse land bloc comes in the wake of a general loosening of protectionist industry regulation which has previously stymied the reach and potential of international brokers in the region.

“The liberalisation of industry regulation across Latin America has opened insurance markets to wider competition,” states EY.

“The abundance of insurance capital has intensified competition from various directions: from global insurers seeking a foothold in the region, to local insurers looking to expand cross-country, to entrenched insurers defending their turf.

“These competitive trends are keeping insurance rates flat through much of the region and, in some cases, pushing them lower. The most substantial rate decreases have been in non-catastrophe property,” explains EY.

During recent years, insurance regulators in Latin America have also been working to transform their solvency requirements—reflecting a worldwide trend towards more robust rules governing insurance solvency. Across the region, countries are at different stages within this process. Mexico was the first to introduce a Solvency II capital framework, making it one of the leading LatAm countries in this respect.

Some players see opportunities in this.

“The intention to increase the solvency margin requirements for insurance companies will increase the need for locally owned insurers to seek partnerships and/or joint venture arrangements with strong international companies,” says Carlos Caputo, chief executive officer at Markel Latin America. “That’s good for companies like ours, with a clear, long-term commitment to the region.”

The increased freedom to operate in LatAm opens up a wealth of opportunity but Caputo points out that investors need to select their markets with care, as generalisations about the region can be misleading.

“Argentina, with its recently elected President Mauricio Macri, has announced a number of initiatives to enable the country to return to normality with the international community,” says Caputo.

“The most notable has been the renegotiation of the external debt with holdout foreign investors, the success of which will mean renewed access to financial markets and a boost in investment in infrastructure projects in the next three to four years. There will be great opportunities, particularly for Markel, with our surety portfolio.”

Other states

Brazil, which has been plagued by endemic corruption and a series of toppled government figures, remains unstable, and its continuing protectionist stance is a source of frustration to investors.

“Brazil is faced with political turmoil and is caught in a difficult economic cycle,” says Caputo.

“Given the current political uncertainty, it is possible a new government may be in place before the end of 2016. It is a volatile situation which we need to follow closely because the country’s prospects will be very dependent on the party or coalition elected to power.

“However, the devaluation of the Brazilian real and the economic uncertainties offer good opportunities for companies with US dollar resources.”

Meanwhile, Colombia is inching closer to a long-awaited peace agreement between the government and FARC (the country’s wealthy guerrilla army, which terrorised Columbia’s oil industry last year).

“It is expected Colombia will emerge as a new country following this, with an increase in infrastructure investment particularly in the sectors not previously fully controlled by the government,” says Caputo.

The opening up of the LatAm reinsurance market comes while commercial customers are pressing for more sophisticated insurance solutions, including coverage for business interruption, cybersecurity, civil unrest, and errors and omissions.

“Latin American consumers, many of whom are young, cosmopolitan and tech-savvy, will continue to push for new insurance channels and services that fit with their lifestyle,” states EY.

“To respond, insurers will need to simplify and adapt products for millennials, and sharpen their focus on mobile and social media interactions. Evolving customer needs throughout the region are compelling insurance companies to rethink their strategies, processes and services.”

The rise in customer expectations accompanies an increasing focus on digital technologies within the Latin American market—and it’s expected that this digital disruption of the market will prompt a re-think of existing business models.

“The rise of financial technology, or fintech, companies is causing insurers, particularly in the consumer insurance sector, to reconsider their business models and increase their investment in new digital technologies,” says EY.

“Despite a desire to avoid conflicts with legacy models, insurers realise that flexibility, efficiency and innovation are critical for success in a more demanding marketplace.”

Global warnings

As well as navigating the complex and often fluid LatAm landscape, reinsurers also need to weigh up the risks that the global economic slowdown may pose for the region.

Shrinking demand for natural resources, such as oil, one of the region’s main exports, threatens the economic health of the region and its insurance markets. Reduced demand from China, one of the main export markets for LatAm, is already impacting the region, and if the Chinese slowdown intensifies it would jeopardise the embryonic middle class that has slowly been expanding in the region, and which has been a key factor in its economic growth.

Wobbly inflation rates are another worrying part of the mix, as local inflation and ensuing currency devaluations have reduced insurer profitability.

The EY handbook says that although LatAm has made huge strides in stabilising inflation across the region, there is still wide variation between countries—with Venezuela (18 percent) and Argentina (17 percent) at one end of the spectrum, and Mexico, Chile and Peru at the other end, with rates below 5 percent. Brazil, the region’s largest economy, has experienced a worrying rise in inflation to close to 9 percent for 2015.

Huge untapped potential marks Latin America out as a region of great opportunity for the Bermudan reinsurance market, and global investors are already making headway here, but it’s far from easy.

 

EY, Markel, Carlos Caputo, Reinsurance, Latin America, Bermuda

Bermuda Re