US property cat pricing has finally reached a turn, with events in the first quarter, a tightening retro market and changes to RMS’s cat model acting as significant upward drivers on rates.
Following events in Australia, Japan and New Zealand, attention may well have shifted for a time from the key US market, but its size, scope and potential to turn the market in the event of a major catastrophe mean that the impending hurricane season will be watched with interest. US property cat lines will once more be in the firing line, and with rates having softened still further during the January renewals and having been relatively flat in April, there is some concern that a busy wind season—already kicked off by tornadoes that have caused around $5 billion worth of damage across southern US states according to estimates from Aon Benfield—could expose Bermuda reinsurers to fresh losses during a period when accumulative impacts internationally are already mounting up.
With much of the US wind season ahead of us, it is evident that international first quarter losses have already had an effect on US property cat lines. Charles Cooper, president and chief underwriting officer of Bermuda-based XL Re Ltd, described the impact of first quarter events on attitudes in the US as having prompted a “psychological shift”, with reinsurers “feeling pretty beaten up” after a decidedly tough start to 2011. He was clear that events in Australia, Japan and New Zealand would not result in a “fundamental shift” in the way that US business was priced or approached, but stated that international cat losses had changed reinsurers’ “willingness to go on cutting rates to follow business down”. Tom Hulst, chief executive officer of Ariel Re, echoed Cooper’s sentiments, stating that international events would have an “indirect” impact on pricing, acting as an “amber light” for underwriters as they consider pricing on US property cat lines. Hulst said that circumstances will likely prompt a “more cautious and conservative stance in respect of price, limits and coverage offered”, with the potential for a significant and negative earnings event in the US hurricane season likely to prompt some upward movement on pricing.
The scope of cat losses in the first quarter has meanwhile prompted a further “psychological” impact, said Cooper, leading to an “increase in retrocessional purchasing”, as reinsurers look to cede potentially troubling accumulations of business into the retro market and “protect their capital position going into the hurricane season”. Having taken a punishing from the first quarter, many Bermuda reinsurers are looking afresh at the attractions of the retrocessional market, with recent hardening in retro pricing indicative of the increased interest and activity on such lines. Talking with Chris Schaper, chief underwriting officer and head of Endurance’s Bermuda reinsurance operation, he made clear that “pretty much every Bermuda player is looking to buy some kind of retro protection for themselves” following recent events. “That protection may not all be taken up, but reinsurers are all considering it,” Schaper said, with the market evidently looking to protect itself for the remainder of what might be a busy 2011. It seems that the recent tornado events also have peaked reinsurers’ interest in purchasing protection likely adding further impetus to retrocede business.
Indicative of rising retro uptake has been the level of interest in Alterra’s new retro sidecar, New Point IV, which will be writing property cat business from May 1, and the even more recent launch of Lancashire’s Accordion Re and AlphaCat Re, a Validus sidecar. Described as a “smart move” by James Kent, president of Willis Re, North America, it seems the new sidecars have been fortuitously timed, with international and recent US events once more driving interest in the retro market despite an abundance of industry capital.
The price is wrong
Addressing how the pricing of US property cat lines have been trending, Cooper indicated that rates were “relatively flat during the busy April 1 renewal season”, despite concerns—a hang-up from earlier in the year—that there would be further softening on the line. He said that US property cat could be characterised as a “market in transition at April 1, because of the large number of accounts that were repriced” with the price softening that characterised the start of the year being rapidly overtaken by events. Orders that had been placed for rate decreases of between 5 and 7 percent following January renewals were “repriced ultimately—either one layer or the whole account”, Cooper said, resulting in a “relatively flat effective rate change renewal at April 1”. Schaper went further, indicating that as a result of first quarter losses, industry cat model changes, increasing retrocession and tightening capacity, limits have been reduced and pricing has in some cases markedly hardened. He indicated that prices are “anywhere from flat to 20 percent up...with the upper numbers relating to either exposures or actual losses sustained”. And it would seem that supply and demand has been driving these increases, with Schaper stating that Endurance has been fielding “phone calls from brokers requesting additional capacity”. Such a shift in pricing and limits is pretty remarkable considering that most commentators were predicting further rate decreases for 2011 at the January renewals, with US lines expected to be driven down by fierce competition. In many ways, the shift is indicative of the severity of first quarter losses and of the impact that RMS model changes will have on the line.
Events during the first quarter have acted as a significant upward driver on US property cat rates, with what Cooper termed “pretty dismal reinsurer results in the first quarter” prompting a re-examination of pricing, which ultimately led to the flat April renewals and has raised expectations of rate hardening in June and July. Schaper was likewise clear that recent cat losses had acted as a major driver of hardening rates, but was clear that cat losses were not the sole upward lever. Further—and some would argue more significant—impetus for a hardening of pricing has come from changes to the RMS version 11 property cat model. As Schaper indicated, although RMS model changes have been slow to take effect as the industry looks to “digest the model’s influence on the analysis and pricing of risk”, it already has had, and will continue to have, a significant impact on pricing, “particularly as we head to the January 1 renewals in 2012”. And talking with Kent, he made clear that the “biggest thing happening in the US cat market right now is the change to the RMS hurricane model”, rather than the first quarter’s cat events. Changes to the RMS model look set to increase the footprint of cat events further inland and increase the cost of commercial coverage, with evident implications for US property cat pricing. And it is not only RMS model changes that are having an impact on US property cat pricing, with changes to AIR Worldwide’s cat models back in Autumn of last year being belatedly factored into US rate movements.
"A more cautious and conservative stance in respect of price, limits and coverage offered, with the potential for a significant and negative earnings event in the US hurricane season, will likely prompt some upward movement on pricing."
Circumstances—it seems—have eroded any further “tolerance for giving rate decreases”, according to Cooper, and it seems that continued flattening, or an uptick in US property cat pricing, is likely. However, not everyone is predicting pricing to harden as we move further into the year, Kent indicating that one of the key lessons from international events has been that the US market and its pricing remain attractive. As such, he indicated that from his perspective, there was little expectation of a “wholesale change in US cat pricing for the rest of the year”. It therefore remains to be seen what will happen— whether pricing will harden, and to what extent—and much will inevitably depend upon the US wind season and how cat models are applied across the remainder of the year.
Addressing expectations for pricing change moving forward, Cooper predicted further “upward rate movement as we go into June and July”, highlighting two major indicators suggesting further upward rate movement were on the cards. The first of these was the “increase in the level of interest in, and the pricing of, retrocessional protection” following the string of first quarter events, with “a lot of US cat-exposed reinsurers looking to protect themselves heading into US hurricane season”. Cooper said that speaking with a US retrocessional broker in recent weeks, the broker had told him that he had never been so busy. It would seem that the hunt for additional coverage heading into the key US wind season has turned serious, with retro purchases having an obvious knock-on effect on US property cat pricing as it eats into supply. The second factor will be the industry’s response to RMS model changes, which are still in the “testing phase [with reinsurers] poking and prodding the model and trying to understand the implications of it all”. Such model changes are likely to have a not inconsiderable impact on pricing as we move deeper into 2011, with Cooper predicting that “when you look at industry-wide annual average losses being up 30 to 40 percent [on the back of such model changes], it is very unlikely that people are going to be willing to do anything but increase the pricing somewhat to off-set that impact”.
Schaper, for his part, highlighted recent events, constrained capacity and model changes as immediate drivers of a hardening in the market, but said that more long-term levers were also evident. He pointed to the “availability of retro capacity in the market”, which has been a result of the major cat losses in the first quarter; the ratings agency’s review of the implementation of cat model changes and how they are impacting reinsurers’ PMLs and capital application; and clients’ closer examination of the ratings position of their reinsurance panel. It seems the hunt for retro coverage, greater capital demands as a result of model changes and the pricing implications of placing business with more highly rated reinsurers will prompt further hardening and, considered against a backdrop of a troubled first quarter and a more demanding RMS cat model, it would seem that despite the competitive pricing environment in the US, a fair amount of upward pressure will likely dictate rates in the second half of 2011 and on pricing movements into 2012.
When the wind blows
Much will obviously depend on how the US hurricane season unfolds, especially with the recent tornadoes “adding stress to the system” according to Schaper. A busy season will undoubtedly act as a further upward driver on pricing, whilst—at the same time—testing the application and loss implications of the new RMS and AIR models. Further, and potentially significant, pressure will likely be applied to rates for 2012’s January renewals season, and should a sizable cat event materialise between now and then, renewals would—in the words of Kent—“become very challenging”. Recent tornado losses might just be the start of that challenge, with more devastating events potentially looming on the horizon, and it would seem that sufficient existing drivers of upward rate movement are already in place that should they become a reality, together they might just coalesce into a turn.
Addressing whether a significant event would turn short-tail lines, Schaper said: “No doubt. There is not too much in the till any more.” Following recent events “cedants’ reserves are pretty much tapped out”, he said. US property cat pricing looks about ready for some timely upward movement—it only remains to be seen what implications upward rate movements there will have on other lines and the wider industry. The second half of 2011 look set to be an interesting time.
US, hurricane, reinsurance, RMS, Aon Benfield, Bermuda, Endurance