A pivotal deal amid change
Despite whispers of a deal first emerging more than six months ago, the rumoured partnership between ACE and fund manager BlackRock, under which the two would form an internal reinsurance vehicle capitalised by alternative capital to manage a portion of ACE’s ceded premium, remains a hot topic on Bermuda.
A source told Bermuda:Re+ILS that the new vehicle—believed to be called ABRRe—is now fundraising in the region of $1 to $1.5 billion. But what would be the implications of such a deal for the traditional reinsurance markets?
The most obvious implication would appear to be that the rumoured captive would take a significant chunk of business out of the traditional and brokerage markets—and if other players follow suit and adopt similar solutions, this effect could increase many times over.
“From a pure traditional reinsurance standpoint I would expect people to be worried,” a source told Bermuda:Re+ILS.
But the source also added that it was almost inevitable that large companies such as ACE are seeking diversification—both in terms of their supply of capital and, potentially, depending on how the deal works, their sources of income. “Big reinsurance companies have to diversify, and they have to look at how to use their capital.”
It all depends on how the new vehicle will work, of course, and both ACE and BlackRock remain tight-lipped on the matter. They were both asked to comment on this article and either declined the invitation or did not respond.
On the one hand, ACE could simply use the vehicle as a kind of jumbo in-house captive, potentially saving it a fortune on its traditional reinsurance programme while also offering it diversification in terms of the partners it is transferring its risk to. This arrangement could clearly boost the company’s income streams as well but it would not be the main point of the deal.
The second, more interesting, structure it could use would be to use the vehicle as a type of sidecar available to underwrite primary business, with ACE receiving fee income in the same way reinsurers using such similar arrangements do. This would clearly be a very efficient way of diversifying its income stream.
Rumour has it that ACE is edging towards this second model. Details notwithstanding, it looks as though the deal would make sense from a diversification point of view, and there seems to be little doubt that others could seek to emulate the ACE/BlackRock model.
Whatever the precise details, the implications for the traditional reinsurance and brokerage markets look stark.
“Who will be affected the most is an open question but for me it is obvious that the traditional broker approach will be affected substantially,” said the source.
Tokio Millennium Re vice chairman Tatsuhiko Hoshina believes that, as deals of this kind offer clear benefits for both capital market investors and the insurer, more will follow.
“It gives good diversification for the hedge funds who want a very stable, diversified portfolio, so it would be interesting to see whether you will see other companies establish something very similar. Global companies would definitely benefit.”
While he concedes that this will affect the traditional reinsurers, he believes the brokers are as vulnerable.
“It certainly takes a large chunk of premium out of the market and the pies become smaller, so it becomes more competitive in that sense,” he says. “However, I think it is more worrying for the brokers because the investors behind it will get into this deal without an intermediary. It poses a big threat for the big players such as Aon, Willis and Guy Carpenter who have the large global cedants as clients.”
The broker’s view
Paul Markey, chairman of Aon Benfield Bermuda, agrees that the situation needs close scrutiny, but he believes that if brokers adapt wisely, they will continue to thrive.
“There are a few companies like ACE that are capable of structuring these arrangements at this juncture and it’s a very interesting opportunity for discussion,” he says.
“ACE is a very powerful and highly regarded company and it doesn’t surprise me at all that people are talking to them about this type of deal, or that they’re willing and able to consider it, because they are in a position of strength where a deal like this is interesting to a company of ACE’s calibre.
“In theory, if more deals of this type emerge, it could affect the brokerage market. The brokers with the most extensive global capabilities will be the most able to retain their value proposition. As a broker, if you’re adept at what you do you should be able to benefit from the best of both worlds.
“Yes, we will keep a close watch on this type of arrangement but with a view to seeing what opportunities it could generate for our specialist teams.”
As for the reinsurers, it looks likely that the ‘lower tier’ reinsurers are the ones most likely to lose out if there is a proliferation of deals similar to the rumoured ACE/BlackRock arrangement. First tier reinsurers, which have significant capacity, and capital, and have developed a good relationship with the larger companies over the years, may actually be able to increase their involvement with insurers setting up vehicles such as the one rumoured to be coming from ACE and BlackRock.
“They may be able to take on the reinsurance of such a captive or the remaining reinsurance which is placed in the market,” says a source. “The losers could be the smaller companies who can only provide a small capacity and have no further input to the buyer.”
He points out that in recent years, it has been the small players who have missed out when large US primary insurers have cut back on the number of players on their reinsurance programmes.
“The smaller entities lost out, even though they maybe have been on the programme for 10 years or longer, because they only provided capacity—they only paid their losses, they didn’t have any further input.”
Another source agreed that the impact could be huge, but added that it potentially goes beyond taking business away from reinsurers and brokers, to strike at the very heart of how commercial insurance risk is placed. And it brings the alternative markets centre stage.
“If this deal happens then one would expect that the big four or five US commercial insurers would try to replicate the deal fairly quickly and yes—it would be a big deal,” he told Bermuda:Re+ILS.
“It’s not just a matter of the impact on whether you’re buying reinsurance for the business: the impact is really that it’s a placement of direct policyholder risk with the capital markets. That’s the breakthrough.”
He anticipates that the repercussions of the ACE/Black Rock deal could echo what happened with captives and risk retention groups in the 1970s and 1980s, when a huge chunk of business was lost from their commercial insurance side and went into the alternative markets.
“To focus on it as an impact on reinsurers is a secondary factor from the big focus, which is the impact it would have on moving risk out of commercial insurance into a direct placement with investor pools. If the deal goes through, this is revolutionary in terms of the placement of commercial insurance risk.”
Much remains to be seen: the precise details of the ACE/BlackRock deal remain unknown, and it looks likely that only a handful of players will have the size and strength to follow their example. But in a landscape already transformed by the influx of the capital markets, the industry appears to be poised to take another big step into uncharted territory.