Third Point Re's different play
At 6’6” few would fail to recognise John Berger, a successful veteran of 30 years in reinsurance and a figure in Bermuda since the formation of Harbor Point Ltd in 2005. So when he announced his intention to establish a new Bermuda Class 4 reinsurer, people sat up and took notice. Berger’s latest venture, Third Point Re, will be drawing not only upon his own unique reserve of perspective and experience in underwriting, but the enviable investment expertise of Daniel Loeb’s hedge fund, Third Point. Bermuda Re spoke with Berger about the new company’s links with Third Point and Loeb, its underwriting intentions and how it intends to set itself apart from the wider Bermuda competition.
Following a troubled few years in the capital markets, Dan Loeb’s Third Point committed to the idea of establishing a Bermuda reinsurer to support its wider capital base. Berger became involved after being approached by Loeb and Third Point to establish and run a Bermuda start-up that is capitalised to the tune of $785 million.
Berger has significant pedigree when it comes to start-ups. He was part of the team that formed F&G Re in 1983, along with Paul Ingrey and Jim Stanard, and was the founder of Chubb Re in 1998. Both companies became resounding successes despite starting in extremely soft markets. Once again it looks as though he is starting a company at a tough time but he likes to say: “The great thing about our business is that it can change dramatically and quickly as adverse events occur. If you are not part of the turmoil, the reinsurance business can be very attractive.”
Present market conditions would suggest that Third Point Re’s timing could well prove prescient. As Berger said: “If you look at the world right now, people aren’t making much money on the investment side (an area that has historically accounted for much of the industry’s profits), international cat losses have been tremendously significant, and current accident year combined ratios are above 100 percent. Overlay that with the potential for further economic turmoil in Europe and political problems in the Middle East and our business could become very interesting.”
Reinsurers’ investment returns for 2010 and 2011 have been decidedly troubled, with few in the industry able to achieve the kind of yields that had buoyed their books pre-crisis. “For the average company out there, the duration is three or four years and the vast majority of their investments are in high quality bonds and US governments. They are lucky to be getting 2 percent on their new money,” said Berger.
“Historically, investment returns have driven the results of this industry, but they just aren’t there at the moment. That is a huge issue for the industry and is one of the reasons why you are seeing a lot of companies being more aggressive on the underwriting side. Companies are writing more business, more cat business and have sought to diversify on the property cat side—but this has come back to haunt them following the number of international losses in 2010-2011, so there is a lot in play.”
Swiss Re’s Sigma has put the insured cost of 2011 cat losses at $108 billion, the highest level of nat cat losses yet recorded. Europe’s protracted crisis remains far from a denouement—and one that is unlikely to bring with it good news. Further contagion, cracks in, or a collapse of, the euro zone, and an extended and perhaps deeper double-dip recession seem possible. How this affects re/insurance rates will be watched closely, but it seems that conditions might yet coalesce for a turn. If they do, and prices harden, Third Point Re’s first year may just get off to the perfect start.
As Berger outlined, in previous turns in the cycle there had always been a combination of factors—not simply one—that shifted the market. Citing the World Trade Centre attacks of 2001, he said that although the tragedy was a “market-moving event, other factors were already in play”. The harrowing events of that day were a catalyst, but already “the industry was woefully under-reserved and had really underpriced its business for years”. Turning to conditions today, Berger described them as “scary”, suggesting that if matters in Europe turn bad—“and none of the predictions is good”—and then you “throw in some cats, more class action suits in D&O in the US and some otherbad news”, conditions could create a perfect storm. “I’ve been in the business 30 years and periodically it gets to be a very interesting time to be an underwriter.” As he says, 2012 may just be one of those times.
Despite the troubled conditions, Berger and Third Point Re evidently perceive opportunities in the market. “As a brand new company and with our asset manager, Third Point, on the investment side, we have a game plan that works regardless of the market,” he explained. A significant component of this game plan will be its close links with hedge fund Third Point, which will manage the reinsurer’s investment portfolio. Berger said that this is not different from what a lot of reinsurers do, citing the likes of Blackrock, Deutsche Bank and Pimco as prominent asset managers for the industry. In the case of Third Point Re, Third Point is the exclusive asset manager. Third Point Re’s assets will be held in its own account and will be invested on a pari passu basis with Third Point. As a result, Third Point Re’s fate will be heavily influenced by the returns Third Point can generate.
Over a 16-year period, the hedge fund’s track record has been impressive, achieving on average low 20 percent returns, a figure Berger describes as “stellar”. Should the hedge fund achieve anything like these levels of return Third Point Re will have few worries on the asset side of its portfolio.
Complementing its investment approach, and due to the returns that are expected on the asset side of the book, Third Point Re’s underwriting philosophy will be “very disciplined”. “We are not trying to make our returns solely based on underwriting,” said Berger. Rather, Third Point Re is looking to harness the advantage of being connected with a “truly first class investment manager” to write a more conservative portfolio of reinsurance business. “We don’t have to go out there and be a big cat player to achieve double digit returns on equity because of the returns from our investment strategy. This allows you as an underwriter to be super disciplined.”
The firm will not have significant property cat exposures like many in the industry, Berger explained, but “will instead have less risk leverage than the average company out there, due to potential volatility on the investment side. In any way that you want to measure risk we’ll probably be below average—whether it’s premium to surplus, levels of property cat, or probable maximum loss to surplus”. And such discipline on the underwriting side would appear to be the right play in the face of significant cat losses and the unravelling of diversification as a panacea for the industry’s risk concentrations.
Instead Third Point Re will be pursuing what Berger calls the “other book-end” of reinsurance. Rather than taking volatility from insurance companies, chasing property cat business, accepting big limits, and protecting firms from “the stuff that goes bang in the night”, Third Point Re will be providing reinsurance to small andmedium-sized insurers “that don’t have enough surplus to write the kinds of business they want to write”. Reinsurance becomes a form of capital for such companies, Berger said, with Third Point Re looking to build relationships with those firms that “are perhaps not super well capitalised, but nevertheless enjoy good business circumstances”.
He added that when conditions improve and the industry “gets paid for taking volatility from insurance companies we will move into those products, but it’s tough to find business that has the correct margin right now, except in property cat”. Berger said whether you are a new player or an established one “it is a very competitive time right now. There really are no unmet needs out there ... peak zone property cat business is quite well-priced, but apart from that there’s not much else internationally. Until conditions improve, the reinsurer will remain “way underweight” on the larger limit, property cat side of the industry, while drawing upon its investment excellence.
Third Point’s motives
Addressing the motivations behind Third Point’s decision to launch a Bermuda reinsurer, Berger said that the hedge fund had been driven by a number of factors. Leading among these was Third Point’s desire to augment its pool of “permanent capital”. “The year 2008 was traumatic for hedge funds, with the industry facing huge redemptions,” he went on, and Third Point was no different. During the crisis, Third Point was in a position of strength relative to other funds because it had raised permanent capital which today is $650 million of the fund’s assets under management via a closed-end, London-listed structure in 2007. Third Point Re was a compelling means further to strengthen the already best-in-class capital base for the hedge fund.
Third Point Re, Third Point’s London-listed vehicle, and invested employee capital will together represent “roughly 20 percent of Third Point’s capital”, providing a solid bedrock of assets for the hedge fund. “The advantage of permanent capital, and why it is the Holy Grail for hedge funds is that it allows you to retain your best staff and means you don’t have to worry about scenarios such as those that occurred in 2008,” said Berger.
"Complementing its investment approach, and due to the returns that are expected on the asset side of the book, Third Point Re's underwriting philosophy will be 'very disciplined.'"
Loeb evidently has confidence in his new venture, having invested $75 million of his own money into Third Point Re. He is joined by other senior members of Third Point, Third Point Re, private equity firm Kelso, which is investing $250 million, and private equity firm Pine Brook Partners, which is contributing $125 million. The majority of the balance of the initial capital is from various groups including institutional fund of funds, corporate pensions, and a number of “very wealthy individuals”. The reinsurer has now reached $1 billion of capital to advance its business ambitions.
Bermuda proved the obvious choice to domicile the new venture. As Berger outlined, the Island offers many attractions. “It’s established, it’s a reinsurance centre, it’s a very civil place and with a respected regulator in the Bermuda Monetary Authority, there is a lot of credibility associated with being here.” Further aiding the case is its proximity to the US, New York in particular, and its established role as a hub for global re/insurance. While Switzerland and Ireland have jumped up the agenda of late, Bermuda remains one of the leading three jurisdictions in which to domicile a new re/insurer, he said.
Turning to the involvement of the capital markets in bringing new capital into the reinsurance space, Berger said there are two very different plays being undertaken at present. The first, epitomised by Third Point Re, is that of hedge funds creating reinsurers to participate in the market and provide permanent capital to support their wider investment activities. The second was the creation of sidecars, which has proven to be an effective way of bringing in additional capital into the market since 2001. Berger characterises these vehicles as more of an opportunistic, short-term play. Sidecars are very much “property cat-orientated”, whereas the “hedge fund play” necessarily involves less volatile lines. Asked if he expected another class of reinsurersto emerge in 2012 on the back of rising interest from hedge funds including Greenlight, Third Point and SAC Capital Advisors, Berger said he doubted it. As for sidecars, he said that they are “established and work well”, with sidecar activity picking up after any major property catastrophe.
Asked how Third Point Re intends to keep its investors happy in today’s troubled investment and re/insurance environment, Berger said that “the only metric that matters in our business is growth in tangible book value. To the extent that we can do that, we will keep our investors happy, but that is true for every company out there”.To achieve growth in book value in the face of the soft pricing and low investment returns that characterise the industry today will not be easy. The best companies are able to outperform their competitors. Berger has every intention of being one of those companies: “I’d rather be John Berger at Third Point Re than at any other company out there.”
Third Point Re has already written $100 million of business in its first quarter and secured an AM Best rating of A- (Excellent), with the company’s first few months proceeding “much as expected”. Nevertheless, Berger admitted that conditions were far from ideal for reinsurers. Fortunately, Third Point Re’s ability to leverage its superior investment strategy has meant that the company has been able to be “more disciplined on the underwriting front than others and to avoid slugging it out with other markets over business”. Berger said that Third Point Re will continue with its disciplined approach, “looking for deals that make sense and trusting that our investment strategy is a good one”. It seems that Berger’s aspirations for further success have found themselves a promising platform from which to launch.