Why here, and why now?
In recent months, the life and annuity market has experienced an unprecedented level of mergers and acquisitions (M&A) activity, as COVID-19 has accelerated an industry restructuring brought on by prolonged low interest rates and the emergence of private equity investor interest. From a Bermuda perspective, this rise in deal volume is driving growth for existing market participants and increasing the number of new entrants.
“Rationalising third party vendor contracts and modernising IT operations are key areas of focus.” Damian Cooper, PwC Bermuda
Registrations over the past year have included private equity investors setting up their own reinsurers, existing players setting up sidecars to bring in third party capital and investment bank-backed transformation vehicles. This increase in activity is an acceleration of the trend in growth seen over the past decade.
What is driving the underlying growth in the life and annuity market? While it is fair to say that the largest share of the risk being reinsured into Bermuda originates in the US, there is also an increasing focus on Western European markets and to a lesser extent Asian markets, predominantly Japan and Hong Kong. The growth in deal activity is being driven by both supply and demand side pressure.
Mature economies are facing a stagnant core insurance market, with limited opportunities for organic growth combined with persistently low interest rates resulting in increased earnings volatility. As global economies manage the impact of COVID 19, the low interest rate environment is expected to continue for the foreseeable future.
Combined with this are a number of secondary issues, notably an aging distribution workforce, an increasing regulatory environment and challenges around implementing new accounting standards (LDTI and IFRS 17). Trends in consumer behaviour are creating demand for new products, driven by digital automation and insurtech.
In pursuit of value creation
All of this is having an impact on operations, growth and earnings volatility. As primary insurers place increasing emphasis on balance sheet management and value creation, the above factors are leading to a detailed analysis of individual blocks of business and the increased use of reinsurance as a strategic capital management tool.
“Buyers can have confidence that the BMA has the experience to work with foreign regulators.”
From the demand side, while primary insurers generally conform to more traditional and conservative investment portfolios (eg, fixed income, real estate, etc) private equity and asset managers can invest in higher-yielding assets through turnkey alternative asset investment solutions. Acquiring the additional assets under management (AUM) that life and annuity deals provide is a positive extension of their core operations.
Hedging market risks related to fixed indexed annuities and variable annuity blocks can be expensive and inefficient. Insurance companies have to balance hedging the economics associated with these long-term guarantees while managing the interim earnings volatility. Buyers may be able to leverage their expertise to hedge these risks more efficiently, with a higher tolerance for short-term volatility.
The aggregator model, successfully employed by a number of Bermuda-based reinsurance groups, is also focused on introducing operational efficiency as part of their core strategy. Buyers can streamline operations and reduce costs. Rationalising third party vendor contracts and modernising IT operations are key areas of focus.
Capital efficiency is also a key component of a successful buyer model. The ability to leverage offshore reinsurance and/or other capital optimisation strategies will allow buyers to free up the capital backing the business. Buyers can use this capital for organic and inorganic growth or to accelerate returns to investors.
The increased demand has resulted in an inflection point for the deal market. The volume of credible buyers is such that sellers feel confident that bringing a portfolio to market will result in a fair price that maximises shareholder value.
In previous years, where buyers were able to price at much higher internal rates of return due to lower competition, many potential sellers may have been sceptical that reinsurance or outright sale offered them a fair return. As the underlying drivers of the market persist the current deal volume is expected to continue.
Bermuda’s place in the global life and annuity marketplace
The Bermuda reinsurance ecosystem is ideally suited for those looking to enter the market. As a proven jurisdiction built on a track record of effective, business-focused regulation, new market participants can startup a Bermuda reinsurance company in a short space of time, leveraging the experience and knowledge of the regulator, consultants and service providers that are already in place.
There is a strong comparison to be made between the experiences seen with the class of 2020/21 property and casualty reinsurers and the private equity-backed life and annuity reinsurers being established over the same period. New entrants are looking to replicate the successes achieved by the trailblazers.
Bermuda’s ability to facilitate the registration process and support startup administration allows new entrants to focus on deal generation and growth, making Bermuda the continued choice for new capital. As with the P&C market, the increase in the number of on-Island life and annuity reinsurers over recent years has expanded the availability of intellectual capital and resources essential to the ongoing success of the sector.
Clarity on what will be required for ongoing regulation is also a key decision factor in jurisdiction for life and annuity market entrants. With the longer duration liabilities of the life and annuity sector, investors want confidence in the consistency of regulatory decision making. Bermuda and the Bermuda Monetary Authority’s (BMA) track record are clear in this respect, reducing uncertainty from the unknown that exists in other locations.
The BMA’s significant experience in working with foreign regulators to approve deals across most US states and Western European countries is a further advantage to establishing a presence in Bermuda. With competition over deal activity at an all-time high, completion timelines can prove to be an additional success factor.
For new entrants looking to secure their first deal, replicating a proven structure is important as many sellers are unwilling to experiment unless absolutely necessary. Given the wide variety of transactions that have been placed through Bermuda, buyers can have confidence that the BMA has the experience to work with foreign regulators to facilitate approval.
This practical experience extends further than just the headlines of Bermuda’s US National Association of Insurance Commissioners and EU Solvency II equivalence. As competition across individual markets continues to accelerate, having a Bermuda nexus provides reinsurers with an efficient central location that allows them to target opportunities in multiple jurisdictions.
While historically Bermuda’s life and annuity sector has been less visible than its P&C cousin, the current market conditions and future socioeconomic trends point to a more equal global recognition that better reflects the underlying size of the existing and growing participant base.
Damian Cooper is a partner at PwC Bermuda. He can be contacted at: firstname.lastname@example.org