Why the Investor-Driven Hard Reinsurance Market Will Persist

Reinsurers will continue to command adequate rates for property-catastrophe in 2024, even if the market comes through hurricane season unscathed, reinsurance company executives said.

Kevin O’Donnell, president and chief executive officer of RenaissanceRe Holdings Ltd., and Brian Young, president and CEO of Odyssey Group Holdings, gave their assessment of the current hard market, and drivers they believe will persist into next year during a session of the S&P Global Ratings 39th Annual Insurance Conference in New York in June.

Responding to a question from S&P Global Senior Director Taoufik Gharib, who asked about reinsurance market dynamics, O’Donnell focused his comments on investors supplying reinsurance capital and their mandates for higher returns on their investments. Gharib specifically noted the CEOs’ references earlier in the session, and on RenRe’s several earnings calls, to the “step change” — or substantial, non-incremental change — in property-cat reinsurance rates that occurred over the last eight months.

Are those rate increases sustainable? Gharib asked.

Reframing the question to talk about “rate adequacy” rather than “rate increases,” O’Donnell asserted that not only is the property-cat market at “a very strong level of rate adequacy” but also that it is “going to persist.” Supporting the prediction, he said, “the fundamental reason for the discipline that the reinsurance market introduced over the course of the last six-to-eight months is [a push] coming from capital” providers. And that pressure remains.

During his opening remarks at the session, O’Donnell described an investor-driven hard market — essentially a surge in rates responding to the mandates of investors supplying reinsurance capital who demanded higher returns on their investments.

“Reinsurance has been out of favor for several years,” he said. “There’s been a degree of exhaustion with investors and with the results,” he said, noting that the industry, historically “has tended to trade on the promise of rates.”

Those investors had a sense that rates hadn’t improved over the last several years, O’Donnell said. Noting that while rates actually had in fact improved incrementally, particularly in targeted lines or geographies, and often in response to losses, he said the rates simply had not improved to the level that investors really wanted until late last year.

“I think last year with Hurricane Ian, not being a particularly unusual storm — just another storm, [that] really pressed investors to demand higher returns,” he said, noting that the demands came on two fronts — from insurance-linked securities investors, “and also from an equity perspective” as reinsurer valuations drop.

Going beyond narrow targeted areas of rate hikes, “what we saw last year went broader — where the capital said, we’re fed up, we need to see returns and not the promise of rate. And we’re going to withhold capacity until we are comfortable you’re actually getting the rate that we believe is required to reflect the change in risk from everything, including inflation and climate change,” he reported.

“The underlying fundamentals” behind the drive for rate “has pushed reinsurers to respond more aggressively,” he said. “I also believe it’s more sustainable because it’s not in response to losses… It’s in response to capital — the supply side, what capital demands to accept the risk.”

“Capital is not feeling as if they’ve been rewarded for the last several years of support that they put into the market.”

Looking ahead at what’s going to happen in 2024, however, O’Donnell said he does not expect rate increases like those that reinsurers have been getting in 2023. “They’re not needed frankly. What I do expect is rate adequacy to be at a similar level to where we’re at currently,” he added.

“I think it’s with or without a loss,” O’Donnell said. “I think that with a loss, there will be greater uncertainty [about] what happens. But without a loss, there is still going to be that strong rate adequacy at 1/1.”

Odyssey’s Young agreed. “On risk-adjusted basis, I would anticipate flat, if not up a little bit, honestly,” he said. “We do think there is going to be more demand — to buy more limit” from reinsurance buyers, which will keep a floor on pricing, Young said.

Looking back at January 1, 2023, O’Donnell said there was unmet demand, attributing this to the discipline of reinsurers, which had strong rate requirements. “The wallet for the buyer really wasn’t there for them to purchase as much cover as they truly desired.

What we’re seeing [now] is primary companies going out and pushing more rate into their books of business. And I believe that they will come back to the market [in January 1, 2024] to purchase top-up covers that they didn’t have the financing for at January 1 [2023]. We remain optimistic for that,” O’Donnell said.

“If you look at where insurance companies are right now, they’re moving into a market where they have to be more disciplined in managing their business because reinsurers have been more disciplined in providing capacity.”

Reinsurance-Driven Market and Pent-Up Demand

Young, in fact, began his remarks describing the current hard market as a reinsurance-driven hard market, explaining that an insurance-driven hard market that took shape in recent years was atypical.

“I’ve been in the business for 35 years. Unfortunately, I can count on one hand and maybe a couple fingers, the number of years where the market actually has been hard. And when you look back during those periods historically when the market’s been hard, typically it’s been the reinsurance market that really has driven the insurance market to improve pricing, terms, and conditions,” Young said.

“Leave aside the last 12 months, in the latest hard market cycle, it’s really been the insurance market that has driven improvements in the market,” Young said, noting particular discipline from primary carriers around limits deployment. “A lot of the bigger insurance companies were reducing capacity, and when you do that it requires more insurers to support a risk-clearing price…. So, we saw improvements in the insurance market, and the reinsurance market more or less rode the coattails of that over the last few years.”

Still, the reinsurers’ results did not improve, he said, pointing to one big reason — catastrophe losses.

Going back to 2017, reinsurers made little progress. “While the insurance market has done extremely well, the reinsurance market has not because of increased frequency of cat losses — and not just named storms, but certainly the increase in prevalence of secondary perils, which we haven’t really priced for well.

The modeling doesn’t cater to those things. And it wasn’t factored into pricing.”

Continued Young, “What drives a hard market [is] fear of losing money. If you’re an underwriter and you’ve lost money writing cat business for five straight years, you’re going to be a little gun shy. You’re not going to be as quick to write business,” he said, agreeing with O’Donnell that “the psychology of the market underwriting has fundamentally changed.”

Noting that several reinsurers pulled back — or pulled out — of the cat space, Young said that’s good news for Odyssey and RenRe. “I’m happy about that because we love the business. I know Kevin loves the business. I know when I look at the cat market today, it’s probably the best cat market that I’ve seen…in 35 years.”

“The story of 2023 has been cat,” he said.

O’Donnell agreed. “We went from reasonable adequacy to very strong rate adequacy with this change in a way that I haven’t seen before,” he said, referring to the accompanying dramatic upsurge in cat reinsurance rates. “Between moving attachments up, which was largely done over months, and then price increases, there’s been much more discipline in the types of risks that are being transferred to reinsurers,” he said.

“We collect more volatility than insurers by the nature of the product and we need to have higher returns than insurers. Again, insurance was leading the cycle over the last several years. Reinsurance is back to leading the cycle and reinsurance returns are stronger at this point….It will take a while for the E&S market to catch up to some of that, but I think the property cat XOL [excess-of-loss] business right now is about as strong as we’ve seen.”

Young, who noted that the E&S property market was starting to flatten a little bit until January when the dramatic hikes in reinsurance pricing propelled the E&S property market back up, also said that the current hard property reinsurance “is not all about price. It is about coverage,” he said.

He was referring to problematic expansions of reinsurance coverage that occurred over the last seven or eight years, such as expanding hours clauses, top-and-drop features, cascading layers, and aggregate features at the bottom of programs. “Invariably, you make those coverage changes and they come back to hurt you. And they certainly did in the case of aggregate coverage,” he said. “With the increased frequency of cat loss, we’ve seen a lot of aggregate losses.”

While price is important, he said, retentions are higher, and all these cascading features have gone away. “Hours clauses are coming back into line with historical levels. From a reinsurance perspective, these are all good things.”

With the reinsurance coverage changes, primary carrier income statements are more exposed to loss than they had been, O’Donnell noted. “The way to protect that is with rate. [You need to get] rate to catch up to the volatility on your income statement, continue to build rate — and continue to protect the balance sheet with re[insurance] purchasing, I believe, coming into 2024,” he said.

Young agreed. “I do think there is pent-up demand still to buy more limit. Obviously, inflation is having a huge impact in the market. The labor supply issues, repair costs, material costs are going up. We see that with the elevated loss level [from Hurricane] Ian and other recent cats. Portfolio values are increasing. And we also had this issue called undervaluation, which has been an issue for the industry for a very long time. A lot of insurance companies are reevaluating their portfolio, adjusting…,” he added.

There’s also the concern about tail risk. “Is the model right? Do we want more protection? he questioned, reflecting the thinking of primary carriers.

“I think the answer is yes,” he said, reiterating O’Donnell’s assessment that carriers found it very tough at January 1, 2023 to even line up enough capacity to match what they purchased a year earlier, let alone think about buying more limits.

“Reinsurers pushed up retentions. Program exit points went up higher,” he said, reporting that Odyssey sees insurers today already seeking more top limit. “As we move forward, with more premium, [there’s] more money to pay for reinsurance. And I think we will see more limit being purchased,” he said, seconding O’Donnell’s prediction.

Citizens Expands, Reinsurers Benefit

Gharib later asked the reinsurance executives to share their thoughts on legislative reforms in Florida and whether the passage of the reforms would entice more reinsurance capital into that market.

“Certainly I think it’s helpful,” said Young, adding that while the changes will take time to work through the system, the Florida domestic insurance market certainly needed it.

He also reported that midyear reinsurance renewals in Florida were orderly. “A lot of people were wondering, are they even going to get these programs placed? But at the end of the day, the brokers’ challenge was signing the reinsurers the lines that they authorized. In many instances we saw sign-downs on programs. There was no shortage of capacity to meet the demand,” he said.

O’Donnell said that while the Florida reforms will be more helpful to insurers than reinsurers, he believes that what helped the Florida renewals this year was the fact that Citizens Property Insurance Corp., the state’s insurer of last resort, has been growing so much. “For every dollar of premium in Citizens, there’s fewer reinsurance dollars supporting one of the domestic companies. So, having more risk moving to Citizens allowed companies to better manage the gross risk that they were taking, the net risks that they wanted to retain after purchase of reinsurance.”

In short, Citizens “kept the market better balanced,” he said. “That will create issues for the state in ’24, ’25, if Citizens continues to expand. But it’s something that did act a little bit pressure valve down” at midyear 2023.

This article first was published in Insurance Journal’s sister publication, Carrier Management.