Moody's Investors Service has changed the outlook on the global reinsurance sector to stable from negative reflecting the momentum for a hardening in reinsurance rates, a refocusing on the value of reinsurance, and the good risk management and discipline across the sector in response to recent catastrophe (cat) losses. A new Moody's Industry Outlook report published today predicts that, over the coming 12-18 months, these positive trends should neutralise the challenges facing the industry.
"Recent catastrophe losses loom large in our decision to revise the outlook to stable, as they have provided momentum for reinsurance rates to harden," explains Dominic Simpson, a Moody's Vice President and Senior Credit Officer and lead author of this report. However, over the longer term, it remains uncertain whether this expected plateau is a temporary halt to further pricing weakness or whether it will be followed by sustained market improvements.
The revision of Moody's outlook on the sector to stable reflects the following drivers:
MODERATION OF THE SUPPLY/DEMAND IMBALANCE
Growth in the supply of reinsurance has been checked by recent cat losses, and future supply could be constrained by more expensive retrocessional cover and by consolidation for which conditions are favourable. On the demand side, Moody's believes that insurers may not be able to further reduce their reinsurance uptake, despite tight reinsurance budgets. Furthermore, demand could be stimulated by insurers seeking more protection further to the roll-out of the updated RMS catastrophe model. One large hurricane could tip the balance in favour of demand over supply.
Not only have significant price increases been reported for some loss-affected regions/lines, but short--tail, non--loss affected areas have also seen pricing stability. Moody's is seeing momentum for a hardening in reinsurance rates, a view that is reinforced by reinsurers' generally good underwriting discipline. Furthermore, prices have stabilised for US Commercial Lines (Moody's has recently revised its outlook to stable from negative for this sector). Although future pricing will key off the Atlantic hurricane season, Moody's envisages broadly stable-to-strengthening prices at the forthcoming 1/1 renewals.
DESPITE PRESSURE ON PROFITS, LOSS RATIOS SET TO STABILISE
2011 profitability is under meaningful pressure. Investment returns remain suppressed, and even before the end of what is predicted to be an active hurricane season, reinsurers have already far exceeded their cat budgets for 2011. However, Moody's believes that underlying loss ratios for reinsurers will at least stabilise during 2012. In addition, reserving levels are considered adequate despite the depleting reserve cushion, and the generally short average duration of reinsurers' fixed income portfolios may mean that investment income cannot decline much further.
RECAPITALISATION RISKS AMID LOW EQUITY VALUATIONS
Moody's central concern is that low equity valuations -- which have persisted for nearly three years -- could signal a more discriminate investor pool, raising concerns about the ability of some firms to replenish equity capital following a major catastrophic event. Security would be weakened for the policyholders and bondholders of those reinsurers which cannot reload capital.