One of the big three (3) credit rating agencies, Moody’s, a global investment and business research and rating company, has projected that the impact of excess capacity, benign losses, low interest rates, and heightened competition, combined with further rate declines at the upcoming renewal season will be evident in next year’s reinsurance company results.
According to the latest report by the Moody’s Investors Service, bond credit rating business of Moody’s Corporation, the last 24 months had witnessed the profitability of global reinsurance entities masked by a lack of catastrophe loss events, reserve releases, and growth in earned premiums.
It noted that all these factors had resulted in companies, and the sector as a whole reporting solid return on equity (ROE), and underwriting margin figures, which perhaps, aren’t a true representation of the reinsurance industry’s current state.
The company explained further ample capacity continued to flood the sector from both traditional and alternative reinsurance capital providers with the influence on rates exacerbated by the low loss environment, which has seen primary players retain more risk and therefore require less reinsurance.
Moody’s reported that while the market had continued to soften as many of the challenges persisted, reinsurers continued to report healthy combined ratios of below 100 per cent, and as a whole, ROEs had also been healthier than the challenging, competitive, and overcapitalised market landscape would suggest.
It pointed out that to sustain the ‘artificial’ profitability throughout the year, something highlighted by Willis Re back in May of this year, and noted by Moody’s, reinsurers had relied on positive prior year reserve releases, and have benefited from below average catastrophe loss events.
However, commentary from Moody’s suggests this approach won’t last for much longer, as the company expects “the combination of stalled organic growth and a further potential five per cent to 10 per cent decline in 2016 catastrophe rates will expose the real impact of cyclical and secular headwinds in next year’s results.
Moody’s projected: “Utilising prior years reserves to bolster underwriting profitability certainly isn’t anything new, however, when industry loss events remain low for a prolonged period it limits the opportunity to refill reserves as much as is likely required, which will eventually lead to reserves diminishing until obsolete.
“It’s important to note that the above expectation from Moody’s is with catastrophe losses remaining benign, and the other determining factors, so excess capacity, competition and so on, following the trend of 2015 also.
“Meaning that should catastrophe losses, natural or man-made, return to more average levels in the coming months, reinsurance company results during 2016 could take a significant turn for the worse”, it added.
According to Moody’s, were catastrophe losses to normalise then ROEs would be two to five percentage points lower than what’s reported, and “adjusted returns would only moderately exceed cost of equity.”
“We reiterate our view that 2016 will be the year when adjusted returns of some companies will fall below their cost of equity,” the company confirmed.