Partners Forever..?

The property and casualty insurance industry has traditionally been a close-knit community, built on long-standing “partnerships” from the street broker to primary insurer and ultimately the reinsurer. The “tides of fortune” affected by the vagaries of the hard to soft market swings have historically been shared by all in relative proportion, thereby cementing the kind of bond of loyalty that is associated with those who have been “in the trenches”. But, as many in the industry question the very validity of the ups and downs of the business cycle as companies struggle to get through what has probably been one of the most financially crippling periods to date, so too is the value of partnerships being put to the test as market forces drive home the reality of survival. For better, or for worse – this cycle could well be the end of many past vows.

This is no better evidenced than in the relationship between primary insurers and reinsurers. While both sectors have shared the pains of capital and income loss brought on by the last soft market and the ongoing “investment return drought”, the latter has attracted the most negative attention from the media and rating agencies. The insured cost of the 9/11 terrorist attacks weighed most heavily on the reinsurance sector – which coupled with declining investment capital and income yields, and now a new plague of liability loss exposures through asbestos, directors’ and officers’ (D&O), mold, etc, that have accumulated in billions of dollars in prior year adverse developments – the global pool of reinsurance is rapidly becoming a pond in both number of players and available “working capital”.

As a report released by rating agency Standard & Poor’s (S&P) observes, around 12 companies of the top 25 global reinsurance groups have either been placed on “credit watch” with negative implications or hold a long-term negative outlook. “Since the beginning of 2002, there have been 47 downgrades and only three upgrades among the 150 largest reinsurers.” Subsequent to the release of the S&P report, the rating agency dropped French reinsurer SCOR’s “A-” to “BBB+”, and also holds a “credit watch with negative implications” on Employers Reinsurance Corp. Rival agency A.M. Best recently reduced its rating on Employers Re to “A (excellent)” from “A+ (superior)”. With regard to the latter, both rating agencies expressed concern over future capital support from the parent owner General Electric – citing a trend of divestment within the sector as best witnessed in the Gerling group’s decision to shut down its global reinsurance operation on the back of spiraling adverse development losses. Other than the well known names mentioned above, nearly all of the top global reinsurers including first and second-ranked Munich Re and Swiss Re have faced financial strength downgrades.

And, as S&P notes, of the US$20 billion of new capital having come into the sector since the 9/11 attacks, more than US$8 billion of this amount is accounted for by eight “Bermuda startups”. The rapid entry of new players to the field suggests that there is a “low barrier” to competitive startups in the reinsurance sector which could add further financial pressure on the beleaguered established companies.

If the global reinsurance sector is becoming a “pond” to its former self, then the “Canadian pond” within this “pond” provides a close-up study of the volatility within the marketplace. Not too long ago, the Canadian operation of American Re (the U.S. subsidiary of Munich Re) closed offices, with Gerling’s announcement that it would be placing its global reinsurance operations in run-off following shortly after. The first half of this year saw Hart Re announcing its withdrawal from the global reinsurance stage, and then Alea Europe’s decision to pull from the Canadian market on grounds that its capital could be better utilized elsewhere in terms of making an actual underwriting profit (a foreign concept in Canada) on a reasonable slice of business.

Critical premium mass would indeed seem to have become a priority for reinsurance groups in deciding whether to stay in certain markets (see cover article of this issue for further details), as well as how cedents perceive their reinsurance partners in terms of placing business with those they believe will be around after the end of the week. The biggest factor in determining reinsurer participation in programs, however, appears to be the financial strength ratings of the various companies. The majority of primary company senior managers involved with the appointment of reinsurance business concur that the financial ratings – and specifically the change in ratings – of reinsurers is currently the prime selection factor in terms of where the business goes. In many instances, the list of “who’s in and who’s not” is decided by global head-offices.

Divestment, market withdrawals, capital strain and the “murky shadow” of whether reinsurance recoverables can be met, have collectively undermined the long-standing partnership between insurers and reinsurers. Insurers admit that a more clinical selection process is being applied in determining reinsurance program participants, while also noting that reinsurers are less likely today to accept a claim than in years past. “The days when a deal was sealed by a handshake are gone,” is a frequently used industry phrase in summing up the insurer/reinsurer relationship.