Reinsurers Herald Underwriting Discipline
December 2009
One of the verses by Sam "Lightnin'" Hopkins
in Gambler's Blues reads:
When you lose that old no good money,
You sit around with your head hung down,
When you lose that old no good money,
You sit around with your head hung down.
Yeah, wake up the next morning happy,
I'm the best gambler in this town.*
by Peter
M. Polstein
Okay, I called a beginning of a more disciplined marketplace by the end of
the fourth quarter of this year or early 2010. Yet, the domestic marketplace
continues to prove that there is indeed a "paradigm of stupidity." Profit margins
continue to shrink, reserves have basically held due to a noncatastrophic Atlantic
year. However, there is still little post-event capital available, especially
in the domestic market, and many analysts as well as rating bureaus continue
to question the efficacy of risk versus equity.
Over recent years, I have come to believe that the reinsurance marketplace
(especially Bermuda) has more discipline in their underwriting approach, and
has taken cost containment steps which actually provide a more sustainable long-term
position than the domestic marketplace. Further, as reinsurance premiums continue
to grow, so does their control over a broader segment of both the primary and
domestic marketplace.
Meeting of Minds in Monte Carlo and Baden-Baden
It was interesting to follow the machinations of the Rendez-Vous de Monte
Carlo as well the more serious meetings in Baden-Baden. For the most part, many
of the reinsurance companies regained a considerable amount of the capital lost
during the so-called financial crisis and with a non-event cat season, their
overall profits should be in good shape, which is more than can be said for
the domestic marketplace, whose profits were sorely tested during the first
9 months of 2009.
While the hard market, or at least a more disciplined market, did not materialize,
there were some signs of hardening in certain facets. Some of the worries in
Monte Carlo stemmed from the concern that continued pricing at current levels
could be a potential threat of an inflationary position. In view of this, a
number of reinsurers have taken a position in adjusting their books, especially
on long-tail business, which will eventually lead to the necessity of more underwriting
discipline. Most reinsurance executives agreed that with the advent of Solvency
II, nonlife models will become more sophisticated, more attention will be paid
to the basis by which models are initiated, and loss reserving will, out of
necessity, require a more "legitimate" basis of scrutiny.
Solvency II
Implementing Solvency II within the European community, which is still at
lager heads over some portions, will have little if any impact on the Bermuda
marketplace, as the Bermuda Monetary Authority has already taken a number of
steps to "correct" certain regulatory issues which they felt were necessary
during 2008 and 2009. The prospective of those in the meetings in
Baden-Baden appeared to be a bit more optimistic relative to a more disciplined
underwriting position during 2010. While reinsurance negotiations obviously
continue, there appeared to be a growing segment of the reinsurers who were
holding to flat as expiring or some upward trends, albeit small, resulting in
2 to 4 percent increases on certain risks.
Counterparty Credit
While a number of reinsurers have appeared to have diminished losses from
what can only be described as judgmental equity positions, of interest in both
meetings was the continued question of counterparty credit exposure and the
development of what is now becoming a collateralized market. The debacle of
the London-based AIG nonhedged counterparty agreements has obviously had an
impact on everyone who was a party to these or other agreements. As an aside,
you have to seriously wonder what impact the alleged additional $1 trillion
in derivatives, which are still out there, will have on what is now U.S. government-owned
AIG.
Accounting
A lot of discussion in both Monte Carlo and Baden-Baden focused on regulatory
and accounting issues, with somewhat of a consensus on formulas that correct
a variety of mismatch between what had been fair-value accounting and the basic
asset side of the balance sheets. There was apparent agreement on the need for
more transparency within the community as well as the need for common sense.
Capital
Lastly, on this subject in both meetings, while there were the usual rumors
of mergers and acquisitions within the reinsurance community, the continued
lack of significant capital prevails. And while there have been limited transactions,
it would not appear that any substantial activity will occur until there is
a more extensive supply of capital.
Conclusion
I believe, that with the more extensive use of reinsurance, especially within
the domestic marketplace, the continued evaporation of profits, the possibility
of additional instrument losses (and, despite containment of expenses to the
contrary, frictional costs continue to increase), that it is inevitable that
a more disciplined underwriting environment must, out of necessity, take place
within 2010.
The paradigm of stupidity relative to "market share" which has pervaded this
industry for far too long a period will come to an end within the next 6 months.
Substantial increases may not be the rigor of the day, but they surely will
occur in ever increasing percentages.
P.S. It appears as if our government has decided to scrap the Office of National
Insurance, which was the subject of my
last article. However,
as part of the recent attempt to reregulate the entire financial industry, portions
of that legislation appear to include a wide variety of regulatory issues relative
to our industry. Unfortunately, on December 2, 2009, the House Financial Services
Committee approved a bill that would establish a Federal Insurance Office, the
section of the Kanjorski (D) Pa. Bill that was previously discussed. The so-called
FIO would be responsible for attempting, under the Treasury Department, to prevent
future financial crises by mitigating systemic risk and identifying potential
gaps in regulation. The Committee passed this by a unanimous voice vote, and
the bill now moves to the House for a full vote.
The bill, if passed as written, would allow the federal government to request
data from an insurer only after first checking with state-based regulatory systems
and the National Association of Insurance Commissioners (NAIC) that the information
is not already available. The bill would, however, grant the Office broad authority
to enter into international trade agreements and require cooperation from the
U.S. trade representative and consultation with the Congress—this being part
and parcel of a necessary element which provides authority to negotiate international
agreements on insurance matters. All of this is predicated on the ideology that
state-based insurance regulators are not well suited to bridge information or
regulatory gaps that arise in today's "complex global economy."/p>
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