German industrial fire insurance bucks the trend in reinsurance

“In Germany we have a stressed industrial fire insurance market situation,” said Jan-Oliver Thofern, CEO of Aon Benfield Germany.

“To date we have seen significant loss activity both in terms of severity and frequency,” he said.

“Large losses accounted for more than €1 billion in the first half of 2016 alone.”

The fire industrial business is mostly reinsured on a proportional basis in Germany and commissions may come under pressure in the upcoming renewals season.

“The question is how low commission rates can go and still remain acceptable,” Thofern said.

In order to keep the business profitable, primary insurers will want to make sure that they receive adequate cost compensation by way of commissions and prevent rates from going below the original costs of acquiring and administering the risk.

“The industrial fire market in Germany is not in good shape and reinsurance may be harder to obtain at amenable terms,” Thofern said. However, this situation may be alleviated somewhat by the noticeable interest from new market entrants planning to build a longer-term position with German cedants, he noted.

Generally, the reinsurance business is currently a buyer’s market, and primary insurers may want to take advantage of it to mitigate difficulties they face in the life segment, Thofern suggested.

The historically low interest rate environment is increasingly causing stress in the German life business as it pressures investment returns. Investments that are bearing higher returns are maturing and insurers are forced to reinvest the funds at lower rates of return.

“As a result the coverage gap versus the guarantees they have given to their insureds by way of their life insurance products is increasing,” Thofern explained.

Despite low reinsurance prices, some insurers in Germany are cutting back on reinsurance coverage to maximise their income.

Cutting back on non-life reinsurance spend and maximising income potential is one way to achieve more flexibility for groups that own life and non-life carriers, Thofern suggested.

“You take more risk and if everything goes well you’ll have higher technical results by the end of the year that you can upstream to the holding company for other purposes,” Thofern said. However, this may create more volatility and results will depend on claims development, he warned.

“Other insurers seek reinsurance cover to help stabilise earnings and the ability to pay out dividends,” he noted, adding that the latter seems to be the route most cedants are taking.

Thofern sees an uptick in demand for natural catastrophe reinsurance in Germany related to Solvency II introduction and more tail risk cat cover is being bought.

In order to take advantage of the soft market, insurers may want to consider reviewing options towards multi-year arrangements on some of their treaties.

“For cedants it is certainly worthwhile to review again options towards multi-year arrangements on some portion of their covers and look into ways to protect the ever-increasing frequency of natural perils losses,” Thofern said.

Reinsurance is likely to remain a buyer’s market for some time.

“Pricing pressures—particularly in property cat—remain and risk-adjusted rates will again go down somewhat, which may trigger additional purchases,” he said.

Many reinsurers claim that prices are reaching bottom and large players have warned that they will otherwise shed business. Due to the low interest rate environment, investors have made use of the alternative reinsurance market to benefit from comparatively attractive returns.

“The availability of additional capital has depressed prices, but even in the current soft market, reinsurers are still achieving adequate returns,” Thofern suggested.

Reinsurance returns need to be seen in the context of the broader financial markets, where more than 10 percent of the $50 trillion global debt pool is now trading at negative interest rates, while reinsurers reached a return on equity (ROE) of around 9 percent in the first half of 2016, Thofern said.

The returns have, however, been boosted by reserve releases following benign claims developments. But even without the reserve releases, ROE levels at reinsurers are still fairly attractive, he said.

“The discussion about the right technical price is important to establish a benchmark, but the final clearing price for most transactions is being determined by the client’s individual outwards policy and market forces,” he added.

Comparatively attractive returns in the reinsurance sector may keep capacity in the market at elevated levels. In Germany, however, reinsurance supply may be reduced somewhat due to the implementation of Solvency II rules.

Germany, Poland and the Netherlands are just three countries where specific rules are now in place that make it very difficult for reinsurers outside Solvency II to trade with insurers.

The German regulator has decided that a company that wants to reinsure German insurance firms must either be authorised in Germany (which means getting a branch office and having to comply with various local governance requirements including local capital requirements), or have a head office in a regime that the European Commission has decided is equivalent to Solvency II for the purposes of reinsurance. This is set to exclude some reinsurers that do not have a licence in a Solvency II jurisdiction and are based, for example, in the US.

“Barriers to market entry are per se not desirable,” Thofern commented. “Very good, solid and highly professional companies are affected and we would like to see as many market participants as possible.

“Reinsurance by definition needs diversification and a competitive market needs a large variety of actors,” he concluded.