20 October 2014 Insurance

Alternative capital will get closer to risks

Smaller reinsurers on the periphery of the market will become increasingly sidelined as new forms of capital find ever more efficient ways to take on risks, further reducing costs and getting closer to the source of risks in the process.

That is the view of Matt Fairfield, the founder and chief executive of ANV Holdings, which operates three syndicates at Lloyd’s and is a significant buyer of reinsurance, who believes the transition can already be seen in some significant deals of late.

He hails the rumoured partnership between ACE and BlackRock—in which the Bermuda re/insurer would form an internal reinsurance vehicle capitalised by so-called alternative capital to manage a portion of its ceded premium—as being a glimpse of what the future may hold for the industry.

“The long and short of it is that money from the capital markets will find ever more innovative ways of getting closer to the risks—cutting out the middle men and any frictional costs,” Fairfield said.

“The industry should prepare for a sea change in the way that risk mitigation instrument are used and purchased. Although traditional reinsurance products will be used for a long while yet, we will increasingly see the capital markets get closer to where the consumer buys products.

“This will be a big trend for many years to come, further compounded by brokers acquiring yet more banking expertise and banks seeking more insurance and reinsurance expertise as they also get closer to the market.”

He said that, given the buying power of ACE in the traditional reinsurance markets, its linking up with BlackRock could represent a hugely significant move. He also notes that other large buyers including Zurich have previously shown a desire to work directly with investors, again potentially cutting out traditional players and the middle men in such deals.

“I think we will end up with a core group of global, big, reinsurers left standing and a lot of people on the periphery struggling to survive in a few years’ time,” Fairfield said.

Responding to the suggestion that some buyers may be wary of becoming too reliant on new forms of risk transfer in case the capacity should dry up, Fairfield said he believes this is unlikely. He points out that many of the biggest investors allocate only a relatively small portion of their capital to this form of investment. They would be unlikely to withdraw this without very good reason.

He also notes that estimates from brokers suggest that some $60 billion of capital is at play in this industry now. “They estimate this could double over the next three years—but that estimate could be conservative,” he said. “Even if interest rates were to increase and yields improve elsewhere, I cannot see this dynamic changing.”

He said the market conditions are toughest at the moment for catastrophe-orientated reinsurers. He said they are under severe pressure to reduce rates because of competition from alternative capacity, and very few are finding they can take the moral high ground on negotiations.

“It is a very competitive landscape. At the last renewals, we saw players take a stand on the basis of price and, rather than negotiate further, they were simply replaced by the capital markets. That is the reality of the market now. It is a tough place to be.”

Fairfield, who is in the process of negotiating ANV’s next renewal, added that he is being offered better rates and terms and conditions than a year earlier. He is hesitant to put a figure on the reductions but said it is more than 10 percent.

He prefers, he said, to build long-term relationships with reinsurers but is also mindful that he must do what is right to ensure ANV also remains competitive.

“It is about getting that right balance and doing what is right for all stakeholders,” he said. “We prefer long-term relationships but if some people don’t live with the facts of the market then we will adjust. We are competing for the original premium. A big part of our cost of capital is reinsurance and we need to do what is right for the wider business.

“I would love to be magnanimous and wave a magic wand but we have to do what works from a cost perspective.”

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